long-term construction contracts

Note: Journal entries are important

percentage of completion method

1. Construction in progress (CIP) is a current asset.

   a. It includes all of the cost to date and all of the profits to date.

2. Progress billings is a contra asset.

3. If CIP > progress billings = current asset

4. If progress billings is greater than CIP = current liability

Determining expected total cost, profit and construction in progress.

1. The cost to date of $400,000 out of a total expected cost of $2 million indicates that the job is 20% complete ($400,000 (cost incurred) divided by $2 million (total expected cost))

2. The profit recognized to date is $100,000 ($500,000 x 20%)

3. No previous profit has been recognized therefore, the entire $100,000 should be recognized in year one.

4. The 4th entry is the income statement journal entry. (The previous 3 entries are in the picture)

The 4th entry: The income statement entry

Income statement presentation – year 1

Under the year, one income statement:

Revenue $500,000

Less construction expenses $400,000

Net profit $100,000

Balance sheet presentation year 1.

1. Assets:

2. Current asset:

3. Construction in progress equals $450,000

   A. CIP ($400k costs + $100k profit = Ending bal: $500k)

   B. Progress billing = $50,000 (this is a contra asset with a credit balance)

   C. The net of $500k (CIP) minus $50k progress billing is reflected on the balance sheet = $450k.

Year 2 - percentage complete

1. To determine total expected cost for year 2, add your expense incurred for year one plus expenses incurred for year 2 plus add any additional expenses needed to complete the project

Example:

1. $400k = Exp incurred Y1

2. $700k = Exp incurred Y2

3. $1.1m = Add’l expected Exp

4. New total exp cost = $2.2m

Construction in progress, balance sheet and income statement presentation

1. Income Statement

   a. Total Revenue for the period

   b. Less Construction Exp

   c. = Net Profit

2. Balance Sheet

   a. Sum of Y1 costs + Y1 profit (CIP)

   b. Sum of Y2 costs + Y2 profit (CIP)

   C. The ending balance will be netted with Progress Billing.

   d. The net amount will be shown on the balance sheet.

3. Example: CIP debit balance = $1,250,000

   Progress Billing credit balance = $150,000

   Net Amount = $1,100,000 (CIP current assets)

Completed contract method

Note: The Percentage of Completion method is the preferred GAAP method.

Should only be used when the company cannot reasonably determine the cost estimates necessary to use the percentage of completion method.