Hartford Construction Accountants CPA: William Brighenti
46 Mildrum Road, Berlin, CT 06037
Telephone: (860) 828-3269 Email: info@cpa-connecticut.com |
| Generally accepted accounting principles prescribe the use of the percentage-of-completion method of accounting for long-term construction and manufacturing contracts except when fairly accurate estimates cannot be made to project the percentage of completion of the job (see ARB No. 45 and SOP 81-1). Then the completed-contract method of accounting is the preferred method of accounting for long-term contracts. When the percentage-of-completion is the method of accounting, the accounting principle of full disclosure requires the presentation of a work-in-process schedule in a company's financial statements. This schedule discloses the details of each contract stage of completion and profitability to date as well as in the current period of reporting. Its format varies, but at a minimum should include at least three components: | |
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Contract
Values
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Through 12/31/09
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For the Year 12/31/09
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| Estimated | |||||||||||||
| Contract | Estimated | Revenues | Cost of | Gross | Cost to | Billed to | Under | Over | Revenues | Cost of | Gross | Percent | |
| Job | Value | Gross Profit | Earned | Revenues | Profit | Complete | Date | Billed | Billed | Earned | Revenues | Profit | Complete |
| A | 2,400,000 | 600,000 | 2,000,000 | 1,500,000 | 500,000 | 300,000 | 1,800,000 | 200,000 | -
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1,200,000 | 900,000 | 300,000 | 83% |
| B | 1,250,000 | 250,000 | 1,000,000 | 800,000 | 200,000 | 200,000 | 900,000 | 100,000 | -
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900,000 | 720,000 | 180,000 | 80% |
| C | 1,500,000 | 375,000 | 1,250,000 | 937,500 | 312,500 | 187,500 | 1,325,000 | -
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75,000 | 1,250,000 | 937,500 | 312,500 | 83% |
| D | 3,000,000 | 450,000 | 1,500,000 | 1,275,000 | 225,000 |
1,275,000 | 1,450,000 | 50,000 |
- |
1,100,000 | 935,000 | 165,000 | 50% |
| 8,150,000 | 1,675,000 | 5,750,000 | 4,512,500 | 1,237,500 | 1,962,500 | 5,475,000 | 350,000 | 75,000
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4,450,000
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3,492,500 | 957,500 | ||
Often included in the above schedule are several columns showing earned revenues, cost of revenues and gross profit for the prior year. In addition, the addition of a column showing total estimated costs of each job assists the reader of the report in his understanding of the derivation of the estimated values, particularly if the company is employing the cost-to-cost method, wherein the estimate of completion is derived by the ration of costs incurred to date divided by the total estimated contract costs: Percent Complete = Cost of Revenues To Date
/ Total Estimated Contract Cost
For example, job's B total estimated costs are $1,000,000. Its percentage of completion = 800,000/1,000,000 or 80%. The preparation of the schedule involves several: first, calculate the percentage of work completed for each job (if employing the cost-to-cost method, use the formula immediately above); secondly, apply that percentage to the contract amount to determine earned revenues and gross profit per job; thirdly, calculate any over or underbilling for each job. To derive earned revenues and gross profit per job, multiply each contract amount by the percentage completed computed in step one and then subtract total costs to date from the calculated earned revenues: Contract Amount X Percent Complete = Total
Earned Revenues
Total Earned Revenues - Total Cost of
Revenues = Gross Profit
Job B's total earned revenues = 1,250,000 X 80% or 1,000,000, and its gross profit = 1,000,000 - 800,000, or 200,000. Finally to determine the over billing and under billing amounts, subtract billings to date from earned revenues for each contract: Total Earned Revenues - Total Billings To
Date = Under(Over) Billing
As one can see from the formula, if earned revenues exceed billings, the difference will be positive and reflect an under billing; a negative value indicates an over billing. Job B's over billing = 1,000,000 - 900,000, or 100,000, a positive difference. The final component of the WIP schedule, the contract results for the current year, can simply be obtained by subtracting the prior year's totals for earned revenues, cost of revenues, and gross profit, from those total values through the end of the current period. Consequently, it is desirable to include the prior year's results in the current year's WIP schedule for the benefit of the reader. Three additional columns, sometimes found at the end of the schedule, summarize the "backlog" of unfinished work remaining on each contract: that is, unearned revenues and gross profit as well as costs on those revenues not yet incurred are listed. Bonding agents and financial readers appreciate this additional information in particular because it conveniently presents the total backlog of committed work on hand at the construction company, assisting them in their estimates of potential revenues, costs, and gross profits for the contractor in the immediate future. Backlog can be derived simply by subtracting total accumulated revenues, costs, and gross profit to-date (i.e., "Through 12/31/09") for each contract from the corresponding contract totals under "Contract Values". Below is a WIP schedule including three additional columns for the prior year's results, three columns showing the current backlog, and a column for the total estimated cost of the entire contract:
Whether or not these other seven columns are presented to an outsider reader is left to the contractor's discretion; however, all of the additional columns should be included in an in-house WIP schedule since they clearly highlight the significant details of all contracts in process to members of management. |
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