OPPORTUNITY COST

Opportunity cost is what a person/thing needs to give up in order to gain something. In other words, opportunity cost is the cost of forgoing the next best alternative to the one you chose. You could spend that $5 on one coffee, or you could spend it on a 3 cupcakes. The opportunity cost of one coffee is therefore 3 cupcakes (by choosing the coffee, I have given up the opportunity to buy 3 cupcakes). The opportunity cost of attending a class of 2 hours is probably giving up $30 dollars of working if you make a $15 per hour.

For the Exam purposes, opportunity cost is the opportunity given up by selecting one project over another. There is no calculation required.

Opportunity cost is an economic term that describes the relationship between scarcity and choices. Organizations need to choose one project(s) over another or others because of limited resources, organization and or the company’s needs to make decisions where to focus its resources and that is always weighted toward the investment with the best returns.

Example:

You are a part of the Project management office (PMO) for an organization. The office is in the process of selecting one project that helps the growth of the organization. There are 3 projects to choose from. They are Project A with an NPV of $18,000,000, Project B with an NPV of $19,000,000 and Project C with an NPV of $15,000,000. After a brief initial discussion, the selection board decided to exclude Project C and it will not be pursued at all. Project A was chosen to be pursued after a lengthy discussion. What is the opportunity cost of selecting Project A instead of Project B?

Answer:

Although the question may seem as a complex problem, it is very simple to answer. The opportunity cost when selecting between two projects is the value of the project that is not selected, which is $18,000,000.

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