Last night I was having a drink with my cousin and we started talking about sunk costs.
You may be familiar with the concept:
A sunk cost is a cost that was previously incurred and cannot be refunded, and thus should not be taken into consideration when making decisions.
The sunk cost fallacy describes those times when we do make a decision based on previously paid, unrecoverable costs, even though we shouldn't.
The classic example:
You pay $100 to go to a concert, but an hour before the show begins, you realize it would make you happier to stay at home, have a glass of wine, and netflix and chill.
But you paid that $100 ... and it would be a shame just to have wasted that money. So what do most of us do? We go to the show even though we would rather be doing something else.
Humans have a massive aversion to loss, so the idea of "losing" that $100 by not going to that concert can feel really bad.
But just remember - it is a sunk cost.
Don't make the mistake of doubling down on your loss by spending $100 AND your valuable time on something you don't want to do.
That's Sunk Costs 101.
When it comes to money you've spent, be it on a concert ticket, a ski pass, or even starting a new business, it is fairly easy to conceptualize the idea of sunk costs.
But it is just as important to consider the sunk costs of time, energy, attention, and identity.
All too often we make decisions and plans for the future based on past expenditures of time, energy, attention, and identity.
Recently, a friend of mine just made a dramatic career change to a whole new field after spending years working hard in another industry [time and energy], learning the requisite skills for that industry [attention], and telling himself and the world his plans for his career [identity].
I admire his decision to ignore all of those sunk costs of time, energy, attention, and identity and opt for a path that he believes will maximize his future well-being.
It's a hard thing to do - I think most of us can relate to that feeling of being trapped by past decisions and actions.
There should not be a connection between how long you've been in a relationship and your decision to leave that relationship. If you would be happier without that relationship, it doesn't matter whether you've been in that relationship for 1 week or 20 years - it's a sunk cost.
In fact, the longer you've been at something worth changing, the more imperative it is that you make a change ASAP, due to the increasing marginal value of time as you get older.
Likewise, no matter how long you've spent planning and executing that new initiative for your business, if it is a bad initiative, you should end it.
Would you rather spend $2M and 6 months on a failed idea or $3M and 9 months*?
*which is actually much higher when you factor in opportunity costs (at least equal to $4M and 12 months).
Those who recognize sunk costs and act accordingly do well.
Fair warning: When you are making big decisions, be clear eyed and cognizant about seeing the forest through the trees.
We must be careful to distinguish our distaste for a certain tree or clearing (a rough patch or temporary challenge) from a desire to leave the forest completely (for a new career, a new partner, a new business strategy, etc.).
One more thing - it is totally legitimate to take emotions into account when making decisions. If not going to that concert would make you feel deeply uncomfortable, then maybe you should go.
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