Entrepreneur
Article
By Andrew Neitlich

A crash course in managerial economics

By Andrew Neitlich

Common wisdom says that on any business venture, you set a stop limit. That is, pick a number and — if you can’t get profitable by the time you spend that amount of money — stop and move onto something else.

But suppose you hit that number and then see that you need only a small amount of money to turn the corner. Do you invest it and keep going, or look back at all you have spent and call it a day?

And then, suppose you spend that small amount and still need more. Now you’ve invested a huge amount, but it is sunk. Do you keep spending, or stop?

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This is a key question for any web-based venture you may have, and happens to be one I am facing now with a venture.

My conclusion is to keep going, but to get very good at honing in on results.

Managerial economics is the field that asks these kinds of questions.

As I recall, a key principle in this field is that you start where you are, regardless of sunk costs. If you’ve spent lots of money already, that money is gone. So you need to look at additional costs from where you are, and determine what kind of return you can get by going forward. So if you’ve spent $50,000, and need $1,000 to make $5,000, you still spend the $1,000 (unless you can make more with another investment). You do this even if you can’t get back the $50K you’ve already blown.

The problem though is that you can lose your shirt with this kind of thinking, by continuously believing that only a little more will get you where you need to be. So, if you subscribe to this way of thinking, you have to be VERY good at knowing exactly how much more money you need to earn a return. Otherwise, you become like a drug addict looking for “just one more hit.”

In my venture, we are still at the point of spending money to learn about what works best. We keep honing in, which also means we have to keep spending. So for us, we are making a leap of faith that many might consider foolish.

Interesting stuff, no? I’d like to hear from you about how you decide when to call it a day, and when to keep going.

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