Question

Leonard’s Orchard grows cherries.  In July, as the cherries are picked, they are sorted into grades. They sell the Grade A cherries at their roadside stand for $5 per kilogram.  Grade B cherries can also be sold at the roadside stand but they sell for only $3 per kilogram.  Leonard also has a canning and freezing facility at his orchard so that he can process the cherries further should he wish.

Each batch of 1,000 kg of cherries that are picked yields the following quantities:

  

	Quantity
Grade A Cherries	700 kg
Grade B Cherries	300 kg

Each batch of 1,000 kg of cherries costs $500 to grow and pick.

Leonard is considering processing all of the Grade A cherries into Frozen Cherries.  This will cost an additional $200 but he will be able to sell 700 kg of Frozen Cherries for $5,000 in total.  He is also considering processing all of the Grade B cherries into Canned Cherry Pie Filling.   This processing will cost $400 but he will be able to sell 300 kg of Canned Cherry Pie Filling for $1,200 in total.

1. Allocate the $500 in joint processing costs to the Grade A and Grade B cherries using the Sales Value at the split off method.
2. Allocate the $500 in joint processing costs to the Grade A and Grade B cherries using the NRV method.
3. Which product should he process further?  Grade A cherries into Frozen Cherries or Grade B into Canned Cherry Pie Filling?  Why or why not?
4. A researcher regularly buys the cherry pits (a by-product) from Leonard’s Orchard for $80/kg.  During the year, 600 kg of cherry pits were saved in the processing of cherries and 250 kg of cherries were sold to the researcher.

1. If Leonard uses the Production Method of accounting for by-products, what is the value of the ending inventory of Cherry Pits?
2. If Leonard uses the Sales method of accounting for by-products, how will the sale of cherry pits affect the Income Statement during the year?

Answer 1

	Each 1000 Kg of Cherries produce
	Grade A	700 kg
	Grade B	300 kg
	Costs	$      500.00
	cherry A	$           5.00	per kg
	Cherry B	$           3.00	per kg
	Sales Revenue
	-Grade A	3500
	-Grade B	900
	Total	4400
	Further processing		Sales price
	-Grade A into frozen cherries	$      200.00	$                      5,000.00
	-Grade B into canned	$      400.00	$                      1,200.00
a)	Allocation of joint cost using Sales Method
	Joint Cost	$      500.00
	Ratio of sales revenue (35:9)
	-Grade A	$      397.73
	-Grade B	$      102.27
		$      500.00
b)	Allocation of joint cost using NRV Method
	Calcualtion of NRV	-Grade A	-Grade B
	After processing revenue	$   5,000.00	$                      1,200.00
	Less: cost for processing	$      200.00	400
	NRV	$   4,800.00	$                         800.00
	Joint Cost	$      500.00
	Ratio of sales revenue (48:8)
	-Grade A	$      428.57
	-Grade B	$        71.43
		$      500.00
c)	Which should be Processed Further
		-Grade A	-Grade B
	Revenue after processing	$   5,000.00	$                      1,200.00
	Revenue Before Processing	$   3,500.00	$                         900.00
	Incremental Revenue	$   1,500.00	$                         300.00
	Processing Cost	$      200.00	$                         400.00
	Net Incremental Revenue	$   1,300.00	$                       (100.00)
	Grade A cherries should be further proceesed as It generates extra $ 1,300 net of expenses whereas if Grade B are processed they will reduce Net revenue by $ 100.00
d)	Revenue from by product	$ 20,000.00
(i)	Production Method
	Ending value of Cherry pits will be $ 28000.00 ( 80 x 350). Sales value will be taken as NRV as it is being sold on regular basis to researchers
(ii)	Sales revenue from By-Product will be reduced from COGS leading to Increase in Income in Income statement