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CMA Intermediate · Financial Management and Business Data Analytics · Introduction to Financial Management

Which of the following best distinguishes wealth maximisation from profit maximisation as the objective of financial management?

Wealth maximisation takes account of the timing and risk of cash flows by discounting them at a risk-adjusted rate, while profit maximisation looks at accounting profit and ignores timing, risk and quality of earnings. This is why wealth maximisation is preferred as the objective.

  1. AWealth maximisation considers the timing and risk of cash flows, whereas profit maximisation ignores themCorrect
  2. BWealth maximisation focuses on accounting profit of the current year, whereas profit maximisation focuses on cash flows
  3. CWealth maximisation ignores the time value of money, whereas profit maximisation includes it
  4. DWealth maximisation is concerned only with dividend payout, whereas profit maximisation is concerned with retained earnings

Explanation

Wealth maximisation is based on the present value of expected cash flows discounted at a risk-adjusted rate, so it captures timing and risk. Profit maximisation uses accounting profit and ignores when the profits arise and how risky they are. The other options reverse or misstate these features.

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