Imagine that you have invested money, time and effort into a business. I presume that at some point, you would expect some “profit” in return for this investment!
However, now imagine that the business that you invested in is unfortunately losing money. In this situation, you would think that your brain would tell you to stop investing further in that loss making business. However, in reality, your brain will most likely tell you the opposite! Your brain (like the brains of many of us) can have the tendency to be reluctant to accept that your investment so far has been useless, and instead, it will stupidly ask you to invest even more time, money and effort into the useless business, hoping to recover what was lost. This will lead to even more loss, and the cycle continues.
Psychologists have named this kind of stupid thinking, where one’s brain is reluctant to stop supporting loss making investments, as “sunk cost fallacy” thinking.
The short examples below will help you to better understand sunk cost fallacy thinking.
As a business, Joe started a coffee shop next to a big office building. His hope was that lots of people from the office building would buy coffee from him. He invested a lot of money and effort into the coffee shop. Often he would come very early in the morning to make sure that there was hot coffee ready for people to buy when they came to work and he would even stay late to cater for any evening staff.
Despite Joe working hard for over a year, his coffee shop had only a few customers as most preferred to have coffee from a coffee machine in the office building. As a result, Joe’s coffee shop continuously lost money.
Joe’s friends repeatedly advised him to abandon the coffee shop business, but Joe would refuse, saying “I have put a lot of my money and effort into it for over a year. If I give it up, all this money and effort would be wasted”.
Of course this made no sense, as putting more money into something losing money just made the losses bigger. A better way would have been for Joe to accept that he was not going to get back the money and effort he had already put into the failing business, and then move on to a new project.
This example will show you how sunk cost fallacy thinking can happen for “non business” things as well.
Imagine that a student, who we will refer to as Emily, joined medical school with the hope of becoming a doctor. However, during the very first year, she realised that the medical field was not for her. She did not find any of the medical subjects easy to understand and struggled to find them interesting. Nevertheless, she, with great difficulty, managed to survive the first year.
In the second year of medical school, Emily continued to find the field of medicine uninteresting and she was therefore finding it very stressful. At this point Emily thought of leaving medical school and changing her field of study. She met up with her close friends to discuss this big decision. Her friends however were completely against her leaving medicine school, and they told her, “What a waste it would be if you leave now! You have already spent one year in medical school and that would all be wasted if you left now !” With this persuasion from her friends, Emily continued in medical school.
Year after year, Emily kept finding medical school to be stressful and uninteresting, yet her well meaning friends would tell her, “Why waste all the years you have already put into medical school?” This persuaded Emily to continue studying a field that was clearly not suited for her.
Many years later, Emily finally became a doctor and started working in a hospital. However, she was very unhappy with her job as she found medical matters uninteresting and stressful. After a while she could not take it anymore and she finally left the medical profession. Because of sunk cost fallacy thinking, she had unnecessarily suffered for years in the wrong profession. A much better approach would have been to have left medical school early and to have started on a new career without wasting time doing something that was of no use to her future.
As you have seen in the above examples, sometimes it makes sense to let go of what you have already invested in. However, I am not saying that you should give up things just because they are challenging. There can be occasions in a business (or something else) where it is worth tolerating losses because that business is likely to improve in the future and eventually give you a good profit. What I am saying is that you should be realistic about your investments and that just because you have invested in something, that decision does not automatically mean that it is a good investment. If the investment is bad, resist your brain’s reluctance to let go. Drop that investment and move on ! Don’t let the “sunk cost fallacy” type of stupid thinking “sink” you!