Percentage of Revenue Contract

							                       Long-term Construction Projects
                                 US GAAP


Two Alternate Accounting Method Available:
                Per ARB #45 (1955)
                Percentage of Completion Method

                Completed Contract Method

                Per AICPA Statement of Position No. 81-1 (1981)

                Recommends the use of percentage of completion when the
                following conditions are met. (Otherwise use completed contract.)
                        1.      Reasonably dependable estimated can be made

                        2.      Contract specifies legally enforceable rights, the
                                consideration, and the terms of settlement

                        3.      Buyer is expected to satisfy obligations under contract
                        4.      Contractor is expected to fulfill contractual obligations

                On the surface, appears to contradict revenue recognition
                principles. However, percentage of completion is not an exception
                because of the special nature of the transaction

                 -- a "continuous sale"
                1.      Buyer and seller obtain enforceable rights

                2.      Buyer usually makes progress payments to support its
                        ownership investment
                3.      Buyer has a right to take over work-in-progress




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PERCENTAGE OF COMPLETION:
        1.      Input measures:
                Cost to Cost: costs-to-date divided by estimated total cost

                Efforts expended: DL hours, etc., to-date divided by estimated
                total DL hours

        2.      Output measures: (better but more difficult to obtain)
                Example: miles completed to total miles contracted

TERMINOLOGY
        Inventory account -- Construction In Progress
                Accumulates all costs incurred on project plus any recognized
                profit or loss

        Liability account -- Progress Billings (or Partial Billings or
        Construction Billings)
                Accumulates total amounts billed to customer

        These two accounts are treated as a "pair" for external
        reporting:
                If CIP > PB, report as current asset with title:

                "Cost of Uncompleted Contracts in Excess of Related Billings"

                If PB > CIP, report as current liability with title:

                "Billings of Uncompleted Contracts in Excess of Related Costs"




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LOSSES ON LT CONSTRUCTION CONTRACTS
        Special provision applies to both methods:
                If a loss is estimated for the entire project, the TOTAL estimated
                loss (not a percentage of that loss) must be reported in the year in
                which it becomes apparent that a loss will be incurred.
                        Possible account title: "Provision for Loss on Contract" which
                        is offset against Construction in Progress
                                   Percentage of completion       Completed contract
Current period loss on             Change in accounting        No loss is recognized
ultimately profitable              estimate – do not restate
contract                           previously issued financial
                                   statements.

                                   Adjustment affects current
                                   period only

                                   Adjustment makes
                                   cumulative reported gain
                                   equal to percentage of
                                   completion times total
                                   estimated gain
Loss on entire contract            Recognize estimated loss              Recognize estimated loss
                                   in the period it first                in the period it first
                                   becomes evident.                      becomes evident.

                                   Reverse out profits                   Record loss on income
                                   previously recognized                 statement and reduce CIP
                                                                         account
                                   Consequently, current year
                                   loss may be larger than
                                   total estimated loss




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                        Long-term Construction Accounting
                                IFRS vs US GAAP
                                           US GAAP                             IFRS – IAS 11
Accounting methods                 Choice between:                       Completed contract is NOT
acceptable                            Percentage of                     acceptable.
                                         completion
                                      Completed contract                Use percentage of
                                                                         completion method
                                   There are some criteria
                                   provided but they are not             If no reasonable estimates
                                   mandatory                             of percentage of completion
                                                                         can be made, use the Zero
                                                                         profit method and switch
                                                                         to percentage of completion
                                                                         later
Comparing results:                 Percentage of completion              Percentage of completion
Percentage of completion           Would be same as IFRS                 Would be same as US
                                   with respect to balance               GAAP with respect to
                                   sheet and income                      balance sheet and income
                                   statement                             statement
Comparing results:                 Balance sheet = same                  Balance sheet = same
Completed contract vs.
zero profit method                 Income statement:                     Income statement:
                                   Report zero revenue and               Report revenue equal to
                                   zero cost (until year                 costs incurred which results
                                   completed)                            in zero profit.
Losses on contracts                Always recognize 100% of              Always recognize 100% of
                                   loss as soon as it becomes            loss as soon as it becomes
                                   apparent                              apparent

Some tentative conclusions:
    Percentage of completion approach is essentially the same – the difference is that it is a
      choice under US GAAP and required under IFRS.
    The completed contract and zero profit method have basically the same result (no profit
      recognized) UNLESS estimates become possible later and IFRS would then begin using
      the percentage of completion method to recognize revenues.
    Likewise, we would not recognize a percentage of a loss under either US GAAP or IFRS
      – instead, we’d recognize the full amount of the loss on a contract (perhaps with
      discounted cash flows under IFRS).




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