- CFA Exams
- CFA Level I Exam
- Study Session 7. Financial Reporting and Analysis (2)
- Reading 21. Understanding Income Statements
- Subject 3. Revenue Recognition in Special Cases
CFA Practice Question
Which of the following statements concerning the percentage-of-completion and completed-contract methods is CORRECT?
A. The completed-contract and percentage-of-completion methods produce the same cash flow statements prior to completion of the contract.
B. The completed-contract method produces greater net income during the period of construction than the percentage-of-completion method.
C. The percentage-of-completion method produces lower liabilities and greater assets than the completed-contract method.
Explanation: Under the percentage-of-completion method, liabilities are lower, due to greater offset provided by construction in progress, and assets are higher, due to faster accrual of profit.
User Contributed Comments 7
| User | Comment |
|---|---|
| aroman21 | I thought they had the same cash flows?? |
| barther | the final cashflow is the same, but due to the taxes that have to be paid as the revenue is recognised, the company that uses pernentage of completion method may have to pay taxes during the contract. |
| Cocala | Always think US rules. Many countries does not pay income tax on income recognised under PoC method. But it is fair based on US GAAP and US law. |
| Xocrevilo | D would clearly be the correct answer if it said "... prior to completion of the contract", but how do we know whether to assume that or not?!!! Liabilities and assets for both methods are identical at the end of the contract period. |
| oregon | Xocrevilo: you should always assume the contract is not finished yet in these types of questions. A company may have many projects, starting , on-going, or finished, and on average we deal with an unfinished project here. |
| toyo | Why lower liabilities? Could someone explain?? |
| schweitzdm | Liabilities represent unearned profit. As you are recognizing income earlier through PoC, you are slowly recognizing the earning of that profit. This reduces the liability account. Someone please correct me if I am wrong! |