# Piedmont First National Bank operated for years under the assumption that profitability can be increased by increasing

## Question:

Piedmont First National Bank operated for years under the assumption that profitability can be increased by increasing dollar volumes. Historically, the bank's efforts were directed toward increasing total dollars of sales and total dollars of account balances. In recent years, however, the bank's profits have been eroding. Increased competition, particularly from savings and loan institutions, was the cause of the difficulties. As key managers discussed the bank's problems, it became apparent that they had no idea what their products were costing. Upon reflection, they realized that they had often made decisions to offer a new product, one that promised to increase dollar balances, without any consideration of what it cost to provide the service. After some discussion, the bank decided to hire a consultant to compute the costs of three products: checking accounts, personal loans, and the gold Visa credit card. The consultant identified the following activities, costs, and activity drivers (annual data):

The following annual information on the three products was also made available:

In light of the new cost information, Leong Ridgeway, the bank president, wanted to know whether a decision made two years ago to modify the bank's checking account product was sound. At that time, the service charge was eliminated on accounts with an average annual balance greater than $1,000. Based on increases in the total dollars in checking, Leong was pleased with the new product. The checking account product is described as follows: (1) Checking account balances greater than$500 earn interest of 2 percent per year, and
(2) A service charge of $5 per month is charged for balances less than$1,000. The bank earns 4 percent on checking account deposits. The balances of the checking accounts are broken down as follows:

Research indicates that the \$2,000 category was by far the greatest contributor to the increase in dollar volume when the checking account product was modified two years ago.

Required:
1. Calculate rates for each activity.
2. Using the rates computed in Requirement 1, calculate the cost of each product.
3. Evaluate the checking account product. Are all accounts profitable? Compute the average annual profitability per account for the four categories of accounts described in the problem. What recommendations would you make to increase the profitability of the checking accountproduct?

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