1. How many years would it take to recoup initial costs of acquisition for frequent buyers?

   1. 1year

   2. 2 years

   3. 3years

   4. 4years

   5. More than 4 years

2. How many years would it take to recoup initial costs of acquisition for occasional buyers?

   1. 1year

   2. 2 years

   3. 3years

   4. 4years

   5. More than 4 years

Part II Customer Break-Even Analysis Now that we have determined the cost of acquiring a customer, we can use this information to establish how many purchases or years it will take for each customer to realize profits for the firm. In our example, the catalog retailer makes changes to the product line four times a year. Historical data has shown that one can roughly segment the market of current customers after one year into frequent buyers, who purchase twice a year with an average order size of $50, and occasional buyers, who purchase only once a year with an average order size of $80. The retention rate (percentage of customers who continue to make a purchase with the company in the next period) is 75% for frequent buyers and 50% for occasional buyers. Thus, the likelihood an individual acquired today will remain a customer by year five, or the survival rate of year five, is approximately 30% for the frequent buyers and 6% for the occasional buyers. Gross margins are 20% of sales, and include all expenses aside from the cost of sending out catalogs. In the first year, the retailer sends a catalog every month (with the same catalog sent in three consecutive months) to all acquired customers. Based on first year purchase patterns, frequent buyers continue to receive 12 catalogs a year, while occasional buyers receive only four. The catalog retailer is interested in knowing how many years it would take to recoup initial costs of acquisition, assuming customers were acquired using rented names. To address the retailer's question, it is useful to construct the following table for each of the two segments: Figure A Customer Break-Even Analysis for Frequent and Occasional Buyers In both tables below: In line D, expected profits in each year are obtained by multiplying the survival rate by the total margin per customer net of catalog mailing costs. For line E in Year One, the acquisition cost ($17.5) is subtracted from the sum of expected profits per customer. In subsequent years, the cumulative profits per customer of the previous year are added to the total expected profit per customer of that year. Frequent Buyers Year One $10 A B. c. D. E. Margin on each purchase Survival rate Cost of mailing catalogs Total expected profit per customer Cumulative profits per customer (net of acquisition costs) 100% .5*12=$6 2*10-6=$14 Year Two $10 75% $6 .75* (20-6)=$10.5 $(3.5) $7 Occasional Buyers Year One Year Two Year Three A B. C. D. E Margin on each purchase Survival rate Cost of mailing catalogs Total expected profit per customer Cumulative profits per customer (net of acquisition costs) Casewriter. $16 100% .5*12=56 16-6=$10 $16 50% .5*4=$2 .5*(16-2)=S7 $16 25% $2 25*(16-2)=$3.5 $(7.5) $(0.5) $3 Source: Part II Customer Break-Even Analysis Now that we have determined the cost of acquiring a customer, we can use this information to establish how many purchases or years it will take for each customer to realize profits for the firm. In our example, the catalog retailer makes changes to the product line four times a year. Historical data has shown that one can roughly segment the market of current customers after one year into frequent buyers, who purchase twice a year with an average order size of $50, and occasional buyers, who purchase only once a year with an average order size of $80. The retention rate (percentage of customers who continue to make a purchase with the company in the next period) is 75% for frequent buyers and 50% for occasional buyers. Thus, the likelihood an individual acquired today will remain a customer by year five, or the survival rate of year five, is approximately 30% for the frequent buyers and 6% for the occasional buyers. Gross margins are 20% of sales, and include all expenses aside from the cost of sending out catalogs. In the first year, the retailer sends a catalog every month (with the same catalog sent in three consecutive months) to all acquired customers. Based on first year purchase patterns, frequent buyers continue to receive 12 catalogs a year, while occasional buyers receive only four. The catalog retailer is interested in knowing how many years it would take to recoup initial costs of acquisition, assuming customers were acquired using rented names. To address the retailer's question, it is useful to construct the following table for each of the two segments: Figure A Customer Break-Even Analysis for Frequent and Occasional Buyers In both tables below: In line D, expected profits in each year are obtained by multiplying the survival rate by the total margin per customer net of catalog mailing costs. For line E in Year One, the acquisition cost ($17.5) is subtracted from the sum of expected profits per customer. In subsequent years, the cumulative profits per customer of the previous year are added to the total expected profit per customer of that year. Frequent Buyers Year One $10 A B. c. D. E. Margin on each purchase Survival rate Cost of mailing catalogs Total expected profit per customer Cumulative profits per customer (net of acquisition costs) 100% .5*12=$6 2*10-6=$14 Year Two $10 75% $6 .75* (20-6)=$10.5 $(3.5) $7 Occasional Buyers Year One Year Two Year Three A B. C. D. E Margin on each purchase Survival rate Cost of mailing catalogs Total expected profit per customer Cumulative profits per customer (net of acquisition costs) Casewriter. $16 100% .5*12=56 16-6=$10 $16 50% .5*4=$2 .5*(16-2)=S7 $16 25% $2 25*(16-2)=$3.5 $(7.5) $(0.5) $3 Source