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Exploit New Business Opportunities

In this age of technology, it’s time for companies to be willing to exploit new business opportunities. More than ever before, companies are navigating this fast-pace and uncertain terrain. Bankruptcies, mergers, acquisitions, reductions, etc… It’s all changing the business landscape. But if companies do not exploit new business opportunities in fear of failing, then they are sure to fail or fall behind competitors. As financial leaders, how do we enable our leadership to take risks without neglecting the numbers?

Exploit New Business OpportunitiesWhy Exploit New Business Opportunities

The reason why one would exploit new business opportunities is to stay ahead of the ever-competitive marketplace. What needs are not being fulfilled yet? How can you gain more market share? What competencies does your company have that can be expanded into other areas – customers, markets, etc.? Opportunity exploitation is what keeps businesses moving forward. In this day and age, we need to continually reinvent our companies or we will not be around very long. Our competitors are doing this every day.

Have you identified any opportunities yet? If not, then click here to access our External Analysis Whitepaper.

Opportunity Exploitation Definition

According to Wiley Encyclopedia of Management, “opportunity exploitation refers to activities conducted in order to gain economic returns from the discovery of a potential entrepreneurial opportunity“. Typically, entrepreneurs are known to exploit opportunities or identify opportunities because it is in their nature; however, financial leaders know what the numbers say and can identify opportunities that make economical sense for the business while balancing risk and reward.

Example: Planet Fitness and Vacant Malls

E-commerce has been growing significantly while brick-and-mortar stores have been steadily decreasing. Shopping malls are more vacant than ever before. But there is one company that is taking advantage of those vacancies and benefitting from it. In a recent Wall Street Journal article, “Planet Fitness Inc. is the rare mall tenant expanding its share of commercial real estate even as many retailers shrink their physical footprint as more commerce moves online.” This is a great example how to exploit new business opportunities. Furthermore, Planet Fitness is focusing on those that do not already have gym memberships. This combination of target market and location is proving profitable for them as they have reported “revenue increase 31% to $140.6 million compared with the same three-month period last year”.

How Entrepreneurs Identify New Business Opportunities

According to Babson College, “entrepreneurs are often characterized by their ability to recognize opportunities (Bygrave & Hofer, 1991) and the most basic entrepreneurial actions involve the pursuit of opportunity (Stevenson & Jarillo, 1990).”

Steps to Identify Business Opportunities

There are several steps to identify and exploit new business opportunities that Babson has outlined:

  1. Preparation
  2. Incubation
  3. Insight
  4. Evaluation
  5. Elaboration

Preparation

Experience is the prime ground for preparing yourself or your company for opportunities. Identify what experiences your team has and what your company is good at. For example, if your company excels in supply chain and logistics, then an opportunity that needs incredible supply chain and logistics processes will be a good fit.

Incubation

Incubation refers to the brain processing a potential idea or opportunity subconsciously. They are already attempting to solve a problem that they haven’t yet written down. This is an ongoing process.

Insight

Then, in the insight stage, an entrepreneur will have the “eureka” or “ah-ha” moment where it all makes sense. As a financial leader, it’s important to talk with your CEO about their ideas so that you can engage in this insight stage. You may even see how to exploit the opportunity before the CEO does.

Evaluation

This step is where the financial leader truly steps up to the plate. Research and analyze whether this opportunity is worth pursuing. At the end of this stage, it could end up in either one of two ways:

  • The idea is not feasible and they kill it
  • The idea is feasible and you move forward.

Elaboration

Finally, the elaboration stage is where you exploit the new opportunity through business planning and implementation.

Example of Identifying a New Business Opportunity

For example, a steel manufacturer primarily sells to commercial developers who require the steel for building and/or roadways. One day, they realized that they were not using any scraps of steel, and the company was just throwing them away. Instead of continuing to throw away those scraps, they inquired whether there was an opportunity to take advantage of it. One day, the entrepreneur stumbles across a custom scrap metal design company where they create home decor out of scrap metal. The entrepreneur goes back to his CFO to discuss this potential idea. The CFO knows of a team member who actually does this in his spare time. They gather a team and start outlining a business plan. Eventually, they decide that it is a profitable idea, and they go forward with it.

If you are not familiar with the petrochemical sector, they are experts at this. Nothing goes to waste in the petrochemical business. A chemical is made or processed, it generates a bi-product or waste, and there is always another business in the petrochemical space that buys it to make yet another product, and on and on and on… Eventually, very little is true “waste”.

Manage New Business Opportunities

So, how do you go about managing new business opportunities? It is so easy for entrepreneurs to get caught up in their ideas and chase “squirrels“. They lose focus and may not capitalize on the opportunity sitting in front of them. As a financial leader, it is crucial for you to manage those new business ideas as part of your strategy to improve profitability.

Exploit New Business OpportunitiesConduct a SWOT Analysis

First, conduct a SWOT Analysis on your company with your team. A SWOT Analysis stands for Strengths, Weaknesses, Opportunities, and Threats. There are two view points in this analysis: internal focused and external focused. This analysis provides a comprehensive look at what your company does well and what it may be lagging in. This also helps the CEO/entrepreneur figure out what opportunities they need to look for to convert those weaknesses to strengths and those threats to opportunities.

If you want to get started on your SWOT Analysis, then click here to access our External Analysis Whitepaper.

Enable Your CEO to Make Calculated Risks

Then, enable your CEO to make calculated risks. Entrepreneurs need to take risks and make moves – that’s part of their nature and gift. But, they do not need to make uncalculated risks or risks that will cause more harm than good. As the financial leader, help them to mitigate risk and enable them to do what they do best – find opportunities and grow the business.

Do you know the opportunities and threats that your company faces? If not, then the time to figure it out is now. Click here to access our External Analysis to gear your business for change.

Exploit New Business Opportunities

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Opportunity Costs in Your Decision-Making

businessman at crossroadsHave you had to make an important decision and you kept weighing the alternatives, trying to decide which choice was more worthwhile? We all make important life decisions every day. We tend to focus on the benefit of our first choice and not the benefits of the next best choice. An opportunity cost is the value of the next best alternative.

Opportunity Costs

Opportunity costs apply to many aspects of life decisions. Often, money becomes the root cause of decision-making. If you decide to spend money on a vacation and you delay your home’s remodel, then your opportunity cost is the benefit living in a renovated home. For time management, if you decide to spend time working late at the office on an important project, your opportunity cost is the benefit of spending quality family time at home. In business, opportunity costs play a major role in decision-making. If you decide to purchase a new piece of equipment, your opportunity cost is the money spent elsewhere. Companies must take both explicit and implicit costs into account when making rational business decisions.

Example of Opportunity Costs in Decision-Making

For example, Bill Gates dropped out of college. Yet, he ended up creating one of the most successful software businesses in Microsoft. His opportunity cost was the benefit of a college education at Harvard and a stable, successful career working for someone else. However, his entrepreneurial drive led him to choosing the route of becoming a self-starter and entrepreneur. While most people who drop out of college do not become billionaires, it was different for Bill Gates. The opportunity cost of staying in college and working for someone else didn’t have enough value compared to his dream of becoming an entrepreneur.

Life decisions require the two following things:

Your opportunity costs are not the same as the person sitting next to you. The true cost of one choice is the cost of what you give up to get it. The more choices we have in society, the more you have to give up by choosing one thing over another. As long as you are content with the result of your decision, whether you think about what you gain or lose, you can live a successful life.

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Transfer Pricing

See Also:
Service Department Costs
Responsibility Center
Profit Center
Cost Center
Cost Driver

Transfer Pricing

Transfer prices are the prices used for transactions within a company. A transfer price is an internal price. When one division of a company sells a product to another division of the same company, the price charged is called a transfer price. This is in contrast to external prices, or market prices, which are charged to customers outside the company.

In large multi-divisional corporations, where divisions are responsible for their own profits, divisions often transact with each other as if transacting with an outside customer. While internal transactions don’t affect the overall profit of the corporation, they do affect the profits of the relevant internal divisions. A high transfer price benefits the selling division to the detriment of the buying division. A low transfer price benefits the buying division to the detriment of the selling division.

The goal of the corporation is to establish transfer prices that provide incentives for divisional managers to act in the best interest of the corporation as a whole.

Transfer Price Calculation

A transfer price generally has two parts: the outlay costs and the opportunity cost. The cost of making or obtaining the product is known as the outlay cost. The opportunity cost is the profit the division could make by selling the product in the marketplace, as opposed to selling the product internally.

Transfer Price = Outlay Cost + Opportunity Cost

For example, consider a division that makes hats. The cost of making one hat is $2. That division can sell the hat in the marketplace for the market price of $5. Therefore, the opportunity cost of selling the hat internally instead of externally is $3. The transfer price would then be $5.

$5 = $2 + $3

In this simple example the transfer price is the same as the market price. In more complex examples this might not be the case. However, transfer prices are frequently based on or similar to market prices.

To learn how to price for profit, download our Pricing for Profit Inspection Guide.

transfer pricing

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Opportunity Cost Article

See Also:
Opportunity Costs
Capital Budgeting Methods
Opportunity Costs In Your Decision Making

Opportunity Cost Decision Making

An opportunity cost is a hypothetical cost incurred by selecting one alternative over the next best available alternative. Opportunity costs are relevant in business decision making. In addition, companies commonly use them when evaluating corporate projects.

Opportunity Cost Analysis

When evaluating a potential investment, include opportunity costs in the analysis.

For a capital investment project, a company should evaluate the expected return of the investment compared to the opportunity cost. Opportunity costs are also the expected returns of an alternative investment of equal risk. If you expect the project to yield returns above the opportunity cost, then it may be a good investment.

For example, imagine a company is currently renting out a warehouse. Then the company considers an investment that requires that warehouse. When evaluating the project, the company needs to consider the value of the rent it will no longer be receiving by using the warehouse in the new project. Then, subtract that value from the expected value of the project.

The concept also applies to investing in securities. For example, if an investor takes money out of a savings account to invest it in government bonds, then the investor should consider the opportunity cost of the interest the money would have earned in the savings account. They should especially do this when evaluating the expected returns from investing the money in bonds.

Opportunity Cost in Economics

In economics, opportunity cost is any utility foregone by choosing one alternative over another. Furthermore, it does not necessarily refer to a monetary amount. When you are faced with two desirable and mutually exclusive choices, consider the value of the option not chosen an opportunity cost. For example, an opportunity cost refers to the satisfaction an individual would get from the leisure time that is sacrificed for time spent working. Or if an individual decides to leave a salaried job to go back to school, then the salary given up would be considered an opportunity cost.

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Opportunity Cost Decision Making

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Opportunity Cost Definition

See Also:
The Future of the Accounting Workforce
Future Value
Cost Driver
Certified Public Accountant (CPA)
Auditor

Opportunity Cost Definition

Revenue that has been forfeited for an alternative use of time or facilities. Often times these types of decisions are made because a company or person forgoes an immediate cash stream for hopefully a larger one in the future.

Opportunity Cost Meaning

Opportunity costs decision making is often based on the potential for higher cash streams in the future. This can happen if a company is developing a new product, and in the meantime has available capacity it could rent out. However, the company keeps it idle in hopes that the new product will develop higher cash flows and use the idle capacity.

Opportunity Cost Examples

Here are some common opportunity costs examples:

– A person who just graduated high school has the chance to take a job at a factory or go to college and gain further knowledge. Often times, the student will go to college because he/she believes that they will be able to make more in the long run over the years by investing in an education.

– A company decides that it needs to invest in new software. It may costs a lot, but if the company becomes more efficient it would be worth it. If the costs to maintain the software is reduced and sales increased it could pay for itself and more in the long run.

– A bank has outstanding loans that have broken covenants. The bank could ask for the full amount right now, but often times they will work with the company so the bank can realize the interest payments along with the principal.

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Opportunity Cost Definition

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Inventory Cost

See Also:
How to Manage Inventory
Inventory Turnover Ratio Analysis
Days Inventory Outstanding Analysis
Inventory to Working Capital Analysis
Freight on Board (FOB)

Inventory Cost Definition

Defined as the total cost that a company experiences while holding inventoryinventory cost is often one of the most substantial factors in the success of a business. Inventory cost control has many facets, including financing, equipment, labor, protective measures, insurance, handling, obsolescence, losses by pilferage, and the opportunity cost of choosing to deal with inventory. These factors all combine to create the total cost of holding inventory.

Inventory Cost Explanation

Inventory cost, explained by each business owner with varying importance, plays a major role in the working capital requirements of a business. Based on the overall inventory needs, a company can can plan the cash flow cycles properly to avoid problems which may even cause the business to cease operations. This makes sense when one keeps in mind that perhaps the most common reason a business closes is lack of cash.

There are a variety of inventory cost methods to minimize expenditure. On the material side, a business can set up equipment, ranging from simple placement of items for optimal usage to accounting systems which serve as inventory management, which simplify and change based on the needs the business has for its inventory. In reference to processes, employees can be trained to use available resources to achieve maximum effect. When you understand the science of supply chain management, you can make sense of the most complicated of inventory projects. For smaller assignments, the average person can turn a catastrophe to a working system with a foundation of proper planning. Inventory can be as affordable or costly as the business and manager allow it to be.


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Inventory Cost Formula

The inventory cost formula, summing total cost of inventory, is often referred to as inventory carrying rate.

Inventory Carrying Rate = (Inventory Costs / Inventory Value) + Opportunity Cost (as a percentage) + Insurance (as a percentage) + Taxes (as a percentage)

Inventory Cost Calculation

When one has the proper information, inventory cost calculations can be very simple.

Example:
If:
Inventory Costs = $5,000
Inventory Value = $50,000
Opportunity Cost = 10%
Insurance = 4%
Taxes = 7%

Inventory Carrying Rate = ($5,000 / $50,000) + 10% + 4% + 7% = 10% + 10% + 4% + 7% = 31%

Inventory Cost Example

For example, Stan is the warehouse manager for a distribution plant. His work has made him an expert in the science of managing inventory operations. Stan understands his work and enjoys doing it.

However, Stan wants to assemble inventory cost accounting figures. As the essence of the business, Stan makes sure to keep track of this value on a regular basis.

First, Stan calculates inventory costs:

If:
Equipment = $2,500
Labor = $1,500
Protective measures = $300
Handling = $500
Obsolescence = $100
Pilferage = $100

Then:
Inventory Cost = $2,500 + $1,500 + $300 + $500 + $100 + $100 = $5,000

Next, Stan finds the ratio of inventory costs to inventory value:

If:
Cost of Inventory = $5,000
Value of Inventory = $50,000

Then:
Inventory Cost / Inventory Value = $5,000 / $50,000 = 10%

Stan then does research to find the cost of opportunity, insurance, and taxes. These are found as a percentage:

Opportunity Cost = 10%
Insurance = 4%
Taxes = 7%

Finally, Stan adds these percentages together to finally find inventory carry rate:

Inventory Carrying Rate = 10% + 10% + 4% + 7% = 31%

Stan’s inventory carry rate has remained unchanged. Stan is happy about this. Therefore, he keeps constant research in the industry magazines, with professional contacts, and the newest products and services. As long as Stan maintains this research he can keep his warehouse running in peak condition.

If you want to find out more about how you could utilize your unit economics, then click here to download the Know Your Economics Worksheet.

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