Exotic Aroma Company buys bulk flowers and processes them into perfumes in a two

Question

Exotic Aroma Company buys bulk flowers and processes them into perfumes in a two-stage process. Its highest-grade perfume, Seduction, and a residue that is processed into a medium-grade perfume, Romance, come from a certain mix of petals. In July, the company used 25,000 pounds of petals. The first stage is a joint process that reduces the petals to Seduction and the residue. This first stage had the following costs: - $100,000 direct materials - $200,000 conversion The additional costs of producing Romance in the second (pressing) stage were as follows: - $44,000 direct materials - $180,000 conversion For July, total production yielded 2,000 ounces of Seduction and 8,400 ounces of Romance. There was no beginning inventory on July 1, nor were there uncompleted units. Packaging costs incurred for each product as completed were $120,000 for Seduction and $308,000 for Romance. The sales price per ounce is $180 for Seduction and $70 for Romance. Required a. Allocate joint costs using the net realizable value method. (Packaging and additional processing costs must be subtracted from revenue to compute net realizable values.) b. Allocate the joint costs using the physical-measures method. c. Management is concerned about the large disparity in allocation amounts using the physicalmeasures method versus the NRV method. Management has asked you to explain why this discrepancy occurred. Write a memo to management explaining it. d. Assume that Exotic Aroma can sell the squeezed petals from the reduction process to greenhouses for fertilizer. In July, it sold 12,000 pounds of squeezed petals that were left over for $1.50 per pound. The squeezed petals are a by-product of reduction. Assume that the net realizable value of by-products reduces the joint costs of main products. Answer requirements (a) and (b) using this new information.

Explanation / Answer

FOLLOW THIS Joint Cost Allocation--joint costs need to be allocated to the joint products for various reasons (such as inventory valuation for financial accounting purposes, measuring profitability of joint products, pricing decisions, cost reimbursement, etc.) 1. Physical Quantities Method--joint costs are allocated to the joint products based on their relative physical measure (such as volume, weight, etc.) a. Illustration--a corporation incurred joint costs of $2,400 in manufacturing Product A and Product B to the split-off point; Product A weighed 700 pounds and had a sales value at the split-off point of $1,800; Product B weighed 300 pounds and had a sales value at the split-off point of $1,200 Cost Allocation: Product A = 700 / (700 + 300) x 2,400 = 1,680 Product B = 300 / 1,000 x 2,400 = 720 2,400 Income Statement: Product A Product B Total _ Sales 1,800 1,200 3,000 Cost of Goods Sold 1,680 720 2,400 Gross Margin 120 480 600 Gross Margin %: Product A = 120 / 1,800 = 7% Product B = 480 / 1,200 = 40% Total = 600 / 3,000 = 20% 2. Sales Value Method a. Net Realizable Value Method--if the sales value at the split-off point is known, joint costs are allocated to the joint products based on their relative sales value at the split-off point 1) Illustration--a corporation incurred joint costs of $2,400 in manufacturing Product A and Product B to the split-off point; Product A weighed 700 pounds and had a sales value at the split-off point of $1,800; Product B weighed 300 pounds and had a sales value at the split-off point of $1,200 Cost Allocation: Product A = 1,800 / (1,800 + 1,200) x 2,400 = 1,440 Product B = 1,200 / 3,000 x 2,400 = 960 2,400 Income Statement: Product A Product B Total _ Sales 1,800 1,200 3,000 Cost of Goods Sold 1,440 960 2,400 Gross Margin 360 240 600 Gross Margin %: Product A = 360 / 1,800 = 20% Product B = 240 / 1,200 = 20% Total = 600 / 3,000 = 20% b. No Sales-value at Split-off Point--the sales value at the split-off point for one or more of the joint products is not known 1) Estimated Net Realizable Value Method--sales value at the split-off point of the joint products is estimated by taking the sales value of each joint product at the first point at which the products can be sold and deducting the processing costs that must be incurred after the split-off point up to the first point at which the products can be sold, and then joint costs are allocated to the joint products based on their relative estimated sales value at the split-off point a) Illustration--a corporation incurred joint costs of $2,400 in manufacturing Product A and Product B to the split-off point; Product A weighed 700 pounds and had a sales value of $3,600 after incurring additional processing costs of $675; Product B weighed 300 pounds and had a sales value of $1,400 after incurring additional processing costs of $425 Estimated Net Realizable Value: Product A = 3,600

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