Question

Coronado Music Emporium carries a wide variety of musical instruments, sound reproduction equipment, recorded music, and sheet music. Coronado uses two sales promotion techniques—warranties and premiums—to attract customers.

Musical instruments and sound equipment are sold with a one-year warranty for replacement of parts and labor. The estimated warranty cost, based on past experience, is 2% of sales.

The premium is offered on the recorded and sheet music. Customers receive a coupon for each dollar spent on recorded music or sheet music. Customers may exchange 200 coupons and $10 for an MP3 player. Coronado pays $22 for each player and estimates that 60% of the coupons given to customers will be redeemed.

Coronado’s total sales for 2017 were $6,830,000—$5,566,000 from musical instruments and sound reproduction equipment and $1,264,000 from recorded music and sheet music. Replacement parts and labor for warranty work totaled $155,100 during 2017. A total of 6,470 players used in the premium program were purchased during the year and there were 1,192,000 coupons redeemed in 2017.
The balances in the accounts related to warranties and premiums on January 1, 2017, were as shown below.

Premium Liability 41,880

Coronado Music Emporium is preparing its financial statements for the year ended December 31, 2017. Determine the amounts that will be shown on the 2017 financial statements for the following.

What is premium liability?

Answer 1

Solution :

Given that :

Coupon issued = $ 1,264,000

Estimated coupon percent = 60%

sales = 2%

Premium liabilities = $ 41,880

first we need to calculate premium expenses for 2017 :

Premium expenses
Particulars	Amount
Coupon issued	$ 1,264,000
Estimated redemption rate at 60 %	0.60
Estimated no.of coupon to be redeemed	= $ 1,264,000 * 0.60 =$ 758,400
exchange rate	2%
200 coupon to be mp3 player	= $ 758,400 / 2% = $ 3,792
Net cost	= $ 22 - 10 = 12
Total premium expenses	= $ 3,792 * 12 =$ 45,504

Total premium expenses for 2017 = $ 45,504

Now premium liabilities for 2017 is as follows :

Premium liabilities for 2017
Particulars	Amount
Estimated premium claim liability	$ 41,880
Add:Premium expenses	$ 45,504
Total amount	= $ 41,880 + $ 45,504 = $ 87,384
Less :Actual redemption during 2017	= $( 1,192,000 / 200) * ( 22 - 10) = $ 5,960 * 12 = $ 71,520
Premium liability	= $ 87,384 - $ 71,520 = $ 15,864

Premium liabilities for 2017 = $ 15,864