Revenue from contracts with customers(Long term construction)

Problem on Revenue from contracts with customers

Entity X Sells a lot and constructs houses. Entity X uses astandard contract with customers. A customer who purchases a lot must purchase a house from entity X. The customer is prohibited from engaging another contractor to build the house.

The houses are not prebuilt. The customer chooses a design from five designs , all of which are original and standard designs of Entity X. Minor modifications to the chosen design are permitted; however,a modification should not deviate from the main theme of the house designs in teh subdivision. Any design modification should be made and accepted by Entity X and the customer prior to the commencement of construction activities. During construction, Entity X retains control over the construction activity and any unfinished structure built on the lot. It takes a standard time of 1 year to construct a house.

Each contract requiresa non-refundable down payment of 20% of the fixed contract price. The contract price covers the payment for the lot, the design,and the construction of the house. Thecontract price varies dependingon the type of design chosen by the customer and any minor modifications made to that designs. The balance is payable in monthly installments over a period of 12 months. Entity X retains the legal title over the lot and the house until the customer fully pays the contract price.

Each contract is non-cancellable. In case the customer defaults in paying at least 2 monthly installments, Entity X shall forfeit in its favor the down payment and all installment payments made by the customer. In addition, Entity X forfeits in its favor the lot, any unfinished structure built on the lot, and any unused materials purchased for the construction of the house. In case Enity X fails to construct the house in accordance with the agreed specifications, Entity X shall make the necessary remediation at its own cost.

The customer obtains control over the lot and the house (i.e. the customer can start occupying the property) 1 year after the signing of the contract, at which time the construction is expected to be complete. This applies even if the customer has not yetpaid in full the contract price. In case of delay in the completion of the house, Entity x shall pay a penalty of 2% fo the contract price for every month of delay. The penalty shall be deducted from any existing balance of the customer.

EntityX does not sell lots, houses designs, and houses separately. In the past, Entit X has been able to resell forfeitedlots and houses to other customers without much modification because the designs of the houses are standard.

Based on an independent appraisal of properties in neighboring subdivisions, the current fair values of similar lots, house designs and houses are as follows:

LotP1,620,000House Design270,000House3510000

On April 1, 2021, Entity X enters into a standard contract with Customer Y. The contract price is P6,000,000. At contract inception, Entity X expects to finish the construction of the house within 1 year, in accordance with the agreement, In addition,Entity X expects that the customer will pursue the contract and will not default in its payment.As of December 31, 2021 a survey of the work performed reveals that that construction work is 80% complete. Enity X expects that upon completion, the constructed house will meet the specification in the contract.

Requirements:

Perform Steps 1 to 5 of PFRS 15 to answer the following questions.

1. Does the contract qualify for accounting under PFRS 15? State the reason(s) for your answers.

2. What is (are) the performance obligation(s) in the contract?

3. How will Entity X satisfy the performance obligations in the contract?

4. How much is the transaction price in the contract?

• Determine the nature of the transaction price (Fixed or variable) If the transaction price includes variable consideration, determine how Entity X should account for that variable consideration.
• Determine if the transaction price provides significant financing to either the customer or Entity X.

5. How should Enity X allocate the transaction price to the performance obligation(s) in the contract?

6. How should Enity X recognize revenue from the contracts?

7. Provide the journal entry on April 1, 2021