OVERVIEW
This is an excellent short case to introduce the managerial accounting issues related to the "joint cost" problem. Classic microeconomics argues unequivocally that attempts to assign cost to individual products in a "joint" set constitute a complete waste of time--"just maximize the total revenue over the batch." Like the comparable adage to "price so that marginal cost equals marginal revenue," the economists' advice about joint costing is certainly accurate, given the assumptions, but not particularly useful in practice. Most managerial accountants, including this author, believe that there are important managerial issues involved in accounting for joint cost in real companies. This case covers those issues for a real company.
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The case says that no production costs are assigned to the by-product. This is one alternative for dealing with by-products. We also assume here that any revenue from by-product sales is credited to miscellaneous income, rather than being offset against the $200,000 manufacturing cost. Otherwise, given the uncertainly about by-product revenues in the case, even the average cost calculation becomes very complex.
If the "by-product" units (400s) are considered a joint product, the average cost is $.40 per unit ($200,000 ÷ 500,000 units).
The RSV method has a number of twists that can result in many different unit costs for the five products. For inventory costing purposes, any systematic cost allocation system will do. The basic idea of the relative sales value scheme is that all sales should show gross margin percent equal to the average gross margin percent across the full joint product set. This average is 19% [(246 - 200) ÷ 246)]. This does imply 5 different costs for the 5 different products, based on the 5 different selling prices. As long as no product switching occurs, the basic idea is easily preserved. Note here that the relevant designation for a product is the sales designation. Anything sold as a 401 will carry 401 cost.
Here are the resulting unit cost numbers:
Unit Costs
401 402 403 404 405
Physical
1. For financial accounting purposes, what is the total amount of product costs incurred to make 10,000 units?
The product cost per unit under absorption costing is $15.00 and under variable costing are 10.60.
The sales-value at splitoff method captures the benefits-received criterion of cost allocation and is the preferred method. The costs of processing a chicken are allocated to products in proportion to the ability to contribute revenue. Chicken Little’s decision to process chicken is heavily influenced by the revenues from breasts and thighs. The bones provide relatively few benefits to Chicken Little despite their high physical volume.
Second, the manufacturing order costs for non-stocked items was calculated by dividing total manufacturing order costs for non-stocked items by the number of orders for non-stocked products. Non-stocked products have additional costs associated with processing orders that went above and beyond the costs associated with a stocked product. The third step involved determining what the S"A allocation factor would be for calculating the S"A volume related costs. This allocation factor would then be applied to manufacturing COGS. The fourth and final step involved the calculation of the operating profit based on backing out volume related costs from sales revenues followed by deducting S"A and manufacturing order costs from the resulting gross margin to arrive at a operating profit.
“Companies can choose to use the accounting job order costing method when they have a single product line or numerous products to manufacture. However, it is less costly and less time-consuming if they elect to use process costing when calculating the manufacturing of a single product line. With similarities
Glaser Health Products manufactures medical items for the health care industry. Production involves machining, assembly and painting. Finished units are then packed and shipped. The financial controller is interested to introduce an activity-based costing (ABC) system to allocate (or distribute) indirect costs to products. Indirect costs, as distinct from direct costs, cannot be unambiguously linked to specific products. The controller would like to calculate product costs based on ABC for planning and control, not inventory valuation.
shipments x 500$ 70 nr. shipments x 500$ 220 nr. shipments x 500$ number of units per batch total overhead cost overhead cost / unit cost per unit
7. Though numbers given in the cost data can not be contested, I would definitely contest the way total cost has been computed. The item 345 department operates within a large manufacturing facility that churns out number of other products too. Hence judging the profitability of item 345 on the basis of total cost is not practical.
First, we have identified if there is really an insufficiency in the amount of selling prices set by the Sales Department, in reference to Exhibit 1 of the case. We did this through identifying the maximum amount of overhead costs that the company can incur for the three products and comparing it with the total overhead costs. See Table 1 for details.
with a number of strategic issues facing a capital-intensive, mature industry. Their product costing system was
With this system each customer’s order cost the same amount to complete causing orders with high profit limits to subsidized orders with low profit limits making it difficult for Super Bakery to know the true cost for an order. The company changed to the activity-based costing (ABC) system allowing the managers the ability to recognize the cost and profit margins for each sale. The ABC system associates the costs with the activities allowing managers the opportunity to access a system that allocates overhead costs that uses multiple bases. Costs can be traced back to each individual’s account regardless of the product provider letting managers know which products are profitable and which ones are not. The traditional costing system allocates cost to departments or jobs instead of overhead cost pools. The traditional costing system makes it difficult to know which activity or product is making a profit.
2. The total expected cost per unit was $205.7 per unit and the actual cost per unit was $211.93 per unit. See Exhibit 2.
The current method of apportioning production overheads based on direct labour hours can be described as a traditional approach to product costing. In a manufacturing company’s financial statements, each item produced must be allocated some of the production overheads to make the statements compliant. Sometimes the individual costs of these items can be calculated incorrectly based on overall production overhead and the system of allocating in place, however the overall financial statement can still be accurate. This traditional method of allocating the production
The purpose of this paper is to answer a few important questions: Why do companies allocate costs? How do companies allocate costs? And how this cost allocation can affect the decision making of the company. It is important for the companies to find the proper method to allocate the costs. Cost allocation is an important issue in many companies because many of the costs associated with designing, producing and distributing products and services are not easily identified with the products and services that are created. It would have been easier for companies to allocate cost if costs were directly traceable with the products and the cost allocation would have been minor issue for the company. The decision-making
During the 1980s the limitations of traditional product costing systems began to be widely publicised. These systems were designed decades ago when most companies manufactured a narrow range of products, and direct labour and materials were the dominant factory costs. Overhead costs were relatively small, and the distortions arising from inappropriate overhead allocations were not significant. Information processing costs were high, and it was therefore difficult to justify more sophisticated overhead allocation methods.