Method of Costing

Contract Costing 5.3

Contract costing is basically, a job costing system that is applied to relatively large cost units that take a considerable
amount of time to complete, such as construction and civil engineering work.
It is a specific accounting method used to track and allocate costs associated with a particular contract or project.
This method is particularly relevant in industries where work is undertaken on a project-by-project basis, such as
construction, manufacturing, or consulting. The primary goal of contract costing is to determine the total cost of
a specific contract and to allocate these costs appropriately. It provides a more accurate picture of the financial
performance of individual contracts. It is particularly valuable in industries where each project varies significantly
in terms of size, scope, and duration.
The key features of contract costing:
• Construction activities: Contract costing mainly consists of construction activities and is applied in industries
such as building construction, shipbuilding, bridge construction etc.
• Identification of Contracts: Each project or contract is identified separately. This could be a construction project,
the production of a specific product, or the provision of services for a particular client.
• Direct expenses: Most of the expenses in contract costing are direct nature, such as materials, labour, expenses,
plant, and sub-contract charges. Only a small portion of the amount is charged as overheads, which are apportioned
on a suitable basis
• Accumulation of Costs: All costs related to a specific contract are accumulated and recorded separately. These
costs include direct materials, direct labour, and overhead costs that can be directly attributed to the contract.
• Cost Allocation: Costs are allocated to the contract based on a systematic and consistent method. Direct costs
(those directly attributable to the contract) are easily identified, but indirect costs (overhead) may need to be
allocated based on a predetermined rate or other allocation methods.
• Recording Revenue: Revenue recognition is aligned with the progress of the contract. In many cases, revenue
is recognized as work on the contract is performed.
• Job Costing: Contract costing is a type of job costing where costs are tracked for a specific job or project
(contract) instead of a particular product.
• Profit Measurement: The ultimate goal of contract costing is to determine the profitability of each contract.
By comparing the total costs incurred with the revenue generated from the contract, businesses can assess the
financial success of each project.
• Contracts may also include an escalation clause, under which the contractor is compensated for increases in
costs due to inflation.
• Other features include part payments made depending on certificates issued by the architect, showing the value
of work completed and retention money.

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Types of contracts
There are three types of contracts
1. Fixed Price Contracts: In this type of contract, the contractor and the contractee agree upon a fixed price for
the work to be undertaken. The agreed price is paid by the contractee to the contractor
Example - a contractor quotes a fixed price of Rs10,000 for constructing a small building. The contractee agrees
to this price, and both parties sign the contract. The contractor is then responsible for completing the construction
work within the agreed price.
2. Contracts with Escalation Clause: These contracts have a provision that the fixed price may increase or decrease
in certain situations. This is a safeguard against cost increases due to factors such as inflation or other unforeseen
circumstances
Example - a contractor and a contractee agree on a fixed price of Rs10,000 for a construction project (period
of contract – One year). The contract includes an escalation clause that states the price will increase by 5% for
every six months of delay in the project’s completion. If the project takes 18 months to complete, the final price
would be Rs11,500 (Rs 10,000 + 5% of Rs 10,000).
3. Cost Plus Contracts: Under a cost-plus contract, the value of the contract is ascertained by adding a fixed
percentage of profit to the actual cost of the work. The contractor is assured of a certain percentage of profit in
advance and is protected against the possibility of incurring any loss.

5.3.2 Accounting of Costs of Contract

The cost computation in case of a contract is done on the following basis.
(i) Material Cost: Direct Material required for a particular contract is debited to the Contract Account. There
may be some quantity of material which is returned back to the store. In such cases, material returned note is
prepared and is either credited to the Contract Account or deducted from the material debited to the Contract
Account. Similar treatment is given to the material transferred from one contract to another one.
● All materials supplied from the stores or purchased directly for the contract are debited to the concerned
contract account.
Contract A/c (Contract No:) Dr
To Stores Ledger Control A/c (issued from stores) or
To Cost Ledger Control A/c (direct purchase)
● In the case of transfer of excess material from one contract to another, costs of these excess materials are
adjusted on the basis of Material Transfer Note.
Contract A/c (transferee contract no:) Dr
To Contract A/c (transferor contract no:)
● In case the return of surplus materials appears uneconomical on account of high cost of transportation,
the same is sold and the concerned contract account is credited with the price realized. Any loss or profit
arising therefrom is transferred to the Costing Profit & Loss A/c.
Cost Ledger Control A/c Dr
Costing Profit & Loss A/c (loss) Dr
To Contract A/c (cost of material)
To Costing Profit & Loss A/c (profit)

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● Any loss of materials due to theft or destruction etc. is transferred to the Costing Profit & Loss A/c.
Costing Profit & Loss A/c Dr
To Contract A/c
● If any stores items are used for manufacturing tools, the cost of such store items are charged to the Works
Expenses A/c.
Works Expenses A/c Dr
To Stores Ledger Control A/c (with amount of stores used for works)
Contract A/c Dr
To Works Expenses A/c (with amount of works used in the contract)
● If the contractee has supplied some materials without affecting the contract price, no accounting entries
will be made in the contract account, only a note may be given about it.
(ii) Employee (Labour) Cost: It is usual for direct labour on a contract site to be paid on an hourly basis.
Employees who work on several contracts at the same time will have to record the time spent on each
contract on time sheets. Each contract will then be charged with the cost of these recorded hours.
Contract A/c Dr
To Wages A/c
To Outstanding Wages A/c
(iii) Expenses: All expenses incurred for a particular contract should be charged to that contract. In case of any
indirect expenses incurred for the organization as a whole, they should be charged to the contract on some
suitable basis. Direct expenses can be charged directly to the contract.
● Direct expenses (such as architect’s fees, hire charges of concrete mixer, electricity charges, cost of special
tools etc) incurred and / or outstanding.
Contract A/c Dr
To Direct Expenses A/c
To Outstanding Direct Expenses A/c
● Indirect expenses (such as expenses of engineers, surveyors, supervisors, corporate office etc.) may be
distributed over several contracts on certain reasonable basis as overheads.
Contract A/c Dr
To Overheads A/c
(iv) Cost of Plant: A feature of most contract work is the amount of plant used. Plant used on a contract may be
owned by the company, or hired from a plant hire firm.
(a) If the plant is hired, the cost will be a direct expense of the contract.
(b) If the plant is owned, a variety of accounting methods may be employed.

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● The value of the plant may be either debited to contract account and the written down value thereof at the
end of the year entered on the credit side for closing the contract account.

Contract A/c..................................................Dr.

To Plant and Machinery A/c (with cost)

Plant and Machinery A/c (with WDV) ............Dr.

To Contract A/c

Or

● Only a charge (depreciation) for use of the plant may be debited to the contract account.

Contract A/c..................................................Dr.

To Depreciation on Plant and Machinery A/c

(v) Cost of supervision and sub-contractors: The cost of supervision, which is usually a production overhead
in unit costing, job costing and so on, will be a direct cost of a contract. On large contracts, much work
may be done by sub-contractors. The invoices of sub-contractors will be treated as a direct expense to the
contract. Sub-contract costs are also debited to the Contract Account

Contract A/c..................................................Dr.

To Cost of Sub-Contract A/c

In contract costing, as each contract may take a long period for completion, the question of computing of profit
is to be solved with the help of a well defined and accepted method.

(vi) Extra Work: The extra work amount payable by the contractee should be added to the contract price. If
extra work is substantial, it is better to treat it as a separate contract. If it is not substantial, then the amount
should be debited to the contract account as “Cost of Extra Work”.

5.3.3 Important Terminologies

1. Work-in-Progress in contract costing refers to the work which is not complete on the reporting date.

Value of the work-in-progress = the cost of work completed,both certified and uncertified +
the cost of work not yet completed + amount of estimated/ notional profit.

In the Balance Sheet (prepared for management), the work-in-progress is usually shown under two heads, viz.,
certified and uncertified. The cost of work completed and certified and the profit credited will appear under
the head ‘certified’ work-in- progress, while the completed work not yet certified, cost of material, employee
and other expenses which has not yet reached the stage of completion are shown under the head “uncertified”
work-in-progress.

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2. Cost of Work Certified or Value of Work Certified: A contract is a continuous process and to know the cost or
value of the work completed as on a particular date; assessment of the completion of work is carried out by an
expert (it may be any professional like surveyor, architect, engineer etc.). The expert, based on his assessment,
certifies the work completion in terms of percentage of total work. The cost or value of certified portion is
calculated and is known as Cost of work certified or Value of work certified respectively.
● Value of Work Certified = Value of Contract × Work certified (%)
● Cost of Work Certified = Cost of work to date – (Cost of work uncertified+ Material in hand + Plant at site)

3. Cost of Work Uncertified: It represents the cost of the work which has been carried out by the contractor but
has not been certified by the expert. It is always shown at cost price.

4. Retention Money: To have a cushion against any defect or undesirable work, the contractee retains some
money payable to contractor. This security money retained by the contractee is known as retention money.

Retention money = Value of work certified- Payment made to contractor

5. Notional Profit: It represents the difference between the value of work certified and cost of work certified.

Notional profit = Value of work certified - (Cost of work to date - Cost of work not yet certified)

6. Estimated Profit: It is the excess of the contract price over the estimated total cost of the contract. [can be
calculated and feasible to calculate only in case of contracts whose end has neared].

7. Cost- plus contract is a contract where the value of the contract is determined by adding an agreed percentage
of profit to the total cost. These types of contracts are entered into when it is not possible to estimate the
contract cost with reasonable accuracy due to unstable condition of factors that affect the cost of material,
employees, etc.

8. Escalation clause in a contract empowers a contractor to revise the price of the contract in case of increase in
the prices of inputs due to some macro-economic or other agreed reasons.
Profit on Incomplete contract - For the purpose of finding out the portion of the notional profit to be transferred
to Profit and Loss Account, the contracts are divided in the following manner:
I. Contracts which have just commenced: In this case no portion of the notional profit shall be transferred to
Profit and Loss Account and the entire amount is kept as reserve. There are no hard and fast rules to determine
that a particular contract is just commenced or reasonably advanced or almost complete. However, as per
general norms, the contracts in which less than 1/4th work is done are regarded as the contracts which have
just commenced.
II. Contracts which have reasonably advanced: In this case the profit to be transferred to Profit and Loss
Account out of notional profit is based on the degree of completion of the contract. The degree of completion
of the contract can be found out by comparing work certified and the contract price.
a. If the degree of completion of work is (> 1/4 and < 1/2), 1/3rd of the notional profit shall be transferred to
Profit and Loss Account and the remaining amount would be kept as reserve.

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b. If the degree of completion of work is more than or equal to 1/2, 2/3rd of the notional profit shall be
transferred to Profit and Loss Account and the remaining amount would be kept as reserve.
The profit so arrived in the above manner shall further be reduced in the ratio of cash received to work certified.
Thus, the formula is as follows:
Cash received
(Notional Profit × 2 or 1 (as the case may be) × [ ]
3 3 Work Certified
III. Contracts which are almost complete: In this case the portion of the profit to be transferred to Profit and Loss
Account is calculated by using the estimated total profit which is ascertained by subtracting the total cost to
date and the additional estimated cost to complete the contract from the contract price. The different formulas
for such computations of profit are as follows: -
Work certified
(i) Estimated Profit ×
Contract Price
Work certified Cash received
(ii) Estimated Profit × ×
Contract Price Work Certified
Total cost to date
(iii) Estimated Profit ×
Total Cost
Total cost to date Cash received
(iv) Estimated Profit × ×
Total Cost Work Certified

Illustration 11

A firm of Builders, carrying out large contracts kept in contract ledger, separate accounts for each contract on 30th
June, 2022, the following were shown as being the expenditure in connection with Contract No. 555

Amount (₹)
Materials purchased 1,16,126
Materials issued from stores 19,570
Plant, which has been used on other contracts 25,046
Additional Plant 7,220
Wages 1,47,268
Direct expenses 4,052
Proportionate establishment expenses 17,440

The contract which had commenced on 1st February, 2022 was for ₹ 6,00,000 and the amount certified by the
architect, after deduction of 20% retention money, was ₹ 2,41,600 the work being certified on 30th June, 2022. The
materials on site were ₹ 19,716. A contract plant ledger was also kept in which depreciation was dealt with monthly,
the amount debited in respect of that account is ₹ 2,260. Prepare Contract Account showing Profit on the contract.

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Solution:

Dr. Contract A/c Cr.

Particulars (₹) Particulars (₹)
To Materials Purchased A/c 1,16,126 By Materials at site c/d 19,716
To Materials Issued A/c 19,570 By Cost of Construction c/d (Bal. fig.) 2,87,000
To Depreciation A/c 2,260
To Wages A/c 1,47,268
To Direct Expenses A/c 4,052
To Prop. Estab. Expenses A/c 17,440
3,06,716 3,06,716
To Cost of Construction b/d 2,87,000 By Work in Progress A/c 3,02,000
To Notional Profit c/d (Bal. fig.) 15,000 - Value of work certified [WN-1]
3,02,000 3,02,000
To Profit & Loss A/c [WN-2] 8,000 By Notional Profit b/d 15,000
To Work in progress A/c
- Provision for Contingencies (Bal. 7,000
fig.)
15,000 15,000

Working Notes:

1. Value of work certified = ` 2,41,600 = ₹ 3,02,000

(1-20%)

2. Since, value of work certified is above 50% of contract value so amount transferred to

Profit & Loss A/c = 2 × 15,000 × 80% = ₹ 8,000 ( 2 × Notional Profit × Cash Received )
3 3 Work Certified

Illustration 12

A contractor has undertaken a construction work at a price of ₹ 5,00,000 and begun the execution of work on 1st
January 2022. The following are the particulars of the contract up to 31st December, 2022:

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Cost Accounting

(₹) (₹)
Machinery 30,000 Overheads 8,252
Materials 1,70,698 Materials returned 1,098
Wages 1,48,750 Work certified 3,90,000
Direct expenses 6,334 Cash received 3,60,000
Uncertified work 9,000 Materials on 31.12.2021 3,766
Wages outstanding 5,380
Value of Machinery on 31.12.2021 22,000

It was decided that the profit made on the contract in the year should be arrived at by deducting the cost of work
certified from the total value of the architect’s certificate, that 1 rd of the profit so arrived at should be regarded
3
as a provision against contingencies and that such provision should be increased by taking to the credit of Profit &
Loss Account only such portion of the 2 rd profit, as the cash received to the work certified. Prepare the contract
3
account for the year and show the amount taken to the credit of the Profit and Loss account.

Solution:
Dr. Contract Account Cr
Particulars (₹) Particulars (₹)
To Depreciation on Machinery A/c 8,000 By Materials (Returned) A/c 1,098
[WN-1] By Materials at site c/d 3,766
To Materials A/c 1,70,698 By Cost of Construction c/d (Bal. 3,42,550
To Wages A/c 1,48,750 fig.)
To Outstanding Wages A/c 5,380
To Direct Expenses A/c 6,334
To Overheads A/c 8,252
3,47,414 3,47,414
To Cost of Construction b/d 3,42,550 By Work in Progress A/c
To Notional Profit c/d (Bal. fig.) 56,450 - Value of work certified 3,90,000
- Cost of uncertified work 9,000
3,99,000 3,99,000
To Profit & Loss A/c [WN-2] 34,738 By Notional Profit b/d 56,450
To Work in progress A/c
- Provision for Contingencies (Bal. fig.) 21,712
56,450 56,450
Working Notes
1. Depreciation on Machinery = ₹ 30,000 - ₹ 22,000 = ₹ 8,000

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Method of Costing

2. Since, degree of completion is above 50% so amount transferred to

Profit & Loss A/c = 2 × 56,450 × 3,60,000 = ₹ 34,738
3 3,90,000
Illustration 13
A contractor commenced the work on a particular contract on 1st April, 2022. He usually closes his books of accounts
for the year on 31st December of each year. The following information is revealed from his costing records on 31st
December, 2022:
Particulars Amount (₹)
Materials sent to site 43,000
Jr. Engineer 12,620
Labour 1,00,220

A machine costing ₹ 30,000 remained in use on site for 1 th of year. Its working life was estimated at 5 years and
5
scrap value at ₹ 2,000.
A supervisor is paid ₹ 2,000 per month and had devoted one half of his time on the contract.
All other expenses were ₹ 14,000, the materials on site were ₹ 2,500.
The contract price was ₹ 4,00,000. On 31st December, 2022 2 rd of the contract was completed. However, the
3
architect gave certificate only for ₹ 2,00,000. On which 80% was paid. Prepare Contract Account.

Solution:
Dr. Contract Account Cr
Particulars (₹) Particulars (₹)
To Materials A/c 43,000 By Materials at site c/d 2,500
To Jr. Engineer A/c 12,620 By Cost of Construction c/d (Bal. 1,77,460
To Labour A/c 1,00,220 fig.)
To Depreciation on Machine A/c [WN-1] 1,120
To Supervisor A/c [WN-2] 9,000
To Other Expenses A/c 14,000
1,79,960 1,79,960
To Cost of Construction b/d 1,77,460 By Work in Progress A/c
To Notional Profit c/d (Bal. fig.) 66,905 - Value of work certified 2,00,000
- Cost of uncertified work [WN-3] 44,365
2,44,365 2,44,365
To Profit & Loss A/c [WN-4] 35,683 By Notional Profit b/d 66,905
To Work in progress c/d
- Provision for Contingencies (Bal. fig.) 31,222
66,905 66,905

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Cost Accounting

Working Notes:
30,000 – 2,000
1. Depreciation on Machine = × 1 = ₹ 1,120
5 years 5

`2,000 × 9 months
2. Amount paid to Supervisor = = ₹ 9,000
2

3. Degree of Completion is 2 rd.

3

So, Cost for Construction of 2 rd = ₹ 1,77,460

3
Therefore, Expected Cost of Construction = 177,460 × 3 = ₹ 2,66,190
2
Cost of Work Certified is 50% = 50% × 2,66,190= ₹ 1,33,095
Cost of Work Uncertified = ₹ 1,77,460 - ₹ 1,33,095 = ₹ 44,365
4. Since, degree of completion is 2 rd, so amount transferred to
3
Profit & Loss A/c = 2 × 66,905 × 80% = ₹ 35,683
3
Illustration 14
The following figures are supplied to you by contractor for the year ending 31st December, 2021.
Particulars Amount (₹)
Work in Progress on 31.12.2021 ₹ 85,000
Less: Cash received from Contractee ₹ 55,000 30,000
During the year 2022:
Wages 8,500
Materials bought 6,000
Working expenses 1,500
Materials issued from stores 10,500
Administrative expenses (₹ 250 are chargeable to Profit & Loss Account) 1,250
Plant 2,500
Material returned to supplier 450
Material returned to stores 550
Work certified 15,000
Contracts finished 22,500
Profits taken upon contracts 11,500
Advances from contractee 40,000
Prepare Contract Ledger Account, the Contractee’s Account and show the work in progress as it would appear in
the Balance Sheet.

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Method of Costing

Solution:
Dr. Contract Account Cr
Particulars (₹) Particulars (₹)
To Work in Progress A/c 85,000 By Materials A/c (Returned to Supplier) 450
To Wages A/c 8,500 By Materials A/c (Returned to Stores) 550
To Materials A/c (Purchased) 6,000 By Cost of Construction c/d (Bal. fig.) 1,14,000
To Materials A/c (Issued) 10,500
To Working Expenses A/c 1,500
To Administrative Expenses A/c 1,000
To Plant A/c 2,500
1,15,000 1,15,000
To Cost of Construction b/d 1,14,000 By Work in Progress A/c
To Notional Profit c/d 11,500 - Value of work certified 15,000
- Cost of uncertified work (Bal. fig.) 88,000
By Contractee A/c 22,500
1,25,500 1,25,500
Dr. Contractee Account Cr
Particulars (₹) Particulars (₹)
To Contract A/c 22,500 By Balance b/d 55,000
To Balance c/d (Bal. fig.) 72,500 By Cash A/c 40,000
95,000 95,000
Balance Sheet as on 31.12.2021 (Abstract)
Liabilities (₹) Assets (₹)
Work in Progress (15,000 + 88,000) 1,03,000
Less: Cash Received 72,500 30,500

Illustration 15
The information given under has been extracted from the books of a contractor relating to contract for ₹ 3,75,000.

Year I Year II Year III

Amount (₹) Amount (₹) Amount (₹)
Materials 45,000 55,000 31,500
Direct Expenses 1,750 6,250 2,250
Indirect expenses 750 1,000 -
Wages 42,500 57,500 42,500

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Cost Accounting

Year I Year II Year III

Amount (₹) Amount (₹) Amount (₹)
Total work certified 87,500 2,82,500 3,75,000
Uncertified work - 5,000 -
Plant 5,000 - -
The value of plant at the end of Year I was ₹ 4,000 at the end of Year II ₹ 2,500 and at the end of Year III it was
₹ 1,000. It is customary to pay 90% in cash of the amount of work certified. Prepare the Contract Account and show
how the figures would appear in the balance sheet.
Solution:
Dr. Contract Account Cr.

Particulars (₹) Particulars (₹)

Year I By Cost of Construction c/d (Bal. fig.) 91,000
To Materials A/c 45,000
To Direct Expenses A/c 1,750
To Indirect Expenses A/c 750
To Wages A/c 42,500
To Depreciation on Plant A/c [WN-1] 1,000
91,000 91,000
To Cost of Construction b/d 91,000 By Work in Progress c/d
- Value of Work Certified 87,500
By Profit & Loss A/c
Less (Bal. fig.) 3,500
91,000 91,000
Year II By Cost of Construction c/d (Bal. fig.) 2,08,750
To Work in Progress b/d
- Value of work certified 87,500
To Materials A/c 55,000
To Direct Expenses A/c 6,250
To Indirect Expenses A/c 1,000
To Wages A/c 57,500
To Depreciation on Plant A/c [WN-1] 1,500
2,08,750 2,08,750

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Particulars (₹) Particulars (₹)

To Cost of Construction b/d 2,08,750 By Work in Progress c/d
To Notional Profit c/d (Bal. fig) 78,750 - Value of Work Certified 2,82,500
- Cost of Uncertified Work 5,000
2,87,500 2,87,500
To Profit & Loss A/c [WN-2] 47,250 By Notional Profit b/d 78,750
To Work in Progress c/d
- Provision for Contingencies 31,500
78,750 78,750
Year III By Work in Progress b/d
To Work in Progress A/c - Provision for Contingencies 31,500
- Value of work certified 2,82,500 By Cost of Construction c/d (Bal. fig) 3,33,750
- Cost of Uncertified Work 5,000
To Materials A/c 31,500
To Direct Expenses A/c 2,250
To Wages A/c 42,500
To Depreciation on Plant A/c [WN-1] 1,500
3,65,250 3,65,250
To Cost of Construction b/d 3,33,750 By Work in Progress A/c
To Notional Profit c/d (Bal. fig) 41,250 - Value of Work Certified 3,75,000
3,75,000 3,75,000
To Profit & Loss A/c 41,250 By Notional Profit b/d 41,250
41,250 41,250

Working Notes:

1. Depreciation on Plant
Year I = ₹ 5,000 – ₹ 4,000 = ₹ 1,000
Year II = ₹ 4,000 – ₹ 2,500 = ₹ 1,500
Year III = ₹ 2,500 – ₹ 1,000 = ₹ 1,500

2. Amount transferred to Profit & Loss A/c in

Year I = Loss ₹ 3,500

Year II = 2 × 78,750 × 90% = ₹ 47,250

3
Year III = Profit ₹ 41,250

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Illustration 16
A firm of engineers undertook three contracts beginning on 1st January, 1st May and 1st August 2022. Their accounts
on 30th November, 2022 showed the following position:

Particulars Contract I Contract II Contract III

Amount (₹) Amount (₹) Amount (₹)
Contract Price 80,000 54,000 60,000
Materials 14,400 11,600 4,000
Wages 22,000 22,500 2,800
General expenses 800 550 200
Cash Received for Work Certified 30,000 24,000 5,400
Work certified 40,000 32,000 7,200
Work uncertified 1,200 1,600 400
Wages outstanding 700 750 350
General expenses outstanding 150 100 50
Plant installed 4,000 3,200 2,400
Materials on hand 800 800 800

On the respective dates of the contracts, the plant was installed, depreciation thereon being taken at 15% p.a. You
are required to prepare accounts in the Contract Ledger.

Solution:
Dr. Contract Account Cr.

Contract Contract Contract Contract Contract Contract

Particulars I II III Particulars I II III
(₹) (₹) (₹) (₹) (₹) (₹)
To Materials A/c 14,400 11,600 4,000 By Materials on 800 800 800
To Wages A/c 22,000 22,500 2,800 hand c/d
To O/s Wages A/c 700 750 350 By Cost of 37,800 34,980 6,720
Construction c/d
To Gen. Exp. A/c 800 550 200
(Bal. fig)
To O/s Gen. Exp. A/c 150 100 50
To Depreciation on
Plant A/c [WN-1] 550 280 120
38,600 35,780 7,520 38,600 35,780 7,520

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Method of Costing

Contract Contract Contract Contract Contract Contract

Particulars I II III Particulars I II III
(₹) (₹) (₹) (₹) (₹) (₹)
To Cost of 37,800 34,980 6,720 By Work in
Construction b/d progress c/d
To Notional Profit 3,400 - 880 - Value of Work 40,000 32,000 7,200
c/d (Bal. fig) Certified
- Cost of 1,200 1,600 400
Uncertified Work
By Profit & Loss - 1,380 -
A/c (Bal. fig.)
41,200 34,980 7,600 41,200 34,980 7,600
To Profit & Loss A/c 1,700 - - By Notional Profit 3,400 - 880
[WN-2] b/d
To Work in Progress
A/c
- Provision for
1,700 880
Contingencies
3,400 - 880 3,400 - 880

Working Notes:
1. Depreciation on Plant for
Contract I = 4,000 × 15% × 11 = ₹ 550
12
Contract II = 3,200 × 15% × 7 = ₹ 280
12
Contract III = 2,400 × 15% × 4 = ₹ 120
12
2. Amount transferred to Profit & Loss A/c
Work done more than 50% Contract I = Profit = 2 × 3,400 × 30,000 = ₹ 1,700
3 40,000
Contract II = Loss = ₹ 1,380
Work done less than 25% Contract III = Nil

Illustration 17
The following is the Trial Balance of Premier Construction Company, engaged on the execution of Contract No.
747, for the year ended 31st December, 2022.

Contractee’s Account Amount (₹) Amount (₹)

Amount received 3,00,000
Buildings 1,60,000

The Institute of Cost Accountants of India 333

Cost Accounting

Contractee’s Account Amount (₹) Amount (₹)

Creditors 72,000
Bank Balance 35,000
Capital Account 5,00,000
Materials 2,00,000
Wages 1,80,000
Expenses 47,000
Plant 2,50,000
8,72,000 8,72,000
The work on Contract No. 747 was commenced on 1st January, 2022. Materials costing ₹ 1,70,000 were sent to the
site of the contract but those of ₹ 6,000 were destroyed in an accident. Wages of ₹ 1,80,000 were paid during the
year. Plant costing ` 50,000 was used on the contract all through the year. Plant with a cost of ₹ 2 lakhs was used
from 1st January to 30th September and was then returned to the stores. Materials of the cost of ₹ 4,000 were at
site on 31st December, 2022.
The contract was for ₹ 6,00,000 and the contractee pays 75% of the work certified. Work certified was 80% of the
total contract work at the end of 2022. Uncertified work was estimated at ₹ 15,000 on 31st December, 2022.
Expenses are charged to the contract at 25% of wages. Plant is to be depreciation at 10% for the entire year.
Prepare Contract Account for the year 2022 and Balance Sheet as on 31st December, 2022 in the books of Premier
Construction Company.

Solution:
Dr. Contract Account Cr
Particulars (₹) Particulars (₹)
To Materials A/c 1,70,000 By Costing Profit & Loss A/c 6,000
To Wages A/c 1,80,000 (loss due to accident)
To Depreciation on Plant A/c [WN-1] 20,000 By Materials at Site 4,000
To Expenses A/c 45,000 By Cost of Construction c/d (Bal. fig.) 4,05,000
4,15,000 4,15,000
To Cost of Construction b/d 4,05,000 By Work in Progress c/d
To Notional Profit c/d (Bal. fig.) 90,000 - Value of Work Certified [WN-3] 4,80,000
- Cost of Uncertified Work 15,000
4,95,000 4,95,000
To Profit & Loss A/c 50,625 By Notional Profit b/d 90,000
To Work in Progress c/d
- Provision for Contingencies (Bal. fig.) 39,375
90,000 90,000

334 The Institute of Cost Accountants of India

Method of Costing

Working Notes:
1. Depreciation on Plant = 2,00,000 × 10 × 9 + 50,000 × 10 = 15,000 + 5,000 = ₹ 20,000
100 12 100
2. Expenses = 25% × 1,80,000 = ₹ 45,000

3. Value of Work Certified = 80% × 6,00,000 = ₹ 4,80,000

4. Amount to be transferred to Profit & Loss A/c = 9 × 90,000 × 75% = ₹ 50,625

12
Dr. Profit & Loss Account Cr
Particulars (₹) Particulars (₹)
To Contract A/c 6,000 By Contract A/c 50,625
To Depreciation on Plant A/c (2,00,000 × 10% × 3 ) 5,000
12
To Expenses A/c (47,000 – 45,000) 2,000
To Net Profit c/d 37,625
50,625 50,625
Balance Sheet as on 31.12.2022

Liabilities (₹) Assets (₹) (₹)

Capital 5,00,000 Work in Progress
Profit & Loss A/c 37,,625 - Value of Work Certified 4,80,000
Creditors 72,000 - Cost of Uncertified Work 15,000
4,95,000
Less: Work in Progress
- Provision for Contingencies 39,375
4,55,625
Less: Cash Received 3,00,000 1,55,625
Buildings 1,60,000
Plant (2,50,000 – 25,000) 2,25,000
Bank 35,000
Stock of Materials (2,00,000 – 1,70,000) + 4,000 34,000
6,09,625 6,09,625

Illustration 18
A company of builders took to a multi-storied structure for ₹ 40,00,000 estimating the cost to be ₹ 36,80,000. At the
end of the year, the company had received ₹ 14,40,000 being 90% of the work certified; work done but not certified
was ₹ 40,000. Following expenditure were incurred.

Particulars (₹)

The Institute of Cost Accountants of India 335

Cost Accounting

Materials 4,00,000
Labour 10,00,000
Plant 80,000
Materials costing ₹ 20,000 were damaged. Plant is considered as having depreciated at 25%.
Prepare Contract Account and show all the possible figures that can reasonably be credited to Profit & Loss Account.
Estimated Profit being ₹ 3,20,000.
Solution:
Dr. Contract Account Cr
Particulars (₹) Particulars (₹)
To Materials A/c 4,00,000 By Costing Profit & Loss A/c 20,000
To Labour A/c 10,00,000 (loss due to damage)
To Depreciation on Plant A/c [WN-1] 20,000 By Cost of Construction c/d (Bal. fig.) 14,00,000
14,20,000 14,20,000
To Cost of Construction b/d 14,00,000 By Work in Progress A/c
To Notional Profit c/d (Bal. fig.) 2,40,000 - Value of Work Certified [WN-2] 16,00,000
- Cost of Uncertified Work 40,000
16,40,000 16,40,000
To Profit & Loss A/c [WN-3] 72,000 By Notional Profit b/d 2,40,000
To Work in Progress
- Provision for Contingencies (Bal. fig.) 1,68,000
2,40,000 2,40,000
Working Notes:
1. Depreciation on Plant = 80,000 × 25% = ₹ 20,000

2. Value of Work Certified = 14,40,000 = ₹ 16,00,000

90%
3. Amount to be credited to Profit & Loss Account = 1 × 2,40,000 × 90% = ₹ 72,000
3
Amount that may be credited to Profit & Loss Account

1. Estimated Profit × Work Certified = 3,20,000 × 16,00,000 × = ₹ 1,28,000

Contract Price 40,00,000

2. Estimated Profit × Work Certified × Cash Received = 3,20,000 × 16,00,000 × 90% = ₹ 1,15,200
Contract Price Work Certified 40,00,000

3. Estimated Profit × Total Cost to date = 3,20,000 × 14,20,000 = ₹1,23,478

Total Cost 36,80,000

4. Estimated Profit × Total Cost to date × Cash Received = 3,20,000 × 14,20,000 × 90% = ₹ 1,11,130
Total Cost Work Certified 36,80,000

336 The Institute of Cost Accountants of India

Method of Costing

Illustration 19
The following Trial Balance was extracted on 31st December, 2022 from the books of Swastik Co. Ltd contractors:

Dr Cr
Particulars
Amount (₹) Amount (₹)
Share Capital:
Shares of ₹ 10 each 3,51,800
Profit & Loss Account as on 1.1.2021 25,000
Provision for Depreciation on Machinery 63,000
Cash Received on account Contract - 7 12,80,000
Creditors 81,200
Land and Buildings (Cost) 74,000
Machinery (Cost) 52,000
Bank 45,000
Contract 7:
Materials 6,00,000
Direct Labour 8,30,000
Expenses 40,000
Machinery on site (cost) 1,60,000
18,01,000 18,01,000

Contract 7 was begun on 1st January, 2022. The contract price is ₹ 24,00,000 and the customer has so far paid
₹ 12,80,000 being 80% of the work certified.
The cost of the work done since certification is estimated at ₹ 16,000. On 31st December, 2022, after the Trial Balance
was extracted, machinery costing ₹ 32,000 was returned to stores, and materials then on site were value at ₹ 27,000.
Provision is to be made for direct labour due ₹ 6,000 and for depreciation of all machinery at 12.5% on cost.
You are required to prepare:
(a) Contract Account;
(b) Statement of Profit, if any, to be properly credited to profit and loss account for 2022 and
(c) Balance Sheet of Swastik Co. Ltd as on 31st December, 2022.

The Institute of Cost Accountants of India 337

Cost Accounting

Solution:
Dr. Contract Account Cr.
Particulars (₹) Particulars (₹)
To Materials A/c 6,00,000 By Materials at Site c/d 27,000
To Wages A/c 8,30,000 By Cost of Construction c/d (Bal. fig.) 14,69,000
To Outstanding Wages A/c 6,000
To Expenses A/c 40,000
To Depreciation on Machinery A/c [WN-1] 20,000
14,96,000 14,96,000
To Cost of Construction b/d 14,69,000 By Work in Progress c/d
To Notional Profit c/d (Bal. fig.) 1,47,000 - Value of Work Certified [WN-2] 16,00,000
- Cost of Uncertified Work 16,000
16,16,000 16,16,000
To Profit & Loss A/c [WN-3] 78,400 By Notional Profit b/d 1,47,000
To Work in Progress c/d
- Provision for Contingencies (Bal. fig.) 68,600
1,47,000 1,47,000

Working Notes:
1. Depreciation on Machinery charged to Contract A/c = 1,60,000 × 12.5% = ₹ 20,000
2. Value of Work Certified = 12,80,000 = ₹ 16,00,000
80%
3. Amount transferred to Profit & Loss A/c = 2 × 1,47,000 × 80% = ₹ 78,400
3
Dr. Profit & Loss Account Cr
Particulars (₹) Particulars (₹)
To Depreciation on Machinery A/c (52,000 × 12.5%) 6,500 By Balance b/d 25,000
To Net Profit (Bal. fig) 96,900 By Contract A/c 78,400
1,03,400 1,03,400

Balance Sheet as on 31.12.2021

Liabilities (₹) Assets (₹) (₹)
Capital 3,51,800 Land & Buildings 74,000
Profit & Loss A/c 96,900 Machinery (at Cost) (1,60,000 + 52,000) 2,12,000
Creditors 81,200 Less: Provision for Depreciation (63,000 + 26,500) 89,500 1,22,500
Outstanding Labour 6,000 Work in Progress
- Value of Work Certified 16,00,000
- Cost of Uncertified Work 16,000
16,16,000

338 The Institute of Cost Accountants of India

Method of Costing

Liabilities (₹) Assets (₹) (₹)

Less: Work in Progress
- Provision for Contingencies 68,600
15,47,400
Less: Cash Received 12,80,000 2,67,400
Bank 45,000
Stock of Materials 27,000
5,35,900 5,35,900

Illustration 20
Kapur Engineering Company undertakes long term contract which involves the fabrication of pre stressed concrete
block and the reaction of the same on consumer’s life.
The following information is supplied regarding the contract which is incomplete on 31st March, 2022.

Cost Incurred Amount (₹)

Fabrication cost to date:
Direct Materials 2,80,000
Direct Labour 90,000
Overheads 75,000
4,45,000
Erection cost to date 15,000
Total 4,60,000
Contract Price 8,19,000
Cash received on account 6,00,000
Technical estimate of work completed to date:
Fabrication: Direct Materials 80%
Direct Labour and Overheads 75%
Erection 25%

You are required to prepare a statement for submission to the management indicating
(a) The estimated profit on the completion of the contract;
(b) The estimated profit to date on the contract.

The Institute of Cost Accountants of India 339

Cost Accounting

Solution:
(a)
Statement showing computation of estimated profit on completion

Cost incurred to date Estimated cost to be incurred Estimated total cost

Particulars
₹ ₹ ₹
Materials 2,80,000 2,80,000 × 20% = 70,000 2,80,000 = 3,50,000
80% 80%
Direct Labour 90,000 90,000 × 25% = 30,000 90,000 = 1,20,000
75% 75%
Overheads 75,000 75,000 × 25% = 25,000 75,000 = 1,00,000
75% 75%
Erection 15,000 15,000 × 75% = 45,000 15,000 = 60,000
25% 25%
Total Cost 4,60,000 1,70,000 6,30,000
Profit (Bal. fig.) 1,89,000
Contract Price 8,19,000
Therefore, Estimated Profit on completion = ₹ 1,89,000
= Estimated Profit on Completion × Cash Received
(b) Estimated Profit to date Contract Price
= 1,89,000 × 6,00,000 = ₹ 1,38,462
8,19,000
Or
Estimated Profit to date = Estimated Profit on Completion × Total Cost to Date
Estimated Total Cost
= 1,89,000 × 4,60,000 = ₹ 1,38,000
6,30,000
Illustration 21
The following particulars are obtained from the books of Vinay Construction Ltd as on March, 2022.
Plant and equipment at cost ₹ 4,90,000
Vehicles at cost ₹ 2,00,000
Details of contract remained incomplete as on 31.3.2022.

Contract Nos
Particulars V.29 V.24 V.25
₹ Lacs ₹ Lacs ₹ Lacs
Estimated final sales value 8.00 5.60 16.00
Estimated Cost 6.40 7.00 12.00
Wages 2.40 2.00 1.20
Materials 1.00 1.10 0.44
Overheads (excluding depreciation) 1.44 1.46 0.58

340 The Institute of Cost Accountants of India

Method of Costing

Contract Nos
Particulars V.29 V.24 V.25
₹ Lacs ₹ Lacs ₹ Lacs
4.84 4.56 2.22
Value certified by architect 7.20 4.20 2.40
Progress payments received 5.00 3.20 2.00
Depreciation of plant and equipment and vehicles should be charged at 20% to the three contracts in proportion to
work certified. You are required to prepare statements showing contract wise and total.
(a) Profit / Loss to be taken to the Profit & Loss Account for the year ended 31st March, 2022.
(b) Work in progress as would appear in the Balance Sheet as at 31.3.2022.
Solution
Dr. Contract Account Cr.
V.29 V.24 V.25 V.29 V.24 V.25
Particulars ₹ in ₹ in ₹ in Particulars ₹ in ₹ in ₹ in
lacs lacs lacs lacs lacs lacs
To Expenses other than 4.84 4.56 2.22 By Cost of Construction c/d
Depreciation (Bal. fig.) 5.56 4.98 2.46
To Depreciation [WN-1] 0.72 0.42 0.24
5.56 4.98 2.46 5.56 4.98 2.46
To Cost of Construction b/d 5.56 4.98 2.46 By Work in Progress A/c
To Notional Profit c/d (Bal. 1.64 - - - Value of Work Certified 7.20 4.20 2.40
fig.) By Profit & Loss A/c (Bal. - 0.78 0.06
fig.)
7.20 4.98 2.46 7.20 4.98 2.46
To Profit & Loss A/c [WN-2] 1.025 - - By Notional Profit b/d 1.64 - -
To Work in Progress
- Provision for contingencies 0.615 - -
1.64 - - 1.64 - -
Working Notes:
1. Depreciation for Contract V.29 = (4,90,000+2,00,000) × 20% × 7.20 = ₹ 72,000
7.20+4.20+2.40
Contract V.24 = 6,90,000 × 20% × 4.20 = ₹ 42,000
7.20+4.20+2.40

Contract V.25 = 6,90,000 × 20% × 2.40 = ₹ 24,000

7.20+4.20+2.40

2. Amount to be transferred to Profit & Loss = Estimated Profit × Cash Received = 1.64 × 5.00 = ₹ 1.025 lacs
Contract Price 8.00

The Institute of Cost Accountants of India 341

Cost Accounting

Illustration 22
A company is manufacturing building bricks and fire bricks. Both the products require two processes-Brick forming
and Heat treating. The requirements for the two types of bricks are:
Building Bricks Fire Bricks
Forming per 100 bricks 3 hrs 2 hrs
Heat treatment per 100 bricks 2 hrs 5 hrs
Total costs of two departments in one month were:
Forming ₹ 21,200
Heat Treatment ₹ 48,800
Production during the month was:
Building Bricks 1,30,000 Nos
Fire Bricks 70,000 Nos
Prepare statement of manufacturing costs for the two varieties of bricks.

Solution:
Statement Showing Number of Hours

Building Bricks Fire Bricks Total

Particulars
Hours Hours Hours
Brick Forming 1,30,000 × 3 3,900 70,000 × 2 1,400 5,300
100 100
Heat Treatment 1,30,000 × 2 2,600 70,000 × 5 3,500 6,100
100 100

Cost of Forming per hour = `21,200 = ₹ 4 per hour

5,300 hours

Cost of Heat Treatment = `48,800 = ₹ 8 per hour

6,100 hours

Statement Showing Computation of Manufacturing Cost for two variety of Bricks

Building Bricks Fire Bricks Total
Particulars
(₹) (₹) (₹)
Brick Forming 3,900 × 4 15,600 1,400 × 4 5,600 21,200
Heat Treatment 2,600 × 8 20,800 3,500 × 8 28,000 48,800
Total 36,400 33,600 70,000

Illustration 23
Deluxe Limited undertook a contract for ₹ 5,00,000 on 1st July 2021. On 30th June 2022, when the accounts were
closed, the following details about the contract were gathered:

342 The Institute of Cost Accountants of India

Method of Costing

Particulars Amount (₹)

Materials purchased 1,00,000
Wages paid 45,000
General expenses 10,000
Plant purchased 50,000
Materials on hand 30.6.2022 25,000
Wages accrued 30.6.2022 5,000
Work certified 2,00,000
Cash received 1,50,000
Depreciation of Plant 5,000
Work uncertified 15,000
The above contract contained an escalator clause which read as follows:
“In the event of prices of materials and rates of wages increase by more than 5% the contract price would be increased
accordingly by 25% of the rise in the cost of materials and wages beyond 5% in each case”.
It was found that since the date of signing the agreement the prices of materials and wage rates increased by 25%.
The value of the work certified does not take into account the effect of the above clause.
Prepare the Contract Account.
Solution:
Dr. Contract Account Cr.

Particulars (₹) Particulars (₹)

To Materials A/c (Purchased) 1,00,000 By Materials at Site c/d 25,000
To Wages A/c 45,000 By Cost of Construction c/d (Bal. fig.) 1,40,000
To Outstanding Wages A/c 5,000
To General Expenses A/c 10,000
To Depreciation on Plant A/c 5,000
1,65,000 1,65,000
To Cost of Construction b/d 1,40,000 By Work in Progress A/c
To Notional Profit c/d (Bal. fig.) 80,000 - Value of Work Certified 2,00,000
- Escalation [WN-1] 5,000
- Cost of Uncertified Work 15,000
2,20,000 2,20,000
To Profit & Loss A/c [WN-2] 20,000 By Notional Profit b/d 80,000
To Work in Progress A/c
- Provision for Contingencies (Bal. 60,000
fig.)
80,000 80,000

The Institute of Cost Accountants of India 343

Cost Accounting

Working Notes:
1. Increase in Contract Price due to Escalation in the Prices of Materials and Labour
Cost of Materials and Labour incurred = 1,00,000 + 45,000 + 5,000 – 25,000 = ₹ 1,25,000
Increase in prices of Materials and Labour by 25%
So, Cost of Materials and Labour before increase in Prices = 1,25,000 × 100 = ₹ 1,00,000
125
Increase in Contract Price (beyond 5% increase) = 25 × (1,25,000 -1,00,000 × 105 )
100 100
= 25 × (1,25,000 -1,05,000)
100
= ₹ 5,000
2. Amount to be transferred to Profit & Loss A/c = 1 × 80,000 × 1,50,000 = ₹ 20,000
3 2,00,000

344 The Institute of Cost Accountants of India