The possible gain that a consumer loses out on by opting one option over another is referred to as opportunity cost. Since opportunity costs are invisible by nature, it is possible that they might be ignored. Recognizing the benefits that may be lost when a person or company selects one asset over another enables more informed decision-making. Simply said, the notion brings up the point to consider all acceptable options before reaching a choice.
Investors commonly neglect opportunity cost. In general, it refers to the hidden cost of failing to take a different path of action. If a corporation follows a certain business plan without first weighing the benefits of competing approaches, they may overlook their opportunity costs and the chance that they could have achieved considerably well if they had chosen differently.
For example, suppose you have ₹1,00,000 and decide to invest it in a new product that would yield a 5% profit . Alternatively, you could have put the money into a stock option which would have delivered a 7% return, the difference of 2% between the two choices is the missed opportunity cost of this decision.
The term ‘opportunity cost’ does not always refer to monetary value. It may also apply to different ways of spending time. For instance, you might prefer spending 2 hours learning a new skill rather than watching a movie. In this case, the opportunity cost of learning that new skill is the missed enjoyment you would have received by watching the movie.
Calculation of Opportunity Cost
The difference between the projected returns of each option is the formula for computing an opportunity cost.
Opportunity Cost (OC) = FO-CO
Where, FO represents foregone option and Co represents chosen option.
When OC is negative, you clearly gain, implying that the option chosen (CO) provides you with more benefits than the Forgone option (FO). Whereas you lose when OC is positive, indicating that the Forgone option benefits you more than the CO. When FO and CO provide the same advantage i.e. FO=CO, there is no loss and no gain.
Knowing if an event, investment, or transaction has a positive or negative OC might help you make smarter decisions. Positive OC means that choosing the decision you've made may not benefit you, while negative OC implies that the option you've selected is better than the alternative you didn't pick.
Consider the case of A, an employee who had a stressful week at his place of work. Assume the weekend is approaching and now he has two choices. He can binge-watch a popular web series to forget about his job stress or learn a new stress-management skill. If he goes with Option 1 i.e. binge watching a web series, his foregone option (FO) is learning a skill. As a result, his opportunity cost is FO - CO.
Simply put, the opportunity cost to his binge viewing is acquiring a skill that might help him successfully handle stress and improve his work performance in the long term. Therefore, it can be said that binge watching has a cost as the opportunity cost (OC) is positive.
To conclude, the notion beneath opportunity cost is that your resources as a consumer are constantly restricted. That is, because you have limited time and other resources, you won't be able to make most of all the options that come your way. If you choose one, you must inevitably abandon the others. They can't exist at the same time. Opportunity cost is more about the decisions you make than it is about money or resources. It's all about remembering that one action or decision might prevent you from reaping the benefits of other possibilities.