Opportunity costs, also known as alternative or waiver costs, express a lost benefit in costs on the basis of decisions with negative effects, and enable an almost exact cost calculation. The degree of utilization always refers to existing resources (human, machine, space and operating resources). The reasons for these types of costs are the decisions mentioned above, which leave no room for alternative solutions. These are referred to as opportunities (possibilities). For example, a company usually has to choose one of several process solutions. The opportunity costs describe the notional loss calculation of the alternatives not considered.

Opportunity costs in practice

The fictitious lost earnings resulting from alternative solutions are quantified and reported as opportunity costs. Avoiding such costs is based on the principle of efficiency. This principle in turn states that a certain goal should be achieved either with the least possible input (minimum principle) or the greatest possible goal with a certain limited input (maximum principle).

Resources: high costs should be avoided

Opportunity costs are not costs in the sense of cost and performance accounting, but an economic concept. This concept makes it possible to quantify lost alternatives. The following applies: when resources are used, such costs arise because resources can only be used for other purposes with a great deal of effort (set up time – set up time optimization in injection molding). They therefore arise when all production factors such as capital, time and labor are used, and provide information about the economic efficiency of a business process without being directly reflected in the operating result. Although opportunity costs are not settled by actual payments and therefore do not influence a company’s balance sheet or accounting, calculating alternatives helps those in charge to make concrete considerations and decisions about how resources can be used more efficiently.

Opportunity costs are divided into input-related and output-related opportunity costs. In the case of output-related opportunity costs, we speak of alternative costs or optimal costs. Output-related opportunity costs therefore relate exclusively to the output of the production process. Input-related opportunity costs are costs whose contribution margin is limited to the input factor. These include, for example, the factors: unit, hours worked or material costs.

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Examples of logistical opportunity costs

• A company has invested 1,000,000 euros in the financial market at a fixed rate of interest and receives three percent interest annually. Due to the planned construction of a logistics center, the equity capital on the financial market is released and used for the realization of the logistics center. In this case, the lost interest income represents the opportunity costs, which should be taken into account when assessing the planned investment.
• If decisions have to be made, such as which conveyor system or which special logistics solutions (pocket sorter, pick-by-robot, pick-by-vision or manual picking) should be installed, new opportunity costs arise. The planned hardware installation describes the future flexibility of a warehouse or distribution center. If, for example, peak times, replenishment and picking times are rigidly linked to processes, an alternative would be to take advantage of opportunities as they arise. In special cases, this could save resources and personnel or ensure sustainable replenishment (delivery guarantee, customer satisfaction). What is important to note here is that the flexibility mentioned can never be 100 percent guaranteed these days. In some warehouse areas, rigid process-oriented solutions are even unavoidable and cannot be completely changed (conveyor landscape, high-bay warehouse).

In the context of digitalization, Industry 4.0, and big data or smart data, more and more company-specific potential is being uncovered these days that makes the costs of doing without measurable. Performance Transparency, Predictive Resource Management and Intelligent Resource Management, for example in the sense of real-time logistics, are all about using existing data, which would otherwise remain unused without the appropriate technology. Accordingly, non-use of modern technologies, i.e. a passive or hesitant attitude towards technically possible solutions, also results in waiver costs. For example, not implementing a new logistics software (warehouse management system, material flow control or data mart) that ensures a more efficient material flow or generally smoother processes within a warehouse may not be a conscious decision, but it also involves alternative costs. In such cases, the opportunity costs to be calculated create completely new fields of decision-making and action for implementing more economical processes.

 

 

Summary

A business decision inevitably means that other possible decisions and actions cannot be implemented. These available opportunities that are not taken arise from opportunity costs, which quantify a lost benefit. This quantification, also known as alternative or waiver costs, describes an economic concept that specifically reveals the fictitious, lost benefit of a particular decision and makes it calculable.

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