Marris Growth Maximization Model (Theory) | Objectives of Business


Marris Theory of Growth Maximization
Marris Theory of Growth Maximization

Marris Model (Theory) of Growth Maximization 


According to Marris's growth maximization theory (model) , the owners want profits and market share, whereas the managers desire better salary, job security, and growth.

Based on managers' and owners' dichotomy, Marris suggested that owners (shareholders) have different goals than that of managers.

These two sets of goals(manager's and owner's) can be achieved by maximizing the balanced growth of the firm (G). Firm's growth is dependent on the growth rate of demand for the firm’s products (GD) and growth rate of capital supply to the firm (GC). A firm reaches a balanced growth rate when the demand of its product and capital supply to the firm, both grow at the same rate.

Constraints


According to him, managers maximize the firm's balanced growth rate subject to managerial and financial constraints. These constraints are as follows:

(i) Managerial Constraint


Marris emphasized on the importance of the role of human resources in achieving organizational objectives. According to him, team manager's skills, expertise, efficiency, and sincerity are essential to the firm's growth. Non-availability of these managerial skill sets in the right quantity creates constraints for growth. New recruitments(employees) may be used to increase and bring new skills into the firm; however, new recruits lack the experience to make quick decisions, which may pose as another constraint.

(ii) Financial Constraint


 This constraint is related to the prudence needed in managing financial resources. Marris proposed that a sound financial policy will be based on at least three financial ratios, which set the limit for the firm's growth. These are debt-equity ratio, liquidity ratio, and retained profit ratio.  

  1. Debt equity ratio - This is the ratio between borrowed capital and owners’ capital. This ratio indicates the financial strength of a firm. High value of debt-equity ratio may cause insolvency. Therefore, a low value of this ratio is usually preferred by managers to avoid insolvency. A lower ratio shows greater security available to the creditors. A low value of this may create a constraint to the growth of the firm in terms of dependence on equity.
  2. Liquidity ratio - This is the ratio between current assets and current liabilities. Liquidity ratio indicates the coverage of current assets by current liabilities. It represents the ability of a firm to meet its short-term obligations, and reflect its short term financial strength or solvency. According to Marris, a manager try to achieve sufficient liquidity.
  3. Retention ratio - It is the ratio between retained profits and total profits. The retained profits are that portion of the net profit, that is not distributed as dividend among shareholders. A high retention implies that more funds are available to the firm. A higher retention ratio means lower earning( dividend) to shareholders. Hence, higher retention ratio is not good from the shareholder's point of view. Therefore, managers avoid keeping a very high value of retention ratio.

'Liquidity is essential...without that...no company...survive...growth has to...be...equal obsession...'- IBM CEO- Arvind Krishna

 

What is Growth Maximization?

Marris defines the balanced growth (G) of the firm:


G = GD = GC 
GD = f(d, k) 
GC = f(r, p)  
where,
GD= growth rate of demand for firms product
GC = growth rate of capital supply to the firm.
d = diversification; 
k = success rate; 
r = financial security ratio derived from weighted average of three financial ratios 
p = a constant rate at which profit increases.

In simple words, a firm's growth rate is balanced when demand for its product and supply of capital to the firm increase at the same rate. 

The two growth rates are according to Marris, translated into two utility functions:

 (1) Manager's utility function, and 
(2) Owner's utility function.

The manager's utility function (Um) and Owner's utility function (Uo) may be specified as follows.
Um=f(salary,power, job,security,prestige,status),
Uo= f (output,capital,market-share,profit, public esteem,brand image)

Even though managers and owners (or shareholders) have different utility functions, yet the two are highly correlated.

The owner's utility function (Uo) implies the growth of demand for firm's products and supply of capital. According to Marris, by maximizing Uo (output, capital, profit, etc.) variables, managers maximize both their own utility function and that of the owners. The managers can do so because most of the variables ( e.g., salaries, status, job security, power, etc.) appearing in their own utility function and those appearing in the utility function of the owners( e.g., profit, capital, market share,etc.) are positively and strongly correlated depends on the maximization of the growth rate of the firms. 

Managers try to maximize their utility function, Um, but that is dependent upon the growth of the company. Hence, managers must make efforts to maximize GD and GC. On the other hand, Uo is maximized when G is maximized; hence for maximization of Um, managers must aim at maximization of Uo. The managers, therefore, seek to maximize a steady growth rate. 


Limitations of Marris Growth Maximization Model


Marries's Theory, though more rigorous and sophisticated than Baumol's sales revenue maximization, has its own weaknesses/ limitations.

  • It ignores the role of other constraints like government, social groups, the elasticity of demand, and phases of the business cycle, which play a vital role in determining the firm's growth pattern.
  • It fails to deal satisfactorily with oligopolistic interdependence. 
  • Another serious shortcoming of his model is that it ignores price determination, which is the main concern of the profit maximization hypothesis. In the opinion of many economists, Marris's model too does not seriously challenge the profit maximization hypothesis.


image courtesy: Pixabay

2 comments:

  1. Indeed a very good theory but I too feel its limitation as mentioned by you

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    Replies
    1. Yes, this theory sounds good but could not challenge the profit maximization theory that much.

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