Percentage Of Completion MethodEdit

The percentage of completion method (PoC) is a revenue recognition approach used for projects that unfold over multiple reporting periods, such as large construction, engineering, and industrial ventures. Instead of waiting for final completion, firms recognize revenue and gross profit in line with how much work has been completed. In practice, this means revenue is matched to the costs incurred to date and the estimated total cost of the contract, producing earlier visibility into project profitability than methods that defer all earnings until the finish line. The method sits alongside the completed contract method (CCM) as one of the two primary ways to account for long-term contracts. Revenue recognition Long-term contracts Completed Contract Method

Overview and operation - Core idea: recognize revenue as the contract progresses, typically by a cost-to-cost or similar measure of progress. The standard approach is to take the ratio of costs incurred to date to total estimated costs and apply that ratio to the total expected contract revenue and gross margin. This yields current-period earnings that reflect ongoing work rather than eventual completion alone. Cost-to-cost method Contract revenue Gross profit - Prerequisites: PoC relies on reliable cost estimates, a reasonable forecast of total contract costs, and a clear basis for measuring progress. When these conditions are not met, the method may be inappropriate or require significant disclosure and alternative measurement. Estimating Cost accounting ASC 606 (for U.S. financial reporting) - Measurement and disclosures: under many frameworks, changes in estimated total costs or anticipated losses on the contract must be recognized promptly, which can lead to revisions in previously recognized earnings. The approach is designed to improve the matching of revenue with expenses but adds estimation risk and complexity. Estimated costs Loss recognition Earnings management

Standards and jurisdictional context - United States: PoC is widely used for long-term construction and similar contracts under U.S. generally accepted accounting principles (GAAP), with guidance that ties revenue to the stage of completion and requires robust estimates and controls. The guidance interacts with broader revenue recognition standards such as ASC 606 and related industry practice for construction and engineering contracts. FASB ASC 606 - International: Many jurisdictions governed by IFRS apply similar principles for long-term contracts, often framed within broader revenue recognition standards and industry-specific guidance. The international approach emphasizes the transfer of control and the measurement of progress toward completion. IASB IFRS IFRS 15 - Tax considerations: tax accounting for long-term contracts can diverge from financial reporting. Some regimes historically allowed or required a different timing (for example, deferring revenue for tax purposes or using a different method for contract income), which can create discrepancies between book profit and taxable income. Tax accounting IRS (dependency on jurisdiction)

Advantages from a market-oriented perspective - Earnings timing aligns with economic activity: PoC converts cash outlays and project milestones into a more timely signal of profitability, supporting decision-making by lenders, investors, and capital markets. Proponents argue this reduces information asymmetry about project risk and capital needs. Capital markets Investor relations - Better matching of costs and revenues: recognizing revenue as work progresses reflects the economic substance of a long-running project, potentially reducing the appearance of “front-loaded” or artificial profits at the outset. Matching principle Economic substance - Encourages disciplined project control: PoC places emphasis on accurate progress tracking, cost estimation, and change management, which can incentivize stronger internal controls and more transparent reporting. Internal controls Project accounting

Criticisms and controversies - Estimation risk and earnings volatility: the method depends on forecasts of total contract costs and progress. If estimates prove overly optimistic, reported earnings can significantly overstate performance in early periods and require large downward revisions later. This has led to debates about earnings quality and the temptation for earnings management. Earnings management Estimation risk - Complexity and implementation costs: PoC requires robust systems for tracking costs, progress, and contract modifications. Small or fragmented projects may not justify the accounting burden, and changes in scope (change orders) can complicate measurement. Project accounting - Potential for misalignment with tax outcomes: since tax rules may differ from financial reporting, the timing of revenue recognition for tax purposes can diverge from book income, creating temporary discrepancies and added planning considerations. Tax planning - Policy debates: critics argue that sophisticated revenue recognition regimes can expose small businesses to greater regulatory compliance costs without delivering proportional benefits to users of financial statements. Advocates counter that transparency and timely information ultimately support more efficient capital allocation and fairer market signals. In the broader policy debate, some argue for simpler, more straightforward rules to reduce cost and risk for firms, while others defend the moral case for accurate, market-based signaling—even if that implies more complex standards.

Contemporary debates from a market-oriented viewpoint - Proponents emphasize that PoC aligns reported earnings with economic reality over the project’s life cycle, supporting efficient lending, pricing, and investment decisions. They contend that the discipline of estimating and regularly adjusting progress fosters accountability and reduces the incentive to mask performance behind deferred profits. Lending standards Investment decisions - Critics warn about the potential for aggressive estimates to inflate earnings early in a project. They argue for stronger conservative review of estimates, enhanced disclosures, and, in some cases, preference for simpler revenue recognition methods when feasible. The case for or against complexity often depends on the specific industry, contract structure, and the capabilities of a firm’s accounting systems. Conservatism (accounting) Disclosures - On the question of social or regulatory agendas, proponents of market-based approaches stress that financial reporting should prioritize verifiable economic activity and accountability, rather than extending external policy objectives into day-to-day accounting rules. Critics of expansive or politicized regulation may denounce what they view as overreach or misaligned incentives in financial reporting standards; supporters of high-quality disclosures respond that precise, timely information ultimately benefits the real economy by reducing information gaps. Regulatory policy Financial reporting reforms

Implementation considerations - Industry relevance: PoC is particularly common in construction, infrastructure, aerospace, and other project-based sectors where long-term commitments and evolving costs dominate. Construction Aerospace - Change management: adjustments to contract scope, unexpected cost overruns, or partial completions require careful reassessment of totals and progress, with clear documentation and governance. Change management - Auditor and regulator expectations: robust internal controls, independent verification of estimates, and transparent disclosures help mitigate concerns about earnings management and estimation risk. Auditing Disclosures

See also - Revenue recognition - GAAP - IFRS - Completed Contract Method - Cost-to-cost method - ASC 606 - FASB - IASB - Long-term contracts - Contract accounting - Earnings management

See also - FASB - ASC 606 - IFRS 15 - GAAP - IASB - Revenue recognition - Long-term contracts - Contract accounting