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According to microeconomic theory, Opportunity Cost is defined as the value of the choice that was considered compared to other options that were available in a given situation. It is therefore, a representative of the benefits that an individual will receive by choosing one alternative over another option (Buchanan, 2017).
However, sometimes the second alternative will turn out better for that individual and hence the net cost from both options will be catered by that individual. In many cases, organizations have to select one out of the given multiple opportunities in a given market (Buchanan, 2017). Since not all the opportunities can be quantified, it will be important to analyze and then select the best option that is available in a given situation (Buchanan, 2017).
Opportunity cost as well is important in assisting senior management in a firm in making informed decisions. For instance, if a person needs to identify the cost of the option that was not selected, he or she can do so by getting the difference between the returns obtained from the foregoing option and the returns that were obtained on the chosen option (Guerci&Shani, 2014).
In addition, Opportunity Cost plays a crucial role in determining the capital structure of a given firm. To understand this concept better, it is vital to consider an example wherein there is ticket available of a particular music band that costs $100. However, there is no resale value associated with it. At the same time, there is another alternative available for a cinema ticket which costs $60. Thus, the opportunity cost, in this case, will be $40.
Another example is that a company will be expecting a net return of 12% from Project-1 and 20% from Project-2 on the same amount of investments. The Opportunity Cost in this case example will be 8%. Considering this particular case, the company will be able to achieve its growth objectives. They will be able to get another project based on the selection of the given option. However, if the same probability is high for the foregoing option, it will be the responsibility of the top-level management to make the best decision in the interest of the organization.
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