Acme's project portfolio team was stuck. Three months ago, they'd funded five experimental projects at $150k each. The portfolio team hoped those projects might offer the organization new customers and revenue streams. Now, the project teams reported several concerns:
- The technology was more complex than anyone had expected. Instead of the teams' typical 2-4 days per story for cycle time, the teams' cycle time ran from 8-12 days. The longer cycle time reflected the new complexity.
- That complexity meant the teams needed more time to develop and release features.
- Worse, none of the customers was excited about the effort from the teams so far. One customer summed up everyone's reaction: “Meh, for now. We need much more to commit to your product.”
With enough time, each team was sure they could make a difference with their product. However, with their cycle times, the teams suspected they would need six to nine additional months to release enough features to attract excited customers. That's when the portfolio team encountered the sunk cost problem.
Recognize Sunk Cost
The company had already invested three months in these potentially transformational projects. And they had a potential backlog of at least ten more projects they wanted to run as experiments.
The sunk cost fallacy is when we continue to fund work because we have already invested money. “We have spent so much money on this, we may as well finish it.” Except, there's no guarantee we can finish the work. When we believe in the sunk cost fallacy, we create an anchor that can slow all the organization's work.
If they continued funding these projects, the portfolio team would have to:
- Commit to at least six more months of funding to see a difference. (I suspected closer to nine months of funding.)
- Postpone any alternative, possibly-transformational work
- Continue to fund all the other work.
When product teams experiment to create something new, we can expect long cycle times and slow progress. However, those longer cycle times mean the portfolio team can't easily change their decisions. The feedback loops are too slow. (See Multiple Short Feedback Loops Support Innovation.)
The portfolio team needed more flexibility. Not to mention managing the company's money wisely.
Instead of falling into the sunk cost fallacy, the portfolio team focused on their overarching goal: to create new revenue streams with new customers.
Now, they knew they'd need to “sell” their decision to senior management. The portfolio team developed three options.
Option 1: Discuss What the Company Saved by Stopping Now
While the company invested $150k per project for three months, an additional nine months would be an additional investment of $450k. Multiply that extra $450k by five projects, and the total investment becomes $2.25Million. With no guarantee that any of the projects could generate a new revenue stream or attract new customers even at the end of the year.
The portfolio team was ready to discuss saving either $750k per project or $2.25M.
Option 2: Assess the Costs of Delay for the Alternative Projects
Since the portfolio team had an additional ten experimental projects, they could assess the Cost of Delay for each project. Some projects had a narrow market window—if the company didn't start the experiment soon, there was no reason to do so.
When the portfolio team assessed the Cost of Delay for each project, they realized that three possible experiments were even more valuable than the current projects.
Option 3: Show the Benefits of Restarting After Stopping
Two of the projects showed promise—but the portfolio team suspected each was too early in the market. The “too early” problem meant it was time to put those projects on the parking lot and re-evaluate them in a quarter.
The portfolio team asked those two project teams to take a week and leave the work in a known state. Even though the product context would change, the portfolio team suspected most teams would be able to see the original team's thinking. That would help a new team decide where to start next.
The subsequent startup costs might be lower than the initial three months of work. (I was skeptical, but they assured me they'd done this before.)
Value and Savings over Sunk Cost
The portfolio team had several good discussions with senior leadership. Not everyone on Acme's senior management team was familiar with these approaches to value. And that made the portfolio discussions even more helpful to senior leadership.
Beware of the Sunk Cost Fallacy
When you make investment decisions, be aware of the sunk cost fallacy. You've already paid the investment. Decide if more investment will benefit you—or if it's time to re-assess where you put your money. Remember: the good ideas come around again.
(This newsletter touches on topics in Diving for Hidden Treasures, Manage Your Project Portfolio, and Practical Ways to Lead an Innovative Organization.)
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Pragmatic Manager: Vol 19, #6, ISSN: 2164-1196