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IFRS application on

construction /
long-term contracts (standard
IFRS 15)

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Table of contents

Definition and scope

Contract revenues

Contract costs

Recognition of contract revenues, expenses and margin

Examples

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Definition and scope

A construction contract is a contract specifically negotiated for the


construction of an asset or a combination of assets that are closely
interrelated or interdependent in terms of their design, technology and
function or their ultimate purpose or use ( Fixed price contract , Cost plus
contract )

The realisation of these contracts occurs over several accounting periods

This standard applies for contracts of construction of physical assets but


also for contracts concerning rendering of services

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Table of contents

Definition and scope

Contract revenues

Contract costs

Recognition of contract revenues, expenses and margin

Examples

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Contract revenues
Contract revenues should comprise:
 Revenue, exclusive of tax, as initially set forth in the contract, after deduction of any
discount, rebate or other modifying condition
 Any contractually based price revisions
 Any variations or claims related to acceptable technical, commercial or economic
conditions that can be reasonably expected to be accepted by the client, and this as
soon as such amount can be measured reliably
 Any performance incentives (linked to an early completion of the contract), and this as
soon as the payment of the amount can reasonably be reliably measured and it is
probable that the specified performance standards will be met
 Financial income, direct or indirect, resulting from financial contractual conditions
involving significant cash surpluses during a part or during all the life of the contract (see
following slide)
 Income in foreign currency will be valued
 For contracts which have a hedging: at the guaranteed rate if criteria of IAS 39 – financial
instruments are met
 If no hedge : at the rate of the generating event for past services and at the forecasted rate in
the" budget or strategic action plan" for future services

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Contract revenues
 Method of computation of financial income included in contract revenues
 Should be done for contracts superior to a threshold to be determined by each entity
(but not higher than 50 M€)

 The following method should be applied:


 Compute a cash balance at the end of each month related to the
contract life (revenues less expenses)
 Expenses taken into account must be increased by the forecasted
margin rate on the contract
 Revenues correspond to cash payments from the client
 Determine an interest rate :
 Interest rate basis usually awarded for similar down payments to
firms which have a similar solvency level
 If difficulties are encountered contact the group treasury
 If the cumulated financial income computation is a financial income,
it will be included in the income of the contract. If it is a financial
charge, it will be included in the contract costs

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Table of contents

Definition and scope

Contract revenues

Contract costs

Recognition of contract revenues, expenses and margin

Examples

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Contract costs
 Contract costs correpond to production costs and work in progress as defined by IAS 2
(inventories)
 Costs that cannot be attributed to contract activity or cannot be allocated to a contract are
excluded from the costs of a construction contract. Such costs include:
 General administration costs for which reimbursement is not specified in the contract;
 Selling costs;
 Research and development costs for which reimbursement is not specified in the contract; and
 Depreciation of idle plant and equipment that is not used on a particular contract,
 Financial expenses.

 Costs that relate directly to a contract and which are incurred in securing the contract are
also included as part of the contract costs if:
 they can be separately identified and
 measured reliably and
 it is probable that the contract will be obtained

 The costs of securing a contract which have been expensed in prior periods should not be
included in contract costs

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Example of expenses included in
contract costs
 Labour costs
 Cost of materials utilized in the contruction of the
project
 Lease costs or depreciation of installations and
equipments utilized for the project
 Set up and repliement costs of installations and
equipments costs
 Sub contracting (parts of the contract subcontracted
to external firms )
 Estimated costs completion and tests

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Example of expenses included in contract
costs

 Claims coming from third parties for which it is likely


they will increase the project cost
 Insurance costs
design and depreciation costs of capitalized
development costs

 Provision for contingencies

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Table of contents

Definition and scope

Contract revenues

Contract costs

Recognition of contract revenues, expenses and margin

Examples

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Reco g n itio n o f co n tract reven u es, exp en ses
an d m arg in
Only one method: contract margin is recognized by reference to the stage of
completion of the contract activity when the outcome of a construction contract can be
estimated reliably
An expected loss on the construction contract should be recognised as an expense
immediately

• Percentage of completion calculation method chosen by Areva:


• Ratio between actual costs incurred for work performed to date (Cost of work and/or
services realized and validated by the closing date) and total estimated costs at
completion
• Materials delivered for the contract and which relate to future activity are excluded from
the actual costs, unless these materials have been made specially for the contract
• For contracts superior to a threshold (to be determined by each entity but inferior to 10
M€)
• A physical percentage of completion shall be calculated and,
• The percentage of completion used for accounting will have to be inferior to this physical
percentage of completion

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Recognition of contract revenues, expenses and
margin
• The amounts of income, charges and margin accounted for in the P&L of the period
correspond to:
• Income = Total contract revenues x Stage of completion
• Expenses = Total contract costs x Stage of completion
• Margin = Income - Expenses

• When the outcome of a construction contract cannot be estimated reliably:


• Contract costs should be recognized as an expense in the period in which they are incurred
• Revenue should be recognized only to the extent of contract costs incurred that it is probable will be
recoverable (no margin recognised)
Note : this method is different from the completion method under French GAAP (not authorised in
IFRS)
• When the uncertainties that prevented the outcome of the contract being estimated reliably
no longer exist, revenue and expenses associated with the construction contract should be
recognized using the stage of completion method
• The effect of a change in the estimate of contract revenue or contract costs, is accounted for
as a change in accounting estimate: in the income statement in the period in which the
change is made and in subsequent periods

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aTble of contents

Definition and scope

Contract revenues

Contract costs

Recognition of contract revenues, expenses and margin

Examples

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Example 1
• Estimates:
• As of 31.12.15, a contract is signed with estimated revenue of 3000 and estimated costs of 2000
• The actual costs incurred as of end of 2006 are 500 (accounted for in « costs of sales »)

• As of end of 2016:
• The percentage of completion is 500/2000 = 25%
• The recognized revenues are 3000*25%=750
• The revenue has to be accounted for in « revenues on long term contracts » (in P&L in account D7020 or
D7030) and on receivables on long term contracts (in B/S in account A41000)

CHANGE OF ESTIMATES
• Estimates as of end of 2017:
• Actual costs for the period are 400
• Estimated costs at completion are now 2500 (change of estimate)
• Estimated revenues at completion are still 3000

• As of end of 2017:
• The percentage of completion is: (500+400)/2500 = 36%
• The cumulated recognized revenues are 3 000 * 36% = 1 080
• The revenues for 2007 are 3 000 * 36% - 750 = 330

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Example 1
LOSS AT COMPLETION
• Estimates as of end of 2018 :
• Actual costs for the period are 800
• Estimated costs at completion are now 4000, estimated revenues at completion are still 3000

• As of end of 2018:
• The percentage of completion is: (500+400+800)/4000 = 42,5%
• The recognized revenues are 3000*42,5% - 750 – 330 = 195
• The estimated loss at completion is 4000-3000 = 1000
• A provision for loss at completion shall be accounted for the remaining costs until the end of the contract: 1000 *
57,5%= 575

• Entries as of end of 2018 DT CT


• B/S Provision contract losses 575
• P/L Gross margin 575
• B/S receivables on long term contracts 195
• P/L Revenues on long term contracts 195

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Example 2
• Estimates:
• As of 31.12.15, a contract is signed for estimated revenues of 4 000
• Estimated costs on this contract are 5 000
• Entries as of end of 2015 (the realisation of the contract
has not yet begun) DT CT
• B/S Provision loss at completion 1 000
• P/L Gross margin 1 000
• As of end of 2016:
• Actual costs for the period are 500
• The percentage of completion is: (500) / 5 000 = 10 %

• Entries as of end of 2016:


Provision reversal DT CT
• B/S Provision loss at completion 100
• P/L Gross margin 100
Revenues recognition
• P/L Revenues 400
• B/S Receivables on long term contracts 400

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Example 3
• Estimates:
• In 2015, a contract is signed for estimated revenues of 10 000
• Estimated margin is 20 % of revenues (i.e. 25 % of costs)
• The payments from customers and to suppliers are as follows
• Customers : 6 000 as of june 1st, 2015, 1 000 as of october 1st, 2015 and 3 000 as of march 1st, 2016
• Suppliers : 1 000 as of october 1st, 2015, 1 000 as of december 1st, 2015 and 6 000 as of march 1st, 2016

1/6/15 1/10/15 1/12/15 1/3/16 Total


(a) Payments received 6 000 1 000 3 000 10 000
(b) Payments given 1 000 1 000 6 000 8 000

(c) Expenses corrected of 1 250 1 250 7 500 10 000


margin rate
(d) = (a) – (c) 6 000 (250) (1 250) ( 4 500)
Cash balance 6 000 5 750 4 500 0

 Financial income on this contrat is:


 (6 000 x 5 % x 4 / 12) + (5 750 x 5 % x 2 / 12) + (4 500 x 5 % x 3 / 12) = 204
 Financial income is included in the revenues and margin following the completion of the contract
 As of end of 2015, the percentage of completion is 25 %. Revenues are 25 % x (10 000 + 204)
= 2 551 including 51 corresponding to financial income

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