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Managerial Control and Accounting – II
Session-12 Instructor : Prof. Keyur Thaker Date of Submission :
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costs of goods sold and value of finished goods. Splitoff Point: Splitoff point is the juncture in a joint production process when two or more products become separately identifiable. To determine costs for reimbursement and rate regulation (utilities) purposes. natural gas. Byproducts: The products of a joint production process that have low total sales value compared with the total sales value of the main product or of joint products are called byproducts.e.Concepts to be known for analysis of the Case: Joint Cost Basics: Joint Costs: Joint costs are the costs of a production process that yields multiple products simulatenously. Separable Costs: Separable costs are all costs –manufacturing. Joint Products: When a joint production process yields two or more products with high total sales value compared with the total sales values of othe products. marketing. Main Products: The term product here refers to any output that has a positive total sales value. those products are called joint products. in a joint distribution process.incurred beyond the splitoff point that are assignable to each of the specific products identified at the splitoff point. If we consider the distillation of coal. and other products. Why allocate Joints Costs? • • • To determine inventory costs i. The costs of this distillation are joint costs. is the product that has high total sales value compared with the total sales value of other products of the process. distribution and so on. if any. it yields coke. Approaches to Allocating Joint Costs: There are two approaches to allocate joint costs: . Main product. Customer and product profitability analysis.
Wheat corn is then passed through roller mills and . Wheat is fed through a bin in the ground floor. Constant Gross-Margin Percentage NRV method: This method allocates joint costs to joint products in such a way that each individual products achieves an identical gross-margin percentage. Cleaned wheat is then passed through an aspiration-cleaning meachine where it is brushed and then it reaches double roller mill. Sales Value at Splitoff Method: This method allocates joint costs ot joint products on the basis of relative total sales value at the splitoff point. Net Realizable Value Method: The Net Realizable Value method allocates joint costs to joint products on the basis of relative NRV. Then. wholemeal flour. Approach B: In this method of allocation. suji.maize and stones from wheat. A3. or volume at the splitoff point. In term of physical proportions. Physical Measure Method: Physical-measure method allocates joint costs to joint products on the basis of a comparable physical measure such as relative weight. joint costs are allocated using physical measures such as the weight. About Lilac Flour Mills: Lilac Flour Mills processes wheat to produce white flour. This method works backward in that the overall gross margin is computed first. A1. • • • Compute overall gross margin percentage. A2. dried and stored in a clean bin.Approach A: In this method of allocation joint costs are allocated using market-based data such as revenues. 10 percent for suji. The production process: Plant consisted of several floors and is divided into two parts: i) cleaning section and ii) milling section.final sales value minus separable costs. There are 3 steps involved in allocating costs using the above method. It is then washed. which is passed through dust and chaff removal buckets and then through a triour equipment to remove corn. quantity. 10 percent for whole meal flour and 20 percent for bran. This method is typically used in preference to the sales value mehtod only when selling prices for one or more products at splitoff do not exist. B1. the average yield from a ton of wheat is 60 percent for white flour. and bran. this gross-margin percentage and any separable costs are deducted from the final sales value of production in order to back into the joint cost allocation for that product. quantity or volume. round seeds. for each product. Compute total production costs for each product Compute allocated joint costs.
. Hence if they are selling bran at the market price at the purchase prices available in the market. 3. suji.1866 per ton for bran. Inventory Accumulation: Lilac processed about 36 tons of wheat perday. which was far lower than the total cost that was calculated by the followed accounting procedure.37. selling and distribution incurred after the sieving stage was identified with individual products and treated as separable costs. 1140. it is evident that the problem is due to the allocation of the joint costs based on physical distribution. and wholemeal flour were used by direct household consumers and industrial units. Every ton of wheat yielded about 0. we are getting a total cost of Rs. Because of this. the Joint costs in the process are allocated based on the physical quantities proportion of the output. 760 which is why they are not able to sell it.2 tons of bran which comes to about 7. This is because the purchase offers ranged from Rs. Selling prices Whiteflour Suji Wholemeal flour Bran Rs 2100 Rs 2480 Rs 2000 :Rs.000 2.1000 to Rs.1350. which was valued at Rs. 1973.32. The end products wer passed thorough wooden channels to the ground floor where they were collected and packed. Existing Joint Cost Allocation Method : An average unit cost for each product was arrived at by dividing the total joint costs by the combined output of the four products. Hence a lot of bran is still left as inventory.plantsifters successively until all flour was won. The cost of packing. Wheat bran was primarily used as cattle feed by livestock breeding centers where as flour. Lilac Flour Mills was carrying an inventory of 2000 tons of bran. From the above points. 4.2 tons per day. In the current procedure. The reason behind this was that in as much as all the four products were obtained by the same process. Cost Prices Rs 1850 Rs 1850 Rs 1850 Rs 1850 Separable Costs Rs 78 Rs 84 Rs 34 Rs 16 Problems identified from the case: 1. they will incur a loss of around Rs. The bran that remained is collected by means of bran separator. As on December 31.
wholemeal flour and bran respectively. Sales Value Method: • In sales value method. Physical Quantity method: This is the method currently followed by Lilac Flour mills.Range of possible Solutions: When there are two are more products that undergo the same process at the same time in the course of conversion. • The profitabilities of different products based on this method are tabulated in table I 2. we use the sales value as the basis for allocation. The selling price for bran is assumed to be Rs. The selling price is assumed to be the market price for different product as of now in the market. we can split the joint costs among the different products based on this proportion. the joint costs should be allocated to each of the products based on some allocation basis. Table I • Allocating the joint costs in the same proportion. Adding separable costs to the joint costs will give the total cost per each product. This is not yielding the required results as we end up allocating high cost to bran and so not able to sell it.1140 per ton. The allocation basis can be of different types: 1. . suji. • The ratio of the products in physical quantity produced per each unit of wheat is 6:1:1:2 in the order of white flour.
and also the profitability of the different products when this method is followed .Table II • • We allocate the joint costs based on the proportion of the Sales value of the four products The following table-II gives the profitability of different products when this method is adopted: 3. Net Realization Value(NRV) method: • In NRV method. we use (selling price – separable costs) as the allocation basis for the different products Table III • Table III gives the allocation of the joint costs based on this method.
4. The tabe IV gives the cost allocation and the profitability for the different products when this method is used • • 5. wholemean flour and bran are treated as by-products. suji and wholemeal flour are considered as main products Hence. Assuming all the three products other than white flour as by-products: • In this case. Assuming only Bran as by-product: • • • Here. we see that the allot the joint costs to the by-products such that the total cost of these equal their selling price. . The remaining three products namely suji. we presume that the total cost of the by-product is just equal to the selling price of it. The remaining costs are allocated to the main product which is the white flour. we allocate the joint costs to Bran such that the total cost of Bran equals its selling price. profit for these products is zero. Hence. Table IV • When some of the products are treated as by-products. Or in other words. we assume only Bran as by-product. The other three products namely white flour. we assume only white flour as the main product as it constitutes 60% of the total output. when we allocate the joint costs to the different products. The remaining joint costs are allocated to the three main products based on their sales value.
we calculate the total Gross margin on all the products together. and we assume the same gross margin for different products Evaluating the solutions: Table VI gives the summary of all the alternatives discussed above and the gross margins calculated for different methods: 1. So.• Table V gives the cost allocation and profitability calculation for the different products based on this method: Table V 6. this is not the appropriate method . Physical Quantity method: From the case. Constant Gross margin NRV method: • In this method. it is clear that this method does not give the results that we expect. We end up allotting a very high cost for Bran.
Also we are getting a decent 1. 4.7% for the white flour. because we should note that we are allocating the extra joint costs of by-products to white flour. In case the market prices of the three by-products fall. Also. Treating only Bran as by-product: . But if we adopt this method. then it leads to an increase in overall cost of the white flour and hence decreases its margin.2% gross margin (which is very close to our overall margin) on our main product white flour. we are observing a gross margin of 1. there will be a lot of volatility in the cost allocation every time. Assuming all the three products other than white flour as by-products: In this method. Also. Sales value method: This method is better than Physical Quantity method as we do not observe any loss on any of the products. we will have gross margin of only 0. This might cause a concern especially for the senior management. which is our main product.9% on white flour. 5. we can see that we are getting a profit margin of 0% on our main product. We have to be careful when we use this method. white flour. Net Realization Value(NRV) method: By this method we are getting a good and even profit margin among all the products. as according to our assumption.Table VI 2. 3.
So. we can identify the following points as learnings: a) When multiple products are produced using the same processes simultaneously. if we adopt this method we are getting a gross margin of at least 1. Also. we should make sure that there is no significant impact because of this. which reflects on the balance sheet. c) We should be careful when treating some of the products as by-products. . we can go for the former method. in the long term.1% on the three joint products. So. The reason being. this increases the inventory costs of our main product. we can go for the Net Realization Value method. b) Physical distribution method though easy to implement. Since we will be allocating part of their joint costs to the main products. we can arrive at two final methods which we can adopt: 1. to avoid volatility in our values. Net Realization Value method 2. So. These methods should be viewed only from accounting perspective. the costs involved in the process (Joint costs) should be allocated after choosing an allocation basis to arrive at the right costs for each product. d) Finally. it can be used only when the products produced from the process are of comparable value. Treating only Bran as By-Product If we have to choose one method from these two. the inventory costs of the three products bear some cost corresponding to Bran(as we assume it as by-product). Best solution: From the above analysis. it might happen that the selling price of Bran changes and it leads to a change in the Inventory costs of other products too. Lessons from the case: From the case analysis.From the table we can see that. which ever method we adopt should not have any impact on the managerial decisions made. we should keep in mind that the cost allocation of joint costs should not cause any change in the economic decisions of the firm.
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