Long-term

Construction
Contract

College of Accountancy
Pamantasan ng Lungsod ng Maynila
Long-term Construction
• It is a contract
Recognizes revenue Over-
specifically negotiated Time if at least one of the
for the construction of three criteria is met:
an asset or a
combination of assets • Consumes – The customer
that are closely consumes the benefit of the
interrelated or
interdependent in seller’s work as it is
terms of their design, performed
technology and
function or their • Control – Controls the asset
ultimate purpose or as it is created or enhanced
use.
• No Alternative Use –
customized product or output
IV - Timing of Revenue
III – Timing of Recognition- Recognition–Over Time or
Over Time or Point in Time
Point in Time
IV - Timing of Revenue
III – Timing of Recognition-
Recognition–Over Time or
Over Time or Point in Time
Point in Time

Evelyn Corporation constructs highly

EE Construction is constructing a
specialized communication satellites. A
building for AJD, a condominium
customer in Hong Kong recently placed
enterprise. Under the construction
an order for a cable TV satellite at a price
agreement, if for any reason EE can’t
of P20 million. The order was placed in
complete construction, AJD would
April 20x6, and the satellite is to be
own the partially completed building
delivered in one year. The customer has
and could hire another construction
guaranteed to pay in full at the end of
company to complete the job. When
20x6, regardless of progress or
should EE recognize revenue: as the
cancellation. Evelyn uses “proportion of
building is constructed, or after
time” as its measure of progress toward
construction is completed?
completion. When should Evelyn
recognize revenue: at completion, or as
the construction is performed?
Fixed-price
Types of contract
Construct
Contract
Cost-plus
contract
Construction
Revenue
Total amount of consideration
Initial amount Variations in
of revenue receivable under the contract. contract work
agreed and claims

Claim is an amount that

contractor seek to collect from
the customer or another party
Determining the Transaction/Contract Price
Luke Consulting enters into a contract with
• Variable consideration Holand University to restructure Holand’s
- incentive payment processes for purchasing goods from suppliers.
The contract states that Luke will earn a fixed fee
of P25,000 and earn an additional P10,000 if
• Time Value of Money Holand achieves P100,000 of cost savings. Luke
estimates a 50% chance that Holand will achieve
- the expected value, probability P100,000 of cost savings. Assuming that Luke
weighted amount determines the transaction price as the expected
- the most likely amount in a range value of expected consideration,
transaction price will Luke estimate for this
what
of possible amounts to estimate contract?
variable consideration

The expected value would be calculated as follows:

Possible Amounts Probabilities Expected Amounts
P35,000 (P25,000 fixed fee + P10,000 bonus) × 50% = P17,500
P25,000 (P25,000 fixed fee + P0 bonus) × 50% = 12,500
Expected contract price at inception P30,000
Methods:
Reliable
- Over-Time or Percentage of Completion

Cost Incurred to Date

-------------------------------- Cost to Cost Method
Total Estimated Costs
Estimates (most recent)

Not Reliable
- Point-in-Time or Cost Recovery Method or
Zero Profit
Application of Percentage-of-Completion
Ø Recognize contract revenue as revenue in the
accounting periods in which the work performed
ØRecognize contract costs as an expenses in the
accounting period in which the work to which they relate is
performed
Ø Any costs incurred which relate to future activity should be
recognized as an asset if it is probable that they will be
recovered
ØDoubtful collections should be recognized as an expense
not a deduction from revenue
ØRecognizing revenue under POC method do not affect the
progress billings
ØProgress (billings) payment and advances received often
do not reflect the work performed
Cost Recovery Method or Zero-Profit
Approach
Ø Recognize revenue only to the extent of contract cost
incurred
ØRecognize contract cost as expenses in the period they
incurred
Financial Statement Presentation

Percentage-of-Completion Zero Profit

• Current Asset – Contract • Current Asset – Contract
Asset Asset
Total cost Less: Less:
incurred Progress Total cost Progress
+ cumulative billing incurred billing
profit

• Current Liability- Contract • Current Liability- Contract

Liability Liability
Less: Total
Progress cost incurred Progress Less: Total
billing + cumulative billing cost incurred
profit
Journal entries
Percentage-of-Completion Zero Profit
1.
Construction in Progress xx
Raw Mats xx
Salaries Exp (Labor) xx
Cash xx
2
AR xx
Progress billings xx
3
Cash xx
AR xx
4
4 Construction Expenses xx
Construction Expenses xx Construction in Progress xx (completion year)
Construction in Progress xx
Revenue from construction xx Revenue from construction xx
5
Progress Billings xx
Construction in progress xx
20X4 20X5

Beavis Construction Company Cost incurred P 450,000 P1,100,000

during the year . . .
was the low bidder on a ..............
construction project to build an Estimated costs to 1,200,000 0
earthen dam for P1,800,000. The complete . . . . . . .
...........
project was begun in 20x4 and
completed in 20x5. Cost and
Billings during the 400,000 1,400,000
year . . . . . . . . . . . .
other data are presented ...........

Cash collections 300,000 1,500,000

Required: Compute the amount of gross profit during the year . . .
...........
recognized during 20x4 and 20x5.

Contract price (total revenue) Contract cost incurred

Remaining cost

Input
measures
VIII - Input Measures: Overtime/Percentage-of-Completion (Cost-to-Cost) Method versus
Point-in-Time/Cost Recovery Method
• DJD Builders has a fixed price contract to build a
Direct and waiting shed. The initial amount of revenue agreed is
Allocable Costs to P528,000. At the beginning of the contract on January
Year date Billings Collections 1, 20x3 the initial estimate of the construction costs is
20x3 P126,048 P144,000 P120,000 P480,000. By the end of 20x3 the estimate of the total
370,080 (including costs has risen to P484,800.
20x4 materials in store) 240,000 228,000
20x5 492,000 156,000 192,000
• During 20x4 the customer agrees to a variation with
increases expected revenue from the contract by
P12,000 and causes additional costs of P7,200. At the
1. Prepare the journal entries, under: end of 20x4 there are materials stored on site for use
2.Compute the Current asset – Contract during the following period which cost P6,000.
Asset/Current liability – Contract Liability:
3. Compute the gross profit. • DJD Builders have decided to determine the stage
of completion of the contract by calculating the
proportion that contract costs incurred for work to
date bear to the latest estimated total contract costs.
The contract costs incurred at the end of each year
(costs incurred to date), billings and collections for
each year were as follows:
Contract price: Contract price:
Initial amount of contract…………... Initial amount of contract…………...
Variation……………………………….. Variation………………………………..
Total contract price…………………….. Total contract price……………………..
Costs incurred each year……………… Costs incurred each year………………
Add: Costs incurred in prior years……. Add: Costs incurred in prior years…….
Actual costs incurred to date (1)…..… Actual costs incurred to date……....…
Add: Estimated costs to complete….. Add: Estimated costs to complete…..
Total estimated costs (3)……..………… Total estimated costs ….……..…………
Estimated gross profit……………………
Percentage of completion (1) / (3)
Recognized in Recognized in
20x3 To date prior years current year
Revenue (P528,000 x 26%) P 137,280 - P 137,280
Costs/Expenses (P484,800 x 26%) 126,048 - 126,048
Gross Profit (P43,200 x 26%) P 11,232 - P 11,232
Recognized in Recognized in
20x5 To date prior years current year
Revenue (P540,000 x 100%) P 540,000 P 399,600 P 140,400
Recognized in Recognized in
Costs/Expenses (P492,000 x 100%) _492,000 _364,080 _127,920
20x4 To date prior years current year
Gross Profit (P48,000 x 100%) P 48,000 P 35,520 P 12,480
Revenue (P540,000 x 74%) P 399,600 P 137,280 P 262,320
Costs/Expenses (P492,000 x 74%) _364,080 _126,048 238,032
Gross Profit (P48,000 x 74%) P 35,520 P 11,232 P 24,288
Recognized
in prior Recognized in
20x3 To date years current year
Revenue (P528,000 x 26%) P 137,280 - P 137,280
Costs/Expenses (P484,800 x
26%) 126,048 - 126,048
Gross Profit (P43,200 x 26%) P 11,232 - P 11,232

Recognized
in prior Recognized in
20x4 To date years current year
Revenue (P540,000 x 74%) P 399,600 P 137,280 P 262,320
Costs/Expenses (P492,000 x
74%) _364,080 _126,048 238,032
Gross Profit (P48,000 x 74%) P 35,520 P 11,232 P 24,288

Recognized
in prior Recognized in
20x5 To date years current year
Revenue (P540,000 x 100%) P 540,000 P 399,600 P 140,400
Costs/Expenses (P492,000 x
100%) _492,000 _364,080 _127,920
Gross Profit (P48,000 x 100%) P 48,000 P 35,520 P 12,480
20x3 20x4 20x5
1. To record costs incurred:

Construction In Progress*………...... 126,048 232,032 127,920

Materials Inventory………………….. 6,000 6,000

Cash, payables, etc…………….. 126,048 244,032 121,920

2. To record progress billings:

Accounts receivable……………….. 144,000 240,000 156,000

Progress billings*.…………………. 144,000 240,000 156,000

3. To record collections:
Cash…………………………………..... 120,000 228,000 192,000
Accounts receivable…………… 120,000 228,000 192,000

4. To recognize Revenue, Costs

and Gross Profit:

Construction Expenses……………… 126,048 238,032 127,920

Construction in Progress*..……….... 11,232 24,288 12,480

Revenue from Construction...... 137,280 262,320 140,400

5. To close Construction In Progress**

and Progress Billings account:

Progress billings……………………… 540,000

Construction In Progress………. 540,000
2.Compute the Current asset – Contract
Asset/Current liability – Contract Liability:
Construction in Progress Progress Billings Construction in Progress Progress Billings
CI PB
CI PB PR. 0 -----
PR ----- -------- end
-------- end end
end
CI
CI PR. 0 PB
PR PB -----
--------
-------- ----- end
end
end end
CI
CI PR. xx PB
PR PB -------- -----
-------- -----

540,000 540,000 540,000 540,000 540,000 540,000 540,000 540,000

Compute the gross profit.
20x3 20x4 20x5
Revenue……………………………………… P 137,280 P 262,320 P 140,400
Less: Costs / Expenses……………………... _126,048 _238,032 _127,920
Gross Profit……………………………………. P 11,232 P 24,288 P 12,480

20x3 20x4 20x5

Revenue……………………………………… P 126,048 P 238,032 P 175,920
Less: Costs / Expenses……………………... _126,048 _238,032 _127,920
Gross Profit……………………………………. P 0 P 0 P 48,000
Unprofitable Contract – Anticipated Contract
Losses Ambo Contractors received a contract to construct a
mental health facility for P2,500,000. Construction was
begun in 20x4 and completed in 20x5. Cost and other
data are presented below:

20x4 20x5
Cost incurred during the P1,500,000 P1,300,000
year . . . . . .. . . . .
Estimated costs to 1,200,000 0
complete . . . . . . . . . . . .
Billings during the year . . . 1,200,000 1,300,000
...............
Cash collections during 1,000,000 1,500,000
the year . . . . . . . .
End….