How Sun Ignored Sunk Costs And Chose a New Strategy


Fast Company has an article about the resurgence of Sun Micrososytems. The company has taken some large risks and made some big bets in order to arrive at a strategy that, for now, seems to be working. They even blew of $500 million worth of sunk costs to change their processor development direction. We all know from Finance 101 that sunk costs don't matter, but that doesn't stop business people from arguing to stay the course because of all the money "already invested." That's why this part of the story was so surprising.

For a month, I took a lot of drugs to sleep," says Greg Papadopoulos. Sun's chief technology officer is recalling the days after he convinced his colleagues to scrap a half-billion-dollar investment Sun had made on a new silicon chip. At a 2002 strategy meeting in McNealy's office, as obits were being written for the dotcom era and the company's stock price continued to tumble, Papadopoulos argued that the hundreds of millions of dollars spent developing the chip should be chalked up as yesterday's mistake and instead Sun should pony up new money for a radical new chip design. His idea was to divide a chip into eight independently operating sections, called "cores," each of which could handle four separate computational threads at a time. It would be like having 32 different brains working at once on the same piece of silicon, and, he contended, it could be much faster and more energy efficient. It was a gamble. "But you can't find out if you're right until you take the risk," Papadopoulos says. He got the green light (and the sleepless nights), and over the next three years, Sun invested millions in his bold idea. Even as the company bled money, management poured about 15% of revenues into R&D, roughly the same percentage as Microsoft and Intel.

Part of me admires Sun management for their guts. The other part of me wonders why it took 5 years of being smacked around by the market before they decided to try something radical.

  • Rob, I like your post. I agree that it’s sometimes surprisingly difficult for people to get over the emotional part of an investment and recognize that sunk costs don’t matter.

    One point I differ with you on is the culture at Sun. Sun is a company that has historically celebrated radical experimentation. This came primarily from Scott McNealy. Sun has come up with many, many radical innovations, and continues to do so. This is one of their key strengths.

    Sun will also tell you that they have underinvested in understanding market requirements and directing their investments to address those requirements. It’s a strength to be innovative, but it’s better to be innovative within the context of fulfilling customer requirements (whether they are latent or not).

  • Jay

    Harry Browne referred to that as “the previous investment trap” in his old book “How I Found Freedom In An Unfree World.”

  • You wrote that “part of me wonders why it took 5 years of being smacked around by the market before they decided to try something radical.” Well it’s time to stop wondering a recognize a fact: Most of us need (as Roger von Oech wrote) a “whack on the side of the head” to be more creative. I’ve learned to accept it and say, “Thank you. May I have another?”

  • It takes a lot of guts to walk away from something after you’ve dedicated so many resources to it. I’m sure it was a hard decision by Sun, but I’m not so sure that I would have had the discipline to chalk it up as a mistake and move on. You shouldn’t let your cost basis determine how you value something, but it’s hard to ignore losses and gains even when econ 101 tells up that we need to do this.