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Page 1: Profit and Loss Calculation of Contracts

  • Profits and Losses Calculation

    • Revenue Recognition:

      • Revenue is recognized upon delivery of goods or service completion.

      • Exception: Recognized based on percentage of completion of the contract.

  • Calculated Profit:

    • Formula:

      • Calculated Profit = Total Recognized Revenue (based on percentage of completion) - Total Costs

  • Approved Profit:

    • Formula:

      • Approved Profit = Calculated Profit - Provisions

  • Provisions:

    • Related to non-collection and non-completion risks.

    • Risk Assessment:

      • Initial Contract Phase: Higher risks, larger provisions.

      • 10% Completion: Provision may be 100% without recognizing profit.

      • Contract Progression: Risks decrease leading to a 25%-30% reduction in provisions.

      • 90% Completion: Minimal risks, provisions drop to 10% or less.

      • Upon Completion: Entire profit recognized.

Page 2: Accounting Treatment of Production Process Costs

  • Question 3: Accounting Methods

    • Weighted Average (WA) Method:

      • Concept: Calculates the average cost per unit.

      • Accounting Steps:

        1. Calculate Total Costs:

          • Total Costs = Previous period inventory costs + Current period inventory costs.

        2. Calculate Average Cost per Unit:

          • Average Cost = Total Costs ÷ Total Units.

        3. Inventory Valuation:

          • Remaining and outgoing inventory evaluated at same average cost.

      • Result:

        • Units valued at the same average cost, easy to calculate, no distinction between old/new.

Page 3: First In, First Out (FIFO) Method

  • Concept:

    • Assumes oldest inventory sold first, costing based on oldest units.

  • Accounting Steps:

    1. Determine Output Units:

      • Use oldest inventory first for valuation.

    2. Determine Remaining Inventory Costs:

      • Value remaining inventory based on cost of newest inventory.

    • Result:

      • Costs reflect actual flow, outgoing may differ from remaining.

Page 4: Accounting Differences

  • Weighted Average Method:

    • Valuation:

      • All units valued at average cost, simplifying calculations.

    • Advantages:

      • Easy to use, stable valuation.

    • Disadvantages:

      • May not reflect actual cost differences; inaccuracies may arise with varied production costs.

  • FIFO Method:

    • Valuation:

    • Utilizes oldest costs for outgoing inventory, newest for remaining.

    • Advantages:

      • Accurate reflection of inventory flow.

    • Disadvantages:

      • Complexity increases with frequent cost changes, distinct cost differences.

Page 5: Weighted Average vs FIFO Overview

  • Weighted Average Method:

    • Combines costs, averages them out, valuing all units uniformly.

  • FIFO Method:

    • Distinguishes costs between older and newer units, reflecting actual flow with older costs applied first.

Page 6: When to Use Each Method

  • Weighted Average Method:

    • Use when prices are stable, in continuous processes, and for homogeneous inventory (e.g., liquids).

    • Best for small inventory volumes, stable costs.

  • FIFO Method:

    • Use when price fluctuations are significant, ensuring expense reflection.

    • Best for large inventories, and when costs vary significantly.

Page 7: Alignment with Accounting Principles

  • Weighted Average Method:

    • Aligns with the Conservatism Principle (minimizing price fluctuation impact).

  • FIFO Method:

    • Aligns with the Historical Cost Principle and Full Disclosure Principle (for significant price fluctuations).

  • Choosing Between Methods:

    • Depends on business nature and evaluation objectives (accuracy vs. simplicity).