Well solving for the % of completion method is relatively simple in my opinion as my class just finished studying that last week. (I am halfway thru Intermediate Accounting 1 in college)… The JE's on the other hand confused the hell out of me too, but I will give it a shot. Keep in mind that there are TWO different types of JE's associated with this method. You have Journal Entries for costs, billings, and cash collections. Then you also have Journal Entries for revenue recognition. Follow this example problem below.
Another-71 LLP signed a contract with Google Inc. for quicker internet browsing speed. The contract is valued at $10 million and is expected to be completed in 2019. Google Inc estimates to incur costs of $5 million for the duration of the project. Google Inc began working on the browser connection speed on April 1, 2015. Their operating cycle ends one year later on March 31, 2016. What is the % of completion for Google Inc by the end of Year 2? Journalize the revenue recognized accordingly to the percentage earned. Information related to the contract is as follows
Year. 1 (2015)
Contract Price: $10 million.
Construction costs incurred during the year: $1,500,000
Construction costs incurred in prior years: $0
Actual construction costs to date: $1,500,000
Estimated costs to complete at the end of the year: $2,250,000 (random amount I entered)
Total Costs (Actual + Estimated): $3,750,000
Total Billings made during the year: $1,200,000 (***we will come back to this amount below during JE's***)
Gross Profit: $5 million (Contract value minus estimated costs 10-5 mill)
% of completion: 40% (actual costs / estimated to complete 1.5 mill/ 3.75 mill)
% of revenue earned: $2,000,000 (40% x 5 mill)
Year 2 (2016)
Construction costs incurred during the year: $1,000,000
Construction costs incurred in prior years: $1,500,000 (2015)
Actual construction costs to date: $2,500,000 (add the two years)
Estimated costs to complete at the end of the year: $1,500,000 (another random amount)
Total Costs (Actual + Estimated): $4,000,000
Total Billings made during the year: $2,000,000 (***we will come back to this amount below during JE's***)
Gross Profit: $5 million (Contract value minus estimated costs 10-5 mill)
% of completion: 62.5% (actual costs / estimated to complete 2.5 mill/ 4 mill)
% of revenue earned: $1,875,000 (62.5% x 5 mill minus previous revenue earned in 2015)
*****I will stop the problem here so that we can get to the journal entry time*****
Type 1 Journal Entry (costs, billings, and cash collections) for Year 1, 2015.
Dr. Cr.
Construction in progress (abbreviation C.I.P) 1,500,000
Cash, materials, etc. 1,500,000
(To record construction costs)
Dr. Cr.
Accounts Receivable 1,200,000
Billings on construction contract 1,200,000 (these amounts were taken from 2015's info see “billings made”)
(To record progress billings)
***Special note***
(Billings on construction contract is a contra account to C.I.P)
Dr. Cr.
Cash 1,000,000
Accounts Receivable 1,000,000
(To record collection of cash)
***Special note***
As you can see, Google Inc did not collect ALL of the cash billed to Another-71. They still owe us $200,000 and you would see this in a T-account. Let's continue on to part 2 JE's which is to now recognize the REVENUE EARNED. Here we just collected cash but what about the revenue account? So far only asset accounts have been affected, but what about the Equity side like normal JE's of Dr. Cash Cr. Sales Revenue? Exactly why there is part 2 entries ….
Type 2 Journal Entries (Recognizing Revenue) Year 1, 2015 (% of completion method)
Dr. Cr.
Construction in progress (abbreviation C.I.P) $500,000
Cost of Construction (similar to COGS) $1,500,000
Revenue from long term contracts $2,000,000
(you may be wondering where the hell 500,000 came from? well remember in 2015 the Construction costs incurred of 1,500,000? But then we also had Revenue of 2,000,000? Subtract the two and you get your 500,000 which goes into your CIP asset account.) And those are all the entries needed for 2015. If you want me to do 2016 and so forth let me know.
One day I will face that exam.
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