Avoiding the “Sunk Cost Fallacy” in Legal Disputes

Business Insights

Avoiding the “Sunk Cost Fallacy” in Legal Disputes

Feb 21, 2024 | Business Insights

When considering a settlement proposal, businesses and individuals alike often fall into the decision-making trap termed the “sunk cost fallacy.” This article will discuss what the sunk cost fallacy is, provide common examples, and explore strategies for avoiding its pitfalls.

What is the Sunk Cost Fallacy?

The sunk cost fallacy is a concept in economics and behavioral science that describes the economically irrational behavior of continuing a project, investment, or endeavor simply because of previously invested resources. A “sunk cost” can be any past investment— e.g., time, money, or resources—that cannot be recovered. The fallacy occurs when you consider these unrecoverable investments in your present decision making, often while failing to properly weigh the current and future value of the outcome.

Examples of the bias frequently arise in daily life. For example, say you purchase a movie ticket at the theaters, and halfway through the movie you realize you’re not enjoying the film. The sunk cost (i.e., the purchase of the movie ticket) should not compel you to stick around the theater if your time could be spent in a more fulfilling manner elsewhere. Or, your family goes to Disney World, but by noon the kids are crying, and no one is having fun. Shouldn’t you stay until the fireworks to get your money’s worth? Not if everyone could be happily enjoying themselves back at the hotel. In the business world, the fallacy may compel businesses to “throw good money after bad” by continuing to invest in an otherwise unprofitable investment or venture.

Considering Sunk Costs in Litigation and Legal Disputes

Sunk costs in litigation are typically much more extensive than a cinema ticket. The most common sunk costs in litigation are attorneys’ fees, which are often unrecoverable, even if a litigant ultimately prevails. Other sunk costs may be a client’s time and resources, such as time spent collecting documents or preparing for and attending depositions.

This cognitive bias frequently influences settlement considerations. It can be easy to view the money and effort expended in litigating a case and conclude that settling the lawsuit equates to “wasting” those resources. However, this thinking improperly weighs the already expended sunk costs, and fails to properly account for the merits of settlement and the potential risks of future outcomes. For example, in a contract dispute, a settlement offer equal to or less than the amount spent on legal fees may be immediately discounted by a client. Yet, comparing the settlement offer to the litigant’s sunk costs, while neglecting a thorough evaluation of the pros and cons associated with settlement, is succumbing to the sunk cost fallacy.

Avoiding the Trap

The first step is acknowledging and understanding the impact that the sunk cost fallacy may have on your decision-making process. This awareness allows you to objectively evaluate choices based on current and future merits rather than past expenditures.

In legal disputes, it is important to have an open dialogue with your legal counsel about the potential costs that may become “sunk” as your case progresses. As many counselors may rightly tell you, the uncertainties of litigation are innumerable, and cost expectations are often altered by factors outside of either your or your lawyer’s control. Nonetheless, it is helpful to have a rough understanding of what your sunk costs may look like as your case progresses, and to accept that your desired outcome should not be influenced by the costs and resources expended along the way.

As Richard Posner explained: “Rational people base their decisions on their expectations of the future rather than on their regrets about the past. They treat bygones as bygones.” Richard A. Posner, Economic Analysis of Law 8 (4th ed. 1992).

If you have questions about legal disputes and potential “sunk costs”, or need assistance with a current matter, please contact Harrison Clinton at (703) 526-5587 or hclinton@beankinney.com, or your current Bean, Kinney & Korman attorney.

This article is for informational purposes only and does not contain or convey legal advice. Consult a lawyer. Any views or opinions expressed herein are those of the authors and are not necessarily the views of any client.

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