Flipped Economics

Business objectives

Name

Answer all questions. For questions 1 to 12, circle one letter.

Compared with a profit-maximising firm with the same costs and demand, a firm that maximises sales volume without making a loss will have:

A higher output, a lower price and no abnormal profit

B lower output, a higher price and no abnormal profit

C higher output, a higher price and higher profit

D the same output and price but lower profit

Revenue is maximised where marginal revenue is zero because:

A at that output marginal cost equals marginal revenue

B demand is price inelastic at that output

C average cost is at its lowest at that output

D beyond that output each extra unit sold reduces total revenue

The divorce of ownership from control arises when:

A a firm is run by a sole trader

B a firm is owned by the government

C shareholders own a company but salaried managers run it

D managers hold all of the company's shares

Which behaviour is most consistent with satisficing?

A Managers maximise total revenue regardless of cost

B Managers aim for a level of profit that keeps shareholders content, then pursue other goals

C Managers produce exactly where marginal cost equals marginal revenue

D Managers cut costs to the lowest possible level

A firm's profit-maximising output is 500 units at a price of £20. Its managers instead sell 650 units at £16. Total revenue rises from £10,000 to £10,400. The managers are most likely pursuing:

A cost minimisation	B normal profit only
C profit maximisation	D revenue maximisation

A newly launched streaming service charges a low price and reports its subscriber numbers rather than its profit each quarter. Its objective at this stage is most likely:

A profit maximisation

B satisficing

C sales maximisation, to build market share

D revenue maximisation

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Profit satisficing is more likely when:

A the firm faces little competition and owners cannot easily monitor managers

B the market is perfectly competitive

C the firm has no fixed costs

D the owners of the firm also manage it

On one diagram a firm with a downward-sloping demand curve, rising marginal cost and a U-shaped average cost curve marks three outputs. From smallest to largest they are:

A sales maximisation, revenue maximisation, profit maximisation

B profit maximisation, revenue maximisation, sales maximisation

C revenue maximisation, profit maximisation, sales maximisation

D profit maximisation, sales maximisation, revenue maximisation

A firm chooses to pay its staff well above the market wage as a matter of principle. Other things being equal, compared with a pure profit maximiser it will have:

A the same costs and profit	B higher revenue and the same costs
C higher costs and lower profit	D lower costs and higher profit

Which best explains why a firm with market power might deliberately earn less than the maximum profit available?

A Marginal cost is always above marginal revenue

B Profit above a certain level is illegal

C Revenue cannot be measured accurately

D Very high profit may attract new entrants or a competition investigation

Shareholders can reduce the principal–agent problem by:

A paying managers a fixed salary whatever the firm earns

B linking managers' pay to profit or the share price

C selling their shares to other investors

D banning the payment of dividends

A firm's total revenue is £2 million. Its total cost, including the normal profit needed to keep the owners in the business, is £1.6 million. Its abnormal profit is:

A £0.4 million	B £1.6 million
C zero	D £2 million

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Greenbasket is an online grocery company. Its founders own a quarter of the shares; the rest are held by investment funds. Since its launch the company has charged low delivery fees and spent heavily on advertising and new warehouses. Its chief executive says the aim is to be the largest online grocer in the country within five years. Table 1 shows its results. Figures are illustrative.

Table 1: Greenbasket's results
	Year 1	Year 2	Year 3
Revenue (£m)	400	640	900
Total cost (£m)	460	680	882
Share of online grocery market (%)	6	9	12
Customers (millions)	1.2	1.9	2.6

(a)

Using Table 1, calculate Greenbasket's profit as a percentage of revenue in Year 3.

[2]

(b)

Explain two reasons why Greenbasket might pursue market share rather than profit in its first years.

[4]

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(c)

With the aid of a diagram, explain the difference between the output and price of a profit-maximising firm and those of a revenue-maximising firm.

[6]

(d)

Explain how the principal–agent problem might explain Greenbasket's strategy, and how its shareholders could respond.

[6]

Evaluate the view that firms always seek to maximise profit.

[20]

Answer on lined paper.

Lessons, retrieval and more questions on this topic
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Answers

AO1 knowledge, AO2 application, AO3 analysis, AO4 evaluation.

	Answer	Why
1	A	Sales maximisation means producing where AR = AC, beyond the profit-maximising output, so the price is lower and the abnormal profit is given up.
2	D	While MR is positive total revenue is still rising; once it turns negative, selling more lowers total revenue.
3	C	Thousands of shareholders cannot run a large company day to day; the managers they appoint may have objectives of their own.
4	B	Satisficing means a satisfactory outcome rather than the best: enough profit to keep the owners content, leaving room for other goals.
5	D	Output has been pushed past the profit-maximising level to where revenue is higher even though profit must be lower.
6	C	Growing subscribers as fast as possible while just covering costs is sales maximisation; a profit maximiser would charge more.
7	A	Weak competition lets a firm survive without squeezing out every pound of profit, and owners who cannot see what managers do cannot force them to.
8	B	MC = MR comes first because MC is positive; MR = 0 is further right; AR = AC, where the firm just breaks even, is further right still.
9	C	An ethical objective is pursued at the expense of some profit: other things equal, the wage bill is higher.
10	D	Large visible profits invite entry, bad publicity and regulators' attention, so holding back can protect the firm's position.
11	B	Performance-related pay or share options give managers a reason to pursue what the owners want.
12	A	Abnormal profit is revenue minus total cost when total cost already includes normal profit: 2.0 − 1.6 = £0.4 million.

13 (a) Using Table 1, calculate Greenbasket's profit as a percentage of revenue in Year 3. [2: AO2 2]

AO2 (1) (900 − 882) ÷ 900 × 100
AO2 (1) 2% (profit of £18 million)

13 (b) Explain two reasons why Greenbasket might pursue market share rather than profit in its first years. [4: AO1 2, AO2 2]

AO1+AO2 (2) Sales maximisation to build share: a larger customer base lets the firm spread the fixed costs of its warehouses and delivery network, so average cost falls and profit can come later
AO1+AO2 (2) Barriers to entry: once customers have set up accounts and weekly orders, switching is a nuisance, so share won now is protected later; low fees also deter rivals from entering
AO1+AO2 (2) Or: managers' objectives differ from the owners' (the chief executive's stated aim is size, which brings status and pay); or investors value growth and will accept losses for now

Maximum 4: two reasons, each identified (1) and explained using the context (1).

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13 (c) With the aid of a diagram, explain the difference between the output and price of a profit-maximising firm and those of a revenue-maximising firm. [6: AO1 2, AO3 4]

AO1 (2) Diagram: a downward-sloping AR (demand) curve with MR below it falling twice as steeply; a rising MC curve; profit-maximising output Qπ where MC = MR with price Pπ read up to AR; revenue-maximising output Qr where MR = 0 with the lower price Pr
AO3 (2) A profit maximiser stops where the last unit adds as much to cost as to revenue, MC = MR; beyond that output every unit adds more to cost than to revenue, so profit falls
AO3 (1) A revenue maximiser ignores cost and keeps selling while each unit still adds to total revenue, so it goes on until MR = 0
AO3 (1) Because MC is positive, MR = 0 lies to the right of MC = MR: the revenue maximiser produces more and, reading up to the demand curve, charges less

Levels: 1 to 2 for a description with a partly correct diagram; 3 to 4 for a correct diagram with both outputs marked; 5 to 6 for the full chain explaining why each firm stops where it does and why the revenue maximiser's output is higher and price lower.

13 (d) Explain how the principal–agent problem might explain Greenbasket's strategy, and how its shareholders could respond. [6: AO1 1, AO2 1, AO3 4]

AO1 (1) The principal–agent problem: the owners (principals) appoint managers (agents) to run the firm, but the managers may pursue their own objectives because the owners cannot see everything they do
AO2 (1) Greenbasket's founders hold only a quarter of the shares, and the chief executive's stated aim is to be the largest grocer, not the most profitable: size brings status, pay and job security to managers, while the funds that own most of the shares want a return
AO3 (2) If managers maximise sales or revenue, output is pushed beyond the profit-maximising level and advertising spending is higher than a profit maximiser would choose, so profit is lower than it could be, as the losses in Years 1 and 2 and the thin margin in Year 3 suggest
AO3 (2) Shareholders can align the agents' interests with their own: pay linked to profit or the share price, share options, performance targets set by the board, or the threat of removing managers or selling to a bidder; closer monitoring and reporting reduces the information gap

Levels: 1 to 2 for defining the problem or describing the data; 3 to 4 for linking managers' aims to the firm's results; 5 to 6 for the full chain and at least two responses available to shareholders, applied to Greenbasket.

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14 Evaluate the view that firms always seek to maximise profit. [20: AO1 6, AO3 6, AO4 8]

Knowledge and analysis (AO1 to AO3)

The profit-maximising rule: produce where MC = MR, because up to that output each unit adds more to revenue than to cost and beyond it the reverse. Diagram: a firm with market power producing Qπ at price Pπ, with the abnormal profit rectangle between AR and AC.
Why profit maximisation is the usual assumption: profit rewards owners for risk, funds investment and research, and in competitive markets a firm that fails to maximise profit is undercut or taken over. For a sole trader or a family firm, the owner's income is the profit.
Alternative objectives and why they arise: revenue maximisation (MR = 0) where managers' pay or status depends on turnover; sales maximisation (AR = AC) to build market share, spread fixed costs and deter entry, as with new streaming or delivery firms; satisficing, where managers aim for enough profit to keep shareholders quiet; growth, survival in a downturn, and social or environmental objectives.
The principal–agent problem: in large companies the divorce of ownership from control means managers can pursue their own goals as long as profit is acceptable. Information is asymmetric, and monitoring is costly.
Practical limits: most firms do not know their MC and MR curves and set prices by adding a mark-up to average cost; short-run and long-run profit can conflict, so a firm that cuts price to win share may be maximising long-run profit after all.
Diagram to use: the objectives diagram with Qπ, Qr and Qs marked on one set of AR, MR, MC and AC curves.

Evaluation (AO4)

It depends on who controls the firm: owner-managed firms and firms under pressure from competition or takeover are closest to profit maximisation; large public companies with dispersed shareholders are furthest from it.
It depends on the time horizon: sales maximisation or heavy investment now may be the route to maximum profit later, so behaviour that looks like another objective can be long-run profit maximisation.
It depends on the market: in perfect competition anything other than cost minimisation means losses and exit, so the assumption holds; with market power there is slack for other goals.
Shareholders have tools, such as performance pay, share options and the market for corporate control, that push managers back towards profit, so the gap between objectives may be smaller than the theory of the principal–agent problem suggests.
'Always' is too strong, but 'usually, in the long run' is defensible: even firms with other stated aims must earn at least normal profit to survive, which keeps profit as a constraint if not the objective.

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Judgement

A supported judgement might conclude that profit is the objective that every firm must eventually satisfy, but not the one every firm maximises at every moment. Owner-run and competitive firms come close to the textbook rule; large companies with separated ownership and control often pursue revenue, sales, growth or a quiet life within a profit constraint. The assumption remains the best starting point for analysis, as long as the gap between short-run behaviour and long-run profit is kept in view.

Marking

Bands, out of 20 (AO1 knowledge 6, AO3 analysis 6, AO4 evaluation 8, as WJEC marks a 20-mark question). Top band (16 to 20): a range of points developed in full chains of reasoning, supported by an accurate diagram and real examples, with evaluation that weighs the arguments and reaches a judgement that depends on stated conditions. Middle band (9 to 15): some developed chains, a relevant diagram, evaluation present but one-sided or asserted. Bottom band (1 to 8): points listed or described, little use of theory or examples, judgement missing or unsupported.

Exam boards

AQA: Question 14 would be a 25-mark question on your papers.

Edexcel: Question 14 would be a 25-mark question on your papers.

OCR: Question 14 would be a 25-mark question on your papers.