Presentation on Contract Costing

Deep Waghela 57 Monalisa Wardhan 58 Vikram Joshi 56

Introduction
Contract costing is the method of costing used to find out the cost and profit of each contract for a given period Contract costing enables the contractor to ascertain and control the cost of each contract Contract costing is applicable to:
Civil construction works like building contractors, dam, roads Civil engineering firms like building repairing firms, landscaping firms etc. Mechanical engineering firms ship building, aircraft building

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Contract Costing

Distinction between Contract and Job Costing

Job Costing Number of jobs undertaken at a time Size of individual Job Large Small Contract Costing Small Large

Cost allocation
Allocation and Apportionment of Overheads Location Examples

Direct allocation not possible

Complex

Direct to the contract

Simple

Factory Premises

Site

Printing Press, Automobile Construction of buildings, repair, Interior Decoration bridges, roads

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Contract Costing

Features of Contract Costing

Large in size, takes more than a year to complete Work carried out at sites Each contract is a cost unit A separate contract account is prepared for each contract to find profit and loss on each contract Materials are specifically purchased for the contract Almost all the labor is direct Most expenses like electricity, telephone, insurance etc is also direct Plant and equipment may be either purchased or hired

Payments by the customer are made at various stages of completion

Contractor may incur penalty for not completing the project in desired duration

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Contract Costing

Contract Costing Procedure

Contract Account: A separate account and a distinct number per contract Direct Costs: Debited to the contract account
Materials Labour and Supervision Direct Expenses Depreciation of Plant and Machinery Sub-contract costs

Indirect Costs: Debited to the contract account

Smaller in comparison to Direct costs Absorbed as a percentage of Prime cost, Material or Wages Overheads are restricted to Head Office and Storage Costs 9/30/2013 Contract Costing 5

Contract Costing Procedure

Transfer of Materials or Plant from the contract: Credited to the contract account Contract price: Credited to the contract account
Incomplete Contract: Credit the work-in-progress as on that date

Profit or Loss: Balance of the Contract Account transferred to Profit and Loss Account

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Contract Costing

Special points in Contract Costing

Cost of materials
Materials include:
Specifically purchased for the contract Issued against material requisition notes

Materials returned to store are accompanied by material return note Unused materials at the end of accounting period are carried forward

Cost of Labour
All wages of workers engaged in a contract are charged direct to the contract

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Special points in Contract Costing

Plant
Methods of dealing with depreciation
Method 1: Contract account is debited with the cost of the plant When contract is completed, plant is revalued and the figure is credited back Method 2: Contract account is debited with depreciation

Sub-contracts
Specialized work is offered to a sub-contractor

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Contract Costing

Special points in Contract Costing

Payment based on Architects Certificate
Applicable in case of large contract System of progress payments is followed Part payments are made on the basis of architects certificate

Work Certified
Part of WIP approved by the contractees architect Valued at contract price Includes an element of profit

Work uncertified
This part is not approved by the architect Valued at cost Hence no profit
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Special points in Contract Costing

Cash Ratio & Retention Money
Cash Ratio = Fixed percentage of the work certified paid Retention Money = Balance amount not paid Retention money acts as a security

Extra Work
Extra work like additions or alterations in original work Extra money will be charged
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Calculation of profit
Completed contracts
Contracts started and finished in the same accounting year

Carried forward contracts

Contract is carried forward to the next accounting year Issue whether to compute profit on completed contract basis or whole contract basis

Profit determination computation:

involves

the

following

Notional profit or Estimated profit Portion of profit to be transferred to P&L account

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Calculation of profit
Notional Profit is calculated as follows: Value of work certified Add: Cost of work not yet certified Less: Cost of work to date Notional Profit Rs. xxxxxx xxxxxx xxxxxx xxxxxx

Estimated profit is calculated as follows: Contract Price Less: Total cost already incurred Less: Estimated additional costs to complete the contract xxxxxx Estimated Profit xxxxxx
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Rs. xxxxxx xxxxxx

Calculation of profit
Portion of profit to be transferred to P&L account:
Work-in-progress uncertified is not considered here General rules to be followed:
Work certified < (contact price), no profit is transferred to P&L account

(contract price) < Work certified < (contract price), then 1/3(notional profit) is transferred to P&L account
(contract price) < Work certified < 9/10(contract price), then 2/3(notional profit) is transferred to P&L account When contract is near completion, Estimated Profit x Work certified/Contract price = Transferred to P&L account
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Escalation Clause
Clause is provided in contracts to cover any likely changes in
Price of materials and labour Utilization of materials and labour

The objective of this clause is to safeguard the interest of the contractor This is particularly important when:
Prices of material & labour are anticipated to increase Quantity of material/labour cannot be accurately estimated
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Cost-Plus Contracts
In this, contract price is not fixed when entering the contract Cost-plus contracts are for executing special work like construction of dam, power house, etc. Government prefers to give contracts on cost plus terms Advantages:
To Contractor:
No risk of loss being incurred Protects the risk of fluctuations Simplifies work of preparing tenders & quotations
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Cost-Plus Contracts
Advantages:
To Contractee:
Can ensure a fair price of contract by means of auditing the accounts of the contractor

Disadvantages:
To Contractor:
Deprived of advantages due to favourable market prices Contractor suffers due to his own efficiency

Disadvantages:
To Contractee:
Pays more for the inefficiency of the contractor Price is unknown until after the completion of work
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Case Study
Name of company : Imaginary International Contract Price : Rs. 10,00,000 Expenses Incurred (Material, Labour, Plant, Other Expenses) : Rs. 4,40,000 Work Certified : Rs. 4,00,000 Work Uncertified : Rs. 15,000 Material at Site : Rs. 5,000 Machinery at Site : Rs. 20,000 Contractee agreed to pay 90% of work certified
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Case Study
Particulars To Expenses Incurred Amount 4,40,000 Particulars By WIP (Work in Progress) - Work Certified 4,00,000 - Work Uncertified 15,000 By material at site By machinery at site 4,40,000 To P&L To Balance Total 9/30/2013 15,000 35,000 50,000 Total Contract Costing 50,000 18 By notional profit Amount 4,15,000

5,000 20,000 4,40,000 50,000

References
http://www.acquisition.gov/far/97-10/pdf/31.pdf http://icabtutorial.com/important-key-terms-usedin-contract-costing/ http://catimesofindia.blogspot.in/2012/11/contract -costing.html

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