costacctg13_sm_ch16

costacctg13_sm_ch16 - CHAPTER 16 COST ALLOCATION: JOINT...

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Unformatted text preview: CHAPTER 16 COST ALLOCATION: JOINT PRODUCTS AND BYPRODUCTS 16­1 Exhibit 16­1 presents many examples of jo int products from four different general industries. These include: Industry Separable Products at the Splitoff Point Food Processing: • Lamb • Lamb cuts, tripe, hides, bones, fat • Turkey • Breasts, wings, thighs, poultry meal Extractive: • Petroleum • Crude oil, natural gas 16­2 A joint cost is a cost of a production process that yields mult iple products simultaneously. A separable cost is a cost incurred beyo nd the splitoff po int that is assignable to each of the specific products ident ified at the splito ff po int. 16­3 The dist inct ion between a jo int product and a byproduct is based on relat ive sales value. A joint product is a product from a jo int production process (a process that yields two or more products) that has a relatively high total sales value. A byproduct is a product that has a relat ively low total sales value compared to the total sales value of the jo int (or main) products. 16­4 A product is any output that has a posit ive sales value (or an output that enables a company to avoid incurr ing costs). In some jo int­cost settings, outputs can occur that do not have a posit ive sales value. The offshore processing o f hydrocarbons yields water that is recycled back into the ocean as well as yielding oil and gas. The processing of mineral ore to yield gold and silver also yields dirt as an output, which is recycled back into the ground. 16­5 The chapter lists the fo llowing six reasons for allocating jo int costs: 1. Computation o f inventoriable costs and cost of goods sold for financial account ing purposes and reports for inco me tax authorit ies. 2. Computation of inventoriable costs and cost of goods sold for internal reporting purposes. 3. Cost reimbursement under contracts when only a portion of a business's products or services is so ld or delivered under cost­plus contracts. 4. Insurance settlement computations for damage claims made on the basis o f cost informat ion of jo int products or byproducts. 5. Rate regulat ion when one or more of the jo int ly­produced products or services are subject to price regulat ion. 6. Lit igat ion in which costs of jo int products are key inputs. 16­6 The jo int production process yields individual products that are either so ld this period or held as inventory to be sold in subsequent periods. Hence, the jo int costs need to be allocated between total production rather than just those sold this period. 16­7 This situat ion can occur when a production process yields separable outputs at the splito ff point that do not have selling prices available until further processing. The result is that selling prices are not available at the splitoff po int to use the sales value at splitoff method. Examples include processing in integrated pulp and paper companies and in petro­chemical operations. 16­1 16­8 Both methods use market selling­price data in allocat ing jo int costs, but they differ in which sales­price data they use. The sales value at splitoff method allocates jo int costs to jo int products on the basis o f the relat ive total sales value at the splito ff po int of the total production of these products during the account ing period. The net realizable value method allocates jo int costs to jo int products on the basis o f the relat ive net realizable value (the final sales value minus the separable costs of production and marketing) of the total production of the jo int products during the accounting period. 16­9 Limitat ions of the physical measure method of jo int­cost allocat ion include: a. The physical weights used for allocating jo int costs may have no relat ionship to the revenue­producing power of the individual products. b. The jo int products may not have a commo n phys ical deno minator––for example, one may be a liquid while another a solid with no readily available conversio n factor. 16­10 The NRV method can be simplified by assuming (a) a standard set of post­splitoff point processing steps, and (b) a standard set of selling prices. The use of (a) and (b) achieves the same benefits that the use of standard costs does in costing systems. 16­11 The constant gross­margin percentage NRV method takes account of the post­splito ff point “profit” contribution earned on individual products, as well as jo int costs, when making cost assignments to joint products. In contrast, the sales value at splito ff po int and the NRV methods allocate only the jo int costs to the individual products. 16­12 No. Any method used to allocate jo int costs to individual products that is applicable to the problem of jo int product­cost allo cat ion should not be used for management decisio ns regarding whether a product should be so ld or processed further. When a product is an inherent result of a jo int process, the decisio n to process further should not be influenced by either the size of the total jo int costs or by the portion of the jo int costs assigned to particular products. Joint costs are irrelevant for these decis io ns. The only relevant items for these decisio ns are the incremental revenue and the incremental costs beyond the splito ff po int. 16­13 No. The only relevant items are incremental revenues and incremental costs when making decisio ns about selling products at the splitoff po int or processing them further. Separable costs are not always identical to incremental costs. Separable costs are costs incurred beyo nd the splitoff po int that are assignable to individual products. Some separable costs ma y not be incremental costs in a specific setting (e.g., allocated manufacturing overhead for post­ splito ff processing that includes depreciat ion). 16­14 Two methods to account for byproducts are: a. Production method—recognizes byproducts in the financial statements at the time production is co mpleted. b. Sales method—delays recognit io n of byproducts unt il the t ime of sale. 16­15 The sales byproduct method enables a manager to time the sale of byproducts to affect reported operating inco me. A manager who was below the targeted operating inco me could adopt a “fire­sale” approach to selling byproducts so that the reported operating inco me exceeds the target. This illustrates one dysfunctional aspect of the sales method for byproducts. 16­2 16­16 (20­30 min.) Joint­cost allocation, insurance settlement. 1. (a) Sales value at splitoff method: Pounds of Product 100 20 40 80 10 250 Wholesale Sales Weighting: Joint Selling Price Value Sales Value Costs per Pound at Splitoff at Splitoff Allocated $0.55 $55.00 0.675 $33.75 0.20 4.00 0.049 2.45 0.35 14.00 0.172 8.60 0.10 8.00 0.098 4.90 0.05 0.50 0.006 0.30 $81.50 1.000 $50.00 Allocated Costs per Pound 0.3375 0.1225 0.2150 0.0613 0.0300 Breasts Wings Thighs Bones Feathers Costs of Destroyed Product Breasts: $0.3375 per pound ´ 40 pounds = $13.50 Wings: $0.1225 per pound ´ 15 pounds = 1.84 $15.34 b. Physical measure method: Pounds of Product 100 20 40 80 10 250 Weighting: Physical Measures 0.400 0.080 0.160 0.320 0.040 1.000 Joint Costs Allocated $20.00 4.00 8.00 16.00 2.00 $50.00 Allocated Costs per Pound $0.200 0.200 0.200 0.200 0.200 Breasts Wings Thighs Bones Feathers Costs of Destroyed Product Breast: $0.20 per pound ´ 40 pounds Wings: $0.20 per pound ´ 15 pounds = = $ 8 3 $11 Note: Alt hough not required, it is useful to highlight the individual product profitabilit y figures: Sales Value at Splitoff Method Joint Costs Gross Allocated Income $33.75 $21.25 2.45 1.55 8.60 5.40 4.90 3.10 0.30 0.20 Physical Measures Method Joint Costs Gross Allocated Income $20.00 $35.00 4.00 0.00 8.00 6.00 16.00 (8.00) 2.00 (1.50) Product Breasts Wings Thighs Bones Feathers Sales Value $55.00 4.00 14.00 8.00 0.50 16­3 2. The sales­value at splitoff method captures the benefits­received criterion of cost allocat ion and is the preferred method. The costs of processing a chicken are allocated to products in proportion to the abilit y to contribute revenue. Qualit y Chicken’s decisio n to process chicken is heavily influenced by the revenues fro m breasts and thighs. The bones provide relat ively few benefits to Qualit y Chicken despite their high physical vo lume. The physical measures method shows profits on breasts and thighs and losses on bones and feathers. Given that Qualit y Chicken has to joint ly process all the chicken products, it is non­ intuit ive to single out individual products that are being processed simultaneously as making losses while the overall operations make a profit. Qualit y Chicken is processing chicken mainly for breasts and thighs and not for wings, bones, and feathers, while the phys ical measure method allocates a disproportionate amount of costs to wings, bones and feathers. 16­17 (10 min.) Joint products and byproducts (continuation of 16­16). 1. Ending inventory: Breasts 15 Wings 4 Thighs 6 Bones 5 Feathers 2 ´ $0.3375 = $5.0625 ´ 0.1225 = 0.4900 ´ 0.2150 = 1.2900 ´ 0.0613 = 0.3065 ´ 0.0300 = 0.0600 $7.2090 Net Realizable Values of byproducts: Wings $ 4.00 Bones 8.00 Feathers 0.50 $12.50 2. Joint products Breasts Thighs Byproducts Wings Bones Feathers Joint costs to be allocated: Joint costs – Net Realizable Values of byproducts = $50 – $12.50 = $37.50 Pounds of Product Wholesale Selling Price per Pound Sales Value at Splitoff Weighting: Sales Value at Splitoff Joint Costs Allocated Allocated Costs Per Pound Breast Thighs 100 40 $0.55 0.35 $55 14 $69 55 ÷ 69 14 ÷ 69 $29.89 7.61 $37.50 $0.2989 0.1903 Ending inventory: Breasts 15 ´ $0.2989 Thighs 6 ´ 0.1903 $4.4835 1.1418 $5.6253 3. Treating all products as jo int products does not require judgments as to whether a product is a jo int product or a byproduct. Joint costs are allocated in a consistent manner to all products for the purpose of costing and inventory valuat ion. In contrast, the approach in requirement 2 lowers the jo int cost by the amount of byproduct net realizable values and results in inventory values being shown for only two of the five products, the ones (perhaps arbitrarily) designated as being jo int products. 16­4 16­18 (10 min.) Net realizable value method. A diagram o f the situation is in Solut ion Exhibit 16­18. Corn Syrup Final sales value of total production, 12,500 ´ $50; 6,250 ´ $25 Deduct separable costs Net realizable value at splito ff po int Weight ing, $250,000; $62,500 ¸ $312,500 Joint costs allocated, 0.8; 0.2 ´ $325,000 $625,000 375,000 $250,000 0.8 $260,000 Corn Starch $156,250 93,750 $ 62,500 0.2 $ 65,000 Total $781,250 468,750 $312,500 $325,000 SOLUTION EXHIBIT 16­18 (all numbers are in thousands) Joint Costs Separable Costs Processing $375,000 Corn Syrup: 12,500 cases at $50 per case Processing $325, 000 Processing $93,750 Corn Starch: 6,250 cases at $25 per case Splitoff P o in t 16­5 16­19 (40 min.) Alternative joint­cost­allocation methods, further­process decision. A diagram o f the situation is in Solut ion Exhibit 16­19. 1. Physical measure of total production (gallo ns) Weight ing, 2,500; 7,500 ¸ 10,000 Joint costs allocated, 0.25; 0.75 ´ $120,000 2. Final sales value of total production, 2,500 ´ $21.00; 7,500 ´ $14.00 Deduct separable costs, 2,500 ´ $3.00; 7,500 ´ $2.00 Net realizable value at splito ff po int Weight ing, $45,000; $90,000 ¸ $135,000 Joint costs allocated, 1/3; 2/3 ´ $120,000 3. a. Physical­measure (gallo ns) method: Revenues Cost of goods sold: Joint costs Separable costs Total cost of goods sold Gross margin b. Estimated net realizable value method: Revenues Cost of goods sold: Joint costs Separable costs Total cost of goods sold Gross margin Methanol $52,500 40,000 7,500 47,500 $ 5,000 Turpentine $105,000 80,000 15,000 95,000 $ 10,000 Total $157,500 120,000 22,500 142,500 $ 15,000 Methanol $52,500 30,000 7,500 37,500 $15,000 Turpentine Total $105,000 $157,500 90,000 15,000 105,000 $ 0 120,000 22,500 142,500 $ 15,000 Methanol 2,500 0.25 $ 30,000 Methanol $ 52,500 7,500 $ 45,000 1/3 $ 40,000 Turpentine Total 7,500 10,000 0.75 $ 90,000 $120,000 Turpentine $105,000 15,000 $ 90,000 2/3 $ 80,000 Total $157,500 22,500 $135,000 $120,000 16­6 4. Alcohol Bev. Turpentine Final sales value of total production, 2,500 ´ $60.00; 7,500 ´ $14.00 Deduct separable costs, (2,500 ´ $12.00) + (0.20 ´ $150,000); 7,500 ´ $2.00 Net realizable value at splito ff po int Weight ing, $90,000; $90,000 ¸ $180,000 Joint costs allocated, 0.5; 0.5 ´ $120,000 $150,000 $105,000 Total $255,000 60,000 $ 90,000 0.50 $ 60,000 15,000 $ 90,000 0.50 $ 60,000 75,000 $180,000 $120,000 An incremental approach demonstrates that the company should use the new process: Incremental revenue, ($60.00 – $21.00) ´ 2,500 $ 97,500 Incremental costs: Added processing, $9.00 ´ 2,500 $22,500 Taxes, (0.20 ´ $60.00) ´ 2,500 30,000 (52,500) Incremental operating inco me from further processing $ 45,000 Proof: Total sales of both products Joint costs Separable costs Cost of goods sold New gross margin Old gross margin Difference in gross margin $255,000 120,000 75,000 195,000 60,000 15,000 $ 45,000 SOLUTION EXHIBIT 16­19 Joint C osts Separable Cos ts 2, 500 ga llons Pro ces sing $3 per gallon Meth anol: 2,50 0 gallons at $21 per gallon Processing $120, 0 00 for 10 ,00 0 gallons 7, 500 ga llons Processin g $2 per gallon Turpentin e: 7, 500 gallon s at $14 per gallon Splitoff P oint 16­7 16­20 (40 min.) Alternative methods of joint­cost allocation, ending inventories. Total production for the year was: Ending Inventories 180 60 25 Total Production 300 400 500 X Y Z 1. Sold 120 340 475 A diagram o f the situation is in Solut ion Exhibit 16­20. a. Net realizable value (NRV) method: X Final sales value of total production, 300 ´ $1,500; 400 ´ $1,000; 500 ´ $700 Deduct separable costs Net realizable value at splito ff po int Weight ing, $450; $400; $150 ¸ $1,000 Joint costs allocated, 0.45, 0.40, 0.15 ´ $400,000 Ending Inventory Percentages: Ending inventory Total production Ending inventory percentage Income Statement X Revenues, 120 ´ $1,500; 340 ´ $1,000; 475 ´ $700 Cost of goods sold: Joint costs allocated Separable costs Production costs Deduct ending inventory, 60%; 15%; 5% of production costs Cost of goods sold Gross margin Gross­margin percentage $180,000 180,000 –– 180,000 108,000 72,000 $108,000 60% Y $340,000 160,000 –– 160,000 24,000 136,000 $204,000 60% Z $332,500 60,000 200,000 260,000 13,000 247,000 $ 85,500 25.71% Total $852,500 400,000 200,000 600,000 145,000 455,000 $397,500 X 180 300 60% Y 60 400 15% Z 25 500 5% $450,000 –– $450,000 0.45 $180,000 Y $400,000 –– $400,000 0.40 $160,000 Z Total $350,000 $1,200,000 200,000 200,000 $150,000 $1,000,000 0.15 $ 60,000 $ 400,000 16­8 b. Constant gross­margin percentage NRV method: Step 1: Final sales value of prodn., (300 ´ $1,500) + (400 ´ $1,000) + (500 ´ $700) Deduct jo int and separable costs, $400,000 + $200,000 Gross margin Gross­margin percentage, $600,000 ÷ $1,200,000 Step 2: X Final sales value of total production, 300 ´ $1,500; 400 ´ $1,000; 500 ´ $700 Deduct gross margin, using overall gross­margin percentage of sales, 50% Total production costs Step 3: Deduct separable costs Joint costs allocated $450,000 225,000 225,000 — $225,000 Y $400,000 200,000 200,000 — $200,000 Z $1,200,000 600,000 $ 600,000 50% Total $350,000 $1,200,000 175,000 175,000 600,000 600,000 200,000 200,000 $(25,000) $ 400,000 The negative jo int­cost allo cat ion to Product Z illustrates one “unusual” feature of the constant gross­margin percentage NRV method: some products may receive negat ive cost allocat ions so that all individual products have the same gross­margin percentage. Income Statement X Revenues, 120 ´ $1,500; 340 ´ $1,000; 475 ´ $700 Cost of goods sold: Joint costs allocated Separable costs Production costs Deduct ending inventory, 60%; 15%; 5% of production costs Cost of goods sold Gross margin Gross­margin percentage $180,000 Y $340,000 Z Total $332,500 $852,500 225,000 ­ 225,000 135,000 90,000 $ 90,000 50% 200,000 ­ 200,000 30,000 170,000 $170,000 50% (25,000) 200,000 175,000 400,000 200,000 600,000 8,750 173,750 166,250 426,250 $166,250 $426,250 50% 50% 16­9 Summary X a. NRV method: Inventories on balance sheet Cost of goods sold on inco me statement $108,000 72,000 Y $ 24,000 136,000 Z Total $ 13,000 $145,000 247,000 455,000 $600,000 b. Constant gross­margin percentage NRV method $135,000 90,000 $ 30,000 170,000 $ 8,750 $173,750 166,250 426,250 $600,000 Inventories on balance sheet Cost of goods sold on inco me statement 2. Gross­margin percentages: X 60% 50% Y 60% 50% Z 25.71% 50.00% NRV method Constant gross­margin percentage NRV SOLUTION EXHIBIT 16­20 Joint Costs Separable Costs Product X: 300 tons at $1,500 per ton J o in t Processing Costs $400, 000 Product Y: 400 tons at $1,000 per ton Processing $200, 000 Splitoff P o in t Product Z: 500 tons at $700 per ton 16­10 16­21 (30 min.) Joint­cost allocation, process further. ICR8 (Non­Saleable) Processing $175 Crude Oil 150 bbls × $18 / bbl = $2,700 Joint Costs = $1, 800 ING4 (Non­Saleable) Processing $105 NGL 50 bbls × $15 / bbl = $750 XGE 3 (Non­Saleable) Splitoff P o in t Processing $210 Gas 800 eqvt bbls × $1.30 / eqvt bbl = $1,040 1a. Physical Measure Method Crude Oil 150 0.15 $270 NGL 50 0.05 $90 Gas 800 0.80 $1,440 Total 1,000 1.00 $1,800 1. Physical measure of total prodn. 2. Weight ing (150; 50; 800 ÷ 1,000) 3. Joint costs allocated (Weights ´ $1,800) 1b. NRV Method 1. 2. 3. 4. 5. Final sales value of total production Deduct separable costs NRV at splitoff Weight ing (2,525; 645; 830 ÷ 4,000) Joint costs allocated (Weights ´ $1,800) Crude Oil $2,700 175 $2,525 0.63125 $1,136.25 NGL $750 105 $645 0.16125 $290.25 Gas $1,040 210 $ 830 0.20750 $373.50 Total $4,490 490 $4,000 $1,800 16­11 2. (a) The operating­inco me amounts for each product using each method is: Physical Measure Method Crude Oil $2,700 270 175 445 $2,255 NGL $750 90 105 195 $555 Gas $1,040 1,440 210 1,650 $ (610) Total $4,490 1,800 490 2,290 $2,200 Revenues Cost of goods sold Joint costs Separable costs Total cost of goods sold Gross margin (b) NRV Method Revenues Cost of goods sold Joint costs Separable costs Total cost of goods sold Gross margin Crude Oil $2,700.00 1,136.25 175.00 1,311.25 $1,388.75 NGL $750.00 290.25 105.00 395.25 $354.75 Gas $1,040.00 373.50 210.00 583.50 $ 456.50 Total $4,490.00 1,800.00 490.00 2,290.00 $2,200.00 3. Neither method should be used for product emphasis decisions. It is inappropriate to use jo int­cost­allocated data to make decisio ns regarding dropping individual products, or pushing individual products, as they are jo int by definit io n. Product­emphasis decisio ns should be made based on relevant revenues and relevant costs. Each method can lead to product emphasis decisio ns that do not lead to maximizat ion of operating income. 4. Since crude o il is the only product subject to taxat ion, it is clearly in Sinclair’s best interest to use the NRV method since it leads to a lower profit for crude oil and, consequent ly, a smaller tax burden. A letter to the taxation authorit ies could stress the conceptual superiorit y o f the NRV method. Chapter 16 argues that, using a benefit s­received cost allocat ion criterion, market­based jo int cost allocat ion methods are preferable to physical­measure methods. A meaningful commo n deno minator (revenues) is available when the sales value at splito ff po int method or NRV method is used. The phys ical­measures method requires nonho mogeneous products (liquids and gases) to be converted to a commo n deno minator. 16­12 16­22 (30 min.) Joint­cost allocation, sales value, physical measure, NRV methods. 1a. PANEL A: Allocation of Joint Costs using Sales Value at Splitoff Method Sales value of total production at splitoff point (10,000 tons ´ $10 per ton; 20,000 ´ $15 per ton) Weighting ($100,000; $300,000 ÷ $400,000) Joint costs allocated (0.25; 0.75 ´ $240,000) PANEL B: Product­Line Income Statement for June 2009 Revenues (12,000 tons ´ $18 per ton; 24,000 ´ $25 per ton) Deduct joint costs allocated (from Panel A) Deduct separable costs Gross margin Gross margin percentage Special B/ Special S/ Beef Shrimp Ramen Ramen $100,000 0.25 $60,000 Special B $216,000 60,000 48,000 $108,000 50% Total $300,000 $400,000 0.75 $180,000 $240,000 Special S Total $600,000 $816,000 180,000 240,000 168,000 216,000 $252,000 $360,000 42% 44% 1b. PANEL A: Allocation of Joint Costs using Physical­Measure Method Physical measure of total production (tons) Weighting (10,000 tons; 20,000 tons ÷ 30,000 tons) Joint costs allocated (0.33; 0.67 ´ $240,000) PANEL B: Product­Line Income Statement for June 2009 Revenues (12,000 tons ´ $18 per ton; 24,000 ´ $25 per ton) Deduct joint costs allocated (from Panel A) Deduct separable costs Gross margin Gross margin percentage Special B/ Special S/ Beef Shrimp Total Ramen Ramen 10,000 20,000 30,000 33% 67% $80,000 $160,000 $240,000 Special B $216,000 80,000 48,000 $ 88,000 41% Special S Total $600,000 $816,000 160,000 240,000 168,000 216,000 $272,000 $360,000 45% 44% 1c. PANEL A: Allocation of Joint Costs using Net Realizable Value Method Final sales value of total production during accounting period (12,000 tons ´ $18 per ton; 24,000 tons ´ $25 per ton) Deduct separable costs Net realizable value at splitoff point Weighting ($168,000; $432,000 ÷ $600,000) Joint costs allocated (0.28; 0.72 ´ $240,000) PANEL B: Product­Line Income Statement for June 2009 Revenues (12,000 tons ´ $18 per ton; 24,000 tons ´ $25 per ton) Deduct joint costs allocated (from Panel A) Deduct separable costs Gross margin Gross margin percentage Special B $216,000 48,000 $168,000 28% $67,200 Special B $216,000 67,200 48,000 $100,800 46.7% Special S $600,000 168,000 $432,000 72% $172,800 Special S $600,000 172,800 168,000 $259,200 43.2% Total $816,000 216,000 $600,000 $240,000 Total $816,000 240,000 216,000 $360,000 44.1% 16­13 2. Sherrie Dong probably performed the analys is shown below to arrive at the net loss of $2,228 from marketing the stock: PANEL A: Allocation of Joint Costs using Sales Value at Splitoff Sales value of total production at splitoff point (10,000 tons ´ $10 per ton; 20,000 ´ $15 per ton; 4,000 ´ $5 per ton) Weighting ($100,000; $300,000; $20,000 ÷ $420,000) Joint costs allocated (0.238095; 0.714286; 0.047619 ´ $240,000) PANEL B: Product­Line Income Statement for June 2009 Revenues (12,000 tons ´ $18 per ton; 24,000 ´ $25 per ton; 4,000 ´ $5 per ton) Separable processing costs Joint costs allocated (from Panel A) Gross margin Deduct marketing costs Operating income Special B/ Special S/ Beef Shrimp Ramen Ramen Stock Total $100,000 $300,000 $20,000 4.7619% $11,428 $420,000 100% $240,000 23.8095% 71.4286% $57,143 $171,429 Special B Special S Stock Total $216,000 48,000 57,143 $110,857 $600,000 $20,000 168,000 0 171,429 11,428 $260,571 8,572 10,800 $ (2,228) $836,000 216,000 240,000 380,000 10,800 $369,200 In this (misleading) analys is, the $240,000 of joint costs are re­allocated between Special B, Special S, and the stock. Irrespective of the method of allocation, this analysis is wrong. Joint costs are always irrelevant in a process­further decisio n. Only incremental costs and revenues past the splito ff po int are relevant. In this case, the correct analysis is much simpler: the incremental revenues fro m selling the stock are $20,000, and the incremental costs are the market ing costs of $10,800. So, Instant Foods should sell the stock—this will increase its operating inco me by $9,200 ($20,000 – $10,800). 16­14 16­23 (20 min.) Joint cost allocation: sell immediately or process further. 1. a. Sales value at splitoff method: Cookies/ Soymeal Sales value of total production at splito ff, 500lbs × $1; 100 gallo ns × $4 Weight ing, $500; $400 ¸ $900 Joint costs allocated, 0.556; 0.444 ´ $500 $500 0.556 $278 Soyola/ Soy Oil $400 0.444 $222 Total $900 $500 b. Net realizable value method: Cookies Final sales value of total production, 600lbs × $2; 400qts × $1.25 Deduct separable costs Net realizable value Weight ing, $900; $300 ¸ $1,200 Joint costs allocated, 0.75; 0.25 ´ $500 2. Revenue if so ld at splito ff Process further NRV Profit (Loss) fro m processing further a Soyola $500 200 $300 0.25 $125 Total $1,700 500 $1,200 $1,200 300 $ 900 0.75 $ 375 $ 500 Cookies/Soy Meal a $500 900 c $400 Soyola/Soy Oil $ 400 b 300 d $(100) 500 lbs × $1 = $500 100 gal × $4 = $400 c 600 lbs × $2 – $300 = $900 d 400 qts × $1.25 – $200 = $300 b ISP should process the soy meal into cookies because it increases profit by $400 (900­500). However, they should sell the so y oil as is, without processing it into the form of So yola, because profit will be $100 (400­300) higher if they do. Since the total jo int cost is the same under both allocat ion methods, it is not a relevant cost to the decisio n to sell at splito ff or process further. 16­15 16­24 (30 min.) Accounting for a main product and a byproduct. Production Method 1. Revenues Main product Byproduct Total revenues Cost of goods sold Total manufacturing costs Deduct value of byproduct production Net manufacturing costs Deduct main product inventory Cost of goods sold Gross margin a $640,000 ––__ 640,000 Sales Method $640,000 d 28,000 668,000 480,000 0 480,000 e 96,000 384,000 $284,000 480,000 b 40,000 440,000 c 88,000 352,000 $288,000 a 32,000 ´ $20.00 8,000 ´ $5.00 c (8,000/40,000) × $440,000 = $88,000 b d e 5,600 ´ $5.00 (8,000/40,000) × $480,000 = $96,000 2. a Main Product Byproduct Production Method $88,000 a 12,000 Sales Method $96,000 0 Ending inventory shown at unrealized selling price. BI + Production – Sales = EI 0 + 8,000 – 5,600 = 2,400 pounds Ending inventory = 2,400 pounds ´ $5 per pound = $12,000 16­16 16­25 (35­45 min.) Joint costs and byproducts. 1. Comput ing byproduct deduction to jo int costs: Revenues fro m C, 20,000 ´ $3 Deduct: Gross margin, 10% of revenues Marketing costs, 25% of revenues Peanut Butter Department separable costs Net realizable value ( less gross margin) of C Joint costs Deduct byproduct contribut ion Net joint costs to be allocated Deduct Final Separable Sales Processing Value Cost $100,000 $20,000 120,000 –– $220,000 $20,000 $ 60,000 6,000 15,000 10,000 $ 29,000 $160,000 29,000 $131,000 Net Realizable Allocation of Value at $131,000 Splitoff Weighting Joint Costs $ 80,000 40% $ 52,400 120,000 60% 78,600 $200,000 $131,000 Unit Sales Quantity Price A 10,000 $10 B 60,000 2 Totals A B Totals Joint Costs Allocation $ 52,400 78,600 $131,000 Add Separable Processing Costs $20,000 –– $20,000 Total Costs $ 72,400 78,600 $151,000 Units 10,000 60,000 70,000 Unit Cost $7.24 1.31 Unit cost for C: $1.45 ($29,000 ÷ 20,000) + $0.50 ($10,000 ÷ 20,000) = $1.95, o r $3.00 – $0.30 (10% ´ $3) – $0.75 (25% ´ $3) = $1.95. 16­17 2. If all three products are treated as jo int products: Deduct Separable Processing Cost $20,000 ─ 25,000 $45,000 Net Allocation Realizable Value at of $160,000 Weighting Joint Costs Splitoff $ 80,000 80 ÷ 235 $ 54,468 120,000 120 ÷ 235 81,702 35,000 35 ÷ 235 23,830 $235,000 $160,000 A B C Totals Unit Final Sales Sales Quantity Price Value 10,000 $10 $100,000 60,000 2 120,000 20,000 3 60,000 $280,000 A B C Totals Joint Costs Allocation $ 54,468 81,702 23,830 $160,000 Add Separable Processing Costs $20,000 –– 10,000 $30,000 Total Costs $ 74,468 81,702 33,830 $190,000 Units 10,000 60,000 20,000 90,000 Unit Cost $7.45 1.36 1.69 Call the attention of students to the different unit “costs” result ing from the two assumpt ions about the relat ive importance o f Product C. The point is that costs of individual products depend heavily on which assumpt ions are made and which accounting methods and techniques are used. 16­26 (25 min.) Accounting for a byproduct. 1. Byproduct recognized at time of production: Joint cost = $1,500 Joint cost to be charged to main product = Joint Cost ­ NRV of Byproduct = $1,500 ­ (50 lbs. × $1.20) = $1,440 $1440 Inventoriable cost of main product = = $3.60 per container 400 containers Inventoriable cost of byproduct = NRV = $1.20 per pound Gross Margin Calculation under Production Method Revenues Main product: Water (600/2 containers × $8) Byproduct: Sea Salt Cost of goods sold Main product: Water (300 containers × $3.60) Gross margin Gross­margin percentage ($1,320 ÷ $2,400) Inventoriable costs (end of period): Main product: Water (100 containers × $3.60) = $360 Byproduct: Sea Salt (10 pounds × $1.20) = $12 $2,400 0 2,400 1,080 $1,320 55.00% 16­18 2. Byproduct recognized at time of sale: Joint cost to be charged to main product = Total joint cost = $1,500 $1500 Inventoriable cost of main product = = $3.75 per container 400 containers Inventoriable cost of byproduct = $0 Gross Margin Calculation under Sales Method Revenues Main product: Water (600/2 containers × $8) $2,400 Byproduct: Sea Salt (40 pounds × $1.20) 48 2,448 Cost of goods sold Main product: Water (300 containers × $3.75) 1,125 Gross margin $1,323 Gross­margin percentage ($1,323 ÷ $2,448) 54.04% Inventoriable costs (end of period): Main product: Water (100 containers × $3.75) = $375 Byproduct: Sea Salt (10 pounds × $0) = $0 3. The production method recognizes the byproduct cost as inventory in the period it is produced. This method sets the cost of the byproduct inventory equal to its net realizable value. When the byproduct is so ld, inventory is reduced without being expensed through the inco me statement. The sales method associates all of the production cost with the main product. Under this method, the byproduct has no inventoriable cost and is recognized only when it is so ld. 16­19 16­27 (40 min.) Alternative methods of joint­cost allocation, product­mix decisions. A diagram o f the situation is in Solut ion Exhibit 16­27. 1. Computation of jo int­cost allocat ion proportions: a. Sales Value of Total Production at Splitoff A $ 50,000 B 30,000 C 50,000 D 70,000 $200,000 Weighting 50 ÷ 200 = 0.25 30 ÷ 200 = 0.15 50 ÷ 200 = 0.25 70 ÷ 200 = 0.35 1.00 Allocation of $100,000 Joint Costs $ 25,000 15,000 25,000 35,000 $100,000 b. Physical Measure of Total Production A 300,000 gallo ns B 100,000 gallo ns C 50,000 gallons D 50,000 gallo ns 500,000 gallo ns c. Final Sales Value of Total Separable Production Costs Super A $300,000 $200,000 Super B 100,000 80,000 C 50,000 – Super D 120,000 90,000 Net Realizable Value at Splitoff $100,000 20,000 50,000 30,000 $200,000 Allocation of $100,000 Joint Costs $ 50,000 10,000 25,000 15,000 $100,000 Weighting 300 ÷ 500 = 0.60 100 ÷ 500 = 0.20 50 ÷ 500 = 0.10 50 ÷ 500 = 0.10 1.00 Allocation of $100,000 Joint Costs $ 60,000 20,000 10,000 10,000 $100,000 Weighting 100 ÷ 200 = 0.50 20 ÷ 200 = 0.10 50 ÷ 200 = 0.25 30 ÷ 200 = 0.15 1.00 16­20 Computation of gross­margin percentages: a. Sales value at splitoff method: Super A Super B $300,000 $100,000 25,000 15,000 200,000 80,000 225,000 95,000 $ 75,000 $ 5,000 25% 5% C $50,000 25,000 0 25,000 $25,000 50% Super D Total $120,000 $570,000 35,000 100,000 90,000 370,000 125,000 470,000 $ (5,000) $100,000 (4.17%) 17.54% Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage b. Physical­measure method: Super A Super B $300,000 $100,000 60,000 20,000 200,000 80,000 260,000 100,000 $ 40,000 $ 0 13.33% 0% C $50,000 10,000 0 10,000 $40,000 80% Super D Total $120,000 $570,000 10,000 100,000 90,000 370,000 100,000 470,000 $ 20,000 $100,000 16.67% 17.54% Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage c. Net realizable value method: Super A $300,000 50,000 200,000 250,000 $ 50,000 16.67% Super B $100,000 10,000 80,000 90,000 $ 10,000 10% C $50,000 25,000 0 25,000 $25,000 50% Super D Total $120,000 $570,000 15,000 100,000 90,000 370,000 105,000 470,000 $ 15,000 $100,000 12.5% 17.54% Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage Summary o f gross­margin percentages: Joint­Cost Allocation Method Sales value at splitoff Physical measure Net realizable value Super A 25.00% 13.33% 16.67% Super B 5% 0% 10% C 50% 80% 50% Super D (4.17)% 16.67% 12.50% 16­21 2. Further Processing of A into Super A: Incremental revenue, $300,000 – $50,000 Incremental costs Incremental operating inco me from further processing Further processing o f B into Super B: Incremental revenue, $100,000 – $30,000 Incremental costs Incremental operating loss fro m further processing Further Processing of D into Super D: Incremental revenue, $120,000 – $70,000 Incremental costs Incremental operating loss fro m further processing $ 50,000 90,000 $ (40,000) $ 70,000 80,000 $ (10,000) $250,000 200,000 $ 50,000 Operating inco me can be increased by $50,000 if both B and D are so ld at their splito ff po int rather than processed further into Super B and Super D. SOLUTION EXHIBIT 16­27 Joint Costs Revenues at Splitoff and Separable Costs A, 300,000 gallons Revenue = $50,000 B, 100,000 gallons Revenue = $30,000 Processing $200, 000 Processing $80,000 Super A $300, 000 Super B $100, 000 Processing $100,000 C, 50,000 gallons Revenue = $50,000 D, 50, 000 gallons Revenue = $70,000 Processing $90,000 Super D $120, 000 Splitoff Point 16­22 16­28 (40–60 min.) Comparison of alternative joint­cost allocation methods, further­ processing decision, chocolate products. Jo in t C osts $ 30 , 00 0 Sep ar able C osts C h o c o l a t e ­ Po wd er L iq uo r B ase P ro cessing $ 1 2, 75 0 Ch oco late P o wd e r C oc oa B eans Pr o cessing M ilk­C ho co late Liq uo r B ase SPLIT O FF PO IN T Pr o cessing $ 26 , 25 0 M ilk Ch oco late 1a. Sales value at splitoff method: Chocolate­ Powder/ Liquor Base Sales value of total production at splito ff, 600 ´ $21; 900 ´ $26 Weight ing, $12,600; $23,400 ¸ $36,000 Joint costs allocated, 0.35; 0.65 ´ $30,000 $12,600 0.35 $10,500 Milk­ Chocolate/ Liquor Base $23,400 0.65 $19,500 Total $36,000 $30,000 1b. Physical­measure method: Physical measure of total production (15,000 ¸ 1,500) ´ 60; 90 Weight ing, 600; 900 ¸ 1,500 Joint costs allocated, 0.40; 0.60 ´ $30,000 600 gallons 0.40 $12,000 900 gallons 0.60 $18,000 1,500 gallo ns $30,000 16­23 1c. Net realizable value method: Chocolate­ Powder Milk­ Chocolate $51,000 26,250 $24,750 0.6875 $20,625 Total $75,000 39,000 $36,000 Final sales value of total production, 6,000 ´ $4; 10,200 ´ $5 Deduct separable costs Net realizable value at splito ff po int Weight ing, $11,250; $24,750 ¸ $36,000 Joint costs allocated, 0.3125; 0.6875 ´ $30,000 d. $24,000 12,750 $11,250 0.3125 $ 9,375 $30,000 Constant gross­margin percentage NRV method: Step 1: Final sales value of total production, (6,000 ´ $4) + (10,200 ´ $5) Deduct jo int and separable costs, ($30,000 + $12,750 + $26,250) Gross margin Gross­margin percentage ($6,000 ÷ $75,000) Step 2: Chocolate­ Powder Final sales value of total production, 6,000 ´ $4; 10,200 ´ $5 Deduct gross margin, using overall gross­margin percentage of sales (8%) Total production costs Step 3: Deduct separable costs Joint costs allocated 12,750 $ 9,330 26,250 $20,670 39,000 $30,000 $24,000 1,920 22,080 Milk­ Chocolate $51,000 4,080 46,920 Total $75,000 6,000 69,000 $75,000 69,000 $ 6,000 8% 16­24 2. a. Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage b. Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage c. Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage d. Revenues Joint costs Separable costs Total cost of goods sold Gross margin Gross­margin percentage 3. Chocolate­ Powder $24,000 10,500 12,750 23,250 $ 750 3.125% $24,000 12,000 12,750 24,750 $ (750) (3.125)% $24,000 9,375 12,750 22,125 $ 1,875 7.812% $24,000 9,330 12,750 22,080 $ 1,920 8% Milk­ Chocolate $51,000 19,500 26,250 45,750 $ 5,250 10.294% $51,000 18,000 26,250 44,250 $ 6,750 13.235% $51,000 20,625 26,250 46,875 $ 4,125 8.088% $51,000 20,670 26,250 46,920 $ 4,080 8% Total $75,000 30,000 39,000 69,000 $ 6,000 8% $75,000 30,000 39,000 69,000 $ 6,000 8% $75,000 30,000 39,000 69,000 $ 6,000 8% $75,000 30,000 39,000 69,000 $ 6,000 8% Further processing o f chocolate­powder liquor base into chocolate powder: Incremental revenue, $24,000 – $12,600 $11,400 Incremental costs 12,750 Incremental operating inco me from further processing $ (1,350) Further processing o f milk­chocolate liquor base into milk chocolate: Incremental revenue, $51,000 – $23,400 $27,600 Incremental costs 26,250 Incremental operating inco me from further processing $ 1,350 Chocolate Factory could increase operating income by $1,350 (to $7,350) if chocolate­powder liquor base is sold at the splitoff po int and if milk­chocolate liquor base is further processed into milk chocolate. 16­25 16­29 (30 min.) Joint­cost allocation, process further or sell. A diagram o f the situation is in Solut ion Exhibit 16­29. 1. a. Sales value at splito ff method. Monthly Unit Output 75,000 5,000 20,000 Selling Price Per Unit $ 8 60 20 Sales Value of Total Prodn. at Splitoff $ 600,000 300,000 400,000 $1,300,000 Physical Measure of Total Prodn. 75,000 5,000 20,000 100,000 Fully Processed Selling Price per Unit $ 8 100 20 Weighting 46.1539% 23.0769 30.7692 100.0000% Joint Costs Allocated $ 461,539 230,769 307,692 $1,000,000 Studs (Building) Decorative Pieces Posts Totals b. Physical measure method. Weighting 75.00% 5.00 20.00 100.00% Joint Costs Allocated $ 750,000 50,000 200,000 $1,000,000 Studs (Building) Decorative Pieces Posts Totals c. Net realizable value method. Monthly Units of Total Prodn. 75,000 4,500a 20,000 Net Realizable Value at Splitoff $ 600,000 350,000b 400,000 $1,350,000 Studs (Building) Decorative Pieces Posts Totals a b Weighting 44.4445% 25.9259 29.6296 100.0000% Joint Costs Allocated $ 444,445 259,259 296,296 $1,000,000 5,000 monthly units of output – 10% normal spoilage = 4,500 good units. 4,500 good units ´ $100 = $450,000 – Further processing costs of $100,000 = $350,000 2. Presented below is an analys is for Sonimad Sawmill, Inc., comparing the processing of decorative pieces further versus selling the rough­cut product immediately at splitoff: Units 5,000 500 4,500 Dollars Monthly unit output Less: Normal further processing shrinkage Units available for sale Final sales value (4,500 units ´ $100 per unit) Less: Sales value at splitoff Incremental revenue Less: Further processing costs Addit io nal contribut ion from further processing $450,000 300,000 150,000 100,000 $ 50,000 16­26 3. Assuming Sonimad Sawmill, Inc., announces that in six months it will sell the rough­cut product at splito ff due to increasing compet it ive pressure, behavior that may be demonstrated by the skilled labor in the planing and sizing process include the fo llowing: · lower qualit y, · reduced motivation and morale, and · jo b insecurit y, leading to nonproductive emplo yee time looking for jobs elsewhere. Management actions that could improve this behavior include the fo llowing: · Improve communicat ion by giving the workers a more comprehensive explanat ion as to the reason for the change so they can better understand the situation and bring out a plan for future operation of the rest of the plant. · The co mpany can offer incent ive bonuses to maintain qualit y and production and align rewards with goals. · The company could provide jo b relocation and internal jo b transfers. SOLUTION EXHIBIT 16­29 Joint Costs $1,000,000 Separable Costs Studs $8 per unit Processing Raw Decorative Pieces $60 per unit Processing $100,000 Decorative Pieces $100 per unit Posts $20 per unit Splitoff Point 16­27 16­30 (40 min.) Joint­cost allocation. 1. Jo in t C o sts $ 2 0, 00 0 Sepa rab le Co sts Bu tte r Pr oc essing $ 0 .50 p er p o und Sp read ab le B u t t e r M ilk P ro cessing B utter mil k Pro cessing $ 0 . 2 5 p e r pint B utte r m ilk SPLI T O FF PO I NT a. Physical­measure method: Butter Physical measure of total production (10,000 lbs × 2; 20,000 qts × 4) Weight ing, 20,000; 80,000 ¸ 100,000 Joint costs allocated, 0.20; 0.80 × $20,000 b. Sales value at splitoff method: Butter Sales value of total production at splito ff, 10,000 × $2; 20,000 × $1.5 Weight ing, $20,000; $30,000 ¸ $50,000 Joint costs allocated, 0.40; 0.60 ´ $20,000 $20,000 0.40 $ 8,000 Buttermilk $30,000 0.60 $12,000 Total $50,000 Buttermilk Total 20,000 cups 0.20 $4,000 80,000 cups 0.80 $16,000 100,000 cups $20,000 $20,000 16­28 c. Net realizable value method: Butter Buttermilk $30,000 0 $30,000 0.40 $ 8,000 Total $80,000 5,000 $75,000 Final sales value of total production, 20,000 ´ $2.50; 20,000 ´ $1.50 Deduct separable costs Net realizable value Weight ing, $45,000; $30,000 ¸ $75,000 Joint costs allocated, 0.60; 0.40 ´ $20,000 d. $50,000 5,000 $45,000 0.60 $12,000 $20,000 Constant gross­margin percentage NRV method: Step 1: Final sales value of total production, Deduct jo int and separable costs, ($20,000 + $5,000) Gross margin Gross­margin percentage ($55,000 ÷ $80,000) Step 2: Butter Final sales value of total production (see 1c.) Deduct gross margin, using overall gross­margin percentage of sales (68.75%) Total production costs Step 3: Deduct separable costs Joint costs allocated 5,000 $10,625 0 $ 9,375 5,000 $20,000 $50,000 34,375 15,625 Buttermilk $30,000 20,625 9,375 Total $80,000 55,000 25,000 $80,000 25,000 $55,000 68.75% 16­29 2. Advantages and disadvantages: ­ Physical­Measure Advantage: Low informat ion needs. Only knowledge of jo int cost and physical distribut ion is needed. Disadvantage: Allo cat ion is unrelated to the revenue­generat ing abilit y of products. ­ Sales Value at Splito ff Advantage: Considers market value of products as basis for allocating jo int cost. Relat ive sales value serves as a proxy for relative benefit received by each product from the jo int cost. Disadvantage: Uses selling price at the time of splitoff even if product is not sold by the firm in that form. Selling price may not exist for product at splito ff. ­ Net Realizable Value Advantages: Allocates jo int costs using ult imate net value of each product; applicable when the option to process further exists Disadvantages: High information needs; Makes assumpt ions about expected outcomes o f future processing decisio ns ­ Constant Gross­Margin percentage method Advantage: Since it is necessary to produce all jo int products, they all look equally profitable. Disadvantages: High informat ion needs. All products are not necessarily equally profitable; method may lead to negative cost allocations so that unprofitable products are subsidized by profitable ones. 3. When selling prices for all products exist at splito ff, the sales value at split off method is the preferred technique. It is a relat ively simple technique that depends on a commo n basis for cost allocat ion – revenues. It is better than the physical method because it considers the relat ive market values of the products generated by the jo int cost when seeking to allocate it (which is a surrogate for the benefits received by each product fro m the jo int cost). Further, the sales value at splitoff method has advantages over the NRV method and the constant gross margin percentage method because it does not penalize managers by charging more for developing profitable products using the output at splito ff, and it requires no assumpt ions about future processing activit ies and selling prices. 16­30 16­31 (10 min.) Further processing decision (continuation of 16­30). 1.and 2. The decisio n about which co mbinat ion of products to produce is not affected by the method of jo int cost allocat ion. For both the sales value at splitoff and physical measure methods, the relevant comparisons are as shown below: Butter $20,000 a 45,000 c $25,000 Buttermilk $30,000 b 26,000 d $(4,000) Revenue if so ld at splito ff Process further NRV Profit (Loss) fro m processing further a b 10,000 lbs × $2 = $20,000 20,000 qts × $1.5 = $30,000 c 20,000 tubs × $2.5 – 10,000lbs × $.5 = $45,000 d 40,000 pints × $.9 – 40,000 pints × $.25 = $26,000 To maximize profits, Elsie should process butter further into spreadable butter. However, Elsie should sell the buttermilk at the splitoff po int in quart containers. The extra cost to convert to pint containers ($0.25 per pint × 2 pints per quart = $0.50 per quart) exceeds the increase in selling price ($0.90 per pint × 2 pints per quart = $1.80 per quart – $1.50 original price = $0.30 per quart) and leads to a loss of $4,000. 3. The decisio n to sell a product at split off or to process it further should have nothing to do with the allocat ion method chosen. For each product, you need to compare the revenue fro m selling the product at split off to the NRV fro m processing the product further. Other things being equal, management should choose the higher alternative. The total jo int cost is the same regardless of the alternat ive chosen and is therefore irrelevant to the decisio n. 16­31 16­32 (20 min.) Joint­cost allocation with a byproduct. 1. Sales value at splitoff method: Byproduct recognized at time o f production method Joint cost to be charged to jo int products = Joint Cost – NRV of Byproduct = $10,000 – 1000 tons × 20% × 0.25 vats × $60 = $10,000 – 50 vats × $60 = $ 7,000 Grade A Coal Sales value of coal at splitoff, 1,000 tons × 0.4 × $100; 1,000 tons × 0.4 × $60 Weight ing, $40,000; $24,000 ¸ $64,000 Joint costs allocated, 0.625; 0.375 × $7,000 Gross margin (Sales revenue ─ Allo cated cost) $40,000 0.625 $ 4,375 $35,625 Grade B Coal $24,000 0.375 $ 2,625 $21,375 Total $64,000 $ 7,000 $57,000 2. Sales value at splitoff method: Byproduct recognized at time o f sale method Joint cost to be charged to jo int products = Total Joint Cost = $10,000 Grade A Coal Sales value of coal splito ff, 1,000 tons × .4 × $100; 1,000 tons × .4 × $60 Weight ing, $40,000; $24,000 ¸ $64,000 Joint costs allocated, 0.625; 0.375 × $10,000 Gross margin (Sales revenue ─ Allo cated cost) $40,000 0.625 $ 6,250 $33,750 Grade B Coal $24,000 0.375 $ 3,750 $20,250 Total $64,000 $10,000 $54,000 Since the ent ire production is so ld during the period, the overall gross margin is the same under the production and sales methods. In particular, under the sales method, the $3,000 received fro m the sale of the coal tar is added to the overall revenues, so that Cumberland’s overall gross margin is $57,000, as in the production method. 3. The production method of accounting for the byproduct is only appropriate if Cumberland is posit ive they can sell the byproduct and positive of the selling price. Moreover, Cumberland should view the byproduct’s contribut ion to the firm as material enough to find it worthwhile to record and track any inventory that may arise. The sales method is appropriate if eit her the disposit ion of the byproduct is unsure or the selling price is unknown, or if the amounts invo lved are so negligible as to make it economically infeasible for Cumberland to keep track of byproduct inventories. 16­32 16­33 (15 min.) Byproduct journal entries (continuation of 16­32). 1. Byproduct – production method journal entries i) At time o f production: Work­in­process Inventory Accounts Payable, etc. For byproduct: Finished Goods Inv – Coal tar Work­in­process Inventory For Joint Products Finished Goods Inv – Grade A Finished Goods Inv – Grade B Work­in­process Inventory 10,000 10,000 3,000 3,000 4,375 2,625 7,000 ii) At time of sale: For byproduct Cash or A/R 3,000 Finished Goods Inv – Coal Tar For Joint Products Cash or A/R Sales Revenue – Grade A Sales Revenue – Grade B 3,000 64,000 40,000 24,000 Cost of goods sold ­ Grade A 4,375 Cost of goods sold ­ Grade B 2,625 Finished Goods Inv – Grade A Finished Goods Inv – Grade B 4,375 2,625 16­33 2. Byproduct – sales method journal entries i) At time o f production: Work­in­process Inventory Accounts Payable, etc. For byproduct: No entry For Joint Products Finished Goods Inv – Grade A Finished Goods Inv – Grade B Work in process inventory ii) At time of sale For byproduct Cash or A/R Sales Revenue – Coal Tar For Joint Products Cash or A/R Sales Revenue – Grade A Sales Revenue – Grade B 10,000 10,000 6,250 3,750 10,000 3,000 3,000 64,000 40,000 24,000 Cost of goods sold ­ Grade A 6,250 Cost of goods sold ­ Grade B 3,750 Finished Goods Inv – Grade A Finished Goods Inv – Grade B 6,250 3,750 16­34 16­34 (40 min.) Process further or sell, byproduct. 1. The analys is shown below indicates that it would be more profitable for Newcastle Mining Co mpany to continue to sell bulk raw coal without further processing. This analysis ignores any value related to coal fines. It also assumes that the costs of loading and shipping the bulk raw coal on river barges will be the same whether Newcast le sells the bulk raw coal directly or processes it further. Incremental sales revenues: a Sales revenue after further processing (9,400,000 tons ´ $36) Sales revenue fro m bulk raw coal (10,000,000 tons ´ $27) Incremental sales revenue Incremental costs: Direct labor Supervisory personnel Heavy equipment costs ($25,000 ´ 12 months) Sizing and cleaning (10,000,000 tons ´ $3.50) Outbound rail freight (9,400,000 tons ¸ 60 tons) ´ $240 per car Incremental costs Incremental gain (loss) a $338,400,000 270,000,000 68,400,000 800,000 200,000 300,000 35,000,000 37,600,000 73,900,000 $ (5,500,000) 10,000,000 tons ´ (1– 0.06) 2. The cost of producing the raw coal is irrelevant to the decisio n to process further or not. As we see fro m requirement 1, the cost of producing raw coal does not enter any o f the calculat ions related to either the incremental revenues or the incremental costs of further processing. The answer would the same as in requirement 1: do not process further. 3. The analysis shown below indicates that the potential revenue fro m the coal fines byproduct would result in addit io nal revenue, ranging between $4,950,000 and $9,900,000, depending on the market price of the fines. Coal fines = = = 75% of 6% of raw bulk tonnage 0.75 ´ (10,000,000 ´ .06) 450,000 tons Potential incremental inco me fro m preparing and selling the coal fines: Minimum $11 ($15 – $4) $4,950,000 Maximum $22 ($24 – $2) $9,900,000 Incremental inco me per ton (Market price – Incremental costs) Incremental inco me ($11; $22 ´ 450,000) The incremental loss fro m sizing and cleaning the raw coal is $5,500,000, as calculated in requirement 1. Analys is indicates that relat ive to selling bulk raw coal, the effect of further processing and selling coal fines is only slight ly negat ive at the minimum incremental gain 16­35 ($4,950,000 – $5,500,000 = – $550,000) and very beneficial at the maximum incremental gain ($9,900,000 – $5,500,000 = $4,400,000). NMC will benefit fro m further processing and selling the coal fines as lo ng as its incremental income per ton of coal fines is at least $12.22 ($5,500,000 ¸ 450,000 tons). Hence, further processing is preferred. Note that other than the financial implicat ions, some factors that should be considered in evaluat ing a sell­or­process­further decisio n include: · Stabilit y of the current customer market for raw coal and how it compares to the market for sized and cleaned coal. · Storage space needed for the coal fines until they are sold and the handling costs of coal fines. · Reliabilit y o f cost (e.g., rail freight rates) and revenue estimates, and the risk of depending on these est imates. · Timing of the revenue stream fro m coal fines and impact on the need for liquidit y. · Possible environmental problems, i.e., dumping of waste and smoke fro m unprocessed coal. 16­35 (30 min.) Accounting for a byproduct. 1. Byproduct recognized at time of production: Joint cost = ($300 × 50) + $10,000 = $25,000 Joint cost charged to main product = Joint cost – NRV of byproduct = $25,000 – (6 × 50 scarves × $25) = $25,000 – (300 scarves × $25) = $17,500 Inventoriable cost of main product = $17, 500 = $11.67 per blouse 1, 500 blouses Inventoriable cost of byproduct = NRV = $25 per scarf Gross Margin Calculation under Production Method Revenues Main product: Blouses (1,200 blouses × $90) Byproduct: Scarves Cost of goods sold Main product: Blouses (1,200 blouses × $11.67) Gross margin Gross­margin percentage ($94,000 ÷ $108,000) Inventoriable costs (end of period): Main product: Blouses (300 blouses × $11.67) = $3,500 Byproduct: Scarves (40 scarves × $25) = $1,000 $108,000 0 108,000 14,000 $ 94,000 87.04% 16­36 2. Byproduct recognized at time of sale: Joint cost to be charged to main product = Total joint cost = $25,000 $25, 000 Inventoriable cost of main product = = $16.67 per blouse 1, 500 blouses Inventoriable cost of byproduct = $0 Gross Margin Calculation under Sales Method Revenues Main product: Blouses (1,200 blouses × $90) Byproduct: Scarves (260 scarves × $25) Cost of goods sold Main product: Blouses (1,200 blouses × $16.67) Gross margin Gross­margin percentage ($94,500 ÷ $114,000) Inventoriable costs (end of period): Main product: Blouses (300 blouses × $16.67) = $5,000 Byproduct: Scarves (40 scarves × $0) = $0 $108,000 6,500 114,500 20,000 $ 94,500 82.89% 3. (a) Byproduct – production method journal entries i) At time o f production: Work­in­process Inventory Accounts Payable, etc. For byproduct: Finished Goods Inv – Scarves Work­in­process Inventory For main product Finished Goods Inv – Blouses Work­in­process Inventory 25,000 25,000 7,500 7,500 17,500 17,500 ii) At time of sale: For byproduct Cash or A/R 6,500 Finished Goods Inv – Scarves For main product Cash or A/R Sales Revenue – Blouses 6,500 108,000 108,000 Cost of goods sold ­ Blouses 14,000 Finished Goods Inv – Blouses 14,000 16­37 (b) Byproduct – sales method journal entries i) At time o f production: Work­in­process Inventory Accounts Payable, etc. For byproduct: No entry For Joint Product Finished Goods Inv – Blouses Work­in­process Inventory ii) At time of sale: For byproduct Cash or A/R Sales Revenue – Scarves For Joint Product Cash or A/R Sales Revenue – Blouses 25,000 25,000 25,000 25,000 6,500 6,500 108,000 108,000 Cost of goods sold ­ Blouses 20,000 Finished Goods Inv – Blouses 20,000 16­38 Collaborative Learning Problem 16­36 (60 min.) Joint Cost Allocation 1. (a) The Net Realizable Value Method allocates jo int costs on the basis o f the relative net realizable value (final sales value minus the separable costs of production and market ing). Joint costs would be allocated as fo llows: Deluxe Module $25,000 1,500 $23,500 0.7581 $18,194 $19,694 $ 39.39 Standard Module $ 8,500 1,000 $ 7,500 0.2419 $ 5,806 $ 6,806 $ 13.61 Final sales value of total production Deduct separable costs Net realizable value at splito ff po int Weight ing ($23,500; $7,500 ÷ $31,000) Joint costs allocated (0.7581; 0.2419 × $24,000) Total production costs ($18,194 + $1,500; $5,806 + $1,000) Production costs per unit ($19,694; $6,806 ÷ 500 units) Total $33,500 2,500 $31,000 $24,000 $26,500 (b) The constant gross­margin percentage NRV method allo cates jo int costs in such a way that the overall gross­margin percentage is ident ical for all individual products as follows: Step 1 Final sales value of total production: (Deluxe, $25,000; Standard, $8,500) Deduct jo int and separable costs (Joint, $24,000 + Separable Deluxe, $1,500 + Separable Standard, $1,000) Gross margin Gross­margin percentage ($7,000 ÷ $33,500) Step 2 Deluxe Module $25,000 5,224 19,776 Standard Module $8,500 1,776 6,724 Total $33,500 7,000 26,500 $33,500 26,500 $ 7,000 20.8955% Final sales value of total production Deduct gross margin using overall gross margin percentage (20.8955%) Total production costs Step 3 Deduct separable costs Joint costs allocated Production costs per unit ($19,776; $6,724 ÷ 500 units) 1,500 $18,276 $ 39.55 1,000 $5,724 $13.45 2,500 $24,000 16­39 (c) The phys ical measure method allocates jo int costs on the basis of the relat ive proportions of total production at the splito ff po int, using a commo n phys ical measure such as the number of bit s produced for each type of module. Allocat ion on the basis o f the number of bits produced for each type of module fo llows: Deluxe Module/ Chips Physical measure of total production (bit s) Weight ing (500,000; 250,000 ÷ 750,000) Joint costs allocated (0.6667; 0.3333 × $24,000) Total production costs ($16,000 + $1,500; $8,000 + $1,000) Production costs per unit ($17,500; $9,000 ÷ 500 units) 500,000 0.6667 $16,000 $17,500 $ 35.00 Standard Module/ Chips 250,000 0.3333 $ 8,000 $ 9,000 $18.00 Total 750,000 $24,000 $26,500 Each of the methods for allocat ing jo int costs has weaknesses. Because the costs are jo int in nature, managers cannot use the cause­and­effect criterion in making this choice. Managers cannot be sure what causes the jo int costs attributable to individual products. The net realizable value (NRV) method (or sales value at splitoff method) is widely used when selling price data are available. The NRV method provides a meaningful commo n deno minator to compute the weight ing factors. It allocates costs on the abilit y­to­pay principle. It is probably preferred to the constant gross­margin percentage method which also uses sales values to allocate costs to products. That’s because the constant gross­margin percentage method makes the further tenuous assumpt ion that all products have the same ratio of cost to sales value. The phys ical measure method bears little relat ionship to the revenue­producing power of the individual products. Several physical measures could be used such as the number of chips and the number of good bits. In each case, the physical measure only relates to one aspect of the chip that contributes to its value. The value of the module as determined by the marketplace is a funct ion of mult iple physical features. Another key quest ion is whether the physical measure chosen portrays the amount of jo int resources used by each product. It is possible that the resources required by each t ype of module depend on the number o f good bits produced during chip manufacturing. But this cause­and­effect relatio nship is hard to establish. MMC should use the NRV method. But the cho ice of method should have no effect on their current control and measurement systems. 2. The correct approach in deciding whether to process further and make DRAM modules fro m the standard modules is to compare the incremental revenue with the incremental costs: Incremental revenue fro m making DRAMs ($26 × 400) – ($17 × 500) Incremental costs of DRAMs, further processing Incremental operating inco me from convert ing standard modules into DRAMs $1,900 1,600 $ 300 16­40 A total inco me co mputation of each alternat ive fo llows: Alternative 1: Sell Deluxe and Standard Total revenues ($25,000 + $8,500) $33,500 Total costs 26,500 Operating income $ 7,000 Alternative 2: Sell Deluxe and DRAM ($25,000 + $10,400) $35,400 ($26,500 + $1,600) 28,100 $ 7,300 Difference $1,900 1,600 $ 300 It is profitable to extend processing and to incur addit ional costs on the standard module to convert it into a DRAM module as long as the incremental revenue exceeds incremental costs. The amount of jo int costs incurred up to splitoff ($24,000)––and how these jo int costs are allocated to each o f the products––are irrelevant to the decisio n of whether to process further and make DRAMS. That’s because the jo int costs of $24,000 remain the same whether or not further processing is done on the standard modules. Joint­cost allocat ions using the physical measure method (on the basis of the number of bits) may mis lead MMC, if MMC uses unit­cost data to guide the cho ice between selling standard modules versus selling DRAM modules. In requirement 2, allocating jo int costs on the basis of the number of good bits yielded a cost of $16,000 for the Deluxe modules and $8,000 for the Standard modules. A product­line inco me statement for the alternat ives of selling Deluxe modules and DRAM modules would appear as fo llows: Deluxe Module Revenues Cost of goods sold Joint costs allocated Separable costs Total cost of goods sold Gross margin $25,000 16,000 1,500 17,500 $ 7,500 DRAM Module $10,400 8,000 2,600* 10,600 $ (200) *Separable costs of $1,000 to manufacture the Standard module and further separable costs of $1,600 to manufacture the DRAM module. This product­line inco me statement would erroneously imply that MMC would suffer a loss by selling DRAMs, and as a result, it would suggest that MMC should not process further to make and sell DRAMs. This occurs because of the way the jo int costs are allocated to the two products. As ment ioned earlier, the jo int­cost allocation is irrelevant to the decisio n. On the basis of the incremental revenues and incremental costs, MMC should process the Standard modules into DRAM modules. 16­41 ...
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