ACCOUNTING FOR LONG-TERM CONSTRUCTION PROJECT Characteristics

8. In selecting an accounting method for a newly contracted long-term construction project, the 45. The rationale for adoption of the percentage-of-completion method is that:
principal factor to be considered should be A. Results are more conservative.
a. the terms of payment in the contract. B. It provides a measure of periodic accomplishment.
b. the degree to which a reliable estimate of the costs to complete and extent of progress C. It is a better match with legal ownership.
toward completion is practicable. D. It results in a lower income tax. S, S & T
c. the method commonly used by the contractor to account for other long-term construction
contracts. *. The percentage-of-completion method of inventory valuation of long-term contracts
d. the inherent nature of the contractor's technical facilities used in construction. K, W & W a. Recognizes income upon completion of work.
b. Recognizes income based on collected billings.
PERCENTAGE OF COMPLETION METHOD c. Recognizes income based on the progress of work.
Basic Concepts d. Does not recognize income at the balance sheet date. RPCPA 1074
*. The use of the percentage of completion method of accounting for long term construction
contracts is a measurement of revenue under the 46. The accounting method that recognizes revenue prior to the point of sale based on either an
a. Cost principle. c. Objectivity principle. input or an output measure of the earning process is known as the
b. Realization principle. d. Monetary principle. RPCPA 1079 a. Deposit method. c. Installment sales method.
b. Cost recovery method. d. Percentage-of-completion method
Criteria RPCPA 0596
10. When work to be done and costs to be incurred on a long-term contract can be estimated
1
dependably, which of the following methods of revenue recognition is preferable? . The percentage-of-completion method of accounting for long-term construction contracts is an
a. Installment method c. Completed-contract method exception to the CMA 1296 2-10
b. Percentage-of-completion method d. None of these K, W & W A. Matching principle. C. Economic-entity assumption.
B. Going-concern assumption. D. Revenue recognition principle.
15. Which of the following is not an element identified by the AICPA as being necessary in order to
2
use percentage-of-completion accounting? . The percentage-of-completion method of accounting for long-term construction contracts is an
a. The construction period can be reasonably estimated. exception to the
b. The buyer can be expected to satisfy obligations under the contract. A. Matching principle. C. Historical cost principle. CMA 0691 2-15
c. Dependable estimates can be made of the extent of progress toward completion. B. Going concern assumption. D. Revenue recognition principle.
d. Dependable estimates can be made of contract costs. S, S & S
44. The percentage-of-completion method violates the general rule on revenue recognition that:
9. The profession requires that the percentage-of-completion method be used when certain A. Collection is reasonably assured.
conditions exist. Which of the following is not one of those necessary conditions? B. Costs are known or reasonably estimated.
a. Estimates of progress toward completion, revenues, and costs are reasonably C. The earnings process is complete.
dependable. D. Collections have been received. S, S & T
b. The contractor can be expected to perform the contractual obligation.
3
c. The buyer can be expected to satisfy some of the obligations under the contract. . Although a transfer of ownership has not occurred, the percentage-of-completion method is
d. The contract clearly specifies the enforceable rights of the parties, the consideration to be acceptable under the revenue recognition principle because
exchanged, and the manner and terms of settlement. K, W & W A. The assets are readily convertible into cash.
B. The production process can be readily divided into definite stages.
 5
C. Cash has been received from the customer. . A building contractor has a fixed-price contract to construct a large building. It is estimated that
D. The earning process is completed at various stages. CMA 1292 2-17 the building will take 2 years to complete. Progress billings will be sent to the customer at
quarterly intervals. Which of the following describes the preferable point for revenue
Advantage of using Percentage-of-Completion Method recognition for this contract if the outcome of the contract can be estimated reliably?
17. The theoretical support for using the percentage-of-completion method of accounting for long- A. After the contract is signed.
term construction projects is that it B. As progress is made toward completion of the contract.
a. is more conservative than the completed-contract method. C. As cash is received.
b. reports a lower Net Income figure than the completed-contract method. D. When the contract is completed. CIA 1193 IV-28
c. more closely conforms to the cost principle.
d. produces a realistic matching of expenses with revenues. S, S & S Current Asset/Liability
Unbilled Revenues
Disadvantage of using percentage-of-completion *. How should earned but unbilled revenues at the balance sheet date on a long-term
15. The principal disadvantage of using the percentage-of-completion method of recognizing construction contract be disclosed if the percentage-of-completion method of revenue
revenue from long-term contracts is that it recognition is used?
a. is unacceptable for income tax purposes. a. In a footnote to the financial statements until the customer is formally billed for the portion
b. gives results based upon estimates which may be subject to considerable uncertainty. of the work completed.
c. is likely to assign a small amount of revenue to a period during which much revenue was b. As a receivable in the noncurrent asset section of the balance sheet. RPCPA 1096
actually earned. c. As a construction in progress in the noncurrent asset section of the balance sheet.
d. none of these. K, W & W d. As construction in progress in the current asset section of the balance sheet.

Applications Costs Of Uncompleted Contracts In Excess Of Related Billings

4
. Saskia Co.s construction projects extend over several years, and collection of receivables is *. Costs of uncompleted contracts in excess of related billings in most cases is shown as a
reasonably certain. Each project has a firm contract price, reliable estimated of the extent of a. Current liability, i.e., Accounts Payable.
progress and cost to finish, and a contract that is specific as to the rights and obligations of all b. Long-term debt, i.e, Notes Payable.
parties. The contractor and the buyer are expected to fulfill their contractual obligations on c. Current assets, i.e., Receivables.
each project. The method that the company should use to account for construction revenue is d. Investments, i.e., Construction in Progress. RPCPA 1079
a. Installment sales. c. Completed-contract.
b. Percentage-of-completion method. d. Point-of-sale. CIA 1185 IV-13 Costs Of Uncompleted Contracts In Excess Of Related Costs
*. Billings on uncompleted contracts in excess of related costs in most cases is shown as a
6. Dilla Construction Company's projects extend over several years and collection of receivables a. Current liability, i.e., Accounts Payable.
is reasonably certain. Each project has a contract that specifies a price and the rights and b. Long-term debt, i.e., Notes Payable.
obligations of all parties. Both the contractor and the customer are expected to fulfill their c. Current assets, i.e., Receivables.
contractual obligations on each project. Reliable estimates can be made of the extent of d. Investments, i.e., Construction in Progress. RPCPA 1079
progress and cost to complete each project. The method that the company should use to
account for construction revenue is Construction in Process
a. installment sales. c. completed-contract. *. The Construction-in-Process account accumulates the following when the percentage-of-
b. percentage-of-completion. d. cost recovery. S, S & S completion method is used
a. Construction costs to date.
b. Construction costs to date less payments received.
 c. Construction costs to date less billings to date. Construction in Progress & Progress Billings
d. Construction costs plus gross profit earned to date. RPCPA 0592 *. In accounting for a long-term construction type contract, the two peculiar accounts used are
the progress billings and construction in progress accounts. As of year-end, but prior to the
19. When the percentage-of-completion method of accounting for long-term construction projects completion of a long-term contract, how should the balance of these two accounts be shown?
is used, why is Construction in Progress increased by the annual recognized gross profit on a. Progress billings as deferred income, construction in progress as a deferred income.
long-term construction contracts? b. Progress billings as income, construction in progress as inventory.
a. The cost of the contract has increased. c. Net, as an income from construction if credit balance, and loss from construction if debit
b. The project's value has increased above cost. balance.
c. The economy experiences inflation over the construction period. d. Net as a current asset if debit balance, and current liability if credit balance. RPCPA 1087
d. Construction in Progress is not increased by the annual recognized profit. S, S & S
8. If the Construction in Progress account has a balance of P1,000,000 while the Progress
70. In accounting for a long-term construction contract using the percentage of completion Billings on Contracts accounts balance is P800,000, how should these accounts be reflected
method, the amount of income recognized in any year would be added to (E) on the balance sheet?
A. Deferred revenue C. Construction in progress a. Construction in Progress will be shown as a current asset.
B. Progress billings on contracts D. Property, plant, and equipment CPAR b. Progress Billings on Contracts will be shown as a current liability. RPCPA 0598
c. The difference between the two accounts will be reflected as a current asset.
Progress Billings d. The difference between the two accounts will be reflected as a current liability.
36. JUMBO Corp. uses the percentage-of-completion method of revenue recognition in accounting
6
for its long-term construction contracts. JUMBO Corp.s progress billings account is a . POC Company accounts for a long-term construction contract using the percentage-of-
a. Revenue account. c. Non-current liability account. completion method. As of the end of the current fiscal year, the following information was
b. Contra current asset account. d. Contra non-current asset account. available regarding a project expected to be completed in the following year:
RPCPA 0597 Cumulative progress billings $400,000
Cumulative costs incurred 300,000
*. Tay Co. uses the percentage-of-completion method to account for a five-year construction Cumulative revenues recognized 80,000
contract. Third year progress billings collected in the fourth year would The difference between construction in progress and progress billings should be reported in
a. Be included in the calculation of third year income. the statement of financial position for the current year as
b. Be included in the calculation of third year income insofar as they exceeded second year a. A current asset of $20,000.
billings collected in the third year. b. A current liability of $20,000.
c. Be included in the calculation of fourth year income. c. Unearned revenue of $100,000.
d. Not be included in the calculation of third, fourth, or fifth year incomes. AICPA 0591 T-28 d. A separate component of shareholders equity of $100,000. Gleim

25. A company uses the percentage-of-completion method to account for a four year construction Gross Profit
contract. Progress billings sent in the second year that were collected in the third year would 12. In accounting for a long-term construction-type contract using the percentage-of-completion
a. be included in the calculation of the income recognized in the second year. method, the gross profit recognized during the first year would be the estimated total gross
b. be included in the calculation of the income recognized in the third year. profit from the contract, multiplied by the percentage of the costs incurred during the year to
c. be included in the calculation of the income recognized in the fourth year. the
d. not be included in the calculation of the income recognized in any year. S, S & S a. total costs incurred to date. c. unbilled portion of the contract price.
b. total estimated cost. d. total contract price. K, W & W
Recognized Profit
First Year Third Year
7
. A company uses the percentage-of-completion method of accounting for a 4-year construction 9
. The calculation of the income recognized in the third year of a 5-year construction contract
contract. Which of the following items should be used in the calculation of the income accounted for using the percentage-of-completion method includes the ratio of
recognized in the first year? a. Total costs incurred to date to total estimated costs.
AICPA, adapted a. b. c. d. b. Total costs incurred to date to total billings to date.
Progress Billings Yes Yes No No c. Costs incurred in year 3 to total estimated costs.
Collections on Progress Billings Yes No No Yes d. Costs incurred in year 3 to total billings to date. AICPA 1193 T-38

*. Under the percentage of completion method, the net income to be recognized for the first year *. A company used the percentage-of-completion method of accounting for a 5-year construction
of a three-year construction contract is to be determined on the basis of the ratio of contract. Which of the following items will the company use to calculate the income
a. Estimated cost to complete to total estimated costs. recognized in the third year?
b. Costs incurred to date to total estimated costs. AICPA 1192 T-8 a. b. c. d.
c. Actual costs incurred to total estimated costs. Progress billings to date Yes No No Yes
d. Total estimated costs to estimated costs to complete. RPCPA 1086 Income previously recognized No Yes No Yes

10
72. In arriving at the gross profit during the first year using the percentage of completion method of . The calculation of the income recognized in the third year of a five-year construction contract
accounting for a long-term construction contract, the estimated total gross profit from the accounted for using the percentage-of-completion method includes the ratio of
contract is multiplied by (E) a. Total costs incurred to date to total estimated costs.
A. The percentage of the costs incurred during the year to the total contract price. b. Total costs incurred to date to total billings to date.
B. The percentage of the costs incurred during the year to the total estimated cost c. Costs incurred in year 3 to total estimated costs.
C. The percentage of the costs incurred during the year to the total costs incurred to date. d. Costs incurred in year 3 to total billings to date. AICPA 1193 T-38
D. The percentage of the costs incurred during the year to the unbilled portion of the total
contract price. CPAR Final Year
11
. Which of the following is used in calculating the income recognized in the fourth and final year
Second Year of a contract accounted for by the percentage-of-completion method?
8
. A company used the percentage-of-completion method of accounting for a 4-year construction AICPA 0595 F-26 a. b. c. d.
contract. Which of the following items should be used to calculate the income recognized in Actual total costs Yes Yes No No
the second year? Income previously recognized Yes No Yes No
AICPA 1192 T-8, RPCPA 0593 a. b. c. d.
Income Previously Recognized Yes No Yes No 10. Which of the following would be used in the calculation of the gross profit recognized in the
Progress Billings to Date Yes Yes No No third and final year of a construction contract that is accounted for using the percentage-of-
completion method?
8. If the percentage-of-completion method is used, what is the basis for determining the gross S, S & S A. B. C. D.
profit to be recognized in the second year of a three-year contract? Actual Contract Price Yes Yes Yes No
a. Cumulative actual costs incurred only. Total Costs Yes Yes No Yes
b. Incremental cost for the second year only. Income Previously Recognized No Yes Yes Yes
c. Cumulative actual costs and estimated costs to complete.
d. No gross profit would be recognized in year 2. S, S & S
Anticipated Loss D. The asset, deferred profit of $ 400,000.
40. NATIONAL Corp. is faced with an impending loss on a long-term construction project and has
asked for advice on how to book the impending loss. Assuming that NATIONAL Corp. 60. What would be the journal entry to record revenue in 2004?
employs the percentage-of-completion method, when should the loss be taken up in A. Accounts receivable 1,000,000
NATIONAL Corp.s books? Revenue for long-term contracts 1,000,000
a. Immediately. B. Construction in progress 250,000
b. Over the period of the project. Cost of construction 600,000
c. Upon completion of the project. Revenue for long-term contracts 850,000
d. When progress billings exceed contract costs incurred. RPCPA 0597 C. Cost of construction 1,400,000
Gross profit 600,000
Journal Entries Revenue for long-term contracts 2,000,000
Use the following to answer questions 58-60: S, S & T D. Accounts receivable 1,000,000
Moon View Desert Homes constructed a subdivision of upscale homes north of Cave Creek, Cost of construction 600,000
Arizona, during 2003 and 2004 under contract with Empire Development. Relevant data are Gross profit 250,000
summarized below: Deferred revenue 150,000
Contract Amount $2,000,000
2003 2004 COMPLETED-CONTRACT METHOD
Cost 800,000 600,000 Criteria
Gross Profit 350,000 250,000 14. The completed-contract method of accounting for long-term construction-type contracts is
Contract Billings 1,000,000 1,000,000 preferable when
Moon View uses the percentage-of-completion method to recognize revenue. a. a contractor is involved in numerous projects.
b. the contracts are of a relatively long duration.
58. What would be the journal entry made in 2003 to record revenue? c. estimates of costs to complete and extent of progress toward completion are reasonably
A. Accounts receivable 1,000,000 dependable.
Revenue from long-term contracts 1,000,000 d. there are inherent uncertainties in the contract beyond normal business risks. S, S & S
B. Accounts receivable 1,350,000
Gross profit 350,000 Recognized Revenue
13
Revenue from long-term contracts 1,000,000 . The accounting method most clearly consistent with basic revenue recognition principles is the
C. Construction in progress 350,000 A. Percentage-of-completion method. C. Completion-of-production method.
Cost of construction 800,000 B. Installment sales method. D. Completed-contract method. Gleim
Revenue from long-term contracts 1,150,000
14
D. Accounts receivable 1,000,000 . A company uses the completed-contract method to account for a long-term construction
Billings in excess of cost 350,000 contract. Revenue is recognized when recorded progress billings
Revenue from long-term contracts 1,350,000 AICPA 0592 T-44 a. b. c. d.
Are collected Yes No Yes No
12
. In its December 31, 2003 balance sheet, Moon View would report: Exceed recorded costs Yes No No Yes
A. The asset, cost and profits in excess of billings of $150,000.
B. The liability, billings in excess of cost of $200,000. 15
. A company uses the completed-contract method to account for a long-term construction
C. The asset, contract amount in excess of billings of $1,000,000. contract. Revenue is recognized when progress billings are
 AICPA, Adapted a. b. c. d. Advantage of Percentage-of-Completion Method
Recorded No Yes Yes No 52. The percentage-of-completion method is preferable to the completed contract method
Collected Yes Yes No No because it is a better measure of:
A. Costs and completion rates. C. Assets and equities.
14. Under the completed-contract method B. Receivables and inventory. D. Effort and accomplishment. S, S & T
a. revenue, cost, and gross profit are recognized during the production cycle.
b. revenue and cost are recognized during the production cycle, but gross profit recognition Similarities
is deferred until the contract is completed. 20. When comparing the percentage-of-completion and completed-contract methods of
c. revenue, cost, and gross profit are recognized at the time the contract is completed. accounting for long-term construction contracts, both methods will report
d. none of these. K, W & W a. the same balances each period in the Progress Billings account.
b. the same expense for cost of construction each year.
9. If the completed-contract method is used, what is the basis for determining the income to be c. the same amount of income in the year of completion.
recognized in the second year of a three-year contract? d. the same inventory carrying value each year during the construction period. S, S & S
a. Cumulative actual costs incurred only.
b. Incremental cost for the second year only. Difference
c. Latest available estimated costs. 26. In accounting for a long-term construction contract for which there is a projected profit, the
d. No income would be recognized in year 2. S, S & S balance in the Construction in Progress account at the end of the first year of work using the
percentage-of-completion method would be
Anticipated Loss a. zero.
16
. Felidae Co. uses the completed-contract method to account for a 4-year construction contract b. the same as the completed-contract method.
that is currently in its third year. Progress billings were recorded and collected in the third year. c. higher than the completed-contract method.
Based on events occurring in the third year, a loss is now anticipated on the contract. When d. lower than the completed-contract method. S, S & S
will the effect of each of the following be reported in the companys income statement? 17
AICPA 0589 T-13 a. b. c. d. . The percentage-of-completion and the completed-contract methods of accounting for long-
term construction projects in progress differ in that
Third-year Progress Billings Not third year Not third year Third year Third year
A. It is only under the percentage-of-completion method that progress billings are
Anticipated Loss Third year Fourth year Third year Fourth year
accumulated in a contra-inventory account called billings on construction in progress.
B. It is only under the completed-contract method that accumulated construction costs are
17. Cost estimates at the end of the second year indicate a loss will result on completion of the included in a construction in progress inventory account.
entire contract. Which of the following statements is correct? C. Only the percentage-of-completion method recognizes all revenues and gross profit on
a. Under the completed-contract method, the loss is not recognized until the year the the contract when the contract is completed.
construction is completed. D. It is only under the percentage-of-completion method that gross profit earned to date is
b. Under the percentage-of-completion method, the gross profit recognized in the first year accumulated in the construction in progress inventory account. CIA 0594 IV-26
must not be changed.
c. Under the completed-contract method, when the billings exceed the accumulated costs, 16. Which of the following is not a difference between the percentage-of completion and
the amount of the estimated loss is reported as a current liability. completed-contract methods of accounting for long-term construction contracts?
d. Under the completed-contract method, when the Construction in Process balance a. They report different amounts for inventory during the construction period.
exceeds the billings, the estimated loss is added to the accumulated costs. K, W & W b. They report different amounts for progress billings during the construction period.
c. They cause a different cash inflow during the construction period. S, S & S
PERCENTAGE-OF-COMPLETION VS. THE COMPLETED CONTRACT METHOD
 d. They report different amounts for accounts receivable during the construction period. the effect of the project on 1990 operating income under the percentage-of-completion method
and the completed-contract method?
Anticipated Loss AICPA 1191 T-5 a. b. c. d.
16. Cost estimates on a long-term contract may indicate that a loss will result on completion of the Percentage-of-completion No effect No effect Decrease Decrease
entire contract. In this case, the entire expected loss should be Completed-contract No effect Decrease No effect Decrease
a. recognized in the current period, regardless of whether the percentage-of-completion or
completed-contract method is employed. JOURNAL ENTRIES
b. recognized in the current period under the percentage-of-completion method, but the FINANCIAL STATEMENT PRESENTATION & REQUIRED DISCLOSURES
completed-contract method should defer recognition of the loss to the time when the Financial Statement Presentation
contract is completed. Progress billings and construction in process
c. recognized in the current period under the completed-contract method, but the 20
. How should the balances of progress billings and construction in progress be shown at
percentage-of-completion method should defer the loss until the contract is completed. reporting dates prior to the completion of a long-term contract?
d. deferred and recognized when the contract is completed, regardless of whether the a. Progress billings as deferred income, construction in progress as a deferred expense.
percentage-of-completion or completed-contract method is employed. K, W & W b. Progress billings as income, construction in progress as inventory.
c. Net, as a current asset if debit balance and current liability if credit balance.
36. When should an anticipated loss on a long-term contract be recognized under d. Net, as income from construction if credit balance, and loss from construction if debit
the percentage-of-completion method and the completed contract method, balance. AICPA 1178 T-40
respectively?
RPCPA 1082, 0593 Percentage-of-completion Completed Contract Construction in Progress
a. Over life of the project Completion of contract 13. How should earned but unbilled revenues at the balance sheet date on a long-term
b. Immediately Completion of contract construction contract be disclosed if the percentage-of-completion method of revenue
c. Over life of the project Immediately recognition is used?
d. Immediately Immediately a. As construction in progress in the current asset section of the balance sheet.
b. As construction in progress in the noncurrent asset section of the balance sheet.
18
. An organization has a long-term construction contract in process. During the current period, c. As a receivable in the noncurrent asset section of the balance sheet.
the estimated total contract cost has increased sufficiently so that there is a current-period d. In a note to the financial statements until the customer is formally billed for the portion of
loss, even though the contract is still estimated to be profitable overall. Under these work completed. K, W & W
circumstances, the [List A] method of revenue recognition would require a [List B] period
adjustment of expected gross profit recognized on the contract. CIA 1195 IV-16 Required Disclosure
List A List B Completed Contract Method
18. If a company uses the completed-contract method of accounting for long-term construction
A. Percentage-of-completion Prior
contracts, then during the period of construction, financial information related to a long-term
B. Percentage-of-completion Current
contract will
C. Completed-contract Prior
a. appear on both the income statement and balance sheet during the construction period.
D. Completed-contract Current
b. appear only on the income statement during the period of construction.
19 c. appear only on the balance sheet during the period of construction.
. During 1990, Tidal Co. began construction on a project scheduled for completion in 1992. At d. not appear on the financial statements. S, S & S
December 31, 1990, an overall loss was anticipated at contract completion. What would be
1
. Answer (D) is correct. The revenue recognition principle states that revenue should be recognized (recorded) when
realized or realizable and earned. Revenue is earned when the earning process is essentially complete. In effect,
revenue is recorded when the most important event in the earning of that revenue has occurred. Thus, revenue is
normally recorded at the time of the sale or, occasionally, at the time cash is collected. However, sometimes neither the
sales basis nor the cash basis is appropriate, such as when a construction contract extends over several accounting
periods. As a result, contractors ordinarily recognize revenue using the percentage-of-completion method so that some
revenue is recognized each year over the life of the contract. Hence, this method is an exception to the general principle
of revenue recognition, primarily because it better matches revenues and expenses.
Answer (A) is incorrect because the percentage-of-completion method attempts to match revenues and expenses with
the appropriate periods. Answer (B) is incorrect because the going-concern assumption is appropriate for a contractor
using the percentage-of-completion method, as for any other type of company. Answer (C) is incorrect because the
economic-entity assumption is appropriate for a contractor using the percentage-of-completion method, as for any other
type of company.
2
. Answer (D) is correct. Revenue is recognized when realized or realizable and the earning process is substantially
complete. This ordinarily occurs at the time of sale and delivery of goods or services. Thus, the percentage-of-
completion method is essentially an exception to the revenue recognition principle. Production rather than sale and
delivery is considered to be the culmination of the earning process.
Answer (A) is incorrect because the percentage-of-completion method attempts a more accurate association of cost
incurrence and revenue recognition. Answer (B) is incorrect because the percentage-of-completion method is completely
consistent with the going concern assumption. Answer (C) is incorrect because the percentage-of-completion method is
completely consistent with the historical cost principle.
3
. Answer (D) is correct. SFAC 5 states that revenue should be recognized when it is both realized or realizable and
earned. If a project is contracted for before production and covers a long time period in relation to reporting periods,
revenues may be recognized by a percentage-of-completion method as they are earned (as production occurs),
provided reasonable estimates of results at completion and reliable measures of progress are available. Thus,
contractors traditionally use the percentage-of-completion method because some revenue can be recognized during
each period of the production process. In a sense, the earning process is completed in various stages; thus, revenues
should be recorded in each stage.
Answer (A) is incorrect because, depending upon the terms of the contract, the assets may not be readily convertible
into cash. Answer (B) is incorrect because, on a large construction project, the production process often cannot be easily
divided into definite stages. Answer (C) is incorrect because cash is sometimes not received until the project is
completed.
4
. REQUIRED: The method appropriate to account for construction revenue.
DISCUSSION: (B) SFAC 5, Recognition and Measurement in Financial Statements of Business Enterprises, states that
revenue should be recognized when it is both realized or realizable and earned. If a project is contracted for before
production and is long in relation to reporting periods, revenues may be recognized by a percentage-of-completion
method as they are earned (as production occurs), provided reasonable estimates of results at completion and reliable
measures of progress are available. This method results in information that is more relevant and representationally
faithful than that based on waiting for delivery, completion of the project, or payment.
Answer (A) is incorrect because the installment method is appropriate if collectibility is doubtful. Answer (C) is incorrect
because the completed-contract method is appropriate if reasonable estimates of results at completion and reliable
measures of progress are not available. Answer (D) is incorrect because the point-of-sale method is appropriate when
the product or merchandise is delivered or services are rendered directly to customers.
5
. Answer (B) is correct. Under the percentage-of-completion method, revenues and expenses are recognized based
on the stage of completion at the balance sheet date if the outcome of the contract can be estimated reliably. For a
fixed-price contract, the outcome can be estimated reliably if (1) total revenue can be measured reliably, (2) it is
probable that the economic benefits of the contract will flow to the enterprise, (3) contract costs to complete and stage of
completion can be measured reliably, and (4) contract costs can be clearly identified and measured reliably so that
actual and estimated costs can be compared.
 Answer (A) is incorrect because revenue is not recognized until progress has been made toward completion. Answer (C)
is incorrect because the cash basis is inappropriate. An accrual method, that is, the percentage-of-completion method,
should be used. Answer (D) is incorrect because the completed-contract method is not a permissible method.
6
. REQUIRED: The reporting of the difference between construction in progress and progress billings.
DISCUSSION: (B) Progress billings is an offset to construction in progress (or vice versa) on the balance sheet. The
difference between construction in progress (costs and recognized income) and progress billings to date is shown as a
current asset if construction in progress exceeds total billings, and as a current liability if billings exceed construction in
progress. Because progress billings exceed construction in progress, the difference should be reported as a current
liability of $20,000 [$400,000 ($300,000 + $80,000)].
Answer (A) is incorrect because progress billings exceed construction in progress. Answers (C) and (D) are incorrect
because $100,000 ignores the revenue already recognized.
7
. REQUIRED: The effect that progress billings and collections have on the determination of earnings.
DISCUSSION: Under GAAP, revenue should be recognized when it is realized or realizable and earned. For long-term
construction contracts, these criteria are met in accordance with either the percentage-of-completion method or the
completed-contract method. Neither the issuance of a progress billing (debit accounts receivable, credit progress
billings) nor the collection of cash (debit cash, credit accounts receivable) results in recognition of income.
Answers (A), (B), and (D) are incorrect because neither progress billings nor collections on progress billings should be
used to calculate income.
8
. REQUIRED: The item(s) used in computing income in the second year using the percentage-of-completion method.
DISCUSSION: (C) The percentage-of-completion method provides for the recognition of income based on the
relationship between the costs incurred to date and estimated total costs for the completion of the contract. The amount
of income (based on the latest available estimated costs) recognized in the second year of a 4-year contract is
calculated as follows: The total anticipated income is multiplied by the ratio of the costs incurred to date to the total
estimated costs, and the product is reduced by previously recognized income. Income previously recognized is
therefore used to calculated income to be recognized in the second year. However, progress billings to date have no
effect on the amount of income to be recognized in the second year.
Answers (A), (B), and (D) are incorrect because income previously recognized is used to calculate the income
recognized. Progress billings to date are not.
9
. REQUIRED: The ratio used in the calculation of income recognized for a construction contract using the
percentage-of-completion method.
DISCUSSION: (A) According to ARB 45, the percentage-of-completion method provides for the recognition of income
based on the relationship between costs incurred to date and estimated total costs for completion of the contract. (But
ARB 45 permits any other measure of progress as may be appropriate having due regard to work performed.) The
amount of income recognized in the 3rd period of a 5-year contract is calculated as follows: The total anticipated
income (based on the latest available estimated costs) is multiplied by the ratio of costs incurred to date to the latest
available total estimated costs, and the product is reduced by the previously recognized income.
Answer (B) is incorrect because the ratio of total costs incurred to date to total billings to date is not relevant. Answer
(C) is incorrect because total costs incurred must be used. Answer (D) is incorrect because neither the issuance nor the
collection of billings results in income recognition.
10
. REQUIRED: The ratio used in the calculation of income recognized for a construction contract using the
percentage-of-completion method.
DISCUSSION: (A) According to ARB 45, the percentage-of-completion method provides for the recognition of income
based on the relationship between costs incurred to date and estimated total costs for completion of the contract. (But
ARB 45 permits any other measure of progress as may be appropriate having due regard to work performed.) The
amount of income recognized in the third year of a 5-year contract is calculated as follows: The total anticipated income
(based on the latest available estimated cost) is multiplied by the ratio of costs incurred to date to the latest available
total estimated costs, and the product is reduced by previously recognize income.
 Answer (B) is incorrect because the ratio of total costs incurred to date to total billings to date is not relevant. Answer
(C) is incorrect because total costs incurred must be used. Answer (D) is incorrect because neither the issuance nor the
collection of billings results in income recognition.
11
. REQUIRED: The items used to calculate income in the last year of a contract using the percentage-of-completion
method.
DISCUSSION: (A) The percentage-of-completion method recognizes revenues, costs, and income depending on the
progress made on the contract. Income recognized in the last year of the contract equals the contract price, minus
actual total costs, minus income previously recognized.
Answers (B), (C), and (D) are incorrect because income previously recognized and actual total costs are used.
12
. (A) Costs + profits: $800,000 + 350,000 =
$1,150,000
Billings: 1,000,000
Excess: $150,000
13
. Answer (D) is correct. According to the revenue recognition principle, revenue should be recognized when (1)
realized or realizable and (2) earned. Under the completed-contract method, revenue is not recognized until a long-term
construction contract is complete. At this stage, the entity is most clearly entitled to the resulting revenues and is most
likely to have been involved in an exchange.
Answer (A) is incorrect because the percentage-of-completion method allows for revenue to be recognized at various
stages of the contract although the entire job is not complete. Answer (B) is incorrect because, if the collectibility of
assets is relatively uncertain, revenues and gains may be recognized as cash is received using the installment sales
method.
Answer (C) is incorrect because the completion-of-production method is an appropriate basis for recognition if products
or other assets are readily realizable, e.g., precious metals and some agricultural products.
14
. REQUIRED: The effect of the completed-contract method on revenue recognition.
DISCUSSION: (B) Under the completed-contract method of accounting for long-term construction contracts, recorded
progress billings have no effect on the recognition of income.
Answers (A), (C), and (D) are incorrect because under the completed-contract method, progress billings are recorded
when issued and removed at the completion of the contract.
15
. REQUIRED: The effect of progress billings on the recognition of revenue.
DISCUSSION: (D) GAAP requires that revenue be recognized when it is realized or realizable and earned. Under the
completed-contract method, revenue recognition is appropriate only at the completion of the contract. Neither the
recording nor the collection of progress billings affects this recognition.
Answers (A), (B), and (C) are incorrect because neither the issuance of a progress billing (debit accounts receivable,
credit progress billings) nor the collection of cash (debit cash, credit accounts receivable) results in recognition of
income.
16
. REQUIRED: The effect of progress billings and an anticipated loss on the companys income statement.
DISCUSSION: (A) Under the completed-contract method, the gross profit on the contract should be recognized upon the
completion of the contract. If a loss is anticipated, however, the loss should be recognized immediately. Under GAAP,
the entries to record progress billings and their collection do not affect the recognition of profit or loss. Thus, the 3rd
year progress billings have not effect on the income statement, but the loss anticipated in the 3rd year should be
recognized in full in that year.
Answers (B), (C), and (D) are incorrect because, under the completed-contract method, progress billings have not effect
on the recognition of income, and an anticipated loss should be recognized in the year it occurs.
17
. Answer (D) is correct. The completed-contract method does not recognize any gross profit until the contract is
completed. The percentage-of-completion method recognizes a portion of revenues and gross profit each period, based
upon the ratio of costs incurred to date to total estimated costs of completion. Accumulated gross profit and accumulated
 construction costs are included in the construction in progress inventory account under the percentage-of-completion
method.
Answer (A) is incorrect because progress billings are accumulated in the billings on construction in progress account
under both methods. Answer (B) is incorrect because accumulated construction costs are included in the construction in
progress inventory account under both methods. Answer (C) is incorrect because the percentage-of-completion method
recognizes a percentage of revenues and gross profit each period.
18
. Answer (B) is correct. Under the percentage-of-completion method, a current-period loss on a profitable contract is
treated as a change in accounting estimate. Thus, a current-period adjustment is required. Prior-period adjustments are
made to correct errors, not to reflect changes in estimates.
Answer (A) is incorrect because, under the percentage-of-completion method, a current-period loss on a profitable
contract requires a current-period adjustment. Answer (C) is incorrect because, under the completed-contract method,
no profit is recognized until the contract is completed. Cost estimate adjustments while construction is in progress do not
result in profit or loss recognition prior to completion unless an overall loss is expected on the contract. Answer (D) is
incorrect because, under the completed-contract method, no profit is recognized until the contract is completed. Cost
estimate adjustments while construction is in progress do not result in profit or loss recognition prior to completion
unless an overall loss is expected on the contract.
19
. REQUIRED: The effect of the project on 1990 operating income under the percentage-of-completion method and
the completed-contract method.
DISCUSSION: (D) When the current estimate of total contract costs indicates a loss, an immediate provision for the
entire loss should be made regardless of method. Thus, under either method, 1990 operating income is decreased by
the projected loss.
Answers (A), (B), and (C) are incorrect because, under either method, 1990 operating income is decreased by the
projected loss.
20
. REQUIRED: The proper balance sheet presentation of progress billings and construction in progress.
DISCUSSION: (C) ARB 45, Long-Term Construction-Type Contracts, requires that the difference between construction
in progress (costs and recognized income) and progress billings to date be shown as a current asset if construction in
progress exceeds total billings, and as a current liability if billings exceed construction in progress. Separate recognition
is required for each project.
Answers (A) and (B) are incorrect because progress billings and construction in progress should be netted for balance
sheet presentation as a current asset or liability. Answer (D) is incorrect because neither income nor loss results from
progress billings.