What is a sunk cost?
A sunk cost is in the past. Examples include non-refundable deposits, money spent on research, a marketing campaign that has already run, or custom software that's already been built. Because it can't be recovered, it shouldn't affect what you do next.
The sunk cost fallacy
People often keep investing in a failing project because they've "already spent so much". This is the sunk cost fallacy. The right question is: from here on, will future benefits exceed future costs?
Relevant vs irrelevant costs
- Relevant costs: future costs that differ between options, such as additional spending, opportunity costs and savings.
- Irrelevant costs: sunk costs and costs that are the same under every option.
Example
A company has spent $80,000 developing a product. Finishing it will cost another $50,000, and expected profit from launch is $30,000. Ignoring the sunk $80,000, finishing loses $20,000, so stopping is better, even though it "wastes" the original spend.
In accounting
Sunk costs still appear in the books. They may have been expensed or capitalised, and capitalised costs may need an [impairment](/glossary/impairment) review if the project is abandoned.