Joint Cost Allocation Methods PDF

9 Joint-Process Costing McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reser 9-2 Joint Product Processes A A number number of of products pr...

9 Joint-Process Costing McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reser 9-2 Joint Product Processes A A number number of of products products are are produced produced from from aa single single raw raw material material input. input. Product 1 Single Input Product 2 Product 3 9-3 Joint Product Processes Concept: Concept: in insome someindustries, industries,aanumber numberof ofproducts productsareare produced producedfromfromaasingle singleraw rawmaterial material input. input. Key Keyterms: terms:  Joint Jointproducts products ––products productsresulting resultingfrom fromaaprocess process with withaacommon commoninput. input.  Split-off Split-offpoint point ––the thestage stageof ofprocessing processingwhere wherejoint joint products productsareareseparated. separated.  Joint Jointcosts costs ––costs costsof ofprocessing processingjoint jointproducts products prior priorto tothe thesplit-off split-offpoint. point.  Final Finalproduct product ––ready readyfor forsale salewithout withoutfurther further processing. processing.  Intermediate Intermediateproduct product ––requires requiresfurther furtherprocessing processing before beforesale. sale. 9-4 Joint Product Processes Consider the following example of an oil refinery. We will assume only two products, gasoline and oil. 9-5 Joint Product Processes Intermediate Final products products Joint Costs Oil Separate Final Processing Sale Common Separate Joint Production Processing Costs Input Process Separate Final Gasoline Processing Sale Split-Off Separate Point Processing Costs 9-6 Learning Objective 1 9-7 The Decision Challenge: Which Joint Products to Produce Identify final Forecast the products possible sales price of from the joint each final process. product. The usual objective in the production of joint products is to maximize profits. Choose the set Estimate costs of products to further process with the overall joint products into maximum profit. final products. 9-8 Learning Objective 2 9-9 Decision to Sell Products at Split Off or Process Them Further   Joint Joint product product costs costs incurred incurred prior prior toto the the split-off split-off point point are are sunk sunk costs costs — — notnot affected affected by by aa decision decision toto process process further further afterafter the the split-off split-off point. point.   AA product product should should bebe processed processed beyondbeyond the the split-off split-off point point only only ifif ifif the the incremental incremental revenue revenue exceeds exceeds thethe incremental incremental processing processing costs.costs. Value is added only if the incremental value from processing exceeds the incremental processing costs.  Decision to Sell Products at Split Off 9-10 or Process Them Further   Sawmill, Sawmill, Inc. Inc. cuts cuts logs logs from from which which unfinished unfinished lumber lumber and and wood wood chips chips are are the the joint joint products. products.   Unfinished Unfinished lumber lumber is is sold sold “as “as is” is” or or processed processed further further into into finished finished lumber. lumber.   Wood Wood chips chips can can also also bebe sold sold “as “as is” is” for for landscaping landscaping or or processed processed further further into into 44 ×× 88 composition composition boards. boards. 9-11 Decision to Sell Products at Split Off or Process Them Further Data about Sawmill’s joint products includes: Per Log Wood Lumber Chips Sales value at the split-off point $ 140 $ 40 Sales value after further processing 270 50 Allocated joint product costs 176 24 Cost of further processing 50 20 9-12 Decision to Sell Products at Split Off or Process Them Further Analysis of Sell or Process Further Per Log Wood Lumber Chips Sales value after further processing $ 270 $ 50 Sales value at the split-off point 140 40 Incremental revenue 130 10 Cost of further processing 50 20 Profit (loss) from further processing $ 80 $ (10) 9-13 Decision to Sell Products at Split Off or Process Them Further Analysis of Sell or Process Further Per Log Wood Lumber Chips Sales value after further processing $ 270 $ 50 Sales value at the split-off point 140 40 Incremental revenue 130 10 Cost of further processing 50 20 Profit (loss) from further processing $ 80 $ (10) Should we process the lumber further and sell the wood chips “as is?” 9-14 Learning Objective 3 9-15 Reasons for Allocating Joint Costs  To To measure measure performance performance basedbased on on earnings earnings   To To value value inventory inventory for for financial financial statements statements  To To estimate estimate casualty casualty losses losses   To To determine determine and and respond respond to to rate rate regulation regulation   To To specify specify and and resolve resolve contractual contractual interests interests and and obligations obligations 9-16 Learning Objective 4 9-17 Joint Cost Allocation Methods Physical Monetary measure method measure method Joint costs are Joint costs are allocated based on a allocated based on proportional measure the relative values (weight, volume, etc.) of of the products at the the joint products at the split-off point. split-off point. 9-18 Allocating Joint Costs Joint costs All ion oc at ati lloc on A If we allocate the joint costs of raising an animal to the two products based on weight, which product would receive the largest cost allocation? Hamburger, because there is more of it. 9-19 Allocating Joint Costs Joint costs All ion oc at ati lloc on A If we allocate the joint costs of raising the animal to the two products based on sales value, would the steak receive a greater portion of the cost allocation? Yes, steak has a higher sales value than hamburger. 9-20 Joint Cost Allocation Methods Let’s look at an example illustrating the joint cost allocation methods. 9-21 Monetary Measure Method Net Realizable Value If products require further processing beyond the split-off point before they are marketable, it may be necessary to estimate the net realizable value (NRV) at the split-off point. Final Added NRV = Sales – Processing Value Costs 9-22 Monetary Measure Method Net Realizable Value Intermediate Final products products Joint costs Oil Separate Final processing sale Common Separate Joint production processing costs input process Separate Final Gasoline processing sale Split-off Separate point processing costs  9-23 Monetary Measure Method Net Realizable Value Joint conversion Sales cost = $225,000 Separate value Oil processing $500,000 Common Separate Joint material Processing Costs production cost = $275,000 process $200,000 Sales Separate value Gasoline processing $1,200,000 Split-off Separate point processing costs $500,000 9-24 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Sales value $ 500,000 $ 1,200,000 $ 1,700,000 Less additional processing costs ? ? ? Estimated NRV at split-off point ? ? ? Proportionate share: ? ? Allocated joint costs: ? ? 9-25 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Sales value $ 500,000 $ 1,200,000 $ 1,700,000 Less additional processing costs 200,000 500,000 700,000 Estimated NRV at split-off point $ 300,000 $ 700,000 $ 1,000,000 Proportionate share: ? ? Allocated joint costs: ? ? 9-26 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Sales value $ 500,000 $ 1,200,000 $ 1,700,000 Less additional processing costs 200,000 500,000 700,000 Estimated NRV at split-off point $ 300,000 $ 700,000 $ 1,000,000 Proportionate share: $300,000 ÷ $1,000,000 30% $700,000 ÷ $1,000,000 70% Allocated joint costs: ? ? 9-27 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Sales value $ 500,000 $ 1,200,000 $ 1,700,000 Less additional processing costs 200,000 500,000 700,000 Estimated NRV at split-off point $ 300,000 $ 700,000 $ 1,000,000 Proportionate share: $300,000 ÷ $1,000,000 30% $700,000 ÷ $1,000,000 70% Allocated joint costs: $500,000 × 30% $ 150,000 $500,000 × 70% $ 350,000 9-28 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Estimated NRV at split-off point $ 300,000 $ 700,000 $ 1,000,000 Less allocated joint costs 150,000 350,000 500,000 Gross margin $ 150,000 $ 350,000 $ 500,000 Gross margin as a percent of sales ? ? ? 9-29 Monetary Measure Method Net Realizable Value Product Oil Gasoline Total Estimated NRV at split-off point $ 300,000 $ 700,000 $ 1,000,000 Less allocated joint costs 150,000 350,000 500,000 Gross margin $ 150,000 $ 350,000 $ 500,000 Gross margin as a percent of sales $150,000 ÷ $300,000 50.0% $350,000 ÷ $700,000 50.0% $500,000 ÷ $1,000,000 50.0% The net realizable value method results in equal gross margin percentages for all products. 9-30 Physical Measure Method The The physical physical measure measure method method may may be be used used when when   Output Output product product prices prices are are highly highly volatile. volatile.   Many Many additional additional processes processes occur occur between between the the split-off split-off point point and and the the first first point point of of marketability. marketability.   Market Market prices prices are are unavailable unavailable for for products products provided provided viavia cost-plus cost-plus contracts. contracts. 9-31 Physical Measure Method Joint costs Oil 240,000 gallons Common Joint production input process Gasoline 360,000 gallons Split-off point  9-32 Physical Measure Method Joint conversion cost = $225,000 Oil 240,000 gallons Common Joint material production cost = $275,000 process Gasoline 360,000 gallons Split-off point 9-33 Physical Measure Method Product Oil Gasoline Total Output quantities in gallons 240,000 360,000 600,000 Proportionate share: ? ? Allocated joint costs: ? ? 9-34 Physical Measure Method Product Oil Gasoline Total Output quantities in gallons 240,000 360,000 600,000 Proportionate share: 240,000 ÷ 600,000 40% 360,000 ÷ 600,000 60% Allocated joint costs: ? ? 9-35 Physical Measure Method Product Oil Gasoline Total Output quantities in gallons 240,000 360,000 600,000 Proportionate share: 240,000 ÷ 600,000 40% 360,000 ÷ 600,000 60% Allocated joint costs: $500,000 × 40% $ 200,000 $500,000 × 60% $ 300,000 $275,000 joint material cost plus $225,000 joint conversion cost 9-36 Choosing Among Joint Cost Allocation Methods Joint costs are truly common costs. Which joint cost allocation It is impossible to separate method should we use? the portion of joint costs attributable to one product We get a different result on a cause and effect with each method. basis. 9-37 Choosing Among Joint Cost Allocation Methods That makes the choice of methods somewhat arbitrary. Regardless of the method we choose, we really need to be careful using allocated costs for decision-making purposes. 9-38 Choosing Among Joint Cost Allocation Methods Choose Choosethe thejoint-cost joint-costallocation allocationmethod methodthat thatmaximizes maximizesregulated regulated profits profitsor orcost costreimbursements. reimbursements. Do Donot notbase baseproduct productor orservice serviceproduction productiondecisions decisionson onjoint joint margins margins(I.e., (I.e.,after afterjoint-cost joint-costallocation) allocation)unless unlessthe thechoice choiceis isin in response responseto toregulatory regulatoryopportunities. opportunities. Clearly Clearlydefine definehow howto toallocate allocatejoint jointcosts costsin incontractual contractualagreements agreements among amongparties partiesthat thatshare shareoutputs outputsand andjoint jointcosts costsof ofjoint jointprocesses. processes. 9-39 End of Chapter 9