Market Value Method or Reversal Cost Method:
Learning Objectives:
- Define and explain market value
method.
- Explain the use of market value
method while costing by-products
Market value method or reversal cost method
is similar to the last technique (By Product Revenue deducted from
Production Cost) illustrated at
recognition of gross revenue method page.
However it reduces the manufacturing cost of the main product , not by the
actual revenue received, but by an estimate of the by products value at the
time of recovery. This estimate must be made prior to split-off from the
main product. Dollar
recognition depends on the stability of the market as to price and stability
of by product; however, control over quantities is important. The by product
account is charged with this estimated amount and the production
(manufacturing) cost of the main product is credited. Any additional costs
of materials, labor, or factory overhead incurred after the by-product is
separated from the main product are charged to the by product. The marketing
and administrative expenses might also be allocated to the by product on
some equitable basis. The proceeds from sales of the by product are credited
to the by-product account. The balance in this account can be
presented on the income statement in one of the ways outlined for
recognition of gross revenue method except that the manufacturing cost
applicable to by product inventory should be reported in the balance sheet.
The market value method (reversal cost method)
of ascertaining main product and by-product costs may be illustrated
as shown in the example below:
|
Item |
Main Product |
|
By Product |
| Materials |
$50,000 |
|
|
|
| Labor |
70,000 |
|
|
|
| Factory Overhead |
40,000 |
|
|
|
| |
-------- |
|
|
|
| Total production
cost (40,000 units) |
$160,000 |
|
|
|
| Market value
(5,000 units @ $1.80) |
|
|
|
$9,000 |
| Estimated
gross profit consisting of: |
|
|
|
|
| (20% of selling
price, assumed) |
|
|
$1,8000 |
|
| Marketing and
selling expenses 5% of selling price |
|
|
450 |
|
| |
|
|
------ |
$2,250 |
| |
|
|
|
------- |
| Estimated
production cost after split-off: |
|
|
|
|
| Materials |
|
|
$1,000 |
|
| Labor |
|
|
1,200 |
|
| Factory Overhead |
|
|
300 |
|
| |
|
|
------- |
2,500 |
| |
|
|
|
------- |
| |
|
|
|
|
|
Estimated value of by product at split-off to be credited to main
product |
4,250 |
|
|
$4,250 |
| |
--------- |
|
|
|
| Net cost of main
product |
$155,750 |
|
|
|
| Add back actual
production cost after split-off |
|
|
|
2,300 |
|
|
|
|
--------- |
| Total |
|
|
|
$6,550 |
|
|
|
|
====== |
| Total number of
units |
40,000 |
|
|
5,000 |
| Unit cost |
$3.894 |
|
|
$1.31 |
|
|
|
|
|
This example indicates that an estimated value
of the by product at the
split-off point results when estimated gross profit
and production cost after split-off are subtracted from the by-products
ultimate market value. Alternatively, if the by-product has a market value
at the
split-off point, the by-product account is charged with this market
value and the main product's production cost would be credited. It is also
possible to use the total market values of the main product and the
by-product at the
split-off point as a basis for assigning a share of the
prior split-off costs to the by product, applying the offsetting credit to
the production cost of the main product. In any event, subsequent to
split-off cost related to the by-product would be charged to the by product.
Market value method or reversal cost method is
based on the theory that the cost of a by product is related to its sales
value. It is a step toward the recognition of a by-product cost prior to its
split-off from the main product. It is also the nearest approach to methods
employed in
joint product costing.
|
