Exhibit 9-1
The Happy Cereal Company includes a premium in each box of its cereal. For four premiums plus $2.00, customers are entitled to a plastic wiggle worm that costs Happy $4.50 each. Happy expects 60% of the premiums to be redeemed. In 2016, Happy sold 500,000 boxes of cereal and distributed 25,000 wiggle worms.
-Refer to Exhibit 9-1. What is Happy's premium expense for 2016?
A) $125,000
B) $187,500
C) $225,000
D) $337,500

Question

Quizplus · Accepted Answer

Happy's premium expense for 2016 is calculated by considering the cost of each wiggle worm ($4.50) and the expected redemption rate (60%). Since 500,000 boxes were sold, and each box includes a premium, the total number of premiums distributed is 500,000. With a 60% redemption rate, the expected number of redeemed premiums is 60% of 500,000, which is 300,000 premiums. However, it takes four premiums plus $2.00 to redeem a wiggle worm. Therefore, the number of wiggle worms expected to be redeemed is 300,000 premiums divided by 4, which equals 75,000 wiggle worms. The cost to Happy for each wiggle worm is $4.50, so the total cost for the wiggle worms is 75,000 * $4.50 = $337,500. However, since customers also pay $2.00 for each wiggle worm, the revenue from these payments is 75,000 * $2.00 = $150,000. The net expense for Happy is the total cost of the wiggle worms minus the revenue from customer payments, which is $337,500 - $150,000 = $187,500.

Exhibit 9-1 The Happy Cereal Company Includes a Premium in Each Box