NEED TO APPORTION JOINT COST
Industries where two or more products of equal or unequal importance are produced; the management is faced with the problems such as
1. Valuation of inventory.
2. Determination of cost per unit of a product.
3. Product pricing and income determination.
4. Problem of taking decision in matters of further processing of by-products and/or joint products after a certain stage etc.
5. The management of business concern requires accurate and reliable cost information.
Meaning of some terms before we start with methods to apportion joint cost
SPLIT OFF POINT
The point at which two or more products get separately identifiable is called as Split off point
Expenditures incurred up to the point of separation i.e. split-off point are termed Joint costs.
Joint Costs = Common Materials Costs + Common Processing Costs
Costs incurred after the split off point is called as Subsequent costs. For costs incurred after the split off point there is no problem, as these costs can be directly allocated to individual joint products or by-products.
METHODS TO APPORTION JOINT COST
Proper apportionment of joint cost over the joint products is of considerable importance. The commonly used methods for apportioning total process costs up to the point of separation over the joint products are as follows:
- Physical Units Method
Joint costs are apportioned on the basis of Physical Volume of the joint products at the spilt off point. Any processing loss is also apportioned over the products on the same basis. This method is not applicable where the physical units of joint products are different. The main defect under this method is equal importance is given to all joint products
- Average unit cost method
Joint costs are apportioned on the basis of Average Cost Per Unit which is obtained as follows:
Average Cost Per Unit = Total Joint Cost_____________
Total number of units of Joint Products
In this method customers of high quality items are benefitted because they have to pay lower price. This method cannot be applied where physical units of joint products are different.
- Using Technical Estimates: This method uses technical estimates to apportion the joint costs over the joint products. This method is used when the result obtained by the above methods does not match with the resources consumed by joint products or the realizable value of joint products is not readily available.
- Survey Method / Points Value Method
This method is based on technical survey of all the factors involved in the production and distribution of products. Under this method joint costs are apportioned over the joint products, on the basis of percentage/point values, assigned to the products according to their relative importance. This method is considered to be more appropriate than other methods.
- Market value at the point of separation or relative market value method
Joint costs are apportioned in the ratio of Market value of the Joint Products at the separation point. This method can only be followed if joint products can be sold at Split off point which indirectly means it cannot be followed if market value of joint products is not available at split off point.
- Market value after further Processing Method
Joint costs are apportioned in the ratio of Market value of the Joint Products after further processing. This method is suitable only when products are subjected to further processing.
- Contribution Margin Method
Here joint costs are segregated into two parts-variable and fixed. The variable costs are apportioned over the joint products on the basis of units produced (average method) or physical quantities. In case the products are further processed after the point of separation, then all variable costs incurred will be added to the variable costs determined earlier. In this way total variable cost is arrived at which is deducted from their respective sales values to ascertain their contribution. The fixed costs are then apportioned over the joint products on the basis of the contribution ratios.
- Net Realizable Value Method / Reversal Method
From the sales value of the joint products (at finished stage) the followings are deducted: (a) Estimated profit margins.
(b) Selling and distribution expenses, if any, and
(c) Post-split off costs.
The resultant figure so obtained is known as net realisable value of joint products. Joint costs are apportioned in the ratio of net realisable values. This method is extensively used in many industries.
- Constant Gross Margin Percentage Method
Joint costs are apportioned in the ratio of Joint Cost Value at Separation Point.
Here first we calculate the Constant Gross margin of the company which is calculated as follows:
= Total Final Sales Value of all products – Total Joint & Further Processing costs x 100
Total Final Sales Value of all products
After this Joint cost is calculated as follows
Particulars Product X Product Y
Final sales value(after further processing) x x
- Constant gross margin (x) (x)
- Further Processing costs (x) (x)
- Selling & Distribution costs (x) (x)
Joint Cost Apportioned x x
This method is not suitable when all the Joint Products do not yield constant gross margin %. There may be negative cost allocation to a product.
- Notional Sales Value Method
Joint costs are apportioned in the ratio of Notional Sales value of the Joint Products at the separation point. Notional Sales value is computed as follows:
Sales Value after Further Processing – Further Processing Cost
This method is suitable where joint products are subjected to further processing and market value at separation point is not available.
TREATMENT OF BY-PRODUCT COST IN COST- ACCOUNTING
By-product cost can be dealt in cost accounting in the following ways:
(a) When they are of small total value:
When the by-products are of small total value, the amount realised from their sale may be dealt in any one the following two ways:
- The sales value of the by-products may be credited to the Costing Profit and Loss Account by treating it either as miscellaneous income or as additional sales revenue no credit be given in the Cost Accounts..
- The sale proceeds of the by-product may be treated as deductions from the total costs i.e. from the production cost or from the cost of sales.
(b) When the by-products are of considerable total value:
Where by-products are of considerable total value, they may be regarded as joint products rather than as by- products. To determine exact cost of by-products the costs incurred up to the point of separation, should be apportioned over by-products and joint products by using a logical basis. In this case, the joint costs may be divided over joint products and by- products by using relative market values; physical output method (at the point of split off) or ultimate selling prices (if sold).
(c) Where they require further processing:
We calculate net realisable value of the by-product at the split-off point may be arrived at by subtracting the further processing cost from the realisable value of by-products.If total sales value of by-products at split-off point is small, treat it as per the provisions discussed above under (a). In the contrary case, the amount realised from the sale of by-products will be considerable and thus it may be treated as discussed under (b).
DEPTH OF FURTHER PROCESSING
This concept helps us to decide whether to process products further or not. Products are further processed when Incremental revenue exceeds Incremental cost else sell them at spilt off point. Incremental Revenue = Final sales value – Sales value at Split off point
Incremental cost = Post separation costs + Any other cost specifically incurred for a product.
Do remember Apportionment of Joint costs is irrelevant for deciding whether to process the products or not.