Question

On December 31, 2017, Tri-State Construction Inc. signs a contract with the state of West Virginia Department of Transportation to manufacture a bridge over the New River. State anticipates the construction will take three years. The company’s accountants provide the following contract details relating to the project:

Contract price	$780 million
Estimated construction costs	$600 million
Estimated total profit	$180 million

During the three-year construction period, Tri-State incurred costs as follows:

2018	$ 60 million
2019	$360 million
2020	$180 million

Compute the revenue recognized, construction costs expensed, and income earned for each year using the cost-to-cost method.

Answer 1

Cost to cost method

• The cost to cost method is used to determine the percentage of completion of a project (here, construction of a bridge) and thus the amount of revenue can be recognized.
• Formula for cost to cost method: Divide All costs recorded to date on a project by the total estimated amount of costs that will be incurred for that job. From that we will get an overall percentage of completion that is then used for revenue recognition purposes.

Step 1

  Calcuation of percentage completion

Percentage completion = Cost incured to date / Estimated total cost

For year 2018;

Percenatge completion = $ 60 million / $ 600 million

= 10 %

For year 2019;

Percentage completion = $ 360 million / $ 600 million

= 60%

For year 2020;

Percentage completion = $ 180 million / $ 600 million

= 30%

YEAR	PERCENTAGE COMPLETION ( %)
2018	10
2019	60
2020	30

Step 2   

Calculation of revenue recognized, construction cost expensed & income earned for each year

For Year 2018;

Revenue recognized = Contract price * percentage completed

=  $ 780 million * 10%

= $ 78 million

Construction cost expensed = $ 60 million ( given in question)

Income earned = Revenue recognized for the year - construction cost expensed for the year

= $ 78 million - $ 60 million

= $ 18 million

For year 2019;

Revenue recognized = $ 780 million * 60%

= $ 468 million

Construction cost expensed = $ 360 million

Income earned = $ 468 million - $ 360 million

= $ 108 million

For year 2020;

Revenue recognized = $ 780 million * 30%

= $ 234 million

Construction cost expensed = $ 180 million

Income earned = $ 234 million - $ 180 million

= $ 54 million