Cost Allocation：Joint Products and Byproducts

Cost Allocation：Joint Products and Byproducts

CHAPTER 16

Cost Allocation:

Joint Products and Byproducts

Joint Cost Terminology

Joint Costs – costs of a single production process that yields multiple products simultaneously

Splitoff Point – the place in a joint production process where two or more products become separately identifiable

Separable Costs – all costs incurred beyond the splitoff point that are assignable to each of the now-identifiable specific products

Joint Cost Terminology

Categories of Joint Process Outputs:

Outputs with a positive sales value

Outputs with a zero sales value

Product – any output with a positive sales value, or an output that enables a firm to avoid incurring costs

Value can be high or low

Joint Cost Terminology

Main Product – output of a joint production process that yields one product with a high sales value compared to the sales values of the other outputs

Joint Products – outputs of a joint production process that yields two or more products with a high sales value compared to the sales values of any other outputs

Joint Cost Terminology

Byproducts – outputs of a joint production process that have low sales values compare to the sales values of the other outputs

Joint Process Flowchart

Reasons for Allocating Joint Costs

Required for GAAP and taxation purposes

Cost values may be used for evaluation purposes

Cost-based contracting

Insurance settlements

Required by regulators

Litigation

Joint Cost Allocation Methods

Physical Measures – allocate using tangible attributes of the products, such as pounds, gallons, barrels, etc1>.

Market-Based – allocate using market-derived data (dollars):

Sales value at splitoff

Net Realizable Value (NRV)

Constant Gross-Margin percentage NRV

Physical-Measure Method

Allocates joint costs to joint products on the basis of the relative weight, volume, or other physical measure at the splitoff point of total production of the products

Physical-Measure Example

Consider the following example of two products arising out of one joint process costing $500

Assumes 1 gallon of Cream is equal to 1 gallon of Skim-milk

Sales Value at Splitoff Method

Uses the sales value of the entire production of the accounting period to calculate allocation percentage

Ignores inventories

Sales Value at Splitoff Example

Net Realizable Value Method

Allocates joint costs to joint products on the basis of relative NRV of total production of the joint products

NRV = Final Sales Value – Separable Costs

NRV Example

Constant Gross Margin NRV Method

Allocates joint costs to joint products in a way that the overall gross-margin percentage is identical for the individual products

Joint Costs are calculated as a residual amount

Constant Gross Margin NRV Method Example

Method Selection

If selling price at splitoff is available, use the Sales Value at Splitoff Method

If selling price at splitoff is not available, use the NRV Method

If simplicity is the primary consideration, Physical-Measures Method or the Constant Gross-Margin Method could be used

Despite this, some firms choose not to allocate joint costs at all

Sell-or-Process Further Decisions

In Sell-or-Process Further decisions, joint costs are irrelevant. Joint products have been produced, and a prospective decision must be made: to sell immediately or process further and sell later

Joint Costs are sunk

Separable Costs need to be evaluated for relevance individually

Sell-or-Process Further Flowchart

Byproducts

Two methods for accounting for byproducts

Production Method – recognizes byproduct inventory as it is created, and sales and costs at the time of sale

Sales Method – recognizes no byproduct inventory, and recognizes only sales at the time of sales: byproduct costs are not tracked separately