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Cost Allocation: Joint Products and Byproducts

Cost Allocation: Joint Products and Byproducts. Chapter 16. Learning Objective 1. Identify the splitoff point(s) in a joint-cost situation. A Better Picture. Joint-Cost Basics. Joint costs. Joint products. Byproduct. Splitoff point. Separable costs. Joint Processes. JOINT COSTS

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Cost Allocation: Joint Products and Byproducts

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  1. Cost Allocation: Joint Productsand Byproducts Chapter 16

  2. Learning Objective 1 Identify the splitoff point(s) in a joint-cost situation.

  3. A Better Picture

  4. Joint-Cost Basics Joint costs Joint products Byproduct Splitoff point Separable costs

  5. Joint Processes JOINT COSTS Costs to operate joint processes COMMON IMPUT Simultaneously converts a common input into several outcomes JOINT PROCESS SPLIT-OFF POINT Point at which joint-products appear FINAL PRODUCT One that is ready for sale without further processing FINAL PRODUCT A FINAL PRODUCT B INTERMEDIATE PRODUCT A INTERMEDIATE PRODUCT B INTERMEDIATE PRODUCT A product that requires further processing before it is salable to the public

  6. Joint-Cost Basics Raw milk Cream Liquid Skim

  7. Joint-Cost Basics Coal Gas Benzyl Tar

  8. Learning Objective 2 Distinguish joint products from byproducts.

  9. Joint Products and Byproducts Main Products Joint Products Byproducts High Low Sales Value

  10. Learning Objective 3 Explain why joint costs should be allocated to individual products.

  11. Why Allocate Joint Costs? Determining and Responding to Regulatory Rates Specifying and Resolving Contractual Interests and Obligations Organizations Allocate Joint Costs for Many Reasons Measuring Performance Estimating Casualty Losses Valuing Inventories for Financial and Tax Reporting Valuing Cost of Goods Sold for Financial and Tax Reporting

  12. Learning Objective 4 Allocate joint costs using four different methods.

  13. Approaches to AllocatingJoint Costs Two basic ways to allocate joint costs to products are: Approach 1: Market based Approach 2: Physical measure

  14. Approach 1: Market-based Data Sales value at splitoff method Estimated net realizable value (NRV) method Constant gross-margin percentage NRV method

  15. Allocating Joint Costs Example 10,000 units of A at a selling price of $10 = $100,000 Joint processing cost is $200,000 10,500 units of B at a selling price of $30 = $315,000 11,500 units of C at a selling price of $20 = $230,00 Splitoff point

  16. Sales Value at SplitoffMethod Example A B C Total Sales Value $100,000 $315,000 $230,000 $645,000 Allocation of Joint Cost 100 ÷ 645 31,008 315 ÷ 645 97,674 230 ÷ 645 71,318 200,000 Gross margin $ 68,992 $217,326 $158,682 $445,000

  17. Sales Value at SplitoffMethod Example Assume all of the units produced of B and C were sold. 2,500 units of A (25%) remain in inventory. What is the gross margin percentage of each product?

  18. Sales Value at SplitoffMethod Example Product A Revenues: 7,500 units × $10.00 $75,000 Cost of goods sold: Joint product costs $31,008 Less ending inventory $31,008 × 25% 7,752 23,256 Gross margin $51,744

  19. Sales Value at SplitoffMethod Example 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%

  20. Estimated Net Realizable Value(NRV) Method Example Assume that Oklahoma Company can process products 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

  21. Estimated Net Realizable Value(NRV) Method Example Additional processing (separable) costs are as follows: B1: $46,500 C1: $51,500 A1: $35,000 What is the estimated net realizable value of each product at the splitoff point?

  22. Estimated Net Realizable Value(NRV) Method Example Product A1: $120,000 – $35,000 = $85,000 Product B1: $346,500 – $46,500 = $300,000 Product C1: $241,500 – $51,500 = $190,000 How much of the joint cost is allocated to each product?

  23. Estimated Net Realizable Value(NRV) Method Example To A1: 85 ÷ 575 × $200,000 = $29,565 To B1: 300 ÷ 575 × $200,000 = $104,348 To C1: 190 ÷ 575 × $200,000 = $66,087

  24. Estimated Net Realizable Value(NRV) Method Example Allocated Separable Inventory joint costscostscosts A1 $ 29,565 $ 35,000 $ 64,565 B1 104,348 46,500 150,848 C1 66,087 51,500 117,587 Total $200,000 $133,000 $333,000

  25. 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 percentage and deduct the gross margin from the final sales values to obtain the total costs that each product should bear.

  26. Constant Gross-MarginPercentage NRV Method Step 3: Deduct the expected separable costs from the total costs to obtain the joint-cost allocation.

  27. Constant Gross-MarginPercentage NRV Method What is the expected final sales value of total production during the accounting period? Product A1: $120,000 Product B1: 346,500 Product C1: 241,500 Total $708,000

  28. Constant Gross-MarginPercentage NRV Method Step 1: Compute the overall gross-margin percentage. Expected final sales value $708,000 Deduct joint and separable costs 333,000 Gross margin $375,000 Gross margin percentage: $375,000 ÷ $708,000 = 52.966%

  29. Constant Gross-MarginPercentage NRV Method Step 2: Deduct the gross margin. Sales Gross Cost of ValueMarginGoods sold Product A1: $120,000 $ 63,559 $ 56,441 Product B1: 346,500 183,527 162,973 Product C1: 241,500 127,913 113,587 Total $708,000 $375,000 $333,000 ($1 rounding)

  30. Constant Gross-MarginPercentage NRV Method Step 3: Deduct separable costs. Cost of Separable Joint costs goods soldcostsallocated Product A1: $ 56,441 $ 35,000 $ 21,441 Product B1: 162,973 46,500 116,473 Product C1: 113,587 51,500 62,087 Total $333,000 $133,000 $200,000

  31. Approach 2: PhysicalMeasure Method Example $200,000 joint cost 20,000 pounds A 48,000 pounds B 12,000 pounds C Product A $50,000 Product B $120,000 Product C $30,000

  32. Learning Objective 5 Explain why the sales value at splitoff method is preferred when allocating joint costs.

  33. Choosing a Method Why is the sales value at splitoff method widely used? It measures the value of the joint product immediately. It does not anticipate subsequent management decisions. It uses a meaningful basis. It is simple.

  34. Choosing a Method The purpose of the joint-cost allocation is important in choosing the allocation method. The physical-measure method is a more appropriate method to use in rate regulation.

  35. Avoiding Joint Cost Allocation Some companies refrain from allocating joint costs and instead carry their inventories at estimated net realizable value.

  36. Learning Objective 6 Explain why joint costs are irrelevant in a sell-or-process-further decision.

  37. Split-off point Joint products $$$$ Raw materials Joint costs of processing to split-off point Sell or Process Further

  38. Irrelevance of Joint Costsfor Decision Making Assume that products A, B, and C can be sold at the splitoff point or processed further into A1, B1, and C1. Selling Selling Additional Unitspricepricecosts 10,000 A: $10 A1: $12 $35,000 10,500 B: $30 B1: $33 $46,500 11,500 C: $20 C1: $21 $51,500

  39. Irrelevance of Joint Costsfor Decision Making Should A, B, or C be sold at the splitoff point 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)

  40. Sell or Process Further Example

  41. Learning Objective 7 Account for byproducts using two different methods.

  42. By-Product Accounting: the Basics By-products are minor products and alternative methods are not likely to have a material effect on the financial statements for internal or external reporting. Whether to sell the by-product at split-off or process it further usually depends on the highest NPR obtainable, just as for a main product. Two standard methods B: Consider by-product NRV as other revenue A: Deduct by-product NRV from costs of main products

  43. Accounting for Byproducts Method A: The production method recognizes byproducts at the time their production is completed. Method B: The sale method delays recognition of byproducts until the time of their sale.

  44. Accounting for ByproductsExample Main Products Byproducts (Yards) (Yards) Production 1,000 400 Sales 800300 Ending inventory 200 100 Sales price $13/yard $1.00/yard No beginning finished goods inventory

  45. Accounting for ByproductsExample Joint production costs for joint (main) products and byproducts: Material $2,000 Manufacturing labor 3,000 Manufacturing overhead 4,000 Total production cost $9,000

  46. Accounting for ByproductsMethod A Method A: The production method What 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

  47. Accounting for ByproductsMethod A 200 ÷ 1,000 × $8,600 = $1,720 is the value assigned to the 200 yards in ending inventory. What is the cost of goods sold? Joint production costs $9,000 Less byproduct revenue 400 Less main product inventory 1,720 Cost of goods sold $6,880

  48. Accounting for ByproductsMethod A Income Statement (Method A) Revenues: (800 yards × $13) $10,400 Cost of goods sold 6,880 Gross margin $ 3,520 What is the gross margin percentage? $3,520 ÷ $10,400 = 33.85%

  49. Accounting for ByproductsMethod A What are the inventoriable costs? Main product: 200 ÷ 1,000 × $8,600 = $1,720 Byproduct: 100 × $1.00 = $100

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