Sunk Costs and Learning to Let Go

Imagine you’ve been excited about going to see your favorite musician in concert. It costs $75 per ticket, and you’re going to pick up two. When you go to pay for the tickets, you realize that $150 dollars is missing from your account (same cost as the tickets). Would you still buy the tickets?

According to studies, you most likely would.

Now, imagine you have your tickets and go to see the concert, but right before you hand them over to get inside you realize you’ve lost them. Would you go back and buy two more tickets? Maybe, but it would hurt a lot more. The situation is the exact same. You lose $150 and then must pay an additional $150 to see the concert, but the second scenario feels different. The money was assigned to a specific purpose and then lost. Losing something you already have sucks worse.

Understanding Sunk Cost

We don’t fear change, we fear loss. This is a common misconception — that change is to be avoided because we simply “don’t like it.” At the core of change is losing something that is familiar. Something we know and have grown accustomed to will no longer be the same.

Humans are more motivated by what we may lose (moving backwards, moving back from the status quo) than what might be a future gain.

(The following is an excerpt from this article) “In psychologist Daniel Kahneman’s book, Thinking Fast and Slow, he writes about how he and his colleague Amos Tversky uncovered the imbalance between losses and gains in your mind. Since all decisions involve uncertainty about the future, the lens you use to make decisions has evolved an automatic and unconscious system for judging how to proceed when a potential for loss arises. Kahneman notes that individuals who placed more urgency on avoiding threats than they did on maximizing opportunities were more likely to pass on their genes.” [italics added]

As humans, we have a hardwired, natural propensity for safety. We have a genetic predisposition to avoid loss. As such, the prospect of losses has become a more powerful motivator on your behavior than the promise of gains. Whenever possible, you try to avoid losses of any kind, and when comparing losses to gains you don’t treat them equally. 

The connection to past loss keeps us from making rational decisions about future gains.

You can learn more about Sunk Cost, here, here, or here.

Ignoring Sunk Costs

Consider the example of Starbucks here, walking away from an investment only two years after spending $100 Million. This is what professional decision makers do, they ignore the pain of past decisions to make better decisions moving forward.

It’s entirely likely after you have read the examples and descriptions of Sunk Costs, that you are not convinced. It’s likely because humans are irrational beings. Emotion often rules how we interpret and make decisions about situations, and we often link good decisions with good outcomes. Did the decision lead to a result I liked, or didn’t like? These two pieces, decisions and outcomes, often get confused.

Good decisions and good outcomes are not inextricably linked

If you were asked to recount and write down your best decision from last year, it’s entirely likely that you will choose a decision that worked out well for you. Adding a new product line, hiring a particular person, leaving your job, etc. The reason the decision makes the list is because of the good outcome, and has less to do with the decision itself.

A good decision is based on analysis, data, and as much rational thinking as we can muster. Good outcomes mean that the probability worked in our favor that time. There is always a probability that our good decision will not lead to good outcomes. It does not make it a bad decision, it means that the smallest probability is what happened.

Good decision makers make the distinction between:

1) How does this decision make you feel right now?

and

2) How does this decision increase the chances that you will achieve your long-term goals?

The italics in the second question means something. Increasing the chances (making it a higher probability), that the outcome we seek will take place. This is the basis of good decision making, regardless of past pain (sunk cost). What decision will increase the chances of achieving the long-term goals, regardless of sunk cost?

At the core, good decisions are bets.

Now that you’re on your way to being willing to actually make a decision, the question is, “what’s the decision you’re required to make?”

Action

As an opportunity to work through sunk cost and move from irrational, emotional decision making, the following action aims to provide a process that increases rational thinking.

Consider a decision that you need to make that has real-world implications, has a degree of complexity, and where the final outcome is unknown (not a simple question, such as: should I eat a sandwich for lunch?)

Here are the elements:

1) Write down (or select, if you’ve already established this) a long-term goal you have — the outcome this decision is supposed to produce.

2) List as many decisions that are available to you as possible. Yes, even as far as “quit and go home.” Listing as many decisions as possible opens us up to possibilities we weren’t even considering in the first place. This allows us to broaden the question from either/or (a decision with limited options) to ultimately see more possibilities.

3) List the dependencies of each decision. What is each decision dependent on? For example, building a new product for your video production company might be dependent on your ability to get the necessary video equipment, the necessary technical skill to operate the equipment, and the potential customer’s desire to use it (to name a few).

4) The final action will be to take the information you’ve built above, and complete a Decision Tree, a methodology that breaks complex decisions into rational, calculated steps. You can see examples and learn about decision trees here, and check out several examples/images of decision trees here.Another way to track decisions and learn to compound good decisions is through a decision journal. Check it out here. Also, learn about the anatomy of a good decision here.