Estimated Net Realizable Value (NRV) Method

The Estimated Net Realizable Value (NRV) method can be used if one or more of the joint products must be processed beyond the split off point in order to be sold. It may also be used under certain circumstances if one or more of the joint products may be processed beyond the split off point in order to increase its value above the selling price at the split off point.

This method is essentially the same as the Relative Sales Value method, and the allocation is done in the same way, except an estimated Net Realizable Value (NRV) is used for the product or products that must be or will be processed further.

The estimated NRV for a product to be processed further is calculated as:

    Future sales price of items produced that will be sold in the future

− Separable costs incurred after the split off point

= Estimated net realizable value

If one (or more) of the joint products is not processed further but is sold at the split off point, instead of using NRV for those products, the company will simply use the Sales Values at the split off point for the products that can be sold at the split off point, while using the NRVs for the products that must be processed further to be marketable.

The Estimated NRV method would generally be used instead of the Relative Sales Value at Split off Point method only when a market price at the split off point is not available for one or more of the joint products, for example because a product is not marketable at the split off point. If a market price at the split off point is available for one or more of the joint products because the products can be sold at that point, that price is used instead of the products’ NRVs, even if the products will be processed further.

If a sales value at split off is not available for one or more of the joint products, it is acceptable to use within the same allocation the net realizable values of the products that must be processed further in order to be sellable while using the sales values at split off for the products that can be sold at the split off point. For instance, a company may have one product that cannot be sold at the split off point and must be processed further (thus no sales value at split off is available for it), while the other product can be sold at the split off point. In such a case, the NRV of the product that must be processed further is its estimated NRV (sales price after further processing less cost to process further), while the NRV of the product that can be sold at the split off point is its sales value at the split off point.

The Relative Sales Value at Split off method is preferred to the NRV method whenever selling prices at split off are available for all the joint products, even if further processing is to be performed.

The Net Realizable Value method is generally used in preference to the Relative Sales Value at Split off method only when selling prices for one or more products at split off do not exist.

However, sometimes when sales prices at the split off do exist for all the joint products but one or more products can be processed further, an exam problem may say to use the Net Realizable Value method to allocate the joint costs. If a problem says to use the Net Realizable Value method, use the net realizable values for the products that can be processed further even though sales prices at split off do exist, but only if the cost to process further is less than the additional revenue to be gained from the further processing. (If the cost to process a product further is greater than the additional revenue to be gained from the further processing, the product will not be processed further)

If the problem does not say to use the Net Realizable Value method and sales values at the split off exist for all products, then use the sales values of all the joint products for the allocation, even if one or more of the products can be or will be processed further.

The joint costs of production are not relevant costs in the decision to process further or sell immediately because they are sunk costs. To determine whether a product should be processed further, the company should compare the incremental revenues (the increase in the sales price that results from further processing) with the incremental cost (the increase in costs related to the additional processing). If the incremental revenue is greater than the incremental cost, the product should be processed further.

Costs incurred by each of the separate products after the split off point are simply allocated directly to those products.

Benefits of the Net Realizable Value Method

• The Net Realizable Value method can be used instead of the Sales Value at Split off method when selling prices for one or more products at the split off do not exist, because it provides a better measure of the benefits received than the other methods that could be used in this situation.
• The allocation results in comparable profitability among the joint products.

Limitations of the Net Realizable Value Method

• The NRV method is complex. It requires information on the specific sequence of further processing and the separable costs of further processing, as well as the point at which individual products will be sold.
• The NRV method is often implemented with simplified assumptions. Companies assume a specific set of processing steps beyond the split off point, but the actual process may be different. In fact, a company may change the steps frequently.
• Selling prices of joint products may vary frequently, but the NRV method uses a single set of selling prices throughout an accounting period, which can introduce inaccuracies into the allocations.