Firm Behaviour
Senior 4 · Economics
Firm Behaviour
Lesson 1 of 5
30 min
NISR's Establishment Census of 2023 counted every business in Rwanda. Of the 262,020 private and public business-oriented enterprises, 244,532 were micro enterprises with one to three workers: shops, salons, tailors, kiosks. Only 421 were large, with more than 100 workers. Yet those 421 large firms employed 196,999 people, almost two-thirds as many as all the micro enterprises together (305,407).
Why do so many tiny firms survive next to a few very large ones? What are firms trying to achieve, and what big decisions shape them? This unit studies the behaviour of the firm, beginning with what a firm is.
Definition
Firm: a business unit under one ownership and management that hires factors of production to produce goods or services for sale.
Plant: a single place where production is carried out, such as a factory, workshop, mine or farm. NISR calls it an establishment. A firm may own one plant or several.
Industry: all the firms producing the same or closely similar products.
Example: a tea company that runs two factories is one firm with two plants; together with every other tea processor it forms the tea industry.
Traditional theory assumes that a firm aims to maximise profit. In practice firms pursue several objectives, especially when the owners (shareholders) and the managers are different people.
| Objective | Meaning | When it is likely |
|---|---|---|
| Profit maximisation | Produce where the gap between total revenue and total cost is greatest | Owner-managed firms; the standard assumption of theory |
| Sales revenue maximisation (Baumol) | Make total revenue as large as possible, subject to earning a minimum profit | Managers whose pay and prestige rise with the size of sales |
| Growth maximisation (Marris) | Make the firm as large as possible over time | Managers seeking power and security; firms building market share |
| Satisficing (Simon) | Reach a "good enough" level of profit that keeps owners content, rather than the maximum | Large firms where managers balance owners, workers and customers |
| Survival | Cover costs and stay in business | New firms, firms in a recession, or facing a price war |
| Social and welfare goals | Provide a service, jobs or fair prices to members or the public | Cooperatives, public enterprises, social enterprises |
The principal–agent problem. Shareholders (principals) want profit; managers (agents) run the firm and may prefer sales, growth or comfort. Because owners cannot watch every decision, the firm's behaviour may depart from profit maximisation. Owners respond with profit-linked pay, share options and audits.
Worked example 1: different objectives, different outputs (illustrative figures)
| Output (units) | 10 | 20 | 30 | 40 | 50 |
|---|---|---|---|---|---|
| Total revenue (Frw thousand) | 1,000 | 1,800 | 2,400 | 2,800 | 3,000 |
| Total cost (Frw thousand) | 800 | 1,200 | 1,700 | 2,400 | 3,300 |
| Profit = TR − TC | 200 | 600 | 700 | 400 | −300 |
(a) Profit maximiser: produces 30 units, profit Frw 700 thousand.
(b) Sales revenue maximiser with no profit floor: would choose 50 units (TR is highest, Frw 3,000 thousand) but makes a loss of Frw 300 thousand, which owners would not accept.
(c) Sales revenue maximiser that must earn at least Frw 400 thousand: produces 40 units: revenue Frw 2,800 thousand, profit exactly Frw 400 thousand.
Conclusion: a firm that puts sales first produces more and charges less than a profit maximiser, which is why the objective matters to consumers as well as to owners.
Some decisions can be changed next week (how many casual workers to hire). Others commit the firm for years, because they involve fixed capital that is costly to reverse:
Reading the chart. Micro enterprises are 93.3% of all enterprises but provide 44.0% of the jobs counted in them, an average of about 1.25 workers each. The 421 large enterprises are 0.2% of the total but provide 28.4% of the jobs, almost 468 workers each. Both kinds of firm thrive at once. The reasons small firms survive:
Small firms also face real handicaps: little access to credit, no economies of scale, a lack of skilled managers, and in many cases informality. The census found that 92.1% of micro enterprises were informal, which keeps their costs low but also limits their access to loans and to large customers.
Worked example 2: reading the census by size
Use the 2023 figures: micro, 244,532 enterprises and 305,407 workers; large, 421 enterprises and 196,999 workers.
(a) Workers per enterprise: micro ; large .
(b) How many micro enterprises provide as many jobs as one large firm? .
(c) Interpretation: large firms are rare but each is a big employer, so policies that help firms grow from micro to small and medium can create many jobs; but micro enterprises remain the first job of most people outside farming, so their survival matters too.
Warning
Firm, plant and industry are not interchangeable. "MTN is an industry" is wrong: MTN is a firm in the telecommunications industry. And "firms always maximise profit" is an assumption of theory, not a fact: in an exam, show that you know the alternatives and when they apply.
Tip
Objectives by who is in charge: Owner in charge → profit. Managers in charge → sales, growth or satisficing. Members or the state in charge → welfare and jobs. New or struggling → survival.
Important
Discuss. A dairy cooperative is owned by its member farmers. Should it aim to maximise its own profit, or to pay members the highest possible price for their milk? What difference would each objective make to its decisions?
tutor2u, "Business Objectives - A Level and IB Economics". Watch for the difference between profit maximisation, revenue and sales maximisation and satisficing, and for the role of the divorce between ownership and control; compare them with the table above.
Practice
Key points
Sources and credits
Written by Ganzaa: the text, the chart (drawn to scale from the NISR tables), the tables, the worked examples and the practice items. The revenue and cost figures in worked example 1 are illustrative.
This lesson adapts CC BY-SA material and is shared under CC BY-SA 4.0.
Quick check
Match each term with its example.
Tap one on the left, then its partner on the right.
