Joint cost allocation methods
The allocation of the joint production cost incurred up to the split off point can be made by:
- The quantitative or physical unit method based on some physical measurement unit such as weight. linear measure or volume.
- The weighted average method, based on predetermined standard or index of production.
- The market or sales value method based on the relative market values of the individual product.
Quantitative or physical unit method
This method attempts to apportion total production cost to the various products on the basses of a predetermined standard or index of production. An average unit cost is obtained by dividing the total number of units produced into the total joint production cost. As long as all units produced are measured in terms of the same unit and do not differ greatly, the method can be used without too much misgiving. When the units produced are not measured in like terms, the method cannot be applied.
Joint products A, B, C and D are produced at a total joint production cost of $120,000. Quantities are produced: A, 20,000 UNITS, B, 15,000 UNITS; C, 10,000 UNITS and D, 15,000 UNITS. Calculate the joint production cost allocation.
Companies using this method argue that all products turned out by the same process should receive a proportionate share of the total joint production cost based on the number of units produced.
Weighted average method
In many industries, the previously described methods do not give a satisfactory answer to the joint cost apportionment problem. For this reason weight factors are often assigned to each unit, based upon size of the unit, difficulty of manufacture, time consumed in making the units, difference in type of labor employed, amount of material used, etc. finished production of every kind is multiplied by weight factors to apportion the total joint cost to individual units.
Using figures from the above example, weight factors assigned to the four products might be as follows:
Product A 3points
Product B 12 points
Product C 13.5 point
Product D 15 points
Calculate the joint production cost allocation.
The joint production cost allocation would result in these values:
Market or sales value method
This method enjoys great popularity because of the argument that the market value of any product is a manifestation of the cost incurred in its production. The contention is that if one product sells for more than another does, it is because more cost was expanded to produce it.
Therefore, the way to prorate the joint cost is on the basis of the respective market values of the items produced. The method is really a weighted market value basis using the total market or sales value of each unit (quantity sold times the unit sales price).
Joint products A, B, C and D are produced at a total joint production cost of $120,000. Quantities are produced: A, 20,000 UNITS, B, 15,000 UNITS; C, 10,000 UNITS and D, 15,000 UNITS. Product A sells for $0.25, B for $3.00, C for $3.50 and D for $5.00.
These prices are market or sales values for the products at the split-off point; i.e., it is assumed that they can be sold at the point. Management may have decided, however, that it is more profitable to process certain products further before they are sold. Nevertheless, this condition does not destroy the usefulness of the sales value at the split-off point for the allocation of the joint production cost. Calculate the joint production cost allocation.