Cost-Benefit Analysis

One of the key techniques in decision making is the analysis of costs versus benefits.  Some people are very good at it while others struggle. It appears that skills like accounting and business management will not necessarily give you a head start.  Some of it is just common sense.

Last week my friend Bob returned from Arizona.  A golf trip coupled with a visit with his son who is an administrator in a hospital there. While discussing the day’s recent round with him, Bob mentioned hitting a drive into the deep rough and sand and finding his ball without trouble.  Son was horrified.

The cost-benefit for finding your golf ball in the rough in Arizona is different than here. There are potential costs beyond the loss of a $5 Titleist Pro V1.

Rattlesnakes live in the rough too.  They have little interest in your golf ball, but are a bit cranky if disturbed.  Bob’s son pointed out that the cost to treat a rattlesnake bite is quite a lot more than the cost to replace a golf ball.

CNBC did a story on this in 2015.  Here

snake-bite-treatment-invoice-cnbc

We know that you will not be bitten every time you go in the rough. From a pure financial viewing point, the odds of being bitten must be less than about 30,000 to 1 to break even on an expectation basis. If we add in lost wages, incidental costs, pain and suffering, I think 40,000 to 1 might be necessary.  Right 40,000 times, wrong once and you break even is a poor betting structure

Usually odds of losing like those are close enough to zero that you might not care.  On the other hand, the proposed gain of $5 is not enough to motivate people much either. But people do not like to lose and faced with certain loss they make very weak decisions.  The tiny loss of a golf ball can seem important. 

Beware decisions where there is a certain but tiny gain to be right, and a low probability but very high cost to be wrong.

That is why life insurance is hard to sell. People can see the $5 ball sitting on the sand, just past that patch of stones and grass.  They cannot see the snake.  Easy enough choice.  But wrong. Just like 40,000 to 1 is about the odds of a particular insurable 30-year-old American dying next week.  Not much chance, but someone will.

For an individual, probability is meaningless. At the end of the week, you will be 100% alive or 0% alive. Where the cost to be wrong is very high, possibly unaffordably high, the tiny cost saving to do nothing is a foolish saving.

It is not just rattlesnakes either.  Another friend found his ball alongside a small lake in Florida.  He also found an alligator between him and the golf course when he turned to go back.

Even with very high odds of there being no problem, the probability of a mistake is not zero.  Know what the odds mean to you specifically and address the problem wisely.

Don Shaughnessy arranges life insurance for people who understand the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario.  In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.

Please be in touch if I can help you.  don@moneyfyi.com  866-285-7772

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