ABC, product costing at banks, cross-subsidization. First International Bank (FIB) is examining the profitability of its Premier

Question:

ABC, product costing at banks, cross-subsidization. First International Bank (FIB) is examining the profitability of its Premier Account, a combined savings and checking account. Depositors receive a 7% annual interest rate on their average deposit. FIB earns an interest rate spread of 3% (the difference between the rate at which it lends money and the rate it-pays depositors) by lending money for home loan purposes at 10%. Thus, FIB would gain $60 on the interest spread if a depositor had an average Premier Account balance of $2,000 in 2008 ($2,000 X 3% $60).

The Premier Account allows depositors unlimited use of services such as deposits, withdrawals, checking accounts, and foreign currency drafts. Depositors with Premier Account balances of $1,000 or more receive unlimited tree use of services. Depositors with minimum balances of less than $1,000 pay a $20-a-month service fee for their Premier Account.

FIB recently conducted an activity-based costing study of its services. It assessed the following costs for six individual services. The use of these services in 2008 by three customers is as follows:

Activity-Based Cost per

Assume Robinson and Farrell always maintain a balance above $1,000, whereas Skerrett always has a balance below $1,000.

1. Compute the 2008 profitability of the Robinson, Skerrett, and Farrell Premier Accounts at FIB.

2. What evidence is there of cross-subsidization among the three Premier Accounts? Why might FIB worry about this cross-subsidization if the Premier Account product offering is profitable as a whole?

3. What changes would you recommend for FIB’s Premier Account?