Slack resources, sunk costs and
innovation
Beatrice Orlando
Agenda
1. A classification of sunk costs and slack resources
2. The role of the entrepreneur and the interplay among
slack resources and sunk costs
3. Sunk costs as an innovation inhibitor
4. Slack resources availability and innovation
5. Slack, sunk costs and innovation
6. Conclusion
Introduction
The different types of slack resources are characterized by different
strategic flexibility
Hence, they can both increase the sunk costs effect and counteract it,
according the different nature of slack.
Sunk costs usually inhibit innovation
Sunk costs epistemological dimension
According an epistemiological dimension, sunk costs could be
intended as:
 an objective variable, basing on their intrinsic value;
A subjective variable, basing on the psychological side.
In the first case we refer to fixed costs that cannot be recovered.
In the second case, we refer to an effect for what people tend to persist
in a previous course of action, for the fear of loosing their already
made investment (in time, money, effort, etc.).
Hence, the latter case refers to a psychological cost.
Slack types and innovation
Differently from sunk costs, slack has a more ambiguous impact on
innovation.
Usually, slack is intended as an amount of excess resources,
eventually available for a discretionary employment by managers.
These excess is a resultant of firm path dependency, or the persistence
of both strategy and structure over time (organizational inertia).
Slack types and innovation
According to the easy-of-recovery taxonomy of slack, we have three
different types of slack:
 Absorbed slack (administrative and other expenses/sales);
Anabsorbed slack (current ratio)
Potential slack (equity to debt ratio).
The most flexible is the anabsorbed slack, followed by potential slack,
and, finally, by absorbed slack.
The entrepreneurial role
Entrepreneurs are a particular category of individuals, endowed with
specific characteristics that let them modify the environment, and
seeing those opportunities that deserve to be pursued.
Entrepreneurs carry the risk of new ventures, in face of uncertainty.
For Kirzner this special attitude to detect external signals is the given
by the “alertness”.
They catch the value of resources heterogeneity, detecting existing
unexploited opportunities.
The entrepreneurial role
Entrepreneurs have a different perception of risk than other
individuals, and they use different cognitive schemas (Baron 2004).
More than riskier, they weigh risk less than average individuals
(Kahneman and Lovallo 1994).
Sun costs as an innovation inhibitor
By definition, sunk costs are already incurred expenses, that cannot be
recovered. They are the consequence of a previous effort, made in
order to obtain a certain goal.
In a rational setting, individuals should not evaluate sunk costs when
making a decision about a new investment.
However, they actually weigh sunk costs, both because they consider
the intrinsic net value of a new project, and because they prefer to
persist in previous projects, before abandoning them.
As a consequence, they do not always pursuing innovation and other
opportunities on time, because of sunk costs.
Slack resources and innovation
Innovation in a firm can occur in different shapes:
resource recombination; reconfiguration of a process; the discovery of
an alternative use or of a new market for products.
When a firm has a sufficient level of available slack resources, they can
be employed in new projects or to pursue innovation.
Slack resources and innovation
However, while an-absorbed slack is immediately available, and
potential slack positively impact on firm’s availability of financial
resources in future; absorbed slack contributes to sunk costs and it is
an innovation inhibitor.
It is possible to revise and up-date the u-shaped relationship proposed
by Nohria and Gulati, with the consideration of both slack availability;
sunk costs and the role of entrepreneur as an individual able to
opportunely recombine resources.
the Relationship among
Sunk Cost, Slack Resources and Innovation
the Relationship among
Sunk Cost, Slack Resources and Innovation
the Relationship among
Sunk Cost, Slack Resources and Innovation
Slack resources and innovation
Sunk costs are an inhibitor of innovation, either if we consider them
from a subjective standpoint or from an intrinsic value perspective.
Thereby, also in case of available slack resources, usable to foster
innovation, their presence is an obstacle for entrepreneurial activity.
Available slack can be absorbed in the attempt to recoup sunk cost.
Slack resources and innovation
The greater is the level of sunk cost or the sunk cost effect, the less is
the probability that slack resources will be employed in the innovation
development.
Available slack will be firstly used in the attempt to recoup sunk cost.
For high level of unabsorbed slack, the innovation can be pursued
employing slack resources.
So, there’s a part of the entrepreneur’s propensity to innovation that is
independent by the level of slack.
At the same time, before they engage a new challenge, exploiting slack
resources, they tend to firstly employ them to recoup sunk costs.
Hence, part of slack resources end to determine an escalation of
commitment
Concluding remarks
The relationship between slack resources and innovation can be
explained not only in terms of agency theory, but also considering the
path dependency effect, and, hence, sunk costs.
Unabsorbed and potential slack positively interact with entrepreneurial
propensity to innovation, differently from absorbed slack.
However, the presence of sunk costs can be a reducing factor for their
positive influence.
That means, there’s a risk -return trade-off between increasing slack
resources and innovation propensity: after certain levels of slack, an
excess of risk could reduce the innovation propensity, even triggering
a negative effect.