Question

Monkey Business, an import business, builds special-order yachts. They decide to build one for a customer for at a cost $3,500,000. It will take 2 years (they start building in June 1, 2007) to build with total costs of $2,100,000: costs of $320,000 in 2007; $1,200,000 in 2008; and the remainder in 2009 (assume they stick to budget). The customer puts a deposit down of $500,000 and pays the remainder in 4 installments, each due every 6 months. For each year (2007, 2008, and 2009) compute the revenue expense, and gross profits reported for this construction project. Assume they do not have a written contract but based on this customer having purchased several yachts in the past, they believe he will pay for the boat in a timely manner. Determine what method to use and show all your work.

Answer 1

The company should recognize revenue over three-year time period according to the percentage of work completed because it satisfies the revenue recognition principle that it is creating the yacht that has no alternative use to it and it has legal right to receive the payments in four installments.   

Compute the gross profit as follows:

Particulars	2007	2008	2009	Total
Revenues	$533,400	$1,999,900	$966,700	$3,500,000
Less: Costs incurred	$320,000	$1,200,000	$580,000	$2, 100,000
Gross profit	$213, 400	$799,900	$386, 700	$1400,000

Revenues         = Total cost of the project × Percentage of completion

2007 revenues = $533,400 ($3,500,000 × 15.24%)

2008 revenues = $1,999,900 ($3,500,000 × 57.14%)

2009 revenues = $966,700 ($3,500,000 × 27.62%)

Notes: Compute percentage of work completed as follows:

Particulars	2007	2008	2009	Total
Costs incurred	$320,000	$1,200,000	$580,000	$2,100,000
Percentage of work completed	15.24%	57.14%	27.62%	100%

2007 = 15.24% ($320,000 ÷ $2,100,000)

2008 = 57.14% ($1,200,000 ÷ $2,100,000)

2009 = 27.62% ($580,000 ÷ $2,100,000)