Chapter 26, Problem 26.21EX

Activity-based costing for a service company

Safely First Insurance Company tarries three major lines of insurance: auto, workers’ compensation, and homeowners. The company has prepared the following report:

Safety First Insurance Company Product Profitability Report For the Year Ended December 31
	Auto	Workers’ Compensation	Homeowners
Premium revenue	$5,750,000	$6,240,000	$8,160,000
Estimated claims	4,312,500	4,680,000	6,120,000
Underwriting income	$1,437,500	$1,560,000	$2,040,000
Underwriting income as a percent of premium revenue	25%	25%	25%

Management is concerned that the administrative expenses may make some of the insurance lines unprofitable. However, the administrative expenses have not been allocated to the insurance lines. The controller has suggested that the administrative expenses could he assigned to the insurance lines using activity-based costing. The administrative expenses are comprised of five activities. The activities and their rates are as follows:

Activity	Activity Rates
New policy processing	$120 per new policy
Cancellation processing	$175 per cancellation
Claim audits	$320 per claim audit
Claim disbursements processing	$104 per disbursement
Premium collection processing	$ 24 per premium collected

Activity-base usage data for each line of insurance were retrieved from the corporate records as follows:

	Auto	Workers’ Compensation	Homeowners
Number of new policies	1,320	1,500	4,080
Number of canceled policies	480	240	2,160
Number of audited claims	385	120	960
Number of claim disbursements	480	216	840
Number of premiums collected	8,400	1,800	15,000

A. Complete the product profitability report through the administrative activities. Determine the income from operations as a percent of premium revenue, rounded to the nearest whole percent.

B. Interpret the report.