Premium Liability The Pur-Shuger Cereal Company ran a special promotion during 2001 in which it offered purchasers of its cereal the opportunity to obtain 10 different mega-monsters. For 5 boxtops, a customer could obtain, free of charge, models of any of the famous mega-monster cartoon characters, from the lovable Manny Mangler to the ferocious Challenger of Doom. Pur-Shuger contracts with Shoddy Premium Company to ship the models at a cost of $3 each. During 2001, Pur-Shuger sold 600,000 boxes of cereal, and it expects 20 percent of the boxtops to be redeemed for models. During the year, Pur-Shuger had Shoddy Premium ship 14,500 of the models based on redemptions of boxtops.

a. What amount of premium expense should Pur-Shuger report in 2001 in connection with the premium offer?

b. What amount of premium liability should Pur-Shuger report in its balance sheet prepared at the end of 2001?

c. Each box of Pur-Shuger’s cereal sells for $4.50 and costs the company $2.00 to manufacture, package, and distribute. If the premium offer increased sales of the cereal from 550,000 boxes to 600,000, was it worthwhile? Explain.