Cracked screens and the sunk cost fallacy

September 11, 2020  | By Kevin Smith

I almost got tripped up by the sunk cost fallacy. Almost! This is a public service announcement to help others avoid a costly mistake.

A sunk cost is the time and/or money already spent. It’s done. For example, you spent six months and $100k on a home remodel. You can’t un-spend that time or money, so it should not factor into the next decision. Whatever you do with your time and additional money should be compared to your available alternatives, having nothing to do with what you already did. Your house might be worth more because of the remodel, and that should be considered in your next decision, but not the time and money you spent on it.

The sunk cost fallacy is some sort of imperfection in the wiring of our brains that makes us consider sunk costs when making the next decision. None of us are immune to it. Apparently this is present in other animals! I am not immune to it either.

I had my Samsung S9 phone for a couple of years. This phone had been tortured by kids, dropped on the ground while unloading the car, tossed in backpacks, and rode in my back pocket while rock climbing and mountain biking. I figured it was bulletproof after surviving all of that. I found its limit when I sat on a rock in Colorado and a piece of metal climbing gear mashed into the screen. I heard that distinct sound of space-aged glass giving way and knew it was over.

Risking laceration on a spider-webbed screen got old quickly. The local repair shop quoted me $200 to replace the screen. Ugh. A new phone costs between $600 and $800. I could probably get a refurbished one on the low end of that range.

Enter the sunk cost fallacy. It is awfully tempting to add the $200 repair cost to my original cost of the phone ($800) and compare that to the cost of a replacement phone ($600). That makes the new phone feel like a no brainer. There is something tempting about justifying getting a new phone. Once my mind wandered in that direction, it wasn’t  long before I started thinking about the latest and greatest version for an extra $200.

Screeeeech (turntable-coming-to-a-stop sound). Don’t fall for it! A voice of reason in my head tried to be heard. My broken phone is perfectly fine besides the glass. It does everything I need it to do and a bunch of stuff I won’t ever use. Shouldn’t I compare the $200 glass fix to the $600 replacement phone? Yes, that is the proper comparison, as much as I don’t want to admit it.

But… if there was ever a time to upgrade, it would be now, right? This is also a trap. I haven’t come across a new feature on a cell phone that I cared about in at least five years. Slightly better cameras, slightly sharper screen contrast, who cares? Looking at the revenue growth of Apple and Samsung, it turns out lots of people care about the next version, but not me. $800 for some gizmos I will immediately take for granted and will not meaningfully improve my life? Pass.

I survived the sunk cost fallacy and went ahead with the $200 glass replacement.

One week later, a crack appeared in the glass and I had no idea how it happened. It just appeared one morning and spread across the phone by the end of the day. Are the gods of behavioral economics putting me to the test? It sure felt like it, because I faced the same exact decision yet again, but this time the sunk cost fallacy made me want to add $400 to the original cost of the phone ($800), and compare that to a new phone ($600). That’s a mistake!

It actually felt crazy to go back and get the glass replaced again for another $200, but the analysis was exactly the same as the first time. $200 to bring my phone back to normal or $600 to get a replacement phone that would be basically exactly the same. This time it FELT like $400 to restore the phone (plus the $800 I originally paid for it), so it FELT like time to scrap it for the new phone, and maybe even the fancy new phone, but it doesn’t make economic sense. The sunk cost fallacy is sneaky and ever-present.

As ESPN SportCenter host Dan Patrick used to say about a basketball player who was “en fuego” (on fire, meaning scored a bunch of points in a row), “you can’t stop him, you can only hope to contain him.” This is how I feel about sunk costs. 

It helps to have friends, co-workers and family to point out sunk costs. The $10k spent on a marketing campaign that nobody believes in anymore? Sunk cost. The $5k spent on home exercise equipment that nobody uses? Sunk cost. The $300 spent on tickets to a concert that now seems too late for a Wednesday night when you have a presentation in the morning? Sunk cost. The shot of tequila someone ordered for you without asking. Their sunk cost.

Friends don’t let friends fall for the sunk cost fallacy.

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Kevin X. Smith, CFA
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Kevin is responsible for advising clients for whom he is the lead financial advisor. He also manages the operations and development of the firm, and oversees all of the investments of Austin Wealth Management clients. Kevin is on a mission…Read More

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