A man buys 50 apples for Rs. 10 each and plans to sell them at Rs.15 per apple.
He sells 40 apples at Rs. 15 each in the morning.
In the afternoon, his regular customer comes, who is willing to buy all the remaining 10 apples from him, at Rs. 15 each. At the time of delivery, the seller discovers that 1 apple is rotten and not fit for consumption.
Now he has two options
Just go ahead and sell all the apples including the rotten one
Not to sell the rotten apple.
He would select the option that has lower opportunity cost.
Opportunity cost is the value of the next alternative not selected or forgone.
If he decides to sell it, he will get Rs. 15 for the rotten apple.
If he does not sell it, would he get nothing? No.
He would be able to retain the customer the value of which for him is much more than the sacrifice of Rs. 15 that he would suffer.
So smart fruit seller would opt not to sell the rotten fruit.
I am sure professionals may learn a lesson from his example.
Let’s take case of a professional firm which has hired Mr. X who costs the firm Rs. 500 per hour. It is decided that Client A will be charged Rs. 2000 per hour for the time to be spent by Mr. X which is expected to take 10 hours. Fees are agreed in advance at Rs. 20000.
Mr. X spends 15 hours on the job. The firm raises a bill for Rs. 20000 as agreed.
A normal manager will still be happy with the profit made albeit lower than anticipated.
Did the firm have any options like the fruit seller- to sell those extra 5 hours or not to sell? No. Because the firm has already delivered extra 5 hours which now has no realizable value (like the rotten apple) .
Smarter manager will ponder-
The 5 hours if not allowed to go waste had a realizable value of Rs. 10000 (5 hrs X Rs 2000 per hour). How can I prevent this loss?
Professional firms which are handling large number of assignments all the times, which fail to take cognizance of huge amount of time that is wasted – which is not realizable fully or partly as described above, suffer from low profitability.
Firm can weigh two options 1. prevent such losses or 2 do nothing and allow losses to affect the profit adversely.
To prevent such losses firms can opt for Eff factor starting at Rs. 100 pm per employee.
The option of not doing anything costs thousands and millions of rupees of unrealized revenue and profit.
Moral – Interpret the term “Opportunity cost” correctly. Identify the opportunity cost of prevention and decision becomes smarter.
Eff factor captures the value of the time not realized or not likely to be realized before it is too late. It does many more things than just prevention, for improved profit and long-term growth of professionals.
Think EFF Factor