ACAFA 3257

Class Consultation – Long Term Construction Contracts

II - Performance Obligations
Cabalen Pools, Inc. constructs outdoor swimming pools for wealthy individuals. Recently it obtained
an order to build a three-lane swimming pool of 25 yards in length in the customer’s backyard. Under
the contract, Cabalen is also obligated to install a water heater and a filtration system, which are
necessary to make a swimming pool fully functional. Total price for the construction was P55,000.
Each of these smaller components would typically cost P40,000, P10,000, and P20,000 if installed
separately. Given the information above, how many performance obligations are included in this
contract?

Answers - Problem II
Number of performance obligations in the contract: 1.

IV - Timing of Revenue Recognition–Over Time or Point in Time

EE Construction is constructing a building for AJD, a condominium enterprise. Under the construction
agreement, if for any reason EE can’t complete construction, AJD would own the partially completed
building and could hire another construction company to complete the job. When should EE recognize
revenue: as the building is constructed, or after construction is completed?

Answer - Problem IV
A performance obligation is satisfied over time if at least one of the following three criteria is met:
1. The customer consumes the benefit of the seller’s work as it is performed,
2. The customer controls the asset as it is created, or
3. The seller is creating an asset that has no alternative use to the seller, and the seller can receive
payment for its progress even if the customer cancels the contract.

Under EE construction agreement with AJD, if for any reason

EE can’t complete construction, AJD would own the partially completed building. Therefore, criterion
2 is satisfied, and revenue should be recognized as the building is being constructed.

VI – Methods of Construction Accounting

Beavis Construction Company was the low bidder on a construction project to build an earthen dam for
P1,800,000. The project was begun in 20x4 and completed in 20x5. Cost and other data are presented
below:
 20x4 20x5
Cost incurred during the P 450,000 P1,100,000
year . . . . . . . . . . . . . . . . .
Estimated costs to 1,200,000
complete . . . . . . . . . . . . . . . . . . 0
Billings during the year . . . . . . . . . . . . . . . . . 400,000 1,400,000
......
Cash collections during the year . . . . . . . . . . 300,000 1,500,000
....

Required: Compute the amount of gross profit recognized during 20x4 and 20x5. 
1. Assume that Beavis uses the overtime (percentage-of-completion) method for revenue
recognition.

Answer - Problem VI
1. Input Measure - Percentage of Completion Method (Cost to Cost Method)
20X4:
Contract price P 1,800,000
Actual costs to date P 450,000
Estimated costs to complete 1,200,000
Total estimated project costs 1,650,000
Estimated total gross profit 150,000
Percentage of completion:
P450,000 / P,1650,000 27.27%
Gross profit recognized P 40,905

20X5: P 1,800,000
Contract price
Costs incurred:
20X4 P 450,00
20X5 1,100,000
Total cost 1,550,000
Total gross profit 250,000
Recognized in 20X4 40,905
Recognized in 20X5 P 209,095

2. Assume that Beavis uses the point-in-time (cost recovery) method for revenue recognition.
Answer - Problem VI
2. Input Measure - Cost Recovery Method
20X4: (all costs not yet recovered) P -0-
20X5:
Contract price 1,800,00
Costs incurred: 20X4 P 450,000
20X5 1,100,000
Total cost 1,550,000
Total gross profit P 250,000

VIII - Input Measures: Overtime/Percentage-of-Completion (Cost-to-Cost) Method versus

Point-in-Time/Cost Recovery Method
DJD Builders has a fixed price contract to build a waiting shed. The initial amount of revenue agreed is
P528,000. At the beginning of the contract on January 1, 20x3 the initial estimate of the construction
costs is P480,000. By the end of 20x3 the estimate of the total costs has risen to P484,800.

During 20x4 the customer agrees to a variation with increases expected revenue from the contract by
P12,000 and causes additional costs of P7,200. At the end of 20x4 there are materials stored on site for
use during the following period which cost P6,000.
DJD Builders have decided to determine the stage of completion of the contract by calculating the
proportion that contract costs incurred for work to date bear to the latest estimated total contract costs.
The contract costs incurred at the end of each year (costs incurred to date), billings and collections for
each year were as follows:
Year Direct and Allocable Costs to date Billings Collections
20x3 P126,048 P144,000 P120,000
20x4 370,080 (including materials in store) 240,000 228,000
20x5 492,000 156,000 192,000

Required:
1. Prepare the journal entries, under:

a. Over Time/Percentage-of-completion method using cost-to-cost method

ANSWER - a. Input Measure – Percentage of completion – (cost-to-cost method)

The following analysis is to determine the percentage of completion:
20x3 20x4 20x5
Contract price:
Initial amount of contract…………... P528,000 P528,000 P528,000
Variation……………………………….. _______- __12,000 __12,000
Total contract price…………………….. P528,000 P540,000 P540,000
Costs incurred each year……………… P 126,048 *P244,032 P121,920
Add: Costs incurred in prior years……. _______- _126,048 _370,080
Actual costs incurred to date (1)…..… P126,048 *P370,080 P492,000
Add: Estimated costs to complete….. _358,752 _121,920 _______-
Total estimated costs (3)……..………… P484,800 P492,000 P492,000
Estimated gross profit…………………… P 43,200 P 48,000 P 48,000
Percentage of completion (1) / (3) 26% **74% 100%
* including the P7,200 additional costs in 20x4.
** it should be noted that the percentage of completion for 20x4 is calculated by deducting the P6,000 of materials held for the following period from
the costs incurred up to that year end, i. e., P370,080 – P6,000 = P364,080, P364,080 / P492,000 = 74%.

The revenue, expenses (costs) and profit will be recognized in profit or loss as follows:

Recognized in Recognized in
20x3 To date prior years current year
Revenue (P528,000 x 26%) P 137,280 - P 137,280
Costs/Expenses (P484,800 x 26%) 126,048 - 126,048
Gross Profit (P43,200 x 26%) P 11,232 - P 11,232

Recognized in Recognized in
20x4 To date prior years current year
Revenue (P540,000 x 74%) P 399,600 P 137,280 P 262,320
Costs/Expenses (P492,000 x 74%) _364,080 _126,048 238,032
Gross Profit (P48,000 x 74%) P 35,520 P 11,232 P 24,288

Recognized in Recognized in
20x5 To date prior years current year
Revenue (P540,000 x 100%) P 540,000 P 399,600 P 140,400
Costs/Expenses (P492,000 x 100%) _492,000 _364,080 _127,920
Gross Profit (P48,000 x 100%) P 48,000 P 35,520 P 12,480

Alternatively, the gross profit recognized each year may also be computed as follows:
20x3 20x4 20x5
Contract price:
Initial amount of contract…………....... P528,000 P528,000 P528,000
Variation…………………………………… _______- __12,000 12,000
Total contract price………………………… P528,000 P540,000 P540,000
Costs incurred each year…………………. P126,048 P240,032 P121,920
Add: Costs incurred in prior years……….. _______- _126,048 _370,080
Actual costs incurred to date (1)…..……. P126,048 P370,080 P492,000
Add: Estimated costs to complete……… _358,752 _121,920 _______-
Total estimated costs (3)……..……………. P484,800 P492,000 P492,000
Estimated gross profit……………………… P 43,200 P 48,000 P 48,000
Percentage of completion (1) / (3)……... ____26% ____74% ___100%
Gross profit to date…………………………. P 11,232 P 35,520 P 48,000
Less: Gross profit in prior years……………. _______- ___11,232 __35,520
Gross profit in current year -% of completion P 11,232 P 24,288 P 12,480
Gross profit in current year –cost recovery method P 0 P 0 P 48,000

Following are the entries for the years 20x3 to 20x5:

Percentage of Completion Method
20x3 20x4 20x5
 1. To record costs incurred:
Construction In Progress*………...... 126,048 238,032 127,920
Materials Inventory………………….. 6,000 6,000
Cash, payables, etc…………….. 126,048 244,032 121,920

2. To record progress billings:

Accounts receivable……………….. 144,000 240,000 156,000
Progress billings*.…………………. 144,000 240,000 156,000

3. To record collections:
Cash…………………………………..... 120,000 228,000 192,000
Accounts receivable…………… 120,000 228,000 192,000

4. To recognize Revenue, Costs

and Gross Profit:
Construction Expenses……………… 126,048 238,032 127,920
Construction in Progress*..……….... 11,232 24,288 12,480
Revenue from Construction...... 137,280 262,320 140,400

5. To close Construction In Progress**

and Progress Billings account:
Progress billings……………………… 540,000
Construction In Progress………. 540,000
* The term “Contract account” may alternatively be used.
** If “Contract account” is used then no entry is required for No. 5.

b. Point-in-Time/Cost recovery method (also known as zero-profit approach)

ANSWER - b. Input Measure – Cost Recovery Method

The following table shows the data needed for further analysis:
20x3 20x4 20x5
Contract price:
Initial amount of contract…………... P528,000 P528,000 P528,000
Variation……………………………….. _______- __12,000 __12,000
Total contract price…………………….. P528,000 P540,000 P540,000
Costs incurred each year……………… P126,048 P244,032 P121,920
Add: Costs incurred in prior years……. _______- _126,048 _370,080
Actual costs incurred to date……....… P126,048 P370,080 P492,000
Add: Estimated costs to complete….. ____ _? ____ _? _______-
Total estimated costs ….……..………… P ? P ? P492,000

The revenue, expenses (costs) and profit will be recognized in profit or loss as follows:
Recognized in Recognized in
20x3 To date prior years current year
Revenue* P 126,048 - P 126,048
Costs/Expenses 126,048 - 126,048
Gross Profit P 0 - P 0
* equivalent to costs incurred

Recognized in Recognized in
20x4 To date prior years current year
Revenue* P 364,080 P 126,048 P 238,032
Costs/Expenses _364,080 126,048 238,032
Gross Profit P 0 P 0 P 0
* equivalent to costs incurred

Recognized in Recognized in
20x5 To date prior years current year
Revenue (P540,000 x 100%) P 540,000 P 364,080 P 175,200
Costs/Expenses (P492,000 x 100%) _492,000 364,080 127,920
Gross Profit (P48,000 x 100%) P 48,000 P 0 P 48,000

Alternatively, the gross profit recognized each year may also be computed as follows:
20x3 20x4 20x5
Contract price:
Initial amount of contract…………....... P528,000 P528,000 P528,000
Variation…………………………………… _______- __12,000 12,000
Total contract price………………………… P528,000 P540,000 P540,000
Costs incurred each year…………………. P 126,048 P244,032 P 121,920
Add: Costs incurred in prior years……….. _______- _126,048 _370,080
Actual costs incurred to date ……...……. P 126,048 P370,080 P492,000
Add: Estimated costs to complete……… ____ _? ____ _? _______-
Total estimated costs …….…..……………. P ? P ? P492,000
 Estimated gross profit………………………. P 0 P 0 P 48,000
Percentage of completion……………….. _ -___ _ -___ ___100%
Gross profit to date…………………………. P 0 P 0 P 48,000
Less: Gross profit in prior years……………. _______- _______- __ 0
Gross profit in current year………………... P 0 P 0 P 48,000

Following are the entries for the years 20x3 to 20x5:

20x3 20x4 20x5

1. To record costs incurred:
Construction In Progress*………...... 126,048 238,032 127,920
Materials Inventory………………….. 6,000 6,000
Cash, payables, etc…………….. 126,048 244,032 121,920

2. To record progress billings:

Accounts receivable……………….. 144,000 240,000 156,000
Progress billings*.…………………. 144,000 240,000 156,000

3. To record collections:
Cash…………………………………..... 120,000 228,000 192,000
Accounts receivable…………… 120,000 228,000 192,000

4. To recognize Revenue, Costs

and Gross Profit:
Construction Expenses……………… 126,480 238,032 127,920
Construction in Progress*..……….... 48,000
Revenue from Construction...... 126,480 238,032 175,920

5. To close Construction In Progress**

and Progress Billings account:
Progress billings……………………… 540,000
Construction In Progress………. 540,000
* The term “Contract account” may alternatively be used.
** If “Contract account” is used then no entry is required for No. 5.

2. Compute the Current asset – Contract Asset/Current liability – Contract Liability:

a. Over Time/Percentage-of-completion method using cost-to-cost method

ANSWER - a. Input Measure - Percentage of Completion Method

Current Asset:
20x3 20x4 20x5
Accounts receivable………………………. P 24,000 P 36,000 P -
Other receivables:
Construction In Progress………………… P399,600
Less: Progress billings……………………. _384,000
Contract asset P 15,600
Raw materials Inventory…………………… P 6,000

Current Liability:
Payables (“Payments on Account”)
Progress billings……………………………… P144,000
Less: Construction In Progress……………. _137,280
Contract Liability P 6,720

Construction In Progress Progress Billings

20x3 CI 126,048 144,000 20x3

Pr 11,232

end of x3 137,280 144,000 end of x3

20x4 CI 238,032 240,000 20x4
Pr 24,288

end of x4 399,600 384,000 end of x4

20x5 CI 127,920 156,000 20x5
Pr 12,480

540,000 540,000 540,000 540,000

where: CI - cost incurred each year

Pr - profit

b. Point-in-Time/Cost recovery method (also known as zero-profit approach)

ANSWER - b. Input Measure – Cost Recovery Method

 Current Asset:
20x3 20x4 20x5
Accounts receivable………………………. P 24,000 P 36,000 P -
Raw materials Inventory…………………… P 6,000

Current Liability:
Payables (“Payments on Account”)
Progress billings……………………………… P 137,280 P384,000
Less: Construction In Progress……………. _144,000 _364,080
Contract liability P 6,720 P 19,920
Construction In Progress Progress Billings

20x3 CI 126,048 144,000 20x3

Pr 0

end of x3 126,048 144,000 end of x3

20x4 CI 238,032 240,000 20x4
Pr 0

end of x4 364,080 384,000 end of x4

20x5 CI 127,920 156,000 20x5
Pr 48,000

540,000 540,000 540,000 540,000

where: CI - cost incurred each year

Pr - profit

3. Compute the gross profit.

a. Over Time/Percentage-of-completion method using cost-to-cost method

ANSWER - a. Input Measure - Percentage of Completion Method (refer to requirement 1 for detailed computation)

20x3 20x4 20x5

Revenue……………………………………… P 137,280 P 262,320 P 140,400
Less: Costs / Expenses……………………... _126,048 _238,032 _127,920
Gross Profit……………………………………. P 11,232 P 24,288 P 12,480

b. Point-in-Time/Cost recovery method (also known as zero-profit approach)

ANSWER - b. Input Measure – Cost Recovery Method (refer to requirement 1 for detailed computation)

20x3 20x4 20x5

Revenue……………………………………… P 126,048 P 238,032 P 175,920
Less: Costs / Expenses……………………... _126,048 _238,032 _127,920
Gross Profit……………………………………. P 0 P 0 P 48,000

Multiple Choices:

1. Over Time - A
2. 1–B
3. 1–B
4. (850,000 + 50,000) x 65% + (900,000 – 10,000) x 25% + (890,000 – 10,000) x 5% + (880,000 –
10,000) x 5% = 895,000 – A
5.