What is an opportunity cost?

An opportunity cost represents the value of the next best alternative that is sacrificed when a decision is made. It emphasizes that resources, such as time and money, are limited, and choosing one option means forgoing others. This concept is essential in financial management as it helps individuals and organizations make informed decisions by considering what they must give up to pursue a certain investment or project. Understanding opportunity costs encourages a more thorough evaluation of potential alternatives, allowing better allocation of resources towards the most beneficial choices. Recognizing which opportunities are relinquished aids in assessing the true cost and benefits of any decision made.