Final answer:
False, sunk costs are not incremental and should not be factored into project cash flow calculations, as they are past expenses that cannot be recovered. Effective decision-making requires focusing on incremental costs and potential future revenue, not on sunk costs.
Step-by-step explanation:
False, sunk costs are not incremental and therefore should not be included in project cash flow calculations. Sunk costs are expenditures that have already been made and cannot be recovered. Making decisions based on sunk costs can lead to a fallacy commonly known as the 'sunk cost fallacy'. This involves continuing a behavior or endeavor as a result of previously invested resources, which can lead to suboptimal decision making. For effective project management and financial decision-making, it is important to ignore sunk costs and focus instead on incremental costs, which are the additional costs that will be incurred by taking a certain action. Any future actions should be based on potential future gains (additional marginal gains), which tend to become smaller as each additional unit of benefit is acquired.
Both individuals and firms encounter sunk costs, and dealing with them often signifies recognition of an earlier mistake. In the business context, companies might hesitate to cease work on a failing product due to the sunk costs associated with its development and launch. However, the most effective strategy is to ignore these irrecoverable costs and to base decisions on expected future outcomes, which can ultimately lead to better financial health and strategic positioning for the firm.