ACCT 5201 MAcc - Advanced Studies in Financial Reporting - 2016 Case #2: Accounting Policy & Method - Professor Marco J. Malandra CompDesign Company (hereinafter "CD") is a large computer contracting design firm that serves a variety of governmental and industrial customers that purchase computer network systems. CD's business primarily involves the design and manufacture of large industrial-sized computer networks that are used by its customers in aviation, rockets, and robotics. All of CD's contracts involve the design, development, and manufacture of computer networks that are unique and customized to the specifications of its customers. CD negotiates all its contracts with its customers on either a fixed-price or cost-plus basis. CD has developed an accounting policy to recognize revenue related to its customized contracts, which reads as follows: The Company performs under a variety of contracts, some of which provide for reimbursement of cost plus fees, and others that are fixed-price-type contracts. Revenues and fees on these contracts are primarily recognized on a contract-by-contract basis using the percentage-of-completion method of accounting, which is most often based on contract costs incurred to date compared with total estimated costs at completion (cost-to-cost method). The completed-contract method of accounting is used in instances in which reliably dependable estimates of the total costs to be incurred under a specific contract cannot be made. CD has entered into a contract with a new customer, the National Aeronautics and Space Administration, (hereinafter "NASA"), to build a computer network for the Orion spacecraft to take 4 astronauts to Mars. The contract entered into was for a fixed price and requires detailed and involved performance specifications. Upon entering into the contract, CD realized that this was a unique arrangement that required a great deal of customer specification in order to meet required performance standards. However, CD also believed that with its extensive experience performing under similar contracts, the percentage-of-completion method of accounting for the new NASA contract was appropriate. After the commencement of the new NASA contract, CD began to experience significant difficulties in the design and manufacture of the computer network. Initial designs had to be redone, certain engineering costs had to be outsourced to a significant extent because of the termination of a very experienced and key member of the engineering team, and the cost of quartzite and other obscure minerals used in computer chips had risen unexpectedly. These changes led to a revision of CD's estimates for the overall cost to complete the contract, and because of these cost overruns, CD expected that the overall project would incur total costs that would be in excess of the total fixed-fee contract price negotiated with NASA. CD management updated its estimates used in percentage-of-completion accounting to reflect both the cost overruns incurred as well as the cost overruns expected to be incurred. CD management also recorded a provision for the entire loss on the contract in the period in which it became aware that contract costs would exceed the total contract value. After a further six-month delay in the design and construction, CD finally delivered and installed the computer network to NASA. However, when placed into a final test environment production simulation at NASA's facilities, the system did not perform to NASA's specifications as defined in the original contract. CD was then required to redesign, fix, and remedy various problems with the computers that led to the test failures experienced at NASA's facilities. Upon notification of the continued problems associated with the NASA contract, CD's chief accounting officer, with input from members of the contract project management and engineering teams, determined that total estimates of contract costs to be incurred for the NASA contract were no longer able to be reliably determined, and thus, use of the percentage-of-completion method of accounting was no longer an appropriate method of revenue recognition for this specific contract. Thus, a determination was made that CD would switch to a completed- contract method of revenue recognition for the duration of its contract with NASA. Required: 1. On the basis of the facts presented within the case overview, is CD's accounting policy for the revenue treatment of its contracts reasonable? 2. Is it appropriate for CD to change its method of accounting for the NASA contract from the percentage-of-completion method to the completed-contract method? If so, how should this change be treated on the basis of the guidance provided within the ASC for Changes and Errors? 3. If CD were to adopt IFRSS, how would CD's accounting policy and accounting for the NASA contract change? Check the FASB and IASB websites for details of the latest developments regarding your requirement issues, and other sources (including SEC) where appropriate. Write a report. What is a computer network? Why computer networks are important in following (select only one) industries; 1. Transport industry (Airport and airlines) 2. Health Industry (Hospitals and pharmaceuticals) 3. Power industry (Power generation using fossil fuel or nuclear energy and distribution) 4. Communications industry (etisalat, du etc)