Profit
Profit, Pure or Net Profit, Gross Profit
1. Profit
In the ordinary language the term profit stands for the excess of income/money earned over costs. But in economics profit is defined as a reward for the entrepreneur for performing the function the function of final decision-making and risk bearing.
Profit differs from return on other factors in three important respects.
1. Profit is a residual income and not contractual or certain as in the case of other factors,
2. There are much greater fluctuations in profit than in the reward of other factors and,
3. Profit may be negative i.e. it may be a loss.
2. Pure or Net Profit
Pure or net profit is the amount that accrues to the entrepreneur for assuming their risk inseparable from business under the system of production in anticipation of demand. The essential function of the entrepreneur is considered to be something, which only he can perform. This something cannot be the task of managers, or the people, which are hired. Thus the entrepreneur receives profit as a reward for assuming the final responsibility, a responsibility that cannot be shifted on the shoulders of any one else.
3. Gross Profit
Gross profit stands for the total earnings of the entrepreneur, not necessarily of the entrepreneurial functions only. Some thing else can also be included in this profit. Apart from the net profit, the following are the main constituents of the gross profit.
1. Interest on entrepreneur’s own capital. 2. Rent of land owned by the entrepreneur. 3. Entrepreneur’s wages of management. 4. Gain as superior bargaining.
Monopoly gains.
Constituents of Gross Profit
The main constituents of the gross profit are as follows:
1. Reward for the Factors Supplied by the Entrepreneur Himself
The entrepreneur may have borrowed capital from other sources for investing in the business, he may be the owner of the business premises and perhaps he may also be working as a manager in the business concern. Besides selling him self as a entrepreneur he would have earned interest on his capital, rent of his land or salary for his responsibilities as a manager. But when he becomes an entrepreneur, he would lose all these incomes. Thus profit is a reward for him for loosing such options of income.
2. Entrepreneur’s wages of Management
The wages of management are the return of the work done by the entrepreneur as a manager an could have been done on a salary basis by him for another firm. This is also an important part of gross profit.
3. Gains as Superior Bargainer
Certain gains accrue to the entrepreneur when he bargains with the labours, capitalists, landlord, suppliers of raw material and consumers. These gains are the resultant of his superior skills in bargaining. They form a part of the gross profit.
4. Monopoly Gains
These gains are due to imperfect competition, which enables the entrepreneur to charge higher prices or to pay reward to the factors of production hired by him. The monopoly gains increase his income and becomes a constituent of gross profit.
5. Reward of the Entrepreneur as a Risk Taker
According to the definition of an entrepreneur the function of risk taking must be perform by the entrepreneur him self. Apart from certain risks, which are insurable, the risks that cannot be insured and are necessary to bear, gives entrepreneur the reward of profit
Different Theories of Profit
Many theories have been put forward by different economists. Some of them are as follows:
1. Dynamic Theory of Profit
The dynamic theory of profit was given by J.B. Clark. According to him profit accrues because the society is dynamic by nature. Since the dynamic nature of society makes future uncertain and any act, the result of which has to come in future, involves risk. Thus profit is the price of risk taking and risk bearing. It arises only in a dynamic society which means in a society where changes does not occur i.e. it is static by nature the risk element disappears and hence the profit element does not exist there.
Actually, a society is said to be dynamic when there is a change in its population, change in trends of the people, change in stock of the capital, change in the supply of entrepreneurs etc. when all these factors becomes constant, the future also becomes certain and the risk element disappears from the society.
According to Clark, profit is the result of an adjustment, which is brought about by the entrepreneurs themselves. They may find new techniques of production by inventing new machines. Their use reduces the cost of production and reduces the course of time as well and gives the entrepreneur higher profits. But when the use of machinery and production becomes common and used by the other entrepreneur operating in the economy. The supply of goods increase and the prices fall. Hence the profit margin also goes down. Under this situation the profit is determined by the demand and supply of enterprise at a point where they are equal.
Criticism
This theory completely ignores the future or uncertainty. According to Prof. Knight only those changes, which cannot be foreseen, and which cannot be provided in advance will yield profits and not others. Also this theory often gives a misleading conclusion regarding the competition.
2. Marginal Productivity Theory of Profit
According to this theory, profit always equals to the marginal productivity of the entrepreneur. The marginal productivity of the entrepreneur cannot be evaluated in the case of the firm because there is only one entrepreneur in a firm. It is however can be easily done in an industry where the number of the firms can be calculated and hence the marginal productivity of various entrepreneurs can be measured.
According to this theory the profit depends upon the marginal production. Greater the marginal production greater will be the profit.
3. Wages Theory of Profit
According this theory the services of the entrepreneur are also classified as labour though of a superior type. These entrepreneurs do a lot of work in organizing the business unit as well. The entrepreneurs in the shape of profit pay to themselves for service just as managers are paid for their services. It means that profit is a wage for the entrepreneur for the services rendered by them.
4. Un-Certainty Breaking Theory of Profit
According to Prof. Knight
“Profit is the reward for uncertainty bearing and not the risk bearing”.
Prof. Knight has regarded uncertainty bearing as a factor of production. Knight’s theory classifies the position that profit arises because of the joint action of uncertainty bearing and capital.
5. Risk Bearing Theory of Profit
According to F.B. Hawley, “Profit is reward for risk bearing which is the most important function of an entrepreneur”. Hawley believes that risks are unpleasant and therefore no one likes to bear it, until and unless some reward is insured. Profit is a reward for bearing these risks.
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