Calculating Opportunity Cost for an Investment Decision
A small business has $100,000 to invest for one year. It is considering an internal project that is expected to result in a total revenue of $104,000 at the end of the year. Alternatively, the business could invest the $100,000 in a risk-free government bond with a guaranteed real interest rate of 5% per year. In monetary terms, what is the opportunity cost of choosing the internal project? Based on this, which option should the business choose and why?
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A manufacturing firm has $500,000 in available funds. It is considering a project to upgrade its factory equipment, which is expected to generate a 6% annual return. Alternatively, the firm could invest the same amount in highly secure government bonds that offer a guaranteed real interest rate of 7% per year. Based on an evaluation of the next best alternative for the funds, what is the most financially sound decision for the firm?
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Calculating Opportunity Cost for an Investment Decision