Contract Costing: CUE Exam Prep

Contract Costing Overview

• Lecture aims to simplify contract costing for students preparing for the CUE exam.
• Focus is on securing 15 marks in the exam.
• Lecture includes notes prepared to facilitate easy understanding and installation of concepts in the students' minds.
• Part A of the series focuses on background, key terms, contract account format, profit transfer rules, and Work in Progress (WIP) accounts.

Lecture Structure

• The lecture involves writing along with explanations.
• Introduction to contract costing will be provided.
• Important terms used in contract costing will be discussed.
• Format for creating a contract account will be taught.
• Rules for transferring profits to the Profit and Loss (P&L) account will be explained.
• Introduction of WIP account will be provided.
• Important sums will be solved in the lecture.
• Like target for the session is 1,000.

Introduction to Contract Costing

• Contract costing is a costing method used by construction businesses.
• It helps determine the total cost of construction projects like roads, bridges, and dams.
• Contractors use this method to record expenses over the duration of the contract.

Important Terms in Contract Costing

• Key terms include Work Certified, Work Uncertified, and Retention Money
• These terms play a vital role in solving problems

Work Certified

• It is the portion of work completed by the contractor and verified by the contractee.
• The value of work certified is assessed at the contract price.
• Example: if a contractee gives a 10 lakh contract and the work completed is 7 lakhs, its "work certified."

Work Uncertified

• Work uncertified is when the work done has not been approved or verified by the contractee
• Work uncertified is valued as cost price rather than contract price

Retention Money

• It is a clause in the contract where the contractee retains a percentage of the payment.
• This serves as a safeguard against the contractor abandoning the project.
• Example the contractor completed 7 lakhs worth of work, but the contactee only paid him 6 lakhs. The 1 lakh is called retention money.

Retention Money Example

• For example, if the retention money is 10%, the contractor only receives 90% of the certified work value.
• To calculate cash received, multiply the work certified by the percentage retained
• To calculate work certified, divide cash received by (100- retention money)%, then multiply that value*100

Important Note: Escalation Clause

• Contract costing agreements may include an escalation clause.
• Escalation clause will allow the contract price to be increased.
• This accounts for increases in material and labor costs beyond a certain limit.

Contract Account Format

• Head the contract account with both "Contract Number" and "Account". Add "For the year ended"
• All expenses related to the contract are debited.
• Materials not used are credited.
• List "Particulars" (expenses) on the debit side and "Amount"
• List "Particulars" (unused materials) on the credit side and "Amount"

Debit Side of Contract Account

• Includes direct wages, indirect wages, and subcontractor charges.
• Expenses such as establishment and supervisor salaries get accounted for in this section
• Also includes depreciation on plant, sundry expenses, overhead charges, and direct expenses.
• To Material sent to site, whether from stores or purchased.
• An outstanding expenses are debited with "CD" (carried down)

Credit Side of Contract Account

• It features material transferred to another contract,
• Credit plant and materials at the site (closing balance), and materials returned to the store.
• Also includes the cost of material, prepaid expenses with "CD".
• Costs of the material and prepaid expenses are credited
• It also features any scrappage

Balancing the Contract Account (Stage 1)

• "Cost of Contract" is the balancing figure.
• The format involves recording all costs and any returns.
• Close out the "Cost of Contract" section so the next section can be completed

Stage 2 of Contract Account

• The "Cost of Contract" is transferred to the debit side as "To Cost of Contract b/d".
• Credit side includes "By Work in Progress", work certified and work uncertified.
• The "balancing figure" in this case will be the "Notional Profit"

Stage 3 of Contract Account

• The Notional profit if the previous "balancing figure" is brought over as "By Notional Profit b/d"
• To costing P&L Account" the profit being transferred is noted
• "Profit Reserve" the balancing figure is determined

Profit Transfer to Costing P&L Account

• The text describes how to go about this process
• First, calculate the degree of work completion

How to find the Degree of Work Completion

• Find work completed by dividing work certified by contract price, then multiply by 100

Chart for Transferred Profit to P&L Account with the Degree of Completion of Work

• No profit gets transferred to profit and loss account, only if the work is less than 25% completed
• Use this formula, from 25% to less than 50% completed: 1/3 * Notional profit * Cash received/Work Certified
• Use this formula, from 50% to up to 90% completed: 2/3 * Notional profit * Cash received/Work Certified
• If work is over 90% completed use this formula: Estimated profit * work certified/Contract price *Cash received/Work Certified (rare formula)

Calculation of Work In Progress

• The formula is: Work Certified all plus Work Uncertified all less Profit Reserve account and less WIP

Contract Account overview

• Is about how much money the contractor paid
• Balance is: To balance B/D and By Bank Account
• Contract account are usually made in conjunction with WIO

Format for WIO Account

• Includes, To contract account, work certified and work uncertified also profit reserve, all By Balance C/D