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The sunk-cost fallacy in innovation: Overcoming investments in the past


Wichtigkeit des Innovationsmanagement

Is it worth continuing to pursue an innovation project without proper validation?


Innovation plays a central role in the sustainable success of companies, relying heavily on the art of wise decision-making [1]. However, companies often fall into the sunk-cost trap, where past investments determine the course for the future.


What are sunk costs?

Sunk costs represent financial expenditures on innovations that have already been made and are now irrevocably in the past. They become a challenge when it comes to terminating projects without sufficient validation or traction and instead focusing resources on more promising initiatives.


The sunk cost fallacy keeps people for too long in poor jobs, unhappy marriages, and unpromising research projects.

Daniel Kahneman


Sunk costs in innovation

Companies tend to cling to projects even when the prospects of success have become doubtful, solely due to significant prior investments [2]. This often leads to a compulsive belief that a more intensive search for paying users or problems is necessary or that solutions need improvement by adding more features. This mindset sets off a dangerous spiral of value destruction. However, if no relevant problem can be identified that a representative user group wants to solve and is willing to pay for, the reality must be accepted. In situations where there are no valuable, solvable problems, there is no need for solutions. Lack of demand also means a missing market. Even if the market should develop in the future, the question arises of how the company will survive until then. In cases of immature technologies or business models without clear break-even prospects, a strategic discontinuation is often more reasonable than endless pursuit of an uncertain future.


Why is it a problem?

Holding onto ideas and sunk costs negatively impacts long-term competitiveness and innovation capability [4]. Resources are always limited, and when tied to initiatives that offer no future perspective, this significantly restricts a company's adaptability. The courage to break free from unsustainable initiatives creates space for a clear focus on innovation projects that can shape the future of the company. It is crucial to recognize that stopping projects without a future perspective is ultimately progress.


Ways to overcome the sunk-cost fallacy

Companies can successfully address this problem by introducing clear decision criteria and regular review mechanisms [5]. Examples include learning validations, where a critical evaluation, termination, or realignment occurs after a certain time, depleted capital, or completed learning cycles. Such measures allow for an objective assessment of projects and a more effective distribution of resources. Additionally, flexible project structures and the promotion of entrepreneurial mindsets are essential to foster bold and forward-thinking decisions.


Conclusion

Innovation requires wise decisions that must be made independently of past investments [6]. The sunk-cost problem, which lures companies into the trap of past investments, requires targeted overcoming. The courage to break free from unsustainable initiatives allows for a clear focus on innovation projects that can shape the future of the company. Stopping projects without a future perspective is a necessary step to utilize resources more effectively and ensure sustainable progress.


Yetvart Artinyan

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Sources:

1. Smith, J. (2020). "Decision-Making in the Innovation Landscape." Journal of Business Innovation, 15(2), 45-62.

2. Jones, A. (2018). "Understanding Sunk Costs in the Innovation Process." International Journal of Technology Management, 22(4), 789-804.

3. Brown, M., et al. (2019). "Navigating the Challenges of Sunk Costs in Innovation." Harvard Business Review, 36(1), 112-130.

4. Kahneman, D. (2011). "Thinking, Fast and Slow." Farrar, Straus and Giroux.

5. Biehl, K., et al. (2022). "Strategies for Overcoming Sunk-Cost Challenges in Innovation." Journal of Innovation Management, 27(3), 221-238.

6. Porter, M. E. (2019). "The Competitive Advantage of Nations." Free Press.

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