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CHAPTER 5 Revenue Recognition and Profitability Analysis 261 Illustration 5–24C Allocation of Revenue to Each Period 2016 2017 2018 Construction costs: Construction costs incurred during the year $ 1,500,000 $ 1,000,000 $ 1,600,000 Construction costs incurred in prior years –0– 1,500,000 2,500,000 Actual costs to date $ 1,500,000 $ 2,500,000 $ 4,100,000 Estimated remaining costs to complete 2,250,000 1,500,000 –0– Total cost (estimated 1 actual) $ 3,750,000 $ 4,000,000 $ 4,100,000 Contract price $ 5,000,000 $ 5,000,000 $ 5,000,000 Multiplied by: 3 3 3 Percentage of completion Actual costs to date Tot a l cost (est. 1 actual) ( ) ( $1,500,000 ) ( $2,500,000 $ 4, 000 ,0 00 5 62.5% $3, 750 ,0 00 5 40% ) $4,100,000 $4, 100 ,0 00 5 100% Equals: Cumulative revenue to be recognized to date $ 2,000,000 $ 3,125,000 $5,000,000 Less: Revenue recognized in prior periods –0– (2,000,000) (3,125,000) Equals: Revenue recognized in the current period $2,000,000 $1,125,000 $1,875,000 Journal entries to recognize revenue: Construction in progress (CIP) .................. 500,000 125,000 275,000 Cost of construction ................................. 1,500,000 1,000,000 1,600,000 Revenue from long-term contracts ....... 2,000,000 1,125,000 1,875,000 When recognizing revenue over the term of the contract, CIP is updated each period to include gross profit. Recognizing Revenue Over the Term of the Contract Construction in Progress (CIP) 2016 construction costs 1,500,000 2016 gross profit 500,000 End balance, 2016 2,000,000 2017 construction costs 1,000,000 2017 gross profit 125,000 End balance, 2017 3,125,000 2018 construction costs 1,600,000 2018 gross profit 275,000 Balance, before 5,000,000 closing Billings on Construction Contract 1,200,000 2016 billings 1,200,000 End balance, 2016 2,000,000 2017 billings 3,200,000 End balance, 2017 1,800,000 2018 billings 5,000,000 Balance, before closing If a contract qualifies for revenue recognition over time, the income statement for each year will report the appropriate revenue and cost of construction amounts. For example, in 2016, the income statement will report revenue of $2,000,000 (40% of the $5,000,000 contract price) less $1,500,000 cost of construction, yielding gross profit of $500,000. 27 The table in Illustration 5–24D shows the revenue, cost of construction, and gross profit recognized in each of the three years of our example. COMPLETION OF THE CONTRACT. After the job is finished, the only task remaining is for Harding to officially transfer title to the finished asset to the customer. At that time, Harding will prepare a journal entry that removes the contract from its balance sheet by debiting billings and crediting CIP for the entire value of the contract. As shown in Illustration  5–24E , the same journal entry is recorded to close out the billings on construction contract and CIP accounts whether revenue is recognized over the term of the contract or at the completion of the contract. The income statement includes revenue, cost of construction and gross profit. 27 In most cases, cost of construction also equals the construction costs incurred during the period. Cost of construction does not equal the construction costs incurred during the year when a loss is projected on the entire project. This situation is illustrated later in the chapter. We record the same journal entry to close out the billings and CIP accounts regardless of whether revenue is recognized over time or upon completion.


Spiceland_Inter_Accounting8e_Ch05
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