Sunk Cost

C

Sunk cost is defined as a cash outlay that has already been incurred and which cannot be recovered regardless of whether a project is accepted or rejected.

The correct answer to the question is C. Sunk Cost.

A sunk cost is a cash outlay or an expense that has already been incurred and cannot be recovered, regardless of whether the project is accepted or rejected. In other words, the money has already been spent and cannot be retrieved. Sunk costs are irrelevant for decision-making because they are not affected by the choices made in the present or future.

When evaluating a project or investment, it is important to consider only the incremental cash flows, which are the cash flows that will change as a result of accepting the project. Sunk costs, on the other hand, should not be factored into the decision-making process because they have already been spent and cannot be recovered.

Let's briefly explain the other answer choices for better clarity:

A. Incremental Cash Flow: This refers to the difference in cash flows between two alternatives, such as accepting or rejecting a project. Incremental cash flows are important for decision-making as they show the net impact of accepting or rejecting a project.

B. Externality: Externality refers to the impact of a project or decision on parties not directly involved in the decision-making process. It can be positive (beneficial) or negative (harmful) and may have economic, social, or environmental consequences.

D. Opportunity Cost: Opportunity cost is the value of the next best alternative that is forgone when a decision is made. It represents the benefits or returns that could have been obtained from an alternative investment or choice.

E. Cannibalization: Cannibalization occurs when a new product or service reduces the sales or market share of an existing product or service offered by the same company. It represents the negative impact of a new offering on the sales or performance of an existing one.

In summary, a sunk cost is a cash outlay that has already been incurred and cannot be recovered, making it irrelevant for decision-making. It is important to focus on incremental cash flows when evaluating a project or investment.