What is Opportunity cost in an eCommerce business?
The world of eCommerce is growing everyday business, and professionals in marketing are confronted with opportunity costs to generate more earnings and revenue. The time you devote to marketing via an eCommerce aspect will take resources and time from another sector that could be investigated.
One example is putting all your energy and effort into Google AdWords and ensuring your company ranks as the best result for certain key phrases. If all your efforts are focused on one area, you cannot expand into other areas that could benefit the company. It could have been more effective to expand those keywords and become the second or third with hundreds of other possibilities. Separating your services based on the trends and outcomes will allow your business to be more efficient and generate more revenues.
Opportunity cost types
In assessing the opportunity cost, economists look at two kinds of opportunity costs: implicit and explicit.
Explicit opportunity cost
“Explicit costs are those incurred when taking a specific course of action,” Dr. Bob Castaneda, program director at Walden University’s College of Management of Technology.
The specific opportunity costs that come to a decision may include costs for wages and other materials, stock purchase rent, utilities, and other tangible expenses. In addition, the amount of money necessary to proceed with the decision will be included in the explicitly stated costs.
Implicit opportunity cost
However, “implicit costs may or may not have been incurred by forgoing a specific action,” claims Castaneda.
Implicate costs may be in indirect form and may be difficult to determine. However, they would reflect the income and other advantages earned if you made a different choice.
Ppportunity cost calculation
The opportunity cost formula helps you calculate the difference between anticipated results (or the actual return) for two possible choices. This formula can be helpful in two different situations. It can determine the effect on a future decision or the gains or losses of previous decisions.
Utilize this formula to determine the cost of opportunity for potential business investments:
Opportunity cost = Return on option A – Return on option B
The more you can incorporate real-time data, such as market-rate salary, average rates of return, customers’ lifetime values, and competitors’ financials into your forecast, the more accurate. It’s generally more reliable to evaluate the cost of opportunity in hindsight rather than to forecast it.
If you’re analyzing costs for investment in the past and the formula remains identical; however, the labels are modified slightly.
Opportunity cost = Return on option not chosen – Return on chosen option
Be aware that whether an accountant, business owner, or an experienced investor is doing the math, There are some limitations when calculating opportunity costs. Although the formula is simple, the variables may not be. It’s not easy to define non-monetary elements such as time, risk, effort, and skills.
For instance, the three weeks you’re in the process of recruiting and interviewing the director of marketing isn’t time to play around with a new feature. Therefore, it’s not always a matter of “How is this money best spent?” Instead, sometimes the most important issue is “Which option gives me the comparative advantage?”
How do opportunity costs apply to eCommerce sellers
The examples above are sensible for property owners and farmers. However, what is their relationship with the world of ecommerce? The truth is that opportunity cost applies to virtually all aspects of operating an online store, including using a resource and more than one solution.
The most obvious example of opportunity cost is the process of stocking inventory. E-commerce business owners not only have a restricted amount of money to buy inventory but also a restricted amount of storage space. In this case, the opportunity cost is determined based on the various items that could be purchased, as well as the quantity of storage space they occupy.
Examining these factors and the likely outcomes of choosing one over the other can help to draw an accurate picture of the various alternatives to choose from. For sellers who create their products online, the potential costs of various raw materials could be analyzed similarly.
The opportunity cost is certainly present in other areas of e-commerce too. Sending items out to customers is just one instance. The benefits of offering an array of shipping options – resulting in higher costs and increasing customer satisfaction – could be evaluated against a simpler strategy that takes little effort, time, and expense but is less efficient. The introduction of new products, hiring more employees, or even transitioning from the home to office space for commercial use are only two of many possible possibilities.
Examples of opportunity cost for eCommerce sellers
We’ve already provided the three types of opportunity costs that apply to eCommerce merchants. However, an additional Opportunity Cost is particularly important when choosing between the traditional eCommerce model and dropshipping.
In the traditional wholesale e-commerce model, the retailer decides which products to offer and then contacts suppliers to determine the best fit for their business. After selecting suppliers, the retailer orders each item in a specific quantity through their supplier. They then begin selling the products to customers via their website and other e-commerce platforms such as Amazon, eBay, etc. The seller will ship the product to the buyer when a sale is completed.
The Dropshipping model of e-commerce differs in just one aspect. When a dropshipping company has identified suppliers suitable for their needs, they post the items on their site instead of ordering a large number of items directly from suppliers. Instead, only purchase items from the supplier once the orders are received from customers. The supplier will then ship the item directly to the client.
The Opportunity Cost can be derived from the decision to purchase items from the vendor before or after the customer purchases from you. If you purchase inventory before the sale, the seller has to pay for the items until they are the time they are sold.
Additionally, they have to pay storage charges as well as the cost of shipping the product to the customer. If the units aren’t sold, the seller must figure out ways to dispose of the surplus product. What’s clear from this example is it’s very expensive, to begin with. Dropshipping has a lower expense upfront, which makes the Opportunity Cost lower.