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:

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	$	96,000
Premium rating		31,000
Advertising		76,000
Sales		56,000

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) Allocation using Direct Method
Using Direct Method	Acturial	Premium	Advertising	Sales
Cost Before Allocation	96000	31000	76000	5600
Acturial Cost 96000 in Ratio of 10:10	-96000		48000	48000
Premium Rating Cost 31000 in Ratio of 15:60		-31000	6200	24800
Total allocation	0	0	130200	78400

2) Using Step Down Method
	Acturial	Premium	Advertising	Sales
Cost Before Allocation	96000	31000	76000	5600
Acturial Cost 96000 in Ratio of 80:10:10	-96000	76800	9600	9600
Costs after Acturial allocation	0	107800	85600	15200
Premium Rating Cost 107800 in Ratio of 15:60		-107800	21560	86240
Costs after Premium Rating Allocation	0	0	107160	101440

3) Allocation of Support departments costs using Reciprocal Method:
	Acturial	Premium	Advertising	Sales	Ratio
Costs Before Allocation	96000	31000	76000	5600
Allocation 1	-96000	76800	9600	9600	( 80:10:10)
Costs After Allocation	0	107800	85600	15200
Allocation 2	26950	-107800	16170	64680	( 25:15:60)
Costs After Allocation	26950	0	101770	79880
Allocation 3	-26950	21560	2695	2695	( 80:10:10)
Costs After Allocation	0	21560	104465	82575
Allocation 4	5390	-21560	3234	12936	( 25:15:60)
Costs After Allocation	5390	0	107699	95511
Allocation 5	-5390	4312	539	539	( 80:10:10)
Costs After Allocation	0	4312	108238	96050
Allocation 6	1078	-4312	647	2587	( 25:15:60)
Costs After Allocation	1078	0	108885	98637
Allocation 7	-1078	862	108	108	( 80:10:10)
Costs After Allocation	0	862	108993	98745
Allocation 8	216	-862	129	517	( 25:15:60)
Costs After Allocation	216	0	109122	99262
Allocation 9	-216	172	22	22	( 80:10:10)
Costs After Allocation	0	172	109144	99284
Allocation 10	43	-172	26	103	( 25:15:60)
Costs After Allocation	43	0	109169	99387
Allocation 11	-43	34	4	4	( 80:10:10)
Costs After Allocation	0	34	109174	99392
Allocation 12	9	-34	5	21	( 25:15:60)
Costs After Allocation	9	0	109179	99412
Allocation 13	-9	7	1	1	( 80:10:10)
Costs After Allocation	0	7	109180	99413
Allocation 14	2	-7	1	4	( 25:15:60)
Costs After Allocation	2	0	109181	99417
Allocation 15	-2	1	0	0	( 80:10:10)
Costs After Allocation	0	1	109181	99418
Allocation 16	0	-1	0	1	( 25:15:60)
0	0	0	109181	99418