Cost Allocation: Joint Products and By-Products... Costs Example

16 - 1©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Cost Allocation: Joint Productsand Byproducts

Chapter 16


Learning Objective 1

Identify the splitoff point(s)in a joint-cost situation.


Joint-Cost Basics

Joint productsJoint costs

Separable costs

Splitoff pointByproduct


Joint-Cost Basics

Raw milk

Cream Liquid Skim


Joint-Cost Basics

Coal

Gas Benzyl Tar



Distinguish joint productsfrom byproducts.


Joint Products and Byproducts

Sales Value

High Low

Main ProductsJoint Products Byproducts



Explain why joint costs should beallocated to individual products.


Why Allocate Joint Costs?

• to compute inventory cost and cost of goods sold• to determine cost reimbursement under contracts • for insurance settlement computations• for rate regulation• for litigation purposes



Allocate joint costs usingfour different methods.


Approaches to AllocatingJoint Costs

Approach 2:Physical measure

Approach 1:Market based

Two basic ways to allocatejoint costs to products are:


Approach 1: Market-based Data

Sales value at splitoff methodEstimated net realizable value (NRV) method

Constant gross-margin percentage NRV method


Allocating Joint Costs Example

10,000 units of A at aselling price of $10 = $100,000

10,500 units of B at aselling price of $30 = $315,000

11,500 units of C at aselling price of $20 = $230,00

Joint processingcost is $200,000

Splitoff point


Allocating Joint Costs Example

A B C TotalSales Value $100,000 $315,000 $230,000 $645,000Allocation ofJoint Cost100 ÷ 645 31,008 315 ÷ 645 97,674230 ÷ 645 71,318

200,000Gross margin $ 68,992 $217,326 $158,682 $445,000


Sales Value at SplitoffMethod Example

Assume all of the units producedof B and C were sold.

2,500 units of A (25%)remain in inventory.

What is the gross marginpercentage of each product?



Product A Revenues: 7,500 units × $10.00 $75,000Cost of goods sold:

Joint product costs $31,008Less ending inventory

$31,008 × 25% 7,752 23,256Gross margin $51,744



Product A:($75,000 – $ 23,256) ÷ $75,000 = 69%

Product B:($315,000 – $97,674) ÷ $315,000 = 69%

Product C:($230,000 – $71,318) ÷ $230,000 = 69%


Estimated Net Realizable Value(NRV) Method Example

Assume that Oklahoma Company can processproducts A, B, and, C further into A1, B1, and C1.The new sales values after further processing are:

A1:10,000 × $12.00

= $120,000

B1:10,500 × $33.00

= $346,500

C1:11,500 × $21.00

= $241,500



Additional processing (separable) costs are as follows:

A1: $35,000 B1: $46,500 C1: $51,500

What is the estimated net realizable value of eachproduct at the splitoff point?



Product A1: $120,000 – $35,000 = $85,000Product B1: $346,500 – $46,500 = $300,000Product C1: $241,500 – $51,500 = $190,000

How much of the joint cost is allocatedto each product?



To A1:85 ÷ 575 × $200,000 = $29,565

To B1:300 ÷ 575 × $200,000 = $104,348

To C1:190 ÷ 575 × $200,000 = $66,087



Allocated Separable Inventory joint costs costs costs

A1 $ 29,565 $ 35,000 $ 64,565B1 104,348 46,500 150,848C1 66,087 51,500 117,587Total $200,000 $133,000 $333,000


Constant Gross-MarginPercentage NRV Method

This method entails three steps:Step 1:

Compute the overall gross-margin percentage.Step 2:

Use the overall gross-margin percentageand deduct the gross margin from thefinal sales values to obtain the totalcosts that each product should bear.



Step 3:Deduct the expected separable costs from thetotal costs to obtain the joint-cost allocation.



What is the expected final sales value of totalproduction during the accounting period?

Product A1: $120,000Product B1: 346,500Product C1: 241,500Total $708,000



Step 1:Compute the overall gross-margin percentage.Expected final sales value $708,000Deduct joint and separable costs 333,000Gross margin $375,000

Gross margin percentage:$375,000 ÷ $708,000 = 52.966%



Step 2:Deduct the gross margin. Sales Gross Cost of

Value Margin Goods soldProduct A1: $120,000 $ 63,559 $ 56,441Product B1: 346,500 183,527 162,973Product C1: 241,500 127,913 113,587Total $708,000 $375,000 $333,000($1 rounding)



Step 3:Deduct separable costs.

Cost of Separable Joint costs goods sold costs allocated

Product A1: $ 56,441 $ 35,000 $ 21,441Product B1: 162,973 46,500 116,473Product C1: 113,587 51,500 62,087Total $333,000 $133,000 $200,000


Approach 2: PhysicalMeasure Method Example

$200,000 joint cost

20,000pounds A

48,000pounds B

12,000pounds C

Product A$50,000

Product B$120,000

Product C$30,000



Explain why the sales value atsplitoff method is preferredwhen allocating joint costs.


Choosing a Method

Why is the sales value at splitoff method widely used?

It measures the valueof the joint product

immediately.

It does not anticipatesubsequent management

decisions.

It uses ameaningful basis. It is simple.


Choosing a Method

The purpose of the joint-cost allocation isimportant in choosing the allocation method.

The physical-measure method is a moreappropriate method to use in rate regulation.


Avoiding Joint Cost Allocation

Some companies refrain from allocating jointcosts and instead carry their inventories

at estimated net realizable value.



Explain why joint costsare irrelevant in a

sell-or-process-further decision.


Irrelevance of Joint Costsfor Decision Making

Assume that products A, B, and C can be soldat the splitoff point or processed further

into A1, B1, and C1.Selling Selling Additional

Units price price costs10,000 A: $10 A1: $12 $35,00010,500 B: $30 B1: $33 $46,50011,500 C: $20 C1: $21 $51,500


Irrelevance of Joint Costsfor Decision Making

Should A, B, or C be sold at the splitoffpoint or processed further?

Product A: Incremental revenue $20,000– Incremental cost $35,000 = ($15,000)

Product B: Incremental revenue $31,500– Incremental cost $46,500 = ($15,000)

Product C: Incremental revenue $11,500– Incremental cost $51,500 = ($40,000)



Account for byproductsusing two different methods.


Accounting for Byproducts

Method A:The production method recognizes byproducts

at the time their production is completed.Method B:

The sale method delays recognition ofbyproducts until the time of their sale.


Accounting for ByproductsExample

Main Products Byproducts (Yards) (Yards)

Production 1,000 400Sales 800 300Ending inventory 200 100Sales price $13/yard $1.00/yardNo beginning finished goods inventory


Accounting for ByproductsExample

Joint production costs for joint(main) products and byproducts:

Material $2,000Manufacturing labor 3,000Manufacturing overhead 4,000Total production cost $9,000


Accounting for ByproductsMethod A

Method A: The production methodWhat is the value of ending inventory

of joint (main) products?$9,000 total production cost

– $400 net realizable value of the byproduct= $8,600 net production cost for the joint products



200 ÷ 1,000 × $8,600 = $1,720 is the valueassigned to the 200 yards in ending inventory.

What is the cost of goods sold?Joint production costs $9,000Less byproduct revenue 400Less main product inventory 1,720Cost of goods sold $6,880



Income Statement (Method A)Revenues: (800 yards × $13) $10,400Cost of goods sold 6,880Gross margin $ 3,520What is the gross margin percentage?

$3,520 ÷ $10,400 = 33.85%



What are the inventoriable costs?Main product: 200 ÷ 1,000 × $8,600 = $1,720

Byproduct: 100 × $1.00 = $100


Journal Entries Method A

Work in Process 2,000Accounts Payable 2,000

To record direct materials purchased and usedin productionWork in Process 7,000

Various Accounts 7,000To record conversion costs in the joint process



Byproduct Inventory 400Finished Goods 8,600

Work in Process 9,000To record cost of goods completedCost of Goods Sold 6,880

Finished Goods 6,880To record the cost of the main product sold



Cash or Accounts Receivable 10,400Revenues 10,400

To record the sale of the main product


Accounting for ByproductsMethod B

Method B: The sale method What is the value of ending inventory of

joint (main) products?200 ÷ 1,000 × $9,000 = $1,800

No value is assigned to the 400 yards ofbyproducts at the time of production.The $300 resulting from the sale ofbyproducts is reported as revenues.



Income Statement (Method B)Revenues: Main product (800 × $13) $10,400Byproducts sold 300Total revenues $10,700Cost of goods sold:

Joint production costs 9,000Less main product inventory 1,800 $ 7,200

Gross margin $ 3,200



What is the gross margin percentage?$3,200 ÷ $10,700 = 29.91%

What are the inventoriable costs? Main product: 200 ÷ 1,000 × $9,000 = $1,800

By-product: -0-


Journal Entries Method B

Work in Process 2,000Accounts Payable 2,000

To record direct materials purchased and usedin productionWork in Process 7,000

Various Accounts 7,000To record conversion costs in the joint process



Finished Goods 9,000Work in Process 9,000

To record cost of goods completedCost of Goods Sold 7,200

Finished Goods 7,200To record the cost of the main product sold



Cash or Accounts Receivable 10,400Revenues 10,400

To record the sale of the main productCash or Accounts Receivable 300

Revenues 300To record the sale of the byproduct


End of Chapter 16

Cost Allocation: Joint Products and By-Products... Costs Example

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