Question

HomeLife Life Insurance Company has two service departments (actuarial and premium rating) and two production departments (advertising and sales). The distribution of each service department’s efforts (in percentages) to the other departments is shown in the following table:

	To
From	Actuarial			Premium Rating			Advertising			Sales
Actuarial		—			80	%		10	%		10	%
Premium		25	%		—			15			60

The direct operating costs of the departments (including both variable and fixed costs) are:

Actuarial	$	99,000
Premium rating		34,000
Advertising		79,000
Sales		59,000

Required:

1. Determine the total costs of the advertising and sales departments after using the direct method or allocation.

2. Determine the total costs of the advertising and sales departments after using the step method of allocation.

3. Determine the total costs of the advertising and sales departments after using the reciprocal method of allocation.

Answer 1

1	DIRECT METHOD
			Advertising	Sales	Actuarial	Premium rating
		Direct Operating Cost	79,000.00	59,000.00	99,000.00	34,000.00
		Apportionment of service dept. Expenses
	Step 1	Actuarial Expenses	49,500.00	49,500.00	-99,000.00
		Premium rating expenses	6,800.00	27,200.00		-34,000.00
		Total	1,35,300.00	1,35,700.00	-	-
		EXPENSES DIVIDED IN THE RATIO GIVEN IN QUESTION - DIRECT METHOD
			Advertising	Sales	Actuarial	Premium rating
		Actuarial Expenses	10/20	10/20	-	-
		Premium rating expenses	15/75	60/75	-	-
		IN DIRECT METHOD EXPENSES DIVIDED INTO ONLY OPERATING DEPARTMENT
	STEP METHOD OF ALLOCATION
			Advertising	Sales	Actuarial	Premium rating
		Direct Operating Cost	79,000.00	59,000.00	99,000.00	34,000.00
		Apportionment of service dept. Expenses
	Step 1	Actuarial Expenses (10/100, 10/100, 80/100)	9,900.00	9,900.00	-99,000.00	79,200.00
		Total	88,900.00	68,900.00	-	1,13,200.00
	Step 2	Premium rating expenses (15/75, 60/75)	22,640.00	90,560.00		-1,13,200.00
		Total	1,11,540.00	1,59,460.00	-	-
		EXPENSES DIVIDED IN THE RATIO GIVEN IN QUESTION - STEP METHOD OF ALLOCATION
			Advertising	Sales	Actuarial	Premium rating
		Actuarial Expenses	10%	10%	0	80%
		Premium rating expenses	15/75	60/75	0%	0%
		IN STEP METHOD, STEP WISE ALLOCATION DONE, ONCE THE EXPENSES DIVIDEND OF THAT DEPARTMENT, THEN NO FURTHER COST ALLOCATION ON THAT DEPARTMENT
3	RECIPROCAL METHOD
			Advertising	Sales	Actuarial	Premium rating
		Direct Operating Cost	79,000.00	59,000.00	99,000.00	34,000.00
		Apportionment of service dept. Expenses
	Step 1	Actuarial Expenses	9,900.00	9,900.00	-99,000.00	79,200.00
		Total	88,900.00	68,900.00	-	1,13,200.00
	Step 2	Premium rating expenses	16,980.00	67,920.00	28,300.00	-1,13,200.00
		Total	1,05,880.00	1,36,820.00	28,300.00	-
	Step 3	Actuarial Expenses	2,830.00	2,830.00	-28,300.00	22,640.00
		Total	1,08,710.00	1,39,650.00	-	22,640.00
	Step 4	Premium rating expenses	3,396.00	13,584.00	5,660.00	-22,640.00
		Total	1,12,106.00	1,53,234.00	5,660.00	-
	Step 5	Actuarial Expenses	566.00	566.00	-5,660.00	4,528.00
		Total	1,12,672.00	1,53,800.00	-	4,528.00
	Step 6	Premium rating expenses	679.20	2,716.80	1,132.00	-4,528.00
		Total	1,13,351.20	1,56,516.80	1,132.00	-
	Step 7	Actuarial Expenses	113.20	113.20	-1,132.00	905.60
		Total	1,13,464.40	1,56,630.00	-	905.60
	Step 8	Premium rating expenses	135.84	543.36	226.40	-905.60
		Total	1,13,600.24	1,57,173.36	226.40	-
	Step 9	Actuarial Expenses	22.64	22.64	-226.40	181.12
		Total	1,13,622.88	1,57,196.00	-	181.12
	Step 10	Premium rating expenses	27.17	108.67	45.28	-181.12
		Total	1,13,650.05	1,57,304.67	45.28	-
	Step 11	Actuarial Expenses	4.53	4.53	-45.28	36.22
		Total	1,13,654.58	1,57,309.20	-	36.22
	Step 12	Premium rating expenses	5.43	21.73	9.06	-36.22
		Total	1,13,660.01	1,57,330.93	9.06	-
	Step 13	Actuarial Expenses	0.91	0.91	-9.06	7.24
		Total	1,13,660.92	1,57,331.84	-	7.24
	Step 14	Premium rating expenses	1.09	4.35	1.81	-7.24
		Total	1,13,662.00	1,57,336.19	1.81	-
	Step 15	Actuarial Expenses	0.91	0.91	-1.81	-
		Total	1,13,662.91	1,57,337.09	-	-
		EXPENSES DIVIDED IN THE RATIO GIVEN IN QUESTION - RECIPROCAL
			Advertising	Sales	Actuarial	Premium rating
		Actuarial Expenses	10%	10%	0	80%
		Premium rating expenses	15%	60%	25%	0%
		IN THIS METHOD EXPENSES ALOCATED AT EACH DEPARTMENT AT THAT POINT, WHEN THEY ARE NEGLIBLE OR VERY LESS.