Financial Reporting

Accounting for Construction contract

VIKAS GUPTA 5 TH M A Y 2 0 1 3

Definition

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.

Complexity

 Construction usually lasts for more than one

accounting period (12 months)  Usually, costs start getting incurred even before the beginning of construction  Usually, the receipts come at a later stage even after completion  The time gap between receipts and costs incurred is significant –matching of revenue and costs is important

Types of Construction contracts

Fixed price contract

Combination

Cost Plus Contracts

Fixed price contracts

K Ltd gets a contract to construct a bridge for a tender amount of $5 million. This $5 million is given by the local authority to K Ltd over a period of the construction. Price is fixed except that if the minimum labour wages increase during the construction period, a reimbursement to that extent is given to K Ltd

Cost plus contracts

K Ltd gets a contract from the government to construct a missile. Since it is a new technology to be used for the missile, the costs thereof are not identifiable at the initial stage. Hence, K Ltd has quoted a cost plus 5% pricing to the government. The government has agreed with K Ltd to execute this construction

Contract to be identified separately

 Unless: a) the group of contracts is negotiated as a single package; (b) the contracts are so closely interrelated that they are, in effect, part of a single project with an overall profit margin; and (c) the contracts are performed concurrently or in a continuous sequence

Contract Revenue

 Comprises of: (a) The initial amount of revenue agreed in the contract; and (b) Variations in contract work, claims and incentive payments: (i) To the extent that it is probable that...