Emotions make us human. They can also cause us to make rash decisions. Business owners and managers often let emotions dominate the decision-making process. This is especially true when choices are based on “sunk costs.” Business owners and managers can let emotions dominate the decision-making process. Instead, move past sunk costs with grace and confidence knowing it’s the smartest business decision to make.
Why sunk costs can lead to trouble
Broadly defined, sunk costs are past expenses that are irrelevant to current decisions. For example, many firms hire consultants who sell and install software. In some cases, a company is left waiting for years for a functional and error-free system. Meanwhile, costs continue to escalate. But are those costs relevant?
Managers, especially those who initially procured the software and contractor, may reason that pulling the plug on a failed contract would be wasting all the money spent. Not true. That money is “sunk.”
Other examples of sunk costs may be found in the areas of product research, advertising, inventory, equipment, investments and other types of business expenses. In each of these areas, companies spend money that can’t be recovered — dollars that become irrelevant for current decision-making.
Sunk costs are a waste of time — move on
Truth be told, the only relevant costs are those that influence the company’s current and future operations. Throwing good money after bad won’t salvage a poor business investment — or a poor business decision.
Deciding to continue with a non-performing contract or a money-losing idea instead of staunching the flow of cash and changing course is irrational. It may be difficult to admit that a mistake was made. It may bruise the ego of the decision maker. But abandoning the sunk costs is often the wisest decision. Visit our website for more advice from a CPA.