SMBDP Assignment-4

Group-13

Submitted to:
Professor Ishwar Murthy
03/04/2011

Submitted By:

Prasad Limaye (1011120)

Arunangshu Giri (1011013)
Deepak Yadav (1011093)
Nitin Dhawan (1011259)
Bimal Textiles sells children’s clothing by mail order. Currently, they strike of a
customer’s name if he fails to place an order from six consecutive catalogues that
are sent to him. They now want to evaluate whether it is more profitable to remove
a customer’s name at an earlier stage, based on cost benefit tradeoff.

Bimal Textiles has data pertaining to the probabilities with which a customer will
place an order after not ordering for various numbers of catalogues sent to him. We
modeled the situation as a Markov Chain. We constructed a probability transition
matrix (Matrix P) from the given data, corresponding to the current practice of
removing a customer’s name if the customer fails to order from six consecutive
catalogues. Refer Matrix P in Exhibit 1 for the matrix and a description of various
states in the Markov Chain. “Cancelled” state i.e. removing a customer’s name
from the mailing list is the absorbing state in the matrix (forming matrix R),
whereas the other states are transient (forming Matrix Q). Based on this, we
constructed the matrices Q, R, (I-Q), Inverse (I-Q), Inverse (I-Q) X R. Refer Exhibit 1
for these matrices.

The matrix Inverse (I-Q) gives the average number of times an account moves from
one state to another. Sum of the first row of the matrix (7.893289251), i.e. the row
corresponding to the state “New” gives us the average number of times
catalogues are sent to a customer before his name is removed from the mailing
list. Further, the cell corresponding to the row state “New” and the column state “0”
(0.778722683) gives us the average number of times a customer places
order. It costs Rs. 50 to send a catalogue to a customer. Thus, expected total cost
of sending catalogues is average number of catalogues sent (7.893289251)
multiplied by 50 (Rs. 394.66). Also, profit per order is Rs. 500. Thus, expected total
profit is average number of orders placed (0.778722683) multiplied by 500 (Rs.
389.36).

Now, Bimal Textiles wants to decide whether it can remove a customer’s name at
an earlier stage. The Company is interested in maximizing the profit per customer.
The decision criteria for the same will be comparison of expected loss of
profit (Rs. 500 per order) with expected savings in costs (Rs. 50 per catalogue)
if the name is removed earlier. To compute the same, we constructed all the
matrices mentioned above, i.e. Q, R, (I-Q), Inverse (I-Q) and Inverse (I-Q) X R for
each scenario: if the name is removed at state 5, 4, 3, 2 or 1 (State descriptions as
mentioned in Exhibit 1). Refer Exhibit 2 for Inverse (I-Q) matrices for each scenario.
We compared the expected loss of profit with expected savings in costs for each
scenario. Refer Exhibit 3 for the comparison. The scenario with the highest net
savings (total cost savings less loss of profit) is the scenario to be chosen by Bimal
textiles.

As Exhibit 3 shows, Bimal Textiles will benefit if the customer name is removed
from the list when he moves to stages 2, 3, 4 or 5. However, net saving from earlier
removal of name is maximum if the name of the customer is removed when he
moves to stage 4 (Scenario 3), i.e. “The customer last placed an order four
catalogues ago”. Total profit for this scenario is Rs. 58.75, whereas the
incremental profit as compared to the profit under current practice is Rs. 64.05.
(Refer Exhibit 3 for calculations). Thus, if a customer fails to place an order from
four consecutive catalogues his name should be removed from the mailing list
(earlier than currently followed practice) to maximize expected profits.
Exhibit 1

Matrices pertaining to the current practice of removing the customer’s name from
the mailing list if he fails to order from six consecutive catalogues.

In the above matrix,

Shaded : Absorbing State

New : The customer is new. First catalogue is sent to him.
0 : The customer placed an order from the immediately preceding
catalogue sent to him
1 : The customer last placed an order one catalogue ago
2 : The customer last placed an order two catalogues ago
3 : The customer last placed an order three catalogues ago
4 : The customer last placed an order four catalogues ago
5 : The customer last placed an order five catalogues ago
Cancelled : The customer last placed an order six catalogues ago. His name
is removed from mailing list.
Exhibit 1 (Continued)
Exhibit 2

Inverse (I-Q) matrix for various scenarios.

Exhibit 3

Comparison of loss of profit and savings in costs for different scenarios, if the
customer name is removed from the mailing list earlier than after he fails to order
from six consecutive catalogues