Hilton • Maher • Selto

1. Hilton • Maher • Selto

2. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 9 Joint-Process Costing

3. FINAL PRODUCT A FINAL PRODUCT B COMMON INPUT JOINT COSTS Costs to operate joint processes Simultaneously converts a common input into several outcomes JOINT PROCESS FINAL PRODUCT One that is ready for sale without further processing SPLIT-OFF POINT Point at which joint-products appear

4. FINAL PRODUCT A FINAL PRODUCT B INTERMEDIATE PRODUCT A INTERMEDIATE PRODUCT B COMMON INPUT JOINT COSTS Costs to operate joint processes Simultaneously converts a common input into several outcomes JOINT PROCESS INTERMEDIATE PRODUCT A product that requires further processing before it is salable to the public.

5. Estimating Profit From Joint Products There are four basic steps in estimating profit from joint products. 1. Identify all alternative sets and quantities of final products possible from the joint process 2. Forecast the sales price of each product 3. Estimate the costs (if any) required to further process joint products into salable products. 4. Choose the set of products with the overall maximum profit.

6. What is the potential additional revenue after further processing? What are the additional costs of further processing? Sell Intermediate Products Or Process Them Further? Net realizable value is the measure of a product’s contribution to profit after the split-off point. Net realizable value (NRV) = Sales value - further processing costs after split off

7. Exh. 9-2 Sell Intermediate Products Or Process Them Further? National Wood Products has a sawmill in Georgia. The mill has a monthly capacity of 4,700 mbf (1,000 board feet). For a month of production, the mill acquires logs and cuts them into two grades of lumber (1,000 mbf of Grade A Standard and 3,000 mbf of Grade B Standard) at a cost of $1,400,000. The Grade A Standard can be further processed into Grade A Special lumber at an additional cost of $100,000. Forecasted Sales Price information is as follows:

8. Sell Intermediate Products Or Process Them Further? National Wood Products has a decision to make. They can choose Option 1 and produce 1,000mbf of Grade A Standard and 3,000 mbf of Grade B Standard. Alternatively, Option 2 allows them to produce 1,000 mbf of Grade A Special and 3,000 mbf of Grade B Standard. Which option should National Wood Products choose? Note: The decision hinges on making an accurate determination of which option provides the highest Net Realizable Value.

9. Exh. 9-4 Sell Intermediate Products Or Process Them Further? Net realizable value (NRV) = Sales value - further processing costs after split off Option 2 obviously has the higher NRV is the option of choice.

10. Maximizing The Profit Of Joint Product Processes Computing the NPV of each set of products provides a comparison of each products sales revenues to cost after split-off What is RELEVANT? Allocation of the wood mill’s $800,000 joint processing costs Revenues from processing beyond the split-off and any expenditures for additional processing NO YES

11. Reasons for Allocating Joint Costs While it may be difficult to be precise in allocating joint (common) costs to different products, use of different allocation methods can be very important to management decisions. • Performance Measurement • Casualty Loss Estimation • Determining and Responding to Rate Regulation • Specifying and Resolving Contractual Interests and Obligations.

12. Distinguishing between Main and By-Products MAIN PRODUCT a joint output that generates a significant portion of of the net realizable value BY-PRODUCTS outputs from a joint process that are minor in quantity and/or NRV when compared to the main products Do not allocate joint costs to by-products

13. Is further processing required? Estimate the NRV at split-off by deducting estimated added- processing costs from sales value Can the main product be sold at split-off without further processing? Use market value or sales price for allocation Net Realizable Value Method Allocates joint costs based on the NRV of each main product at split-off

14. Net Realizable Value Method Allocation follows the proportions of net realizable values

15. Net Realizable Value Method Expected gross margins at split-off The NRV method preserves the relative profitability of joint products

16. Physical Measures Method Energy Content Example: BTU content Allocation is based on a physical measure of the joint products at split-off point Volume Example: Gallons Example: Pounds Weight

17. Physical Measures Method When is the physical measures method used? Output prices are highly volatile or unpredictable Significant processing occurs between the split-off point and the first sales opportunity The market does not set product prices

18. Exh. 9.5 Physical Measures Method Allocation of $1,400,000 joint process costs for National Wood Products based on relative NRV. The same $1,400,000 could also be allocated based on mbf of lumber produced.

19. Choosing Among Joint Cost Allocation Methods The mere fact that joint costs are common between different products means . . . Impossible to use cause-effect basis Therefore, any attempt at allocating those “joint” costs, by definition, . . . . . . Can be arbitrary

20. Choosing Among Joint Cost Allocation Methods Choose the joint-cost allocation method that maximizes regulated profits of cost reimbursements Do not base product or service production decisions on joint margins (I.e., after joint-cost allocation) unless the choice is in responses to regulatory opportunities Clearly define how to allocate joint costs in contractual agreements among parties that share outputs and joint costs of joint processes

21. Basics of Accounting for By-Products By-products are minor products and alternative methods are not likely to have a material effect on the financial statements for either internal or external reporting Whether to sell the by-product at split-off or process them further usually depends on the highest NPR obtainable like a major product Two standard methods Consider by-product NRV as other revenue Deduct by-product NRV from costs as main product

22. Basics of Accounting for By-Products Method 1: The NRV of the by-product treated as other revenue Used because by-product NRVs are small and effects on income are immaterial

23. Basics of Accounting for By-Products Method 2: Deduct net realizable value related to the sale of the by-products from the cost of the main product

24. Basics of Accounting for By-Products Method 2: Deduct net realizable value related to the sale of the by-products from the cost of the main product If all the main products produced in the period have not been sold, the NRV of by-products should be prorated to the main product inventories and cost of goods sold.

25. Disposal of Scrap And Waste Scrap and Waste By-Product Sales value exceeds cost of further processing Cost of further processing exceeds sales value Sold as by-product Dispose of legallyat minimum cost Look for new products or

26. 9 END OF CHAPTER