Question

Citation Builders, Inc., builds office buildings and single-family homes. The office buildings are constructed under contract with reputable buyers. The homes are constructed in developments ranging from 10–20 homes and are typically sold during construction or soon after. To secure the home upon completion, buyers must pay a deposit of 10% of the price of the home with the remaining balance due upon completion of the house and transfer of title. Failure to pay the full amount results in forfeiture of the down payment. Occasionally, homes remain unsold for as long as three months after construction. In these situations, sales price reductions are used to promote the sale. During 2018, Citation began construction of an office building for Altamont Corporation. The total contract price is $13 million. Costs incurred, estimated costs to complete at year-end, billings, and cash collections for the life of the contract are as follows: 2018 2019 2020 Costs incurred during the year $ 2,600,000 $ 6,175,000 $ 2,925,000 Estimated costs to complete as of year-end 7,800,000 2,925,000 — Billings during the year 1,300,000 6,500,000 5,200,000 Cash collections during the year 1,170,000 5,030,000 6,800,000 Also during 2018, Citation began a development consisting of 12 identical homes. Citation estimated that each home will sell for $680,000, but individual sales prices are negotiated with buyers. Deposits were received for eight of the homes, three of which were completed during 2018 and paid for in full for $680,000 each by the buyers. The completed homes cost $510,000 each to construct. The construction costs incurred during 2018 for the nine uncompleted homes totaled $3,060,000. Required: 1. Which method is most equivalent to recognizing revenue at the point of delivery? 2. Answer the following questions assuming that Citation uses the completed contract method for its office building contracts: 2-a. How much revenue related to this contract will Citation report in its 2018 and 2019 income statements? 2-b. What is the amount of gross profit or loss to be recognized for the Altamont contract during 2018 and 2019? 2-c. What will Citation report in its December 31, 2018, balance sheet related to this contract? (Ignore cash.) 3. Answer the following questions assuming that Citation uses the percentage-of-completion method for its office building contracts. 3-a. How much revenue related to this contract will Citation report in its 2018 and 2019 income statements? 3-b. What is the amount of gross profit or loss to be recognized for the Altamont contract during 2018 and 2019? 3-c. What will Citation report in its December 31, 2018, balance sheet related to this contract? (Ignore cash.) 4. Assume the same information for 2018 and 2019, but that as of year-end 2019 the estimated cost to complete the office building is $5,850,000. Citation uses the percentage-of-completion method for its office building contracts. 4-a. How much revenue related to this contract will Citation report in the 2019 income statement? 4-b. What is the amount of gross profit or loss to be recognized for the Altamont contract during 2019? 4-c. What will Citation report in its 2019 balance sheet related to this contract? (Ignore cash.) 5. Which method of accounting should Citation Builders, Inc adopt for its single-family houses? 6. What will Citation report in its 2018 income statement and 2018 balance sheet related to the single-family home business (ignore cash in the balance sheet)?

Answer 1

1. According to Accounting Standard 9 on Revenue Recognition, generally revenue should be recognized when the Sale is certain and there will be probable flow of revenue. It is recognized when the revenue is received or receivable. However as per Accounting Standard 7 on Construction Contracts, Revenue is recognized based on Percentage completion method. It means that the contractors will reconise revenue as a percentage of cost incurred tilll the reporting date on the total estimated cost. There may also be another method followed which is Contract completion method, where the revenue and profits are recognised when the contract has benn completed.

However the most equivalent to recognizing revenue at the point of delivery shall be Contract Completion method.

2(a) As per completed contract method, revenue is recognized after contract is completed. Therefore no revenue will be recognized in 2018 and 2019

2(b) As per completed contract method, profit is recognized after contract is completed. Therefore no revenue will be recognized in 2018 and 2019

2© In the balancesheet of 2018, the costs incurred and the billings made shall be showed, which shall be taken to income statement in the year contract is completed

3 (a)Calculation of Revenue to be recognized for year 2018

Costs incurred = $ 2,600,000      

Total Estimated Costs= $7,800,000

Percentage of completion = Costs incurred/ Total estimated costs * 100

                                                 =2,600,000/7,800,000*100

                                                  =33.33%

Revenue for year 2018 = Contract price* Percentage of completion

                                             =13,000,000*33.33%

                                             =$4,332,900

Calculation of Revenue to be recognized for year 2019

Costs incurred = 2,600,000+6,175,000= $8,775,000

Total Estimated Costs=7,800,000+2,925,000=$10,725,000                      

Percentage of completion = Costs incurred/ Total estimated costs * 100

                                                 =8,775,000/10,725,000*100

                                                  =81.82%

Revenue for year 2018 = Contract price* Percentage of completion

                                             =13,000,000*81.82%

                                             =$10,636,600- $4,332,900

                                                =$6,303,700

3(b)

Gross profit/(loss) for 2018= Revenue recognized – Estimated costs

= 4,332,900-7,800,000

=$(3,467,100)

Gross profit/(loss) for 2019= Revenue recognized – Estimated costs

= 6,303,700-10,725,000

=$(4,421,300)

3( c) Citation shall disclose the following in the Balancesheet of 2018

Particulars	Amount
Contract revenue till 31st Dec 2018	$4,332,900
Contract expenses till 31st Dec 2018	$2,600,000
Recognised losses for the year 2018	$(3,467,100)
Progress billings	$2,470,000

4. Calculation of Revenue to be recognized for year 2019

Costs incurred = 2,600,000+6,175,000= $8,775,000

Total Estimated Costs=7,800,000+5,850,000=$13,650,000                      

Percentage of completion = Costs incurred/ Total estimated costs * 100

                                                 =8,775,000/13,650,000*100

  =64.29%

Revenue for year 2019 = Contract price* Percentage of completion

                                             =13,000,000*64.29%

                                             =$8,357,700- $4,332,900

                                                =$4,024,800

4(b)

Gross profit/(loss) for 2019= Revenue recognized – Estimated costs

= 4,024,800-13,650,000= =$(9,625,200)

4( c)

Citation shall disclose the following in the Balancesheet of 2019

Particulars	Amount
Contract revenue till 31st Dec 2018	$4,024,800
Contract expenses till 31st Dec 2018	$5,850,000
Recognised losses for the year 2018	$(9,625,200)
Billings for the year	$6,500,000