Question:
O’Hara Company recognizes revenue on long-term construction contracts under IFRS. It cannot estimate
progress toward completion accurately, and so uses the cost recovery method (also called the “zero profit
method”) to estimate revenue. O’Hara writes a contract to deliver an automated assembly line to Easley
Motors. Easley will pay $2,000,000 to O’Hara, and O’Hara estimates the line will cost $1,500,000 to
construct. The job is estimated to take three years to complete. In the first year of its contract with Easley
Motors, O’Hara incurs $1,000,000 of cost, which O’Hara believes will eventually be recovered in the
contract.
How much revenue will O’Hara recognize in the first year of the contract?
a. $1,000,000
b. $0
c. $1,333,333
d. $666,667
Answer:
a. Under the cost recovery approach, an amount of revenue is recognized that is equal to cost incurred, so
long as cost incurred is probable to be recovered. Since $1,000,000 of cost was incurred, $1,000,000 of
revenue is recognized.
O’Hara Company recognizes revenue on long-term construction contracts under IFRS. It cannot estimate
progress toward completion accurately, and so uses the cost recovery method (also called the “zero profit
method”) to estimate revenue. O’Hara writes a contract to deliver an automated assembly line to Easley
Motors. Easley will pay $2,000,000 to O’Hara, and O’Hara estimates the line will cost $1,500,000 to
construct. The job is estimated to take three years to complete. In the first year of its contract with Easley
Motors, O’Hara incurs $1,000,000 of cost, which O’Hara believes will eventually be recovered in the
contract.
How much revenue will O’Hara recognize in the first year of the contract?
a. $1,000,000
b. $0
c. $1,333,333
d. $666,667
Answer:
a. Under the cost recovery approach, an amount of revenue is recognized that is equal to cost incurred, so
long as cost incurred is probable to be recovered. Since $1,000,000 of cost was incurred, $1,000,000 of
revenue is recognized.
