The Importance of Knowing and Understanding Your Incremental Break-Even Point
by Stephen Lett
Determining how many catalogs to print and mail depends on first knowing your incremental break-even point. This will help you make the right financial decision for your company so that you don’t over (or under) circulate. Planning circulation without knowing your incremental break-even point is like a ship without a rudder. Circulation planning should always be from the bottom-up and not from the top-down. In other words, determine your incremental break-even point and build your circulation plan from the bottom-up on a cell-by-cell and list-by-list basis. It’s never good for management to say they want to mail a given number of catalogs (top-down) because you could be over or under circulating. The incremental break-even point is defined as follows:
- Gross Sales less Refunds = Net Sales
- Net Sales less Cost-of-Goods Sold = Gross Profit Margin
- Gross Profit Margin Less Direct Selling Expenses = Incremental Break-even.
Some companies prefer to use a fully absorbed break-even which includes the factors noted above plus an overhead allocation. When prospecting, the goal is to cover your selling expenses and cost-of-goods-sold; no overhead. Therefore, I typically recommend using an incremental break-even point calculation because it includes all out-of-pocket costs minus overhead. In order to calculate the incremental break-even point, the following information is needed:
- Catalog Costs (In-the-mail)
- Customer Cancel/Refund Ratio
- Gross Margin Ratio
For example, with a catalog cost of $.65 in-the-mail, 5% cancel/refund ratio and a 60% gross margin ratio, the incremental break-even point is $1.14 per catalog mailed. This is determined as follows: = catalog cost / ((100% - cancel %) x gross margin %) = BEP Example: $.65 / ((100% - 5% cancel = 95%) x 60%) = $1.14 Some catalogers feel they do not want to prospect below the incremental break-even point. These catalogers want to be certain that all of the prospect lists (not just the average of the prospect list used) perform at least at break-even or above. This philosophy can severely limit growth. That’s because it is unlikely you can find enough “good” lists that perform above break-even to sustain a desired level of growth or to even maintain same sales from one year to the next. Catalogers need to be willing to invest in acquiring new buyers and this can only be accomplished by mailing below the incremental break-even point. The question is, how far below break-even should you mail? This depends on a number of factors mainly Life-Time-Value (a topic for a future article). I believe that any investment made in acquiring new buyers should have a payback of not more than one year. New buyers are the lifeblood of any catalog company and you need to be willing to investment spend initially to acquire them. But invest wisely and be careful not to over mail or over spend. I believe in the multi-channel approach. It’s not the web vs. the catalog or vice versa. It is about growing a profitable multi-channel business. Generate all the new buyers you can from both channels. Apply the incremental break-even point to your print and online marketing.
Stephen R. Lett is Founder & Chairman of Lett Direct, Inc., a catalog consulting firm specializing in digital marketing, circulation planning, forecasting and analysis since 1995. Mr. Lett spent the first 25 years of his career with leading catalog companies; both business-to-business and consumer. He is the author of a book, Strategic Catalog Marketing. He can be reached at 302-539-7257 or by email at firstname.lastname@example.org.