(Appendix) Joint Costing—Replacement Method: In refining crude oil, three primary classes of products are ootained: (l) gasolines; (2) distillates such as jet fuel, heating oil, and diesel fuel; anc' (3) residual fuel. Due to marketing considerations, a primary objective of the refin-ng process is to obtain as much gasoline from the oil as possible. While some gasoline can be obtained with relatively little processing, obtaining greater yields of gasoline requires the use of catalytic processes under high pressures and temperatures. In addition to the characteristics of the refining process, a major determinant of the quantity of gasoline obtainable from a barrel of crude oil is the initial gravity of the oil. Certain heavy oils, while plentiful and relatively inexpensive, have yielded fairly low quantities of gasoline.

Great Lands Refining Company developed a new process for obtaining more gasoline from heavy crude oils. Without the new process, the typical yield from heavy crudes is 60 percent gasoline, 22 percent distillates, and 18 percent residual. With the new process, the yield of gasoline rises to 65 percent, distillates decrease to 20 percent, and residual decreases to 15 percent 0 percent, and residual decreases to 15 percent. To obtain the increased yields, the variable costs of processing a barrel of crude oil increase by $1 from $2. The refinery that would process this crude has a daily capacity of 50,000 barrels. The capacity would be unchanged by the process, but the fixed costs of the refinery would increase from $200,000 per day to $240,000 per day. The cost of a barrel of heavy crude is $24.

Joint processing costs are first allocated using engineering estimates of the "refining effort" to obtain the standard mix of each product. Under the present system, 60 percent of the refining effort is considered applicable to gasoline, 22 percent to distillates, and 18 percent to residual fuels. Any change in the product output would be charged into the accounts using the replacement method.

A standard barrel of oil contains 42 U.S. gallons. The refiner's gasoline price is $1.10 per gallon, while the price of distillates is $1 per gallon and the price of residual fuels is $.82 per gallon.

All figures can be reported in terms of the cash and income flows from one day's operations. For simplicity, assume there is no loss of mass in refining and the refinery operates at 100 percent capacity.

Required: Use the replacement method to determine the cost of the increased gasoline production on a per barrel basis.