IAS 11 Stage of Completion Calculation

1.9 Stage of Completion Calculation

The contract is the main reference. Methods may include:

1.     The proportion that costs incurred for the work to date relate to the estimated total costs.

Example:

You are building a new computer center, for which your costs will be $10 million. So far you have spent $4million. Assume that the project is 40% complete, unless there is any evidence to the contrary.

2.     Surveys of the work done.

Example:

You are building a duplicate securities trading center as part of your client’s disaster plan. . The client’s surveyors have confirmed that 37% of the work is complete, and recommended payment for the work.

3.     Completion of a physical portion of the work.

Example:

You are building 300 branches of similar size. 75 are complete, and no work has been done on the other 225. Treat your contract as 25% complete, unless there is any evidence to the contrary.

Costs incurred relating to future work on the contract, including advance payments to subcontractors, should not be included in the calculation.

Note: Progress payments and advances received from clients often do not reflect the work done.

Example: On signing a contract to build a credit card clearing house, you receive a payment of 10% of the contract price. Treat this as deferred income (a liability), and do not recognize any revenue, at this time.

When the outcome of a construction contract can be estimated reliably, contract revenue and contract costs associated with the construction contract should be recognised at the balance sheet date.

When the outcome of a Contract cannot be estimated:

q  No profit is recognised, though an expected loss should be recognised immediately.

q  Revenue should only be recognised to the extent that it is likely to be chargeable to the client. 

q  Costs should be recognised in the period in which they are incurred.

Example: Should an entity recognise a construction contract work in progress balance at year-end? Background E has recently started to design and construct web sites for its customers.  This is a new activity for E and it is not clear yet how long such work will typically take; however, it is clear that the activities will be likely to start in one accounting period and end in the subsequent one. Solution Management should not recognise construction contract work in progress in respect of the costs incurred on the web sites. All costs should be expensed as incurred. Construction contract accounting also applies to rendering services. However, management does not have a clear and reasonable estimate of the costs likely to be incurred in the development of each web site. The costs therefore do not meet the recognition criteria for construction contract work in progress. Revenue should be recognised only to the extent that management believes the costs will be recovered. Management will therefore need to defer all revenue until the end of the contract if there is uncertainty about collectability. Management will be able to recognise work in progress and follow the normal principles for construction contract revenue recognition once it has established a track record of web site development costs. This is likely to be after the first financial year.

Common causes of such uncertainty over the outcome include:

1.     Financial difficulties of contractor or client.

Example:

Your client has not paid you for your work on the agreed date.

Arguments ensue, but you think that your client has serious financial problems, and the contract is at risk.

2.     Pending litigation or legislation.

Example:

You are rebuilding on an old industrial site. The government finds toxic effluent has been leaking from the site, and applies to the court for an order to stop work.

3.     Lack of clarity in the contract on reimbursement of costs.

Example:

You are building a client service centre. Government officials demand additional health and safety features, which are not covered by the contract. You submit a variation proposal to the client, who refuses it, claiming the cost is yours.

4.      Anticipated failure to complete the contract.

Example:

You are building a call centre. Part of the site unexpectedly becomes flooded, and you cannot determine whether or not the call centre will be completed within the contract period.

Example: You are constructing a building for a client. Project revenue is $20m. Costs to date are $6m, and you estimate that additional costs to completion are $10m. (Costs have been accumulated in an asset account: construction in progress. An alternative method is to expense them as incurred.) The client has, so far, only approved $4m of the expenditure, as his staff is on holiday for the month. You believe that the $2m ($6-$4m) will be approved). No payment has been received. Recognise: $4m as expense (the amount approved) $5m as (accrued) revenue (4/16*$20m). $2m is left as construction in progress. ($6m-$4m=$2m) I = Income statement, B = Balance sheet
	I/B	DR	CR
Cost of sales	I	$4m
Construction in progress	B		$4m
Accounts receivable	B	$5m
Revenue	I		$5m
Revenue recognition

Revisions to estimates do not mean that the financial outcome of the transaction cannot be reliably measured.

Advances and progress payments received from clients may not reflect the stage of completion.

Example: Percentage of Completion -1 On day 1 of a $50 million contract, $5 million is received on account. This should not be fully recognised as revenue until 10% of the work has been successfully completed.
	I/B	DR	CR
Cash	B	$5m
Deferred revenue	B		$5m
Recording cash receipt on day 1

Example: Percentage of Completion -2 10% is now completed, costs total $3m
Cost of sales	I	$3m
Work in progress	B		$3m
Deferred revenue	B	$5m
Revenue	I		$5m
Revenue recognition –when 10% of the work is completed

In the early stages of a transaction, it may be that the profitability cannot be reliably estimated.

If it is likely that only the costs will be recovered, recognise only enough revenue to equal the costs. (accounting for the project as breakeven: no profit, no loss).

Example: Recovery of costs Project revenue is a total of $100 million. $1 million has been spent at the period end, and there are problems that indicate that no profit will be made on the project. Recognise $1million as accrued revenue and $1million as (actual) expenses.
	I/B	DR	CR
Accounts receivable	B	$1m
Revenue	I		$1m
Revenue recognition
Cost of sales	I	$1m
Work in progress	B		$1m
Recognising expenses

If it is not probable that the costs will be recovered, no revenue is recognised, and all costs are immediately expensed.

Property type- different accounting treatment applied to properties under IFRS depending on their current and future uses and their ownership	Standard Number	Standard Name	Valuation
Owner-occupied property	IAS 16	Property, plant and equipment (see also IAS 20 Government grants)	Cost or revaluation.
Property under construction (including investment property under construction)	IAS 16	Property, plant and equipment (see also IAS 23 Borrowing costs)	Cost.
Property acquired in an exchange of assets	IAS 16	Property, plant and equipment	Fair value or the carrying amount of the assets given up.
Investment property	IAS 40	Investment property	Cost or fair value.
Investment property being redeveloped for continuing use as investment property.	IAS 40	Investment property	Cost or fair value.
Investment property held for sale without development (unless it meets the criteria of IFRS 5 – see below).	IAS 40	Investment property	Cost or fair value.
Property held under an operating lease classified as an investment property	IAS 40	Investment property	Fair value (accounted for as a finance lease under IAS 17).
Property held under a finance lease	IAS 17	Leases. Owner-occupied IAS 16,              Investment property IAS 40.	The lower of fair value and the present value of the minimum lease payments.
Property held under an operating lease – owner -occupied	IAS 17	Leases	Leasing costs expensed.
Property lease to another party under a finance lease	IAS 17	Leases	Account receivable equal to the net investment in the lease.
Property sale and leaseback	IAS 17	Leases	As operating lease or finance lease, as appropriate
Trading properties – property (including investment property) intended for sale in the normal course of business or being built or developed for that purpose	IAS 2	Inventories   (Properties held for sale that meet the criteria of IFRS 5 should be recorded according to IFRS 5 – see below. These are generally not in the normal course of business.)	Lower of cost and net realisable value.
Property held for sale, or included in a disposal group that is held for sale.	IFRS 5	Non-current assets held for sale and discontinued operations	Lower of carrying amount and fair value less costs to sell.
Assets received in exchange for loans (taking possession of collateral)	IFRS 5 IAS 16	Non-current assets held for sale and discontinued operations Property, plant and equipment (see Property acquired in an exchange of assets above)	Lower of fair value less costs to sell and carrying amount of the loan net of impairment at the date of exchange. (see HSBC plc Annual Report 2005 page 247)
Property provided as part of a construction contract	IAS 11	Construction contracts	Stage of contract completion or cost.
Future costs of dismantling, removal and site restoration.	IAS 37	Provisions, contingent liabilities and contingent assets (see also IFRIC 1, IFRIC 5)	Present value of the expected costs, using a pre-tax discount rate.

Notes to the table on the previous page. Note 1: Where an asset is revalued, increases in carrying amounts above cost are recorded as revaluation surplus, in equity.             Using fair values, all changes in fair value are recorded in the income statement. Reductions below cost are recorded in the income statement under both methods. Note 2. In the cases of cost or revaluations, the carrying value will be reduced by accumulated depreciation and accumulated impairment (see IAS 36). Workbooks are available on our website on each standard that explain each accounting treatment with examples.