Activity-Based Costing; Allocating Corporate Costs
OCT 22, 2012
Gibson Insurance Company sells two types of financial products: annuities and life insurance, all sales are done by in-house agents. The annuities are tax deferred investments that offer scheduled payout options and lump sums to their investors. The life insurance policies pay benefits to the designated beneficiaries in the event the policyholder passes away.
At the end of their business year, Gibson is faced with a challenging task of implementing a new management planning and performance management system. Rebecca Hampton, Gibson’s controller, was asked, “to review the company’s allocation of corporate support costs in order to better assign the costs attributed to product lines and business units.” Management believes that by implementing this new approach, the company will be able to review in how the company is allocating its corporate support costs in order to better allocate the costs assign to its product lines and business units. Improving the cost allocations would allow management to obtain a more accurate approach to analyze its product profitability, provide thorough information for explicit product pricing decisions & sales agent compensation. This will also allow concentration in specific areas for cost improvement within the company.
In recent years, Gibson has expanded its size, this is one amongst many other reasons why their old system became insufficient. The current cost allocation system is no longer suitable to provide vital information for the management in making accurate pricing decisions, compensating their sales employees, and managing company costs. Therefore, it is imperative that a new cost allocation system be adopted. By evaluating Gibson’s current business practices and product lines, it will permit management to identify the issues they are facing. This will allow Gibson’s management to make appropriate decisions in order for their company to achieve its maximum efficiency.
Gibson Insurance notices that their profit have been declining while their sales volume have increased over the last few years. This descent in profits makes Gibson’s management wonder whether their prices are set correctly or their costs have increased uncontrollably. Gibson Insurance management team is looking for a better solution for pricing and support cost allocation. This is a pivotal reason why the company decides to appoint Rebecca Hampton, Gibson’s controller, to implement their new costing approach. With this, the company will be able to improve their pricing strategy and have better resources in decision making. After further investigation, Rebecca is able to collapse nearly 50 different corporate cost account into these four categories for the new allocation bases. Below is a chart with the per policy cost per activity based on the ABC method. In our case exhibit 2 states the per policy is 82.25. In order for us to get an accurate per policy price using ABC we must calculate each policy with the rate/transaction amount stated below.
Activity| Costs| Total Transactions|
Policy Acquisition| 4375000| 103680|
Customer Service| 2426000| 55060|
Sales & Marketing| 4552000| 454400|
Other Corporate Support| 2567000| 166500|
*Reason they are in a 3 decimal format is to account for rounding errors
Here are details based on the activity levels.
1.Policy Acquisition Costs - based on numbers of steps involved in moving new policy applications to an in-force status
Justification:Because all three legal entities and both products (life insurance and annuity product) are handled by the administrative staff at Gibson’s headquarters and annuities required two major steps to issue a policy, a review of the application data and the electronic imaging of the application. Beside these two steps, fife insurance policies required additional...