Breakeven Advertising

Breakeven Advertising

Most Common Cost Based Tool • The decision to adopt an advertising plan starts with an estimate of the Breakeven Point • Is the Breakeven needed to cover the new Advertising expense “reasonable”

The Proposal • You have a plan that increases the current advertising budget by $200,000. • Your boss will ask you, How many more units do we have sell to breakeven? • If the Price is $50 a unit and the variable cost is $10 per unit, how many units must be sold to breakeven? • Answer: F/(P-V) = 200,000/(50-10) = 50,000

The Proposal • You have a plan that increases the current advertising budget by $200,000. • Your boss will ask you, How many more units do we have sell to breakeven? • If the Price is $50 a unit and the variable cost is $10 per unit, how many units must be sold to breakeven? • Answer: F/(P-V) = 200,000/(50-10) = 5,000

Is the BEQ a Reasonable Goal? • Will we generate a minimum of 5,000 units in additional sales? • The boss will then use a combination of her experience, intuition, judgment, and her research finding to say Go or No Go to the plan to spend $200,000

Marketing Leverage Tracking The Changes from Period to Period

Marketing leverage • The spread between the firm’s current breakeven quantity (BEQ) and the firm’s current volume is an indicator of the firm’s current strategic health. • A trend that shows the distance between the firm’s current breakeven quantity and the firm’s current sales volume shrinking is a bad sign. • A trend that shows the distance between the firm’s breakeven quantity and the firm’s current sales volume increasing is a good sign.

Breakeven for Current Operation • The total fixed or period cost of running the firm in the last period were • Total Fixed Cost = Total Promotion + Overhead + Research and Development • Breakeven for total operation = (Total Fixed Cost) / (price -variable cost) • BEQ = F/P-V

Marketing Leverage • Current Sales Volume = Leverage Index x BEQ • Leverage Index = Current Sales Volume/BEQ • The leverage index should be greater than 1

Simple Operating Statement

What is the total fixed cost? Simple Operating Statement

What is the total fixed cost? Simple Operating Statement Total Fixed Costs 3,700,000

Total Leverage • Breakeven Quantity for Current Operation • BEQ = Total Fixed Costs / (P-V) • BEQ = $3,700,000/($90 -$30) • BEQ = 61,667 units Current Sales Volume = 80,000 units Leverage = Current Volume/BEQ Leverage = 80,000/61,667 = 1.29

Advertising Leverage

Advertising Efficiency • A basic measure of marketing efficiency is • The number of units being sold for every dollar or $1,000 spent on advertising and promotions, etc. • Quantity sold = (Advertising Efficiency) x (Advertising Budget) • Advertising Efficiency = (Quantity Sold) / (Advertising Budget)

Advertising Leverage • The spread between the current number of units being sold for every $1,000 of promotion • and • the quantity needed to breakeven for an additional $1,000 of promotion • is a measure of Advertising leverage

Advertising leverage • Units sold per $1,000 in advertising = (Sales Volume) /(Advertising in thousands) • BEQ for $1,000 in advertising = $1,000/(P-V) • Units sold per $1,000 of Advertising = (Advertising Leverage) x BEQ • Advertising leverage = (Units sold per $1,000) / (BEQ for a $1,000)

Example of Promotion Leverage

Promotion leverage • Units sold per $1,000 in Promotion = Sales Volume / Promotion(in thousands) • Units sold per $1,000 = 80,000/2,980 = 26.85 • BEQ for a $1,000 = $1,000/(P-V) • BEQ for a $1,000 = $1,000/(90-30) = 16.67 • Leverage = 26.85/16.67 = 1.6 or 160%

Example • Your boss has seen a change in the advertising leverage over the past two periods. In period 3 the leverage index was 160% and in period 4 the leverage index was 140%. Should he be worried or happy? • Answer: Yes because the gap between the breakeven quantity and the units being sold is shrinking

Example • Your boss has seen a change in the advertising leverage over the past two periods. In period 3 the leverage index was 160% and in period 4 the leverage index was 140%. Should he be worried or happy? • Answer: Worried. Because the gap between the breakeven quantity and the volume of units being sold is shrinking

Changes from period to period • Is the change in the Leverage index due to • 1) changes in the BEQ ratio? • $1,000/(P-V) Shrinking margins? • 2) changes in the sales volume to promotion ratio? Less efficient advertising?

Marketing managers like to have a simple index, like a sales leverage, or a markup, or a return on sales, etc. to track strategic changes over time

Any Questions on Using Breakeven as a Static or Dynamic Benchmark for Evaluating a Promotion Budget?

Breakeven Advertising