WallStreetMojo

WallStreetMojo

WallStreetMojo

MENUMENU
  • Blog
  • Free Video Tutorials
  • Courses
  • All In One Bundle
  • Login
Home » Financial Modeling Tutorials » Excel Modeling » Opportunity Cost Formula

Opportunity Cost Formula

By Harsh KataraHarsh Katara | Reviewed By Dheeraj VaidyaDheeraj Vaidya, CFA, FRM

Formula to Calculate Opportunity Cost

Opportunity Cost is the cost of the next best alternative, forgiven. When a business must decide among alternate options, they will choose the one that provides them the greatest return. Frankly speaking, there is no such specifically agreed or defined on a mathematical formula for the calculation of opportunity cost, but there are certain ways to think about those opportunity costs in a mathematical way, and the below formula is one of them.

However, this value may or may not always be measured in terms of money. Value can also be measured by other techniques, for example, satisfaction or time.

Opportunity Cost = Return of Next Best Alternative not chosen – Return of the option chosen

Opportunity Cost Formula

One relative formula for the calculation of opportunity cost could be  –

Opportunity Cost Formula 1

If we think about the cost of opportunity like this, then the equation is very easy to understand, and it’s straightforward.

Examples

You can download this Opportunity Cost Formula Excel template here – Opportunity Cost Formula Excel template

Example #1 – Reliance JIO

Reliance Jio Infocomm Ltd (known as Jio), a mobile network operator in India that is owned by Reliance Industries, which is headquartered in Mumbai.

Popular Course in this category
Sale
All in One Financial Analyst Bundle (250+ Courses, 40+ Projects)
4.9 (1,067 ratings)
250+ Courses | 40+ Projects | 1000+ Hours | Full Lifetime Access | Certificate of Completion
View Course

The service that was launched for all users on 5th September 2016 with a ‘Welcome Offer,’ was originally introduced in beta version for the employees of Reliance only on December 27, 2015, to mark the eighty-third birth anniversary of Dhirubhai Ambani, who was the founder of Reliance Industries.

The introductory offer lured many Indian customers, and it was able to manage to get 72 million prime customers within the first three months of its launch, but later, the company decided to extend its freebies for another three months when it had another option of actually charging the customer and earn revenue and hence it chose to forgive it’s another best alternate for not choosing to bill their customers for the services.

Reliance Jio Infocomm actually missed out on an $800 million (which is Rs 5,400 crore) revenue opportunity as mentioned above by offering an additional three months freebies, i.e., free services to its 72 million Prime customers who were actually ready to pay them from 1st of April.

Example #2 – Paytm Investment Opp

Paytm is an Indian e-commerce digital wallet and payment system company, based out of NOIDA S.E.Z in India. Paytm is available ten Indian languages, and it offers online use-cases like utility bill payments, travel, movies, mobile recharges, and events bookings as well as in-store payments at the grocery stores, vegetables and fruits shops, restaurants, pharmacies, parking, tolls, and education institutions with the QR code of Paytm Paytm, which is presently also loss-making company and which has yet to prove its mettle when it comes to the business model and providing the long-term sustainable product.

Berkshire a globally renowned firm that has a market capitalization of around $500 Billion. Based on its past record, it is also known for one of the most astute and sharpest investors in the world. Berkshire decided to pick up a 3 to 4% stake in payments major with Rs 2,500 crore (around $356 million) that was made.

The question now arises as to why and what led Berkshire to invest in Paytm, whose losses stood at Rs 900 crore, whereas it’s coming to its revenue it was around Rs 829 crore, and in the year prior, its loss figure had touched Rs 1,497 crore? What is its expectation with that investment?

Berkshire was aware of the financial opportunity which was available in the Indian market that it had to offer. It would not like to miss it. So here, the opportunity cost for Berkshire will be Rs 2500 crore as easily it could have chosen any other listed company with a profit-making company.

Opportunity Cost Calculator

You can use the following Opportunity Cost Calculator.

Return of Next Best Alternative Not Chosen
The Return of the Option Chosen
Opportunity Cost Formula
 

Opportunity Cost Formula = Return of Next Best Alternative Not Chosen – The Return of the Option Chosen
0 – 0 = 0

Interpretation

  • Opportunity cost is the value of something when a certain course of action is chosen. The benefit or value that was given up can refer to decisions in your personal life, in an organization, in the country or the economy, or in the environment, or on the governmental level.
  • These kinds of decisions will typically involve constraints like time, social norms, resources, rules, and physical realities.
  • An investor goes completely to cash when he decides that the market is overvalued. This will dramatically reduce their risk at the cost of opportunity of the potential returns that are being invested.
  • Another example where student considers the cost of 4-year university education by calculating total hostel, tuition, and other expenses for the period. They could also include the cost of the opportunity of missing 4-years of salary in their calculations.
  • A headphone manufacturer facing healthy competition from low-cost products with similar designs of their own. They can decide to increase the quality of their build (for e.g., Apple) to make the competition look and feel comparatively cheap. The opportunity cost of the new design of the product will be the increased cost and its inability to compete on price.
  • Opportunity costs are truly everywhere, and they occur with every decision we make, whether it’s big or small.

Opportunity Cost Calculation in Excel

Let us now do the same Opportunity Cost example in Excel. This is very simple. You need to provide the two inputs of return of the next best alternative not chosen and return of the option chosen. You can easily calculate the ratio in the template provided.

OC Formula

The opportunity cost will be –

OC in excel

Opportunity Cost Video

Recommended Articles –

This has been a guide to Opportunity Cost Formula. Here we learn how to calculate opportunity cost using its formula along with some practical industry examples, a calculator, and a downloadable excel template. You can learn more about Excel Modeling from the following articles –

  • Cost Volume Profit Analysis
  • Cost vs Expense
  • What is Implicit Cost?
  • Cost Accounting Online Course
14 Shares
Share
Tweet
Share
All in One Financial Analyst Bundle (250+ Courses, 40+ Projects)
  • 250+ Courses
  • 40+ Projects
  • 1000+ Hours
  • Full Lifetime Access
  • Certificate of Completion
LEARN MORE >>
Primary Sidebar
Footer
COMPANY
About
Reviews
Contact
Privacy
Terms of Service
RESOURCES
Blog
Free Courses
Free Tutorials
Investment Banking Tutorials
Financial Modeling Tutorials
Excel Tutorials
Accounting Tutorials
Financial Statement Analysis
COURSES
All Courses
Financial Analyst All in One Course
Investment Banking Course
Financial Modeling Course
Private Equity Course
Venture Capital Course
Excel All in One Course

Copyright © 2021. CFA Institute Does Not Endorse, Promote, Or Warrant The Accuracy Or Quality Of WallStreetMojo. CFA® And Chartered Financial Analyst® Are Registered Trademarks Owned By CFA Institute.
Return to top

WallStreetMojo

Free Investment Banking Course

IB Excel Templates, Accounting, Valuation, Financial Modeling, Video Tutorials

* Please provide your correct email id. Login details for this Free course will be emailed to you

Book Your One Instructor : One Learner Free Class
WallStreetMojo

Free Investment Banking Course

IB Excel Templates, Accounting, Valuation, Financial Modeling, Video Tutorials

* Please provide your correct email id. Login details for this Free course will be emailed to you

Let’s Get Started
Please select the batch
Saturday - Sunday 9 am IST to 5 pm IST
Saturday - Sunday 9 am IST to 5 pm IST

This website or its third-party tools use cookies, which are necessary to its functioning and required to achieve the purposes illustrated in the cookie policy. By closing this banner, scrolling this page, clicking a link or continuing to browse otherwise, you agree to our Privacy Policy

Login

Forgot Password?

WallStreetMojo

Download Opportunity Cost Formula Excel template

Special Offer - All in One Financial Analyst Bundle (250+ Courses, 40+ Projects) View More