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 $22 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	$	4,400,000			$	10,450,000			$	4,950,000
Estimated costs to complete as of year-end		13,200,000				4,950,000				—
Billings during the year		2,200,000				11,000,000				8,800,000
Cash collections during the year		1,980,000				9,620,000				10,400,000

Also during 2018, Citation began a development consisting of 12 identical homes. Citation estimated that each home will sell for $840,000, 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 $840,000 each by the buyers. The completed homes cost $630,000 each to construct. The construction costs incurred during 2018 for the nine uncompleted homes totaled $3,780,000.

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 $9,900,000. 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

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1. Recognizing revenue upon completion of long-term construction contracts is equivalent to recognizing revenue at the point in time at which deliver occurs.
2
	2018	2019
Contract Price A	22000000	22000000
Actual cost to date B	4400000	14850000
Estimated cost to complete C	13200000	4950000
Total estimated cost D=B+C	17600000	19800000
Estimated Gross Profit A-D	4400000	2200000
a. Under Completed Contract method, no revenue will be recognized in 2018 and 2019
b. Under Completed Contract method, no profit will be reported in 2018 and 2019
c. Balance Sheet Reporting:
Actual Cost 4.4 million in excess of billing 2.2 million = 2.2 million will be reported
3
	2018	2019
Contract Price A	22000000	22000000
Actual cost to date B	4400000	14850000
Estimated cost to complete C	13200000	4950000
Total estimated cost D=B+C	17600000	19800000
Estimated Gross Profit A-D	4400000	2200000
a. Revenue Recognition
Ratio	4400000/17600000	14850000/19800000
Ratio	0.25	0.75
Ratio*Contract Price	5500000	16500000
Revenue Recognition	5500000	11000000
		16500000-5500000
b. Gross Profit
	5500000-4400000	11000000-(14850000-4400000)
	1100000	550000
c. Balance Sheet
5.5million in excess of 2.2 million =3.3 million will be reported
4
	2018	2019
Contract Price A	22000000	22000000
Actual cost to date B	4400000	14850000
Estimated cost to complete C	13200000	9900000
Total estimated cost D=B+C	17600000	24750000
Estimated Gross Profit A-D	4400000	-2750000
a. Revenue Recognition
Ratio		14850000/24750000
Ratio		0.6
Ratio*Contract Price	0	13200000
Revenue Recognition	0	7700000
		13200000-5500000
b. Gross Profit
Overall Loss	-2750000
Less: Privously recognized profit	1100000
To be reported in 2019	-3850000
c. Balance Sheet
	2018	2019
Cost	4400000	10450000
Profit	1100000	-3850000
	5500000	6600000	12100000
Billing (2.2+11)			13200000
Balance Sheet Reporting			1100000