CHAPTER FIVE

COST ALLOCATION-JOINT PRODUCT AND BY PRODUCTS

5.1 Definition

Joint products: The term joint product refers to a group of products that are produced
simultaneously by a common process. A group of joint products is inseparable until the products
reach a certain point where they are divided or split in to separate products. This point is usually
called the split off point.

A joint product cost may be defined as that cost which arises from the common processing or
manufacturing of products produced from a common raw material. Whenever two or more
different products are created from a single cost factor, a joint product cost results. A joint cost is
incurred prior to the point at which separately identifiable products emerge from the same
process.

Byproducts: The term by product is generally used to denote one or more products of relatively
small total value that are produced simultaneously with a product of greater total value. The
product with the greater value, commonly called the main product, is usually produced in greater
quantities than the byproducts.

Separable costs are all costs of manufacturing, marketing, distribution, and so on. Incurred
beyond the split off point those are assignable to one or more individual products.

By products and joint products are difficult to cost because a true joint cost is indivisible. For
example, an ore might contain both lead and zinc. In a raw state, these minerals are joint
products. And until they are separated, the cost of finding, mining and processing is a joint cost.
Then, the cost accumulated up to the split off point must be borne by the difference between the
selling price and the cost to complete and sell each mineral after the split off point.

Joint and byproducts usually create cost allocation problem, as their costs can not be allocated
using the cause and effect logic as that of allocating the supporting departments’ cost. There is

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no accurate way to determine the amount of joint costs that is caused by any particular joint
product.

5.2 Approaches to Allocate Joint Costs

There are four basic approaches to allocate joint costs:
1. Allocate base on physical quantities
2. Allocate based on Actual Sales Value at split off point
3. Allocate based on Net Realizable Value (NRV) at split off
4. Allocate based on Net Realizable Value (NRV) less an Average Gross Profit Margin
Illustration 5.1: Assume that 30,000 and 10,000 units of joint products A and B respectively are
produced at a total joint product ion cost of $120,000. Product A is sold at $15 and product B for
$10.
Required: allocate the joint cost under:

1. Allocate Base On Physical Quantities

This method involves in allocation of joint costs proportion to a physical measure of joint
products at split off point such as the number of products, gallons, liters meters etc. It tries to
follow the cause and effect or benefit received logic.

Physical Quantities Allocation

Product A: 30,000 units 30,000/40,000 * $120,000 = $90,000

Product B: 10,000 units 10,000/40,000 * $120,000 = $30,000

Total 40,000 units $120,000

2. Allocate Based on Actual Sales Value at Split Off Point

If the joint products have defined sales values at a point of separation i.e if they are sellable at
point of separation without further processing, then the joint cost can be allocated in proportion
to these values. This approach follows the ability to bear the cost logic.

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Allocating joint costs based on sales value at the split off point can be defended on the ground on
the grounds that it produces equal profit percentages at the point of separation, which eliminates
the problems associated with using physical quantities as the allocation base.

Selling Price Allocation

Product A: 30,000 * $15 = $450,000 450,000/550,000 * $120,000 = $98,181.8

Product B: 10,000 * $10 = $100,000 100,000/550,000 * $120,000 = $21,818.2

Total $550,000 $120,000

3. Allocate Based on Net Realizable Value (NRV) at Split Off point

NRV refers to a product’s estimated sales value at the split off point. These estimates are
frequently used when an actual sales value at split off point does not exist or cannot be obtained.
A NRV is calculated for each product by subtracting the after split off costs – cost required to
convert the joint product in to marketable condition, from the final sales value.

NRV = Final sales value – After split off cost

Assume the above illustration except that additional $ 115,600 is incurred to make joint product
A in marketable condition and $84,400 for joint product B. And after the additional process joint
products A and B will be sold at $20 and $12 respectively.

Net Realizable Value Allocation

Product A: $600,000 –115,600 = 484,400 484,400/520,000* $120,000 = $111,784.6

Product B: $120,000 – 84, 400 = 35,600 35,600/520,000 * $120,000 = $8,215.4

Total $520,000 $120,000

4. Allocate based on Net Realizable Value (NRV) less an Average Gross Profit Margin

This method extends the NRV method by subtracting an average gross profit margin from the net
realizable value to obtain the joint cost allocation. More specifically the calculations are
performed as follows:
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Joint cost allocation=Final Sales Value – After split of cost – Average gross profit Margin

= NRV – (Average GP ratio) (final sales value of each product)

Average GP ratio= (combined final sales value – combined costs)/combined final sales value

= 720,000 – 120,000 – 200,000 = 400,000/720,000 = 55.56%

Allocation:

Product A: $484,400 - 0.556(600,000) = $151,067

Product B: 35,600 - 0.556 ($120,000) = -$$31,067

Total $120,000

5.3 Accounting for Byproducts

Joint production process may yield not only joint and main products but byproducts as well.
Although byproducts have much lower sales value than do joint or main products, the presence
of byproducts can affect the allocation of joint costs.

Illustration 5.2: The Meatworks Group processes meat from slaughterhouses. One of its
departments cuts lamb shoulders and generates two products:

Shoulder meat (the main product) – sold for Br.60 per pack.

Hock meat (the byproduct) - sold for Br.4 per pack.

Both products are sold at splitoff point without further processing. Data (number of packs)
for this department in July 2001 are as follows:

Production Sales Big. Inv. End.Inv.

Shoulder meat 500 400 0 100

Hock Meat 100 30 0 70

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 The joint manufacturing costs of these products in July 2001 were Br.25, 000 (comprising,
Br.15, 000 for direct materials and Br.10,000 for conversion costs).

Method A: Byproducts Recognized at the Time Production is Completed

This method recognizes the byproduct in the financial statements-the 100 packs of hock meat-in
the month it is produced (July 2001). The estimated net realizable value from the byproduct
produced is offset against the costs of the main (or joint) products. The following journal entries
illustrate this method:

1. Work in process 15,000

Account Payable 15,000

(To record direct materials purchased and used in production during July)

2. Work-in Process 10,000

Various Accounts 10,000

(To record conversion costs in the production process during July; examples include
energy, manuf.supplies, all Manu. labor, and plant maintenance)

3. Byproduct Inventory-Hock Meat (100*Br.4) 400

Finished Goods –Shoulder Meat (Br.25, 000-400) 24,600

Work-in Process (Br.15, 000+10,000) 25,000

(To record cost of goods completed during July)

4a. Cost of Goods Sold [(400/500)*24,600 19,680

Finished Goods-Shoulder Meat 19,680

(To record cost of the main products sold during July)

b. Cash (Account Receivable) 400*Br.60 24,000

Revenues –Shoulder Meat 24,000

(To record the sales of the main product during July)

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 5. Cash (Account Receivable) 30*Br.4 120

Byproduct Inventory- Hock Meat 120

(To record the sales of the byproduct during July)

This method reports the byproduct inventories of hock meat in the balance sheet at their
Br.4/pack selling price [(100-30)*Br.4 = Br.280].

Method B: Byproducts Recognized at Time of Sale

This method makes no journal entries until sale of the byproduct occurs. Revenues of the
byproducts are reported as a revenue item in the income statement at the time of sale.

In the Meatworks Group example, byproduct revenues in July 2001 would be Br.120
(30*Br.4) because only 30 packs of the hock meat are sold in

July (of the 100 packs produced). The journal entries would be:

1 and 2: Same as for Method A.

3. Finished Goods-Shoulder Meat 25,000

Work-in Process 25,000

(To record cost of goods completed during July)

4a. Cost of Goods Sold [(400/500)*Br.25, 000 20,000

Finished Goods-Shoulder Meat 20,000

(To record cost of the main products sold during July)

4b. Same as for Method A

5. Cash (Account Receivable) 120

Revenues- Hock Meat 120

To record the sales of the byproduct during July)

Method B is rationalized in practice primarily on grounds that the dollar amounts of

byproducts are immaterial. However, this method permits managers to “manage” reported
earnings by timing when they sell byproducts.