Blue Nile

1. What is Blue Nile's strategy for success in the marketplace? Does the company rely primarily on a customer intimacy, operational excellence, or product leadership customer value proposition? What evidence from the 10-K supports your conclusion? Blue Nile looks to be implementing and mix of strategies, in that they are responding to the individuals needs on the type of diamond they want, but they are doing it at a heavily discounted price compared to the competition. This would be a combination of the customer intimacy and the operational excellence strategies. The evidence that supports this can be found on page 3 of the 10k report:
We have developed an efficient online cost structure and a unique supply solution that eliminates

traditional layers of diamond wholesalers and brokers, which allows us to generally purchase most of our product offerings at lower prices by avoiding mark-ups imposed by those intermediaries. Our supply solution generally enables us to purchase only those diamonds that our customers have ordered. As a result, we are able to minimize the costs associated with carrying diamond inventory and limit our risk of potential mark-downs..

2. What business risks does Blue Nile face that may threaten its ability to satisfy stockholder expectations? What are some examples of control activities that the company could use to reduce these risks? (Hint: Focus on pages 8-19 of the 10-K.) Are some of the risks faced by Blue Nile difficult to reduce through control activities? Explain. Risk: Purchasers of diamonds and fine jewelry may not choose to shop online, which would prevent us from increasing net sales. Control activities: Make available only independently certified diamonds and have this be the main focus of the marketing material. Also, granting customers easily access to information about the specific products that they are interested in purchasing via the website. Risk: This is a luxury product, and customarily purchased on a discretionary basis; sales may see a significant decline in an economy such as a recession because people have less access to disposable income. Control activities: Expand product offerings and expand the number of geographic markets served Some of the risks faced by Blue Nile would be difficult to reduce through controlled activities, such as any type of governmental regulation that may increase a tax burden or if there were any restrictions on the diamond supply. 3. Is Blue Nile a merchandiser or a manufacturer? What information contained in the 10-K supports your answer? Blue Nile is a merchandiser; Blue Nile, Inc. (Blue Nile, the Company, we, our, and us) is a leading online retailer of high quality diamonds and fine jewelry. (As stated on page 3).

4. Using account analysis, would you label cost of sales and selling, general, and administrative expense as variable, fixed, or mixed costs? Why? (Hint: focus on pages 24-26 and 38 of the 10-K.) Cite one example of a variable cost, step-variable cost, discretionary fixed cost, and committed fixed cost for Blue Nile. I believe that cost of sales and selling, general, and administrative are variable costs after reading Page 25 of the 10-k. It states that Our cost of sales consists of the cost of diamonds and jewelry products sold to customers, inbound and outbound shipping costs, insurance on shipments and the costs incurred to set diamonds into ring, earring and pendant settings, including labor and related facilities costs. Examples of the various costs include: Variable costs: cost of sales, credit card processing fees. Step-variable costs: diamond setting labor, fulfillment labor. Discretionary fixed costs: marketing costs, employee training costs 5. Fill in the blanks in the table above based on information contained in the 10-K. Using the high-low method, estimate the variable and fixed cost elements of the quarterly selling, general, and administrative expense. Express Blue Nile's variable and fixed selling, general, and administrative expenses in the form Y = a + bX, where X is net sales.

Net Sales Cost of Sales Gross Profit Selling, general, and Administrative expense Operating income

Qtr. 1 35,784 27,572 8,212

2004 Qtr. 2 Qtr. 3 35,022 33,888 27,095 26,519 7,927 7,369

Qtr. 4 64,548 50,404 14,144

2005 Qtr. 1 Qtr. 2 44,116 43,826 34,429 33,836 9,687 9,990

5,308 $2,904 Net Sales $64,548 $33,888 $30,660

5,111 5,033 $2,816 $2,336 Sell, G & A 7343 5033 $2,310

7,343 $6,801

6,123 $3,564

6,184 $3,806

High Qtr. (2004 Q4) Low Qtr. (2004 Q3) Change

Variable cost = $2,310/$30,660 = 0.075342 per dollar of revenue Fixed cost estimate (using the low level of activity) = $5,033 ($33,888 0.075342) = $2,480 (rounded up) The linear equation is: Y = $2,480 + 0.075342X, where X is revenue

6. Prepare a contribution format income statement for the third quarter of 2005 assuming that Blue Nile's net sales were $45,500 and its cost of sales as a percentage of net sales remained unchanged from the prior quarter.

2005 Third Quarter Net Sales Cost of sales Variable selling, general and administrative Contribution Margin Fixed selling, general and administrative Net Operating Income 45500 35128 3428 38556 6944 2480 4464

7. How would you describe Blue Nile's cost structure? Is Blue Nile's cost of sales as a percentage of sales higher or lower than competitors with bricks and mortar jewelry stores? I would describe Blue Niles cost structure leaning more towards variable costs in that less than 10% of their costs are fixed. As stated on Page 22 of the 10-K, As an online retailer, we do not incur most of the operating costs associated with physical retail stores, including the costs of maintaining significant inventory and related overhead. As a result, while our gross profit margins are lower than those typically maintained by traditional diamond and fine jewelry retailers, we are able to realize relatively higher operating income as percentage of net sales. In 2004, we had a 22.2% gross profit margin, as compared to gross profit margins of up to 50% by some traditional retailers. We believe our lower gross profit margins result from lower retail prices that we offer to our customers.