The Risk in Not Quitting: Opportunity and Sunk Costs

So there’s one idea that I’ve recently brought into my life that has completely changed how I look at both long-term commitments as well as short-term failures. It’s reshaped how I think about success and how I make commitments going forward. It’s not being afraid to quit.

Most people, like me, don’t follow through with their aspirations because we’re afraid. We’re afraid about what other people might think. So instead of taking action, we do nothing. We don’t switch careers. We keep the same hair cut for years, we stick to our daily routines, all so we can avoid the pain that comes with change and discomfort. We avoid quitting something.

Where did I get the idea that you shouldn’t be afraid of quitting? From Freakonomics, in their book Think Like a Freak. There an entire chapter dedicated to the upsides of quitting. They probably explain it better than I do. The main idea is that there are forces that keep people from quitting things that they should really quit. The main ones are the association of quitting with failure, and the other two are sunk cost and opportunity cost.

Quitting and Failure

The association of quitting with failure is strange- It’s kinda true in the short term. But in the long term, it’s the opposite.

We usually only see success when we look around at the world. What we don’t see is all the failure that went before. I think its combination of envy and instant gratification. We see a rich older person driving a nice car and are envious of their position- what we don’t see straight away is their lifetime of hard work with more failure than they’d like to remember.

Success can make us envious and overlook failure.

Instant gratification is another real problem for quitting. It’s not that instant gratification keeps us from quitting- its that instant gratification keeps us from starting. Why would we want to start a long term project when everything happens instantly for use.

Success doesn’t happen overnight- it’s not instant. Success only comes through a combination of several things- patients, persistence, hard work, and quitting.

Take Michael Jordon the Baseball player. That’s right Michael Jordon played baseball. He quit playing basketball to pursue his dream of playing in the major baseball league. He gave it a good few seasons in the minor leagues and realised that he may not be good enough for the majors. But rather than spend years perusing baseball, he quit and went back to basketball.

The 3-year rule

Quitting can prevent us from doing the things that we really want to do. That’s not to say that you need to quit everything- but if you’ve been giving something a really good go and it’s not working, there comes a time where you should need to cut your losses and quite. This is what some people call the 3-year rule.

The three-year rule is the opposite of instant gratification. It’s when you dedicate yourself to a project or career for three years and measure your success over the long term. You forget about your short term failures and focus on the long term. Who cares if your first couple of blog post were terrible and nobody reads them. Who cares if your first investment choices weren’t the best. It’s the long term progress that counts.

There are always short term failures, but they are all temporary. They make up a small proportion of the bigger game. In 3, 5, or 10 years time you will get some perspective. Perspective to look back and realise that it made no sense to worry so much about failing and looking foolish in front of others. Those early failures lead you to the success you are now.

Sunk Costs Keeps us from Quitting

If after 3, 5, or 10 years of doing something and you are not seeing success then you might want to think about quitting. What holds you back at this stage is the sunk cost. You have already put in a lot of effort and time. And losing all the time and effort you have put into something can feel painful.

This is the sunk cost fallacy. At some stage, you are going to have to realise that putting more effort and time into something is not the best course of action. It’s like continuously investing in a startup that is not showing any sign of getting off the ground. At some point- you have to stop pouring money into it and let it go- even if you are going to lose what you have already invested.

I had the exact feeling when the Module Project was asking for another round of funding- they had already secured over $200k of funding- but not a minimum viable product. I don’t know how much it would really cost to develop a minimum viable product- but when the email came in asking desperately for more money from initial investors- I knew I had to cut my losses and quit. I wasn’t going to put any more money in.

Investing in start-ups is always super risky- you need to know when to quit and ignore any sunk costs.

Honestly- it was a 4-year journey from when I first invested in the idea until the company wrapped up in liquidation. And I wouldn’t say that I have lost all my money- well- yes I lost it all. But I gained a lot from engaging and following their progress. Ultimately a valuable insight into starting and running a company.

In the end- I don’t think it was a bad investment waste of money- over 4 years I learned a lot (mainly to be much more diligent with startups).

Not always bad

Sunk costs are not always a bad thing. There are times that sunk costs can motivate you. Let’s say you bought an expensive piece of exercise equipment, or a bike to ride to work on. The money that you have spent on these items can motivate you to use them more- which is a good thing.

Opportunity Cost

The second thing that can motivate you to quit something is opportunity cost. The opportunity cost is the benefit that you will miss out on when choosing one option over another.

Because it’s the beginning of 2020, many people may have bought a gym membership to try and get into shape- and that’s great. But how many of them are still going to be going in say 6 months time. Chances are only a few. The rest will be stuck paying for their membership which they don’t use. Now, what else could these people do with this money instead? This is the opportunity cost of purchasing a membership.

The same can be said about your money- every time you spend or invest money there is an opportunity cost associated with that decision. Could you have done something more valuable with that money? What opportunities have you lost by spending money in a certain way?

Opportunity cost vs Sunk Cost

Opportunity cost and Sunk costs are quite similar- the difference is one deal with money already spent- the sunk cost, and one deals with the potential opportunities that you could have had, but is now lost as you spend the money in another way.

Consider a large life decision like buying a house- let’s say it’s a McMansion. You probably did the research- pros and cons of your decision. Ultimately- you decided that a large house will be a good long term investment as your family can grow to occupy the extra space. You do some calculations and the large mortgage payments seem doable.

This is the general process people go through when deciding on purchasing a house. Figure out how much you can afford to pay on a mortgage- borrow the larges amount and buy the most house you can afford. What people don’t often consider is the opportunity cost in paying this mortgage over 25 to 30 years. This mortgage will tie up a lot of your cash flow.

Now consider what happens if your lifestyle changes- you don’t enjoy mowing the garden, or didn’t end up with a family- maybe you kids have grown and left the nest. Now you have a large house with the remainder of the large mortgage. What’s holding you back from moving? The sunk cost. You have spent so much on your current house both in time and money.

So the problem is not about spending money- it’s about realising that every time you spend money there is an opportunity cost associated with it- and that a sunk cost shouldn’t keep you from quitting something if you can see that the opportunity cost is too high.

Summary

So now that 2019 has come to an end, and Covid-19 is here- think about something that you’d like to change. Something that if you quit you’d improve your life. And do that. Think about the sunk costs- but don’t let them hold you back. Consider the opportunity costs with continuing on with the status quo.

Or commit to a long term goal and set a time frame. Ignore short term failures and focus on the long term. But after 3, 4, or 5 years- however long you give yourself if you haven’t succeeded then- consider quitting.

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