Posts Tagged ‘sunk cost’

Sunk Cost–Nothing to do With Ships

Sunday, April 4th, 2010

So don’t fall off your chair or otherwise hurt yourself in shock about what I am about to say…but the accountants have it right about something! What? After Enron and the financial crisis and countless ‘solid’ companies making it through audits and then flushing down the toilet? How could I say the accountants have anything right? Well, first of all, I am referring to accountants in general, not the auditors who have been taking a beating over the last few years.

The accounting concept I am referring to is that of ‘Sunk Cost’. This is a way of looking at an expenditure that was made in the past that I think could help with a lot of present day decisions for many companies. You see, being human we tend to cloud what should be rational decisions with human emotion. Not a bad thing when a decision needs some emotion in it to make it smart, but a very bad thing when including the effects of emotion in a decision will result in a wrong choice.

Get to the point you say? OK, here it is: a sunk cost is money spent in the past. It’s gone, over, done, finito. The only value you should be concerned about is whatever real value remains today in whatever you spent the money on in the past. In many cases, the current value will have little to do with the money that was spent. All too often, we attach extra value due to emotional attachment. That incorrect adjusted current value prevents us from making smart decisions today.

At DraftLogic, we run into the effect of emotionally upcharged value quite often. We’ll show our revolutionary new product, DraftLogic Electrical, to prospects and they are invariably quite impressed. They talk things over at the office about upgrading to our software & all the baggage comes out of the storage rooms: ‘We spent years or tens of thousands or both on developing our CAD standards’, ‘We just spent hundreds of thousands on coding productivity tools’, or ‘We have hundreds of thousands invested in a software platform that would need to be replaced’.

The question that should really be asked is ‘Will this new investment pay for itself and start benefiting us materially within an acceptable timeline?’ If the answer is ‘yes’, the purchase should be made and the old investment salvaged/used if partial need continues, sold if it has no current value for the company but retains some value for others, or abandoned if having no current value for anyone. That, however, is assuming decision makers and users can remove emotion and politics from the decision making equation…and when is the last time you saw that actually happen? Back to our accounting analogy, even auditors whom are supposed to be the arbiters of dispassionate numbers end up accommodating for human emotion and politics in their work, thus some of the company failures that took us all by surprise instead of coming with much forewarning from auditors.

So to you I wish the gift of vision unencumbered by emotional baggage or politics! The best I have been able to attain so far is twenty-four hour clarity on decisions where I have an emotional investment–today I render my emotionally muddled opinion & sometimes I have to come back tomorrow and say ‘OK, you were right, that is a better way & we should go with it’.

Kindest regards,
Dean Whitford, COO
DraftLogic
www.draftlogic.com