Definition: Hawley’s Risk Theory of Profit was propounded by F.B. Hawley, who believed that those who have the risk taking ability in the dynamic production have a sound claim on the reward, called as profit. Simply, profit is the price that society pays to assume the business risk.
The risk in business may arise due to several factors, Viz. Obsolescence of a product, non-availability of crucial materials, sudden fall in the prices, introduction of a better substitute by the competitor, risk due to war, fire or any other natural calamity.
Hawley’s risk theory of profit is based on the notion that the businessman would expect adequate compensation in excess of the actuarial value, i.e., premium on calculable risk, for assuming the risk. Every entrepreneur strives to gain in excess of wages of the management for bearing the business risk.
The major reason behind the Hawley’s opinion that profit should be maintained over and above the actuarial risk is that the assumption of risk is annoying; it leads to trouble, anxiety, and disutilities among the businessman of several kinds. Thus, assuming risk grants entrepreneur a claim to a reward above the actuarial business risk.
According to Hawley, the profit consists of two parts: One representing the compensation for the actuarial loss suffered due to several classes of risks assumed by the entrepreneur; Second part represents the inducement to bear the consequences due to the exposure to risk in the entrepreneurial adventures.
Hawley’s risk theory of profit is based on the assumption that profits arise from the factor ownership, as long as the ownership involves risk. Hawley believed that an entrepreneur must assume risks to qualify for the additional rewards (profit). On the contrary, if he avoids the risk by insuring against it, then he would cease to be an entrepreneur and would not be entitled to profits. Thus, it can be concluded that it is the uninsured risk from which the profit arises and until the product is sold an entrepreneur’s amount of reward cannot be determined. Hence, in Hawley’s opinion, the profit is a residue and therefore his theory is also called a
Thus, it can be concluded that it is the uninsured risk from which the profit arises and until the product is sold an entrepreneur’s amount of reward cannot be determined. Hence, in Hawley’s opinion, the profit is a residue and therefore his theory is also called a Residual Theory of Profit.