Forecasting Net Revenue from Direct Mail

At your Executive Staff weekly meeting, the CEO turns to you and says "can we net $10,000 from the next direct mail appeal?"

How do you answer?

Well, let's say you've already found your Break Even Quantity (BEQ). Since it's less than all your donors and prospects, you're ready to undertake the mailing. How do you determine whether the mailing can realistically make the desired profit?

By the way, don't let the word "profit" scare you – in this case, every penny of your profit carries out your mission. So, if you, your CEO or Board eschew the concept of profit, position this as money that pays for program expenses to impact your community.

To figure out your profit, you need to expand your BEQ Model.

Currently, your BEQ looks like this:

BEQ=FC/(AG*RR-VC)

Where:
BEQ = Break Even Quantity; total number of people who must receive your appeal
FC = Fixed Costs; may include staff time
AG = Average Gift; total revenue raised divided by total number of donors
RR = Response Rate; what % of donors who receive your direct mail will give
VC = Variable Costs (e.g. postage, printing)

To include profit in your model, simply add the desired profit (PR) to fixed cost (FC).

Your new formula looks like this:

BEQ=(FC+PR)/(AC*RR-VC)

The table below shows an example:

Sample Nonprofit
Constituents		10,000
Fixed Costs:
Mail set-up		$250
Design		$2,000
Total Fixed Cost		$2,250
Variable Costs (Per Unit)
Printing		$0.5
Envelopes		$0.25
Reply envelopes		$0.25
Postage		$0.2
Variable Cost		$1.2
Average Gift		$75
Response Rate		0.03
Necessary Profit		$10,000
BEQ=(FC+PR)/(AG*RR-VC)
BEQ		11,667
Constituents		10,000
Variance		(1,667)

In this example, there simply aren't enough donors to meet this goal of raising $10,000. You can tell your CEO that you won't be able to net the desired $10,000 from the direct mail. If the need for these funds is urgent, perhaps you should seek those funds from a major donor or Board member.

In future posting, we'll discuss what you can do to increase the response rate and/or average gift.

Fundraising Effectiveness vs. Efficiency

A donor's dollar is a finite resource—especially in today's economic times—and likely, your mission has become even more relevant in today's economic reality.

Among the most difficult decisions for Development Professionals is the choice between the most effective fundraising strategy and the most efficient one.

The most effective strategy maximizes the % of each contribution that goes toward your organization's program costs.

The most efficient strategy produces the best return on the organization's development investment.

The "Effectiveness vs. Efficiency Matrix" listed above outlines the possible places an organization can be along the effectiveness vs. efficiency spectrum.

Obviously, no organization wants to find itself in the "Not Effective, Not Efficient" quadrant (lower left). Organizations here are spending too much money to raise a dollar.

As a rule of thumb, organizations should spend no more than $.30 to raise $1. (To calculate your cost to raise a dollar, divide your total fundraising expenses by the total revenue the department earned).

The next two quadrants are where many Development Professionals find themselves.

In the "Effective, Not Efficient" (upper left) quadrant, the Development team is raising a substantial amount of money, but it's costing them well above $.30 to raise $1.

This may be understandable for certain periods of time, such as at the beginning of a capital campaign or during an intense acquisition period.

But, if high costs are sustained, many donors will likely stop giving to the organization because not enough of their dollar is going to execute the mission. An outrageous example of this would be an organization that raises $50 MM, but spends $40 MM to do so.

On the other hand, nonprofits in the "Efficient, Not Effective" (lower right) quadrant are spending very little to raise a lot of money. This nonprofit may even lack a full-time Development Professional. A large single grant or donor may be underwriting the bulk of the organization's expenses.

Another outrageous example would be if this organization spends $25,000 to raise $1,000,000; it costs $.05 to raise $1.

When it costs below $.10 to raise $1, it's very easy for organizations to raise money, but you're leaving lots of money on the table because you have no one to steward these gifts and identify and cultivate new gifts. You could have a much greater impact on your mission if your organization invested in fundraising.

It's likely that such organizations don't reach out to new donors, but return again and again to the same donors, who are, for the most part, responsive (because your needs are high and your organization has a good mission). This keeps your ratios down because you are not spending money on unsuccessful donor cultivation attempts.

Of course, this organization isn't growing and will eventually begin to shrink, because you have a negative donor growth rate.

Finally, we all strive to be in the upper right quadrant, "Effective and Efficient." Organizations here allocate between 70% - 90% of each contribution toward programmatic expenses – which are executing the organization's mission and having strong community impact.

An additional characteristic of these organizations is that they have a positive donor growth rate. They are successfully maintaining current donors and are effectively recruiting new donors to replace the 30% or so of donors who inevitably lapse.

Organizations in this sweet spot are maximizing revenue and minimizing costs. Concurrently, they are accomplishing this with an appropriate amount of staff and other resources.

We'll discuss donor growth rates and lapsed donor rates in depth in future postings, but suffice it to say that a positive donor growth is an important metric for an organization's long-term fiscal and fundraising health.

There's lots more to be said about effectiveness versus efficiency because it is central battle in the decision-making (consciously or not) of most nonprofits. But, we hope we've given you a taste for how to approach this important decision.

To Mail or Not to Mail?

Once we're comfortable with average gift and response rate, we can figure out whether we should even do a direct mail appeal.

First, we need to calculate our revenue and expenses. For revenue, we multiply: number of constituents (people on our list), average gift and response rate.

For expenses, we multiply constituents by variable costs. Then, add fixed costs (table 2 shows the costs, expenses for net revenue for the chart above):

REV=CON*AG*RR
EXP=CON*VC+FC

Where:

REV =Total Revenue
CON = # of Constituents in Database
AG = Average Gift
RR = Response Rate
EXP = Total Expenses
VC = Variable Costs
FC = Fixed Costs

Table 2
Revenue		$15,000
Expenses		$14,250
Net Revenue		$750

Fantastic! We made $750 (roughly $.05 per $1 spent).

WHEN EXPENSES ARE GREATER THAN REVENUE

There are two situations when expenses exceed revenue:

1) when Variable Cost (VC) is greater than the Response Rate (RR) multiplied by the Average Gift (AG) and

2) when Break Even Quantity is greater than the number of constituents you have.

For the first case, do not continue with the mailer. Each time you put a solicitation in the mail, you're losing money!

In this instance, you need to rethink the costs of the mail piece. In the model below, you'll know this is this case because you get a negative BEQ! Bad news (see table 3 below).

Table 3
Sample Nonprofit
			BAD NEWS	CAN WORK	ADJUSTMENT
Constituents			10,000	5,000	5,000
Total Fixed Cost			$2,250	$2,250	2,250
Variable Cost			$1.2	$1.2	1.2
Average Gift			$75	$75	75
Response Rate			0.01	.02	.03
Per Unit
Revenue			$0.75	$1.5	2.25
Expenses			$1.2	$1.2	1.2
Per Unit Net			$-0.45	$.3	1.05
BEQ			-5,000	7,500	2,143

The second case is a little more nuanced. Here, you are making money each time you put a solicitation in the mail, but you do not have enough people to mail to cover your fixed costs (FC).

To remedy this, you can:

• Send your mailing by bulk (~$.27) instead of regular mail ($.42). Your mail will take a couple weeks to hit, but it may well be a trade-off worth making;

• Reduce the number of inserts, cutting your paper and printing costs;

• Identify which geodemographic cluster has the lowest response rate and eliminate that population from the mail piece. This drives your response rate up, perhaps to profitability.

• If removing that geodemographic cluster improves the response rate to 3%, then the BEQ becomes 2,143 (above). Because we started with 5,000, but by removing that 1,000, the appeal goes from losing $750 to making $1,950.

The point is: we can make these decisions before investing a single dollar in this appeal.

Average Gift & Response Rate

We want to drill down on the two datapoints that make the previous direct mail posting a nice, easy formula. The first is average gift size. The second is response rate.

AVERAGE GIFT

Finding your average gift is easy: look at your most recent year-end direct mail. Add together all the money raised from that mailer and divide by the number of gifts made. This is a rough estimate.

But, you know how you always get a $5,000 gift from a donor who met with your CEO two weeks before and just dropped her check in your direct mail envelope? That gift probably isn't representative of your direct mail program. Sometimes, it's easy to know which gifts to exclude, but often, it's not.

When you know which really big and really small gifts to exclude, just do that.

When you don't, do this:

• Find your average gift by adding up all the revenue raised and dividing by the number of gifts. This is your average gift.
  
• Next, figure out the standard deviation (an Excel formula will do this for you).
  
• Then, start at your average gift and add your standard deviation to your average. Add it again. Stop. Exclude any gifts above that amount.
  
• Then, take your average and subtract your standard deviation from the average. Subtract it again. Stop. Exclude any gifts below that amount.
  

These extra steps stabilize your average gift by removing that $5,000 gift and that $1 gift from the mix. It gives you an average of the most common contributions you receive (roughly 95% of all donations).

RESPONSE RATE

Response rate is the total number of donors who gave to your year-end appeal divided by the total number of people who received your year-end appeal.

If you're new to your organization, use industry standards as proxies to estimate your response rate.

For instance, a prospect or acquisition mailing has a .7% response rate (or 7 people out of every 1,000 mailed will give).

For a loyal donor mailing, 2% is a typical response rate (or 2 out of every 100 mailed will give).

If your mailing is a mix of donors and prospects, use 1.5% as a response rate.

We'll dig deeper with more sophisticated forecasting tools in a future article, but these proxies will get you started.

Measuring Direct Mail Effectiveness

Too often, we don't transfer the tools we use in one type of fundraising activity to another. This is perhaps nowhere clearer than when we plan a direct mail appeal.

When we plan an event, we know exactly how much our fixed costs are (e.g. facility rentals), variable costs (e.g. per meal or per invitation cost) and the minimum number of guests required for the event to break even.

Why not use these same metrics in direct mail?

In direct mail, these metrics have a greater impact because you can forecast the success of the campaign before you spend a single dollar.

One critical metric in direct mail, that's often overlooked, is what's the minimum number of people who need to receive this mailing so the nonprofit can raise more money than the cost of the mailer.

This is called the Break Even Quantity (BEQ).

For events, the Break Even Quantity is calculated by subtracting fixed costs (audio visual, facility rentals, awards) from sponsorships. Then, subtract your variable costs (meals and invitations) from your variable revenue (ticket sales).

Your calculation looks like this:

BEQ=(SPON-FC)/(REV-VC)

Where:
BEQ = Break Even Quantity; minimum number of people who must attend your gala before you make money
SPON = Sponsorship Revenue
FC = Fixed Costs
REV = Variable Revenue
VC = Variable Costs

To convert this formula from events to direct mail, you need to make three changes:

1. Take out sponsorship (SPON)
   
2. Change "Revenue" to "Average Gift" (AG)
   
3. Multiply AG by your "Response Rate" (RR), which gives you "revenue per unit mailed"
   

Your new calculation:

BEQ=FC/(AG*RR-VC)

Where:
BEQ = Break Even Quantity; total number of people who must receive your appeal
FC = Fixed Costs; this may include staff time
AG = Average Gift; total revenue raised divided by total number of donors who will give
RR = Response Rate; what % of donors who receive your direct mail will give
VC = Variable Costs (e.g. postage, printing)

SAMPLE NONPROFIT DIRECT MAIL APPEAL

Table 1
Sample Nonprofit
Constituents		10,000
Fixed Costs:
Mail set-up		$250
Design		$2,000
Total Fixed Cost		$2,250
Variable Costs
Printing		$0.5
Envelopes		$0.25
Reply envelopes		$0.25
Postage		$0.2
Variable Cost		$1.2
Average Gift		$75
Response Rate (2%)		0.02
BEQ=FC/(AG*RR-VC)
BEQ		7,500

Table 1 shows that Sample Nonprofit is doing a direct mail and they have 10,000 constituents (donors and prospects) in their database.

They looked at previous direct mail campaigns to forecast for this campaign:

• A 2% response rate;

• Average gift of $75;

• Fixed Costs and Variable Costs, based on vendor estimates.

*Plugging this information into the above calculation, their breakeven quantity (BEQ) is 7,500.

Because the number of constituents (donors and prospects) in their database (10,000) is greater than their BEQ (7,500), this will be a successful mailer.

Hooray!