Percentage of Completion Method
Categories: Accounting
Yeah, uh...has nothing to do with whether or not Aaron Rodgers is having a good day behind center.
The Percentage of Completion Method is an accounting system that deals with relatively complex methods of figuring out proper attribution of revenues and expenses, usually as they relate to long-term build projects.
For example, Joe’s ship-building company, Ship Happens, agrees to build the SS Nuke-a-nator for the U.S. government for a billion dollars. It’ll take 4 years to build, and the Navy releases 250 million bucks in what will become annual revenues to Ship Happens. Joe’s cost to build the ship will be 800 million bucks, and by the time the Nuke-a-nator is built, Joe will have made 200 million dollars in operating profit.
But along the way, Joe has to figure out how he’ll count the beans. That is, how he’ll attribute expenses. And this is not easy, because he’s spent a fortune hiring the thousands of workers and leasing the dock space and pre-ordering millions of tons of steel, and so on. If he uses the percentage of completion method of accounting, then he’d just figure out his total costs to build the ship, and if he spent 320 million that first year, then it would be 320 divided by 800 million, or 40 percent of the total.
So even though only 25 percent of the time has passed, i.e. one year out of four, Joe would recognize 40 percent of his total expenses...because he's using the percent of completion method. And financially, the ship is now 40% complete. And because we’re using this method, where expenses kind of drive the bus, we’ll then attribute that 40% to the revenues line, so he’d recognize 40% of his billion dollars in revenues, or $400 million, as recognized revenues in Year One...to show operating profits of $80 million, pre-tax.
A percentage of completion approach to revenue recognition works well when the following is true:
1. There are clear and definitive contract terms and price;
2. The customer will likely pay the full amount;
3. You have a good idea of when the contract will be completed; and
4. There’s a clear way to identify progress.
Check those four boxes, and it’s probably percentage of completion time.
And the crowd goes wild.
Related or Semi-related Video
Finance: What is the percentage of compl...4 Views
Finance Allah Shmoop What is the percentage of completion method
Yeah and has nothing to do with whether or not
Aaron Rodgers is having a good day behind center It's
an accounting system people that deals with relatively complex methods
of figuring out proper attribution of revenues and expenses usually
as they relate to long term build projects For example
Jos Shipbuilding Company Ship Happens agrees to build the SS
Neuquen ater for the US government for a billion dollars
It'll take four years to build than the Navy releases
two hundred fifty million bucks in what become annual revenues
to ship happens Well Joe's cost to build the ship
will be eight hundred million box and by the time
the Neuquen Aitor is built Jo will have made two
hundred million dollars in operating profit But along the way
Joe has to figure out how he'll count the beans
That is how he'll attribute expenses along with the revenues
that air coming in in blobs Yes and this is
not easy because he spent a fortune hiring the thousands
of workers and leasing the dock space and pre ordering
millions of tons of steel and so on Well if
he uses the percentage of completion method of accounting well
then he just figure out the total cost to build
the ship And if he spent three hundred twenty million
dollars that first year well then it would be three
twenty Divided by that eight hundred million or forty percent
of the total right thirty two over eighty is forty
So even though only twenty five percent of the time
has passed I e Only one year out of four
Joe would recognize forty percent of his total expenses because
well he's using the percentage of completion method And financially
the ship is now forty percent complete to this should
make sense And because we're using this method where expenses
kind of drive the bus well then at tribute that
forty percent to the revenues line So he'd recognize forty
percent of his billion dollars in revenues or four hundred
million bucks as recognized revenues in Year one to show
operating profits of well eighty million bucks pretax a percentage
of completion approached to revenue recognition works well When the
following is true there are clear and definitive contract terms
and price The customer will likely pay the full amount
You have a good idea of when the contract will
be completed and there's a clear way to identify progress
Check those four boxes and it's probably percentage of completion 00:02:19.14 --> [endTime] time And yes the crowd goes wild