Markets for Managers: A Managerial Economics Primer

CHAPTER 2 Cost and Choice

‘Costs cannot be realised. They must remain for ever in a world of projecting, fantasising or imagining.’

—Mario Rizzo and Gerald O'Driscoll¹

One day an expensive lawyer was visiting the offices of oil conglomerate Koch Industries, at their headquarters in Wichita, Kansas. He needed to make some photocopies and sought out a secretary and asked for directions. She offered to take care of it for him; he said he was happy to do it. But she insisted. She knew how much he was being paid, and what the value of his time was. If he spent that time doing photocopies, he was wasting resources. The lawyer couldn't argue with that logic, and gratefully handed over the stack of paper. Several weeks later he was back. He went to the same secretary and mentioned that he had more photocopying. On this occasion, however, she refused. She was in the middle of writing up an important contract and was working to a strict deadline. At that point in time, her time was more valuable. What I like about this anecdote is how a consideration of the costs of an activity is so deeply embedded within the organisation. You can only tell if you're creating value if you understand the costs of an action. The fact that costs are so often hidden is all the more reason to go searching for them.

The purpose of this chapter is to help managers to internalise the concept of opportunity cost reasoning, and to see how the cost structure of a firm and industry matters. We will look at what ...