IAS 11

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IAS 11

  1. 1. IAS 11: Construction Contracts Roshankumar S Pimpalkarroshankumar.2007@rediffmail.com
  2. 2. This standard prescribes the accounting of costs and revenues associated with construction contracts. Key Definitions: 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 design, technology and function or their ultimate purpose or use. Fixed Price contract is a construction contract in which the contractor agrees to a fixed contract price or a fixed rate per unit of output, which in some cases is subject to cost escalation clauses. Cost Plus contract is a construction contract in which a contractor is reimbursed for allowable or otherwise defined costs, plus a percentage of these costs or a fixed price. Guidance by IFRIC 15: Agreements for Construction of Real Estate. An agreement for construction of a real estate is a construction contract within the scope of IAS 11 only when the buyer is able to specify the major structural elements of the design of the real estate before the construction begins and/or specify major structural changes once construction is in progress (whether he exercises that ability or not). If the buyer does not have that ability then IAS 18 applies. Combining and Segmenting Construction Contracts When a contract covers number of assets construction of each asset should be considered as a separate construction contract when: Separate proposals have been submitted for each asset Each asset has been submitted for separate negotiation and the contractor and customer have been able to accept or reject that part of the contract relating to each asset and The costs and revenues of each asset can be identified. A group of contract, whether with a single customer or with several customers, should be treated as single construction contract when: The group of contract is negotiated as single package The contracts are so closely interrelated that they are, in effect, a part of a single project with an overall profit margin, and The contracts are performed concurrently or in a continuous sequence. A contract may provide construction of an additional asset at the option of the customer or may be amended to include the construction of an additionalroshankumar.2007@rediffmail.com
  3. 3. asset. The construction of an additional asset should be treated as a separate construction contract when: The asset differs significantly in design, technology or function from the asset or asset covered by the original contract, or The price of the asset is negotiated without regard to the original contract price. Contract Revenue Contract revenue should comprise: The initial amount of revenue agreed in the contract; and Variations in the work, claim and incentive payments: o To the extent that is probable that they will result in revenue i.e. the customer will approve the variation and amount of revenue arising out of variation; and o They are capable of being reliably measured Incentive payments are additional amounts paid to the contractor is specified performance standards are met or exceeded. It is included in the contract revenue when: o The contract is sufficiently advanced that it is probable that the specified performance standards will be met or exceeded, and o The amount of incentive payment can be measured reliably. A claim is an amount which a contractor seeks from the customer or another party as a reimbursement for costs not included in contract price. It is included in contract price when: o Negotiations have reached advanced stage such that it is probable that the customer will accept the claim; and o The amount of claim can be measured reliably. Probability means more likely than not. Contract Cost Contract costs should comprise of Costs that relate directly to the specific contract Costs that are attributable to the contract in general and can be allocated to the contract, and Such other costs as are specifically chargeable to the customer under the terms of the contractroshankumar.2007@rediffmail.com
  4. 4. Costs incurred in securing the contract are also included in contract costs they can be identified, reliably measured and it is probable that the contract will be obtained. However if such costs are recognised as an expense in the period in which they are incurred then they are not included in contract cost when the contract is obtained in a subsequent period. Recognition Contract revenue and contract costs associated with a construction contract should be recognised as revenue and expenses respectively by reference to the stage of completion of the contract activity at the end of the reporting period when the outcome of the construction contract can be estimated reliably. Any expected loss on the contract should be recognised as an expense immediately. Fixed Price Contract In this type of contract the outcome can be estimated reliably when all of the following conditions are satisfied: Total contract revenue can be measured reliably It is probable that economic benefits associated with contract will flow to the enterprise Both the contract cost to complete the contract and stage of completion can be measured reliably, and Contract costs attributable to the contract can be measured reliably and can be identified clearly, so that the actual costs incurred can be compared with prior estimates. Cost Plus Contract In this type of contract outcome can be estimated reliably when all of the following conditions are satisfied It is probable that the economic benefits associated with the contract will flow to the enterprise; and Contract costs attributable to the contract, whether or not specifically reimbursable, can be clearly identified and measured reliably. Capitalisation of costs Contract costs incurred that relate to future activity on the contract are recognised as an asset provided it is probable that they will be recovered.roshankumar.2007@rediffmail.com
  5. 5. Such costs represents amount due from customer and are classified as work in progress. When an uncertainty about the collectability of revenue already recognised in the statement of comprehensive income arises, the uncollectable amount is recognised as an expense rather than an adjustment to contract revenue. When the outcome of the construction contract cannot be estimated reliably: Revenue should be recognised only to the extent of contract costs incurred and if the recovery is probable; and Contract costs should be recognised as an expense in the period in which they are incurred In this case no profit is recognised. Once the outcome of construction contract can be estimated reliably, profit can be recognised. When it is probable that that total contract cost will exceed total contract revenue, the expected loss should be recognised as an expense immediately. In such case amount of loss to be recognised is expected loss plus profit recognised earlier less loss recognised in current year. Determining the stage of completion Depending on the nature of construction contract the method used to determine the stage of completion of the contract are as follows: The ratio – contract cost incurred to for the work performed to date / estimated total contract cost Surveys of work performed; or Completion of physical proportion of contractroshankumar.2007@rediffmail.com

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