Opportunity Cost

Opportunity cost is what you sacrifice by choosing one option over another. Every decision has an opportunity cost because resources (money, time, effort) are limited. If you invest $100,000 in a business, the opportunity cost is the returns you could have earned investing that money elsewhere — say, 10% in the stock market.

Real example: choosing between an MBA ($200,000 tuition + 2 years of lost salary at $80,000/year = $360,000 total cost) versus continuing to work. The MBA's opportunity cost is not just tuition — it includes the $160,000 in salary you forgo. The degree only "pays off" if your post-MBA earnings exceed this total cost over your career.

In finance, opportunity cost determines the discount rate used in capital budgeting. If a company can earn 12% on its normal operations, any new project must beat 12% to be worthwhile — that is the opportunity cost of capital. Warren Buffett uses opportunity cost as his primary framework: every investment is compared against the best available alternative.