Sunk-cost

The decision theory is valid for variable costs but does not consider the problem of capacity allocation. In many contexts, screening capacity is a sunk cost, and there is a need to consider the straw that broke the camel s back, the first compound that exceeds capacity. There is no need to ration resources that are not scarce and have trivial variable costs relative to the potential value that their use can create. This reasoning leads naturally back to use of easily understood, intuitive flow and capacity visualizations for the relevant simulations. 

If we consider that at least development costs should be reimbursed, an efficient protection system will give rise to a set of broad values. Innovations with development costs x would result in compensation amounting to at least x. Once incurred, development costs are irrecoverable they are sunk costs. Any discontinuity in the relationship between development costs and their reimbursement would give rise to inefficiencies capital would be attracted to a greater or lesser extent towards certain innovative projects. 

A similar model is provided by what is called Ramsey pricing, after the economist Frank Ramsey.1213 This author showed that if the above conditions for market segmentation are fulfilled, social welfare is maximized in a particular market when the profit margin that is added to the marginal cost of production in order to determine the ex-factory price is inversely proportional to the price elasticity of demand. In other words, the price is always fixed above the marginal cost in order to recover the sunk costs, but this margin is inversely proportional to the sensitivity of demand in that market. Formally, this can be expressed as follows ... 

We will suppose that the sunk costs that the company is seeking to recover amount to 500 monetary units and that the marginal cost of the product is 5 monetary units. The demand functions are q = 50 - /q for market 1, and q2 = 50 - 2p2 for market 2. It is plain to see that when the price is zero, the same quantity is consumed on both markets. However, demand is more price-sensitive (that is, elastic) in market 2 than in market 1. 

Comparing the two situations, we find that the social surplus is greater when the producers practise price discrimination than when they establish a uniform price for both markets. The same happens with the level of production and the total consumer surplus. Note that the overall profit is the same in both systems, so the producer should have no preference for one or another type of pricing (they recover the sunk cost of 500 monetary units in both... 

The main difference between price discrimination and Ramsey pricing is that the former model results in the highest potential profit for the monopolist, whereas Ramsey pricing, as a prescriptive tool for regulating a public monopoly, only aims at recovering the sunk cost of the investment. 

Certain terminology has been developed to identify the equipment under consideration. The item in place is called the defender, and the candidate for replacement is called the challenger. This terminology and methodology was reported by E. L. Grant and W. G. Ireson in Engineering Economy, Wiley, New York, 1950. To apply this method, there are certain rules. The value of the defender asset is a sunk cost and is irrelevant except insofar as it affects cash flow from depreciation for the rest of its life and a tax credit for the book loss if it is... 

Danzon, Pereira, and Tejwani (2005) argued that in the United States vaccine producers face high fixed, sunk costs and relatively concentrated demand. As a result, having one or very few producers of a vaccine is a likely outcome. But they also noted that such concentration of vaccine production does not exist in several other developed countries. 

Supporters claim that CERCLA and the court rulings promote economic efficiency because they internalize externalities they make "polluters" pay. Such reasoning has an economic basis only when companies did not practice due care (i.e., utilize disposal practices whose benefits exceeded costs at the time of disposal). Economic efficiency is about the present and the future, not about the past. What should be done about sunk costs or past behavior is not an economic question except insofar as those policies that pay for sunk costs might affect current and future decisions. 

However, as economics examines individual human behaviours more closely, it discovers examples of apparent irrationality that are not accounted for by existing theory. This is true even of purely monetary transactions. For instance, people value sunk costs more than the equivalent opportunity costs, and in experimental gambling situations frequently do not maximize expected value (Thaler 1980 Tversky and Kahneman 1981). In the real world, of course, any gambling reduces one s expected income, and yet gambling is a popular activity. 

Moreover, the discovery of effective agents to treat infectious diseases such as malaria and tuberculosis is inherently difficult - bacterial resistance and viral mutations are common, so that therapies have very limited efficacy, and a discovery platform in infectious disease is a multi-year commitment of financial and other research resources. Again, developmental failures are expensive and R D expenditures are what economists call "sunk costs," meaning that the costs are not recoverable in the future. 

It should also be noted that the compressor costs together with other operating costs typically make a minor part of total discounted lifecycle cost as the major cost contribution is related to pipeline investment, which is a sunk cost as the pipeline cannot be recovered or converted. 

There are many industries and markets however, which are not suited for full competition due to many reasons. One major reason in the context of natural gas transportation is that pipeline systems are considerable sunk costs . Sunk costs are investments characterized by being neither reversible nor convertible into alternative usage or business opportunities for the investor. 

Further, and as a result of the nature of this industry, dynamic efficiency is basically a long-term related question due to several reasons. The sunk costs obviously limits the possibilities for introducing new technology into old systems. If new technology is introduced the old must be phased out. It may thus be more cost effective to operate and utilize the old technology. Further, new investments are throughput driven. No new investments are done if no... 

All products should be evaluated in order to decide whether they should be made in house or externally. A key factor is the consideration of total landed cost, i.e., making sure all costs associated with an out- or insourcing decision are included (e.g., sunk costs, skill transfer, delivery and quality considerations), not just the potential gains, in order to ensure fact-based decisions that are viable in the long term. 

Nabil, A-N., Baliga, S., Besanko, D., 2004. The Sunk Cost Bias in Managerial Pricing decisions. Mimeo. 

Figure 16-13 Forget sunk costs look ahead...

The important thing to realize is that there is nothing that can be done about the expenses so far. You carmot get them back they are sunk costs. When making decisions you should calculate the VP from now onwards. You should only look at what you can gain or lose in the future. ... 

Because the sunk costs do not count any more, the VP in your example has increased to a value of about k 1800 (Figure 16-14), making it even more attractive to finish the project. This is not because we have already spent so much , but because you expect to earn 1.8 million more when you go on than when you stop. This does not mean that the profit of the project increases - you have already spent k 600. 

It can be difficult for the people who made the plans to accept sunk costs. 

Thus, to maximize profit, a firm will set production so that MR = MC. This means that to maximize profit, a firm will increase (or decrease) production unit the revenue from one additional unit sold equals the additional cost of making it. The value of FC has no influence on the optimal production level once the plant has been designed and built. It is thus considered sunk cost. 

To be cost-effective in a retrofit, new technology must compete against the sunk cost of all the old equipment, which is not an easy task... 

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