Breakeven Analysis at Great
Threads
The Great
Threads Company sells hand-knit sweaters.
Great Threads is planning to print a catalog of its products and
undertake a direct mail campaign.
The cost of printing the catalog is $20,000 plus 0.10 per catalog. The cost of mailing each catalog
(including postage, order forms, and buying names from a mail-order data-base)
is $0.15. In addition, the company
will include direct reply envelopes in its mailings. It incurs $0.20 in extra costs for each
direct mail envelope that is used by a respondent. The average size of a customer order is
$40, and the company’s variable cost per order (due primarily to labor and
material costs) averages around 80% of the order’s value. The company plans to mail 100,000
catalogs. Following is a model that
illustrates Great Threads situation:
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Great Threads direct mail
model |
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Range names
used:
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Mailing
inputs |
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Model of
responses |
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Fixed
cost of printing |
$20,000 |
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Response rate (trial
value) |
8% |
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Variable
costs |
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Number of
responses |
8000 |
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Printing |
$0.10 |
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Mailing, buying
names |
$0.15 |
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Model of revenue, costs, and
profit |
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Number
mailed |
100000 |
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Revenue |
$320,000 |
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Costs |
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Order
inputs |
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Fixed |
$20,000 |
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Average
order |
$40 |
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Variable from
mailing |
$25,000 |
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Variable cost (% of
order) |
80% |
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Variable from
orders |
$257,600 |
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Variable cost of
envelopes |
$0.20 |
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Total
cost |
$302,600 |
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Profit |
$17,400 |
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Using this model, Great Threads seeks to answer four
questions:
How does a
change in the response rate affect profit? (see solution for question
one)
For what
response rate does the company breakeven? (" "question
two)
If the company
estimates a response rate of 3%, should it proceed with the mailing? (" " question
three)
How does the
presence of uncertainty affect the usefulness of the model? (" " question
four)