Acct 361

Cost Allocation:
Joint Products
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
What is a Joint Product?

 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
• But are not separately identifiable as individual
products until after the split-off point
Joint-Cost Example

Raw milk

Cream Liquid Skim

Industries Incurring Joint Costs
Reasons for Allocating Joint Costs

 Required for GAAP and taxation purposes

 Computation of inventoriable costs and cost of
goods sold for financial accounting and tax reporting
 Internal analysis of divisional profitability
 Cost-based contracting
 Insurance settlements
 Required for rate and price regulations
 Litigation
Joint Cost Allocation Methods
 Market-Based – allocate using market-
derived data (dollars):
1. Sales value at splitoff
2. Net Realizable Value (NRV)
3. Constant Gross-Margin percentage NRV
• Physical Measures – allocate using
tangible attributes of the products, such
as pounds, gallons, barrels, etc.
Joint Cost — Illustration
Overview
Joint Cost — Illustration Data
blank Joint Costs blank
Joint costs (costs of 4,400 hL
of raw milk and processing to
splitoff point) $ 345,000 blank
blank Cream Liquid Skim
Beginning inventory (hectolitres) 0 0
Production (hL) 1,000 3,000
Sales (hL) 800 900
Ending inventory (hL) 200 2,100
Selling price per hL $155.00 $75.00
Physical Measure Method

 Allocates joint costs on the basis of their relative

proportions at the splitoff point
• Using a common physical measure such as
weight or volume
 Less desirable as physical allocation measure has
no relationship to revenue-producing power of the
individual products
 Can be problematic if no common physical measure
is available
Physical Measure — Example
blank Cream Skim Total
Physical Measure of Production 1,000 3,000 4,000
Weighting 0.25 0.75 blank
Joint Costs Allocated: blank blank blank
Joint Cost X Weighting $ 86,250 $ 258,750 $ 345,000
Joint production cost per hL $ 86.25 $ 86.25 blank
Sales Value at Splitoff Method
 Uses the sales value of the entire
production in the accounting period to
calculate allocation percentage
• Costs are allocated to products in proportion
to their revenue-generating power
• Consistent with the benefits-received criterion
of cost allocation
 Ignores inventories
 Sales Value at Splitoff —
Example
blank Cream Skim Total
Sales Value of Production blank blank blank
Cream: 1,000 hL@ $155/hL $ 155,000 blank blank
Skim: 3,000 hL@ $75/hL blank $ 225,000 blank
Total blank blank $ 380,000
Allocation Based on % of Total Sales (rounded) 40.79% 59.21% blank
Joint Costs Allocated: blank blank blank
Joint Cost X Allocation % $ 140,724 $ 204,276 $ 345,000
Joint production cost per hL $ 140.72 $ 68.09 blank
Net Realizable Value Method
 Allocates joint costs on the basis of relative
estimated net realizable value (NRV) of total
production of the joint products
• Expected sales value less expected
separable costs of production and
marketing of total production
NRV = Final Sales Value – Separable Costs
 An alternative when selling prices of one or
more products at splitoff do not exist
Exhibit 16-6
 NRV — Example
blank Condensed
Buttercream Milk Total
Final Sales Value of Production blank blank blank
Buttercream: 800 hL@ $420/hL $ 336,000 blank blank
Condensed milk: 2,000 hL@ $305/hL blank $ 610,000 blank
Total blank blank $ 946,000
Less: Separable Costs 135,000 270,000 405,000
NRV 201,000 340,000 541,000
NRV Weighting: blank blank blank
Product NRV ÷ Total NRV 37.15% 62.85% blank
Joint Costs Allocated $ 128,179 $ 216,821 $ 345,000
Production Cost per hL $ 328.97 $ 243.41 blank
Constant Gross Margin
Percentage of 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 % of NRV
Method — Example
Final Sales Value of Production blank blank blank
Buttercream: 800 hL @ $420/hL blank blank $ 336,000
Condensed milk: 2,000 hL @ $305/hL blank blank $ 610,000
Total blank blank $ 946,000
Less: Joint and separable costs blank blank
($345,000+$135,000+$270,000) 750,000
Gross margin blank blank $ 196,000
Gross margin percentage blank blank 20.719%
Blank Buttercream Condensed milk Total
Sales values $ 336,000 $ 610,000 $ 946,000
Less gross margin @ 20.719% 69,615 126,385 196,000
Total Product Costs $ 266,385 $ 483,615 $ 750,000
Less Separable Costs 135,00
0 270,000 405,000
Joint Costs Allocated $ 131,385 $ 213,615 $ 345,000
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.
16-33 page 667
 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 costs.
 Don’t assume all separable costs in joint-cost
allocations are always incremental costs.
 Some separable costs may be fixed costs.
 Separable costs need to be evaluated for relevance
individually.
Irrelevance of Joint Costs
for 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
Units price price costs
10,000 A: $10 A1: $12 $35,000
10,500 B: $30 B1: $33 $46,500
11,500 C: $20 C1: $21 $51,500
 Irrelevance of Joint Costs
for 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)
16-18 page 659