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PSBA-MANILA

ACCOUNTING 10

Prof. C. Gonzaga

COST ALLOCATION FOR JOINT PRODUCTS AND BY-PRODUCTS

A. Outputs of a Joint Process

1. A joint process is a manufacturing process that simultaneously produces more than one product line. The product lines resulting from a joint process and having a sales value are referred to as (1) joint products, (2) by-products, and (3) scrap.

2. A joint cost is the total of all costs (direct material, direct labor, and overhead) incurred in a joint process up to the split-off point. These costs are recorded by the following journal entry:

Work-in-process-Department 1 xxx Materials Inventory xxx Payroll (Direct Labor) xxx Factory Overhead xxx

3. Joint products are the primary outputs of a joint process, each of which has substantial revenue-generating ability.

4. By-products are incidental outputs of a joint process; they are salable, but the sales value of by-products is not substantial enough for management to justify undertaking the joint process; they are viewed as having a higher sales value than scrap. Example, rice husk in rice-milling, sawdust in lumber production, kerosene in oil refinery, etc.

5. Scrap is an incidental output of a joint process; it is salable, but the sales value from scrap is not enough for management to justify undertaking the joint process; it is viewed as having a lower sales value than a by-product; leftover material that has a minimal but distinguishable disposal value.

6. Waste is a residual output of a production process that must be disposed of because it has no sales value.

B. The Joint Process

1. The split-off point is the point at which the outputs of a joint process are first identifiable or can be separated as individual products.

2. A joint cost includes the costs incurred, up to the split-off point, for material, labor, and overhead during a joint process.

a. Costs incurred after split-off are assigned to the separate products for which those costs are incurred.

b. The joint cost is allocated, at the split-off point, to the primary output of the production process.

3. A sunk cost is a cost incurred in the past and not relevant to any future courses of action.

C. Management Decisions Regarding Joint Processes

1. Managers need to make certain decisions before the company commits resources to a joint production process.

a. Total expected revenues from the sale of the joint process output must be estimated and compared to total expected processing costs of the output. Other potential costs must be considered in determining if the revenues are expected to exceed the costs.

b. Managers must compare the net income from this use of resources to the net income that would be provided by all other alternative uses of company resources if total anticipated revenues from the “basket” of products exceed the anticipated joint and separate costs. Management would then

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decide that this joint production process is the best use of capacity and would begin production if joint process net income is greater than the net income that would be provided by other uses.

c. Joint process output must be classified as primary, by-product, scrap, or waste.

d. Management must then decide whether any (or all) of the joint process output will be sold (if marketable) at split-off or whether it will be processed further.

2. Managers must have a sound estimate of the selling price for each type of joint process output in order to make decisions at any potential point of sale. Expected selling prices should be based on both cost and market factors.

D. Allocation of Joint Cost

1. Physical measurement allocation is a method of allocating a common cost to products that uses a common physical characteristic as the proration base.

a. The physical measurement allocation method treats each unit of measure as equally desirable and assigns the same per unit cost to each.

b. Physical measurement allocation, unlike monetary measure allocation, provides an unchanging yardstick of output.

c. A primary disadvantage of the method is that it ignores the revenue-generating ability of individual joint products.

2. Monetary measure allocation uses the following steps to prorate joint costs to joint products:

a. choose a monetary allocation base;

b. list the values that comprise the base for each joint product;

c. sum the values in step b to obtain a total value for the list;

d. divide each individual value in step b by the total in step c to obtain a numerical proportion for each value. The sum of these proportions should total 100 percent;

e. multiply the joint cost by each proportion to obtain the amount to be allocated to each product; and

f. divide the prorated joint cost for each product by the number of equivalent units of production for each product to obtain a cost per EUP for valuation purposes.

METHODS OF ACCOUNTING FOR JOINT PRODUCTS

1. Market value or Relative Sales Value Method- This method of joint cost allocation uses the weighted selling price of the product at split-off point.

The relative sales value at split-off allocation is a method of assigning joint cost to joint products that uses the relative sales values of the products at the split-off point as the proration base; use of this method requires that all joint products are marketable at split-off.

Example:

Products Units Produced Selling Price Ratio/ Fraction Allocated Joint Costs

Per Unit TotalA-wan 100 P120 P12,000 12/16 P15,000Atu 50 80 4,000 4/16 5,000

P16,000 P20,000

An alternative method of joint cost allocation based on relative sales where products are not in salable condition at the point of split-off, therefore, would require subsequent costs, is the use of the “hypothetical market value” in place of market or sales value at split-off-point, computed as follows:

Units produced xxxX Final sales price per unit PxxTotal final sales value PxxxLess: Subsequent costs XxxHypothetical market value per product Pxxx

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The hypothetical market value is the assumed market value at point of split-off.

Percentage to allocate joint production costs:

Total joint production cost/ Total hypothetical market value = xx%

Allocated joint cost to a specific product: Hypothetical MV multiplied by xx%

2. Average Unit Cost Method (or the Physical Measure Method) –This a method of joint cost allocation to various main products on the basis of an average unit cost computed as follows:

Total joint costs / Total number of units produced = Average Unit CostProducts Units Produced Average unit

cost (P20,000/ 150 units= P133.33)

Allocated Joint Costs

A-wan 100 @133.33 P13,333Atu 50 @133.33 6,664

P20,000

3. Weighted Average Method- This method allocates joint cost to the different main products on the basis of the quantity produced weighted by factors or points assigned to individual products. Finished production of every kind is multiplied by weight factors assigned to the main products.

Cost per unit = Total joint production costs/ Total number of weighted units = Px/ unit

Example:

Products Units ProducedAssigned

Points per unit

Weighted units Cost per unit(P20,000/1,000

points)

Allocated joint cost

A-wan 100 6 600 @P20 P12,000Atu 50 8 400 @P20 8,000

1,000 P20,000

4. Quantitative Unit Method- This method allocates joint cost on the basis of some common unit of measurement, such as pound, gallons, tons, or board feet. If the joint products are not normally measured in the same measurement unit, then their measures are converted to a common unit.

5. Reversal Sales Method- This method allocates the joint cost by considering Sales as the sum total of all costs, expenses and net profit, such that, if the sum of subsequent cost, operating expenses, and the estimated net profit is deducted from Sales, the difference is considered as the estimated joint cost per product which will serve as the basis to allocate the actual joint costs. (NOTE: This method may also be used in accounting for by-products.)

Example:

Product A-wan Product A-tuSales P12,000 P4,000Less: Estimated Net Profit (assuming 10% of Sales) 1,200 400 Selling & Administrative Expenses 1,800 600 Subsequent cost 3,000 1,000 Total 6,000 2,000Estimated Joint Product Costs (basis of allocation) P6,000 P2,000

Allocated actual joint cost: P20,000 x 6/8 15,000 P20,000 x 2/8 5,000

E. Accounting for By-Products and Scrap

METHODS OF ACCOUNTING FOR BY-PRODUCTS

(1) The By-Products are not entitled to share in the joint production cost:

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GENERAL RULE: Using the NET REALIZABLE VALUE METHOD, the Net Realizable Value of the By-Product is Is treated as a deduction from the Cost of the Joint Products.

The net realizable value (or offset) approach is a method of accounting for by-products or scrap that requires the net realizable value of such products to be treated as a reduction in the cost of the joint products; joint product cost may be reduced by decreasing either

(1) cost of goods sold when the joint products are sold or

(2) the joint process cost allocated to the joint products, to wit:

Total joint production cost Pxxx Less: Net realizable value of the By-Product

By-product Sales Value Pxxx Less: Cost of disposal (selling expense) xxx xxx

Net joint production cost to be allocated to the joint products Pxxx

a. Cost of Goods Sold for the joint products is reduced when the joint products are sold under the indirect method.

b. The joint cost of the primary products is reduced by the net realizable value of the by-product/scrap produced under the direct method.

OTHER METHODS

2. The realized value (or other income) approach is a method of accounting for by-products or scrap that does not recognize any value for these products until they are sold; the value recognized at the time of sale can be treated as other revenue or as other income.

a. The total sales price of the by-product/scrap is shown on the income statement as “other revenue” under the “other revenue” method. Additional processing or disposal costs of the by-product/scrap are included with the cost of producing the primary products, so little useful information is provided to management since the cost of producing the by-product/scrap is not matched with the revenues generated by those items.

Entry: Cash/Accounts Receivable xxx By-Product Sales xxx

b. The net by-product revenue is presented as an enhancement of net income in the period of sale as “other income” under the “other income” method. By-product/scrap revenue is matched with related storage, further processing, transportation, and disposal costs. Detailed information on financial responsibility and accountability is provided, and control and performance may be improved.

3. Alternative presentations include depicting the realized value from the sale of the by-product or scrap as:

a. an addition to gross margin;

b. a reduction of the cost of goods manufactured; or

Entry: By-product Inventory xxx Work-in-process inventory xxx To take up the sales value of the by-product at split-off point.

By-product inventory xxx Materials inventory xxx Payroll xxx Factory Overhead xxx To take up additional cost incurred in processing further the by-products.

Cash/ Accounts receivable xxx By-Product Inventory xxx Gain/Loss on Sale of By-Products xxx To take up the sale of by-products.

c. a reduction of the cost of goods sold.Entry: By-product Inventory xxx Cost of Goods Sold (of Joint Products) xxx

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To take up the realized value of the by-product

By-product inventory xxx Materials inventory xxx Payroll xxx Factory Overhead xxx To take up additional cost incurred in processing further the by-products.

Cash/ Accounts receivable xxx By-Product Inventory xxx Gain/Loss on Sale of By-Products xxx To take up the sale of by-products.

F. By-Products or Scrap in Job Order Costing

1. Job order costing systems can have by-products or scrap even though joint products are not normally associated with such systems.

2. The value of by-products/scrap in a job order costing system should be credited to manufacturing overhead if the by-products/scrap value is created by a significant proportion of all jobs undertaken.

3. The by-products/scrap value, in contrast, can be credited to the specific jobs in process if only a few specific jobs generate a disproportionate share of by-products/scrap.

CLASS PROBLEMS

Problem 1The Unique Products Corporation produces (3) main products from a single manufacturing process, namely: A-Wan, A-tu;

and A-tri. For the month of February, the records show the following production data:

A-Wan A-tu A-triCost before split-off, P240,000Subsequent costs P60,000 P40,000 P20,000Units produced 8,000 12,000 6,000

Assume that the sales value for each of the products are (in total), P200,000; P240,000, and P160,000, respectively. Assume further that the following point equivalence were assigned to each product: A-wan, 1.50; A-tu, 1; and A-tri, 2.0.

REQUIRED: Apportion the total joint production cost using:1) Market value method2) Average Cost method3) Weighted average method

Problem 2The following data were furnished by the Trans-Asia, Inc. relating to its multiple products:

Elite De-Luxe ClassicUnits produced and sold 60,000 50,000 40,000Unit selling price P250 P300 P250Joint production costs: P600,000Costs after separation P300,000 P200,000 P400,000Selling & administrative expenses 500,000 150,000 100,000Estimated net profit percentage 20% 30% 40%Estimated point equivalence per unit 1.5 2.6 4.5

REQUIRED: Prepare schedules showing the joint costs apportionment under each of the following methods:a) Market valueb) Average unit costc) Weighted average methodd) Reversal sales method

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Problem 3GAB Company produces three products from the same process and incurs joint processing costs of P3,000.

Disposal Sales price cost per Further Final sales

per gallon gallon at processing price per Gallons at split-off split-off costs gallon Mat 2,300 P 4.50 P1.25 P1.00 P 7.00Nat 1,100 6.00 3.00 2.00 10.00Qat 500 10.00 8.00 2.00 15.00

Disposal costs for the products if they are processed further are: Mat, P3.00; Nat, P5.50; Qat, P1.00.

(1) What amount of joint processing cost is allocated to the three products using sales value at split-off?

PROBLEM 4

A Manufacturing Company makes three products: A and B are considered main products and C a by-product.

Production and sales for the year were:

220,000 lbs. of Product A, salable at P6.00180,000 lbs. of Product B, salable at P3.00

50,000 lbs. of Product C, salable at P0.90

Production costs for the year:

Joint costs P276,600Costs after separation:

Product A 320,000Product B 190,000Product C 6,900

Required: Using the by-product revenue as a cost reduction and net realizable value method of assigning joint costs, compute unit costs (a) if C is a by-product of the process and (b) if C is a by-product of B.

MULTIPLE CHOICE PROBLEMS

Use the following information for questions 1–4.

Sun Co. produces three products from the same process that has joint processing costs of P4,100. Products RR, SS, and TT are produced in the following gallons per month, respectively: 250, 400, and 750. Sun also incurred advertising costs of P60,000; the ad was used to run sales for all three products. They occupy floor space in the following ratio: 5:4:9. (Round all answers to the nearest peso.)

1. Using gallons as the physical measurement, what amount of joint processing cost is allocated to SS?a. P2,196b. P1,171c. P1,367d. P732

2. Using gallons as the physical measurement, what amount of joint processing cost is allocated to TT?a. P2,196b. P732c. P1,367d. P1,171

3. Assume that Sun chooses to allocate its advertising cost among the three products. What amount of advertising cost is allocated to RR using the floor space ratio?a. P20,000b. P17,806c. P1,139d. P16,667

4. Love Co. manufactures products A and B from a joint process. Sales value at split-off was P700,000 for 10,000 units of A, and P300,000 for 15,000 units of B. Using the sales value at split-off approach, joint costs properly allocated to A were P140,000. Total joint costs werea. P98,000.b. P200,000.c. P233,333.d. P350,000.

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5. Lite Co. manufactures products X and Y from a joint process that also yields a by-product, Z. Revenue from sales of Z is treated as a reduction of joint costs. Additional information is as follows:

Products X Y Z Total

Units produced 20,000 20,000 10,000 50,000 Joint costs ? ? ? P262,000 Sales value at

split-off P300,000 P150,000 P10,000 P460,000

Joint costs were allocated using the sales value at split-off approach. The joint costs allocated to product X werea. P75,000.b. P100,800.c. P150,000.d. P168,000.

Use the following information for questions 6–11.Rax produces four products from the same process: Cep, Dap, Eek, and Gok. Joint product costs are P9,000. (Round all answers to the nearest peso.)

Disposal Final Sales price cost Further sales per barrel per barrel processing price

Barrels at split-off at split-off costs per barrel Cep 750 P10.00 P6.50 P2.00 P13.50Dap 1,000 8.00 4.00 2.50 10.00Eek 1,400 11.00 7.00 4.00 15.50Gok 2,000 15.00 9.50 4.50 19.50

If Rax sells the products after further processing, the following disposal costs will be incurred: Cep, P2.50; Dap, P1.00; Eek, P3.50; Gok, P6.00.

6. Using a physical measurement method, what amount of joint processing cost is allocated to Dap?a. P1,748b. P2,447c. P1,311d. P3,495

7. Using a physical measurement method, what amount of joint processing cost is allocated to Eek?a. P3,495b. P2,447c. P1,748d. P1,311

8. Using sales value at split-off, what amount of joint processing cost is allocated to Dap?a. P4,433b. P2,276c. P1,108d. P1,182

9. Using sales value at split-off, what amount of joint processing cost is allocated to Gok?a. P4,433b. P1,182c. P1,108d. P2,276

10. Using net realizable value at split-off, what amount of joint processing cost is allocated to Cep?a. P1,550b. P1,017c. P4,263d. P2,170

11. Using net realizable value at split-off, what amount of joint processing cost is allocated to Eek?a. P1,017b. P1,550c. P2,170d. P4,263