Question

1. “What is the joint cost? Explain why joint costs have to be allocated to various products. List the four basic methods of allocating joint costs to joint products and discuss in details. Identify what a by-product is with examples.”

2. “Significance of Joint Cost Allocation with Arguments in favor and Against “Discuss the Statement.

Answer 1

1)

Joint products are two or more products produced simultaneously by the same process.

A joint cost is a cost of a production process that yields multiple products simultaneously.
A separable cost is a cost incurred beyond the split-off point that is assignable to each of the
specific products identified at the split-off point.

Joint cost allocations must be done for financial reporting purposes: to value inventory and to determine income. An allocation method must be found, though arbitrary, to allocate the joint costs as reasonably as possible.

Allocation based on the relative market value, using the following methods:

Sales-value-at-split-off method

Net realizable value method

Constant gross margin percentage method

Sales-to-production-ratio method

1.   Sales-Value-at-Split-Off Method

a.   The sales-value-at-split-off method allocates joint cost based on each product’s proportionate share of market or sales value at the split-off point.

b.   In this method, the higher the market value, the greater the joint cost assigned to the product.

2.   Net Realizable Value Method

a.   The net realizable value method allocates joint costs based on hypothetical sales values because there may not be a ready market for the product at the split-off point.

b.   This method is particularly useful when one or more products cannot be sold at the split-off point but must be processed further.

Hypothetical sales value =
                Market price – Further processing costs after split-off point

3.   Constant Gross Margin Percentage Method

a.   The constant gross margin percentage method allocates joint costs such that the gross margin percentage is the same for each product.

b.   This method assumes that the further processing yields an identical profit percentage across all products.

c.   Using the constant gross margin percentage method, the joint cost allocation steps include the following calculations:

Grand gross margin percentage = (total revenue - total costs) / total revenue

Joint product gross margin = Market price × Grand gross margin

Joint cost allocated to product = Market value – Gross margin – Separable costs

4.   Sales-to-Production Ratio

a.   The sales-to-production-ratio method allocates joint costs in accordance with a weighting factor that compares the percentage of sales with the percentage of production.

b.         In this method, the products that sell the most are allocated a larger share of the joint cost of current production.

c.   Using the sales-to-production-ratio method, the joint cost allocation steps include:

(1)   Compute the percentage of total sales based on the joint product units sold.

(2)   Compute the percentage of total production based on the joint product units produced.

(3)   Compute the sales-to-production ratio of the joint product.

Sales-to-production ratio = % of Total sales / % of production

(4)        Use the sales-to-production ratio to allocate joint cost.

The distinction between a joint product and a byproduct is based on relative sales value.
A joint product is a product from a joint 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 relatively low total sales value compared to the total sales value of the joint (or main) products.

Some examples of By-Product from various industries are as follows:

• Sugar beet molasses after sugar refining – can be used as a fodder for animals, while sugarcane molasses is also used as flavoring and coloring agent in some foods.
• Fruit pulp, seeds, and peels that is left over after being processed for fruit juice and related beverages – can be an important raw material for cosmetic industries for their medicinal properties.
• Ethylene – a by-product of petroleum refinery – is an essential ingredient used in manufacturing polystyrene, polyvinyl chloride (PVC), and polyethylene based products i.e. Plastic products

2)

In cost accounting, joint costs are production costs incurred in creating two (or more) products. There are several important reasons why you spend time figuring and allocating joint costs:

• Financial reporting: Joint costs need to be computed and allocated for inventory and cost of goods sold. Financial accounting is the process of creating financial reports for external users (for example, shareholders, creditors, or regulators). Of course, there are standards of financial reporting — rules of the road for explaining financial results — and many books have been written about them.

• Product pricing: Joint costs are used to compute total product costs. Product costs are then used to determine a profit and a sale price. You need to calculate joint costs to calculate inventoriable costs. Those costs are attached to inventory and expensed when the product is sold. So you need joint costs to calculate inventory values and the cost of goods sold. This information ends up in your financial reports, too.

  It’s a mantra you may grow tired of hearing: You need total product costs to decide on a profit level and figure out a sale price. If you have joint production, you need the joint costs to compute total product costs.

• Contracts: Joint costs are part of cost reimbursement under contracts. Under many contracts, you need to justify your costs and document them to receive reimbursement. Essentially, you’re proving that your spending met the guidelines in the contract. If you have joint costs, they need to be part of this process.

• Insurance settlements: Insurance settlements for damage claims include joint costs. If you file an insurance claim regarding damaged assets, you need to document each asset’s value. Say you produce inventory using a joint production process. And say some of that inventory was damaged when your warehouse was hit by a storm. To justify the inventory cost for your insurance claim, you need details on the joint costs in that inventory.

• Regulated products: A regulated product or service may require joint cost allocations to compute a price. Some industry prices are set and controlled by federal or state regulation. Utility companies are the best example. Because it’s a process of justifying costs, you need to provide your total costs (including joint costs) to the regulator.

• Litigation: Litigation documentation and support may require joint cost allocations. Unfortunately, litigation is a cost of doing business. Every company, to some extent, has to deal with litigation. Whether your company is initiating a legal action or defending itself against an action, you need good documentation.

  Often, the issue in corporate litigation is a product or service. The value of the product must be determined so that the court knows the dollar amount in dispute. If you use joint production, you need to include the joint costs in your total.