Unit 3 Micro: Sunk Costs

Sunk costs cannot be recovered if a business decides to leave an industry.

Examples include:

* Capital inputs that are specific to an industry and which have little or no resale value.

* Money spent on advertising, marketing and research and development projects which cannot be carried forward into another market or industry.

When sunk costs are high, a market becomes less contestable. High sunk costs act as a barrier to entry of new firms because they risk making huge losses if they decide to leave a market. In contrast, markets such as fast-food restaurants, sandwich bars, hairdressing salons and local antiques markets have low sunk costs so the barriers to exit are low.

Asset-write-offs – e.g. the expense associated with writing-off items of plant and machinery, stocks and the goodwill of a brand

Closure or project cancellation costs including redundancy costs, contract contingencies with suppliers and the penalty costs from ending leasing arrangements for property

The loss of business reputation and goodwill - a decision to leave a market can seriously affect goodwill among previous customers, not least those who have bought a product which is then withdrawn and for which replacement parts become difficult or impossible to obtain.

A market downturn may be perceived as temporary and could be overcome when the economic or business cycle turns and conditions become more favourable