MARRISS THEORY OF

MANAGERIAL ENTERPRISE

MANAGERIAL THEORIES OF
FIRM

THREE THEORIES OF
MANAGERIALISM
1. Baumols Model of Sales Revenue
maximisation.
2. Marriss Theory of Managerial Enterprise
3. Williamsons Theory of Managerial
Discretion

BAUMOLS MODEL OF
SALES REVENUE
MAXIMISATION
W.J.Baumol suggested
Sales Revenue maximisation as an alternative
goal to profit maximisation.
Managers only ensure acceptable level of
profit, pursuing a goal which enhances their
own utility.

BAUMOLS MODEL : (CONTD.)

Rationale of the Hypothesis:
1.
Management has been separated from ownership
in modern times.
2.
This has given powers to Managers who pursue
their own goals rather than the goal of the
owners.
3.
Managers ensure a minimum acceptable level of
profit to satisfy the shareholders, but would
pursue a goal which enhances their own utility.

BAUMOLS MODEL : (CONTD.)

Why Managers attempt to maximise sales

rather than profits:1.
Incomes of top executives are closely
related to sales rather than profits.
2.
Banks and financial institutions are
impressed by the amount of sales and treat
this as a good indicator of the performance
of the firm.
3.
Large and continuing sales enhance prestige
of the Managers, who ensure regular
distribution of dividends.

4 A steady performance with satisfactory amount of

BAUMOLS
: (CONTD.)
profits isMODEL
preferably
to irregular spectacular

5.

profits in some one or two years. Having shown high

profits, if the level is not maintained, it will lead to
discontent of shareholders.
Large sales strengthens the competitive power of
the firm vis-avis competitors, while low or declining
sales diminishes this power of bargaining.

Separation of ownership and management combined

with the desire for steady performance which
ensures satisfactory profits, tend to make the
managers risk avoiders.
Top Managers in the modern firm are generally
reluctant to adopt highly promising but risk-prone
projects. But this approach stabilises the economic
performance of the firm and leads to development
of orderly markets.

BASIC ASSUMPTIONS IN
BAUMOLS STATIC MODELS:
1.

2.

3.

A firms decision making is limited to a single

period. During this period, the firm attempts to
maximise total revenue rather than physical
volume of sales.
Sales revenue maximisation is subject to
provision of minimum required profit to ensure a
fair dividend to shareholders, thus ensuring
stability of his job.
Conventional Cost and Revenue functions are
assumed Cost curves are U-shaped, Demand
curve is downward sloping.

MARRISS THEORY OF
THE MANAGERIAL ENTERPRISE
In

Corporate firms, there is structural

division of ownership and management
which allows managers to set goals which
do not necessarily conform with those of
the owners.
The shareholders are the owners. Their
utility function includes variables such as

profits,
size of output,
size of capital,
market share and
public image.

MARRISS THEORY OF
THE MANAGERIAL
ENTERPRISE(CONTD.)

The Managers have other ideas. Their utility

function includes variables such as
Salaries,
Job security,
Power and status.

MARRISS THEORY OF
THE MANAGERIAL
ENTERPRISE(CONTD.)
The

owners want to maximise their utility

while the managers attempt maximisation
of their own utility.
Both utilities do not necessarily clash,
because the most of the variables of both
the utilities, have a strong relationship with
a single variable
i.e., size of the firm.
It is reasonable to assume that maximising
the long-run growth of any indicator is
equivalent to maximising the long-run
growth rate of the others.

MARRISS THEORY OF
THE MANAGERIAL
ENTERPRISE(CONTD.)

Owners being interested in the growth of the

firm want maximisation of the growth of the
supply of capital, which is assumed to maximise
the owners utility.
Managers wanting to maximise rate of growth of
the firm rather than absolute size of the firm,
believe that growth of demand for the products
is an appropriate indicator of the growth of the
firm.

 There

are two constrains in the Marriss

Model:
1. The Managerial Team Constraint.
Since Management is a teamwork, hiring
new managers does not expand managerial
capacity immediately. New managers take
time to get integrated in the team.
Managerial team constraint sets limits to
both the rate of growth of demand and rate
of growth of capital.
2. The Job Security Constraint. Managers
want job security. Job security attained by
pursuing a prudent financial policy which
requires the three crucial financial ratios to
be maintained at optimum levels.

Liquidity Ratio: Current ratio ratio of liquid

assets to total assets.
Low liquidity increases the risk of insolvency
(risk=+ve)
Leverage/Debt or Debt-Equity ratio: ratio of debt
to total assets.
High debt-equity ratio exposes the firm to
bankruptcy.(risk=+ve)
Profit retention ratio: High retention of profits,
adds to the reserves contributing to the growth
of capital.(risk= -ve)
Combining all the above into a single parameter
will amount to financial constraint of the firm.

MARRISS MODEL:
THE RATE OF GROWTH OF DEMAND FOR THE
PRODUCTS
OF THE FIRM:

The firm is assumed to grow by diversification and not by

merger or acquisition.
The growth of demand for the products of the firm depends on
the rate of diversification and the proportion of successful new
products.
The rate of growth of capital supply:
The shareholders who are the owners, wish to maximise
company's capital, which is the measure of the size of the firm.
The main source of finance for the growth of the firm is profit
but the management can retain only part of it, for another
part has to be distributed as dividend.
The rate of growth of capital is determined by three
factors: the three financial ratios determined by the
managers constituting the financial security
constraint, the average rate of profit, and the rate of
diversification.

CRITICALLY EXAMINE MARRISS

THEORY:

R. Marris has made a significant contribution in the

form of incorporation of the financial policies into the
decision making process of the corporate firm.
His theory suggests that although the managers and
the owners have different goals, it is possible to find a
solution which maximises utility of both.
Nonetheless Marris shows that growth and profits are
competing goals. His model implies that both managers
and owners are conscious of the fact that the firm
cannot simultaneously achieve maximum growth and
maximum profits.
Marris seems to be correct in arguing that owners of
the corporate firms do prefer the maximisation of the
rate of growth and for this they do not mind
sacrificing some profits.

WILLIAMSONS THEORY OF
MANAGERIAL DISCRETION

WILLIAMSONS THEORY OF
MANAGERIAL DISCRETION
Williamson is of the opinion that the managers of
a modern business firm organised as a corporate
unit do not maximise the profits which result in
the maximisation of the utility of the owners.
Instead they maximise their own utility using
their discretion.
However, for their job security, managers
attempt to ensure a certain minimum of profit to
shareholders in the form of dividends.
Thus profit is a constraint to the managers
discretion.

WILLIAMSONS THEORY OF
MANAGERIAL DISCRETION
Managers utility depends on such variables as
salary, job security, power, prestige, status, job
satisfaction and professional excellence. Of
these variables only salary can be quantified.
Therefore, Williamson uses measurable variables
like staff expenditures, managerial emoluments
and discretionary investment in the utility
function of managers on the assumption that
these are the source of the job security and
reflect power, prestige, status and professional
achievements of managers.

WILLIAMSONS THEORY OF
MANAGERIAL DISCRETION
Basic Concepts:

The demand for the firm. The firms demand curve

is assumed to be downward sloping and is defined by
the function
X = f1 (P, S, e)
P = f2 (X, S, e)
Where X = output,
P = price, S = staff expenditure, e = a demand shift
parameter reflecting autonomous changes in
demand.
The demand is negatively related to price and is
assumed to be positively related to staff expenditure
and to the shift factor.

BASIC CONCEPTS:
Various concepts of Profit:
The actual profit: Sales Revenue minus
production costs and less staff expenditure.
R C S
The reported Profit : is the profit that
the firm reports to the tax authorities. It is
the actual profit less tax deductible
managerial emoluments.(M)
R C S -

VARIOUS CONCEPTS OF PROFIT:

Minimum Profit: o is required to satisfy the
shareholders. If this profit is not earned, the
shareholders will either sell their shares or change
the top management, adversely affecting the job
security of managers.
o
<
R T
(T= Tax)
The Discretionary Profit: D is the amount of
profit left after subtracting the minimum profit
and the tax from the actual profit.
D
=
- o - T
Discretionary Investment: ID - Discretionary
investment is the amount that is left from the
reported profit after subtracting the minimum
profit and the tax from the reported profit.
ID
=
R - o - T