CHAPTER 16

1. CHAPTER 16 Cost Allocation: Joint Products and Byproducts

2. 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

3. 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

4. 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

5. Joint Cost Terminology • Byproducts • outputs of a joint production process that have low sales values compare to the sales values of the other outputs

6. Joint Process Flowchart

7. 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

8. Joint Cost Allocation Methods • Physical Measures • allocate using tangible attributes of the products, such as pounds, gallons, barrels, etc. • Market-Based Measures – allocate using market-derived data (dollars): • Sales value at splitoff • Net Realizable Value (NRV) • Constant Gross-Margin percentage NRV

9. 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

10. 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

11. Sales Value at Splitoff Method • Uses the sales value of the entire production of the accounting period to calculate allocation percentage • Ignores inventories

12. Sales Value at Splitoff Example

13. 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

14. NRV Example

15. 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

16. Constant Gross Margin NRV Method Example

17. 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

18. 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

19. Sell-or-Process Further Flowchart

20. 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