Chapter 6 Project Accounting

Question 1

What are the most important two documents in a company’s performance

Answer 1

1) The income statement
2) The balance sheet

Question 2

True or false: No one financial statement provides sufficient information by itself and no
one item or part of each statement can summarize the information

Answer 2

True

Question 3

What does the income statement show? For what time duration?

Answer 3

Company’s income, production costs, and other expenses for a period of time in every fiscal year

Question 4

What do assets, liabilities and equity mean? What is the relationship between them?

Answer 4

1) Assets - what the company owns
2) Liabilities - what it owes
3) Equity - the value of the business to its owners

Assets = Liabilities + Equity

Question 5

What type of assets construction company usually has?

Answer 5

1) Money (cash)
2) Receivables
3) Equipment and plant
4) Property
5) Materials used to construct projects

Question 6

What are current assets?

Answer 6

Current assets are those assets that turn themselves into cash within one
year.
1) Cash
2) Cash equivalents
3) Accounts receivable
4) Inventory
▪ Other assets are called long-term assets

Question 7

Give a few examples of liabilities.

Answer 7

Bank loans, Debts to suppliers, Debts to employees (payroll), Debts to subcontractors , Taxes

Question 8

True or false: Current liabilities are those obligations that are paid within the month

Answer 8

False, within a year.

Question 9

What if the formula of the current ratio? What is the minimum recommended ratio for a construction company?

Answer 9

Current ratio = Current assets / Current liabilities
A construction company should have a ratio of above 1.3

Question 10

What is a quick ratio? Formula?

Answer 10

Measures short-term liquidity of the company
Quick ratio = (Cash + Receivables)/Current liabilities
* We look for a ratio above 1.1

Question 11

What is the Debt to worth ratio?

Answer 11

Debt to worth = Total liabilities / Total shareholder’s equity

Measures firm’s leverage
Lower ratio = higher margin of protection to creditors
Properly leveraged contractors have ratio = 2:1 (Ratio < 2)

Question 12

What is the receivables to payables ratio?

Answer 12

Receivables to payables = Receivables / Payables
* Suggested range depends on construction activity type

Receivables to payables (commercial) = 1.5
Receivables to payables (trade/ heavy) = 2.0
Receivables to payables (labour-intensive trade) = 3.0

Question 13

How to analyze net worth? Working capital?

Answer 13

Net Worth = Total assets - Total current liabilities & non-current liabilities
Working capital = Total current assets - total current liabilities

Question 14

Explain the Cash method of revenue recognition

Answer 14

Revenue - Recorded when payment is received
Costs - Actual costs paid to date

Question 15

Explain the Straight accrual method of revenue recognition

Answer 15

Revenue as what was billed to date
Costs as what was incurred to date (even if not yet paid)

Question 16

When the completed-contract method of revenue recognition is used

Answer 16

Used only after contract completion (Should almost never be used )

Question 17

Explain the percentage-of-completion method of revenue recognition

Answer 17

Step 1:
% Completion = Cost incurred to date / (Cost incurred to date + forecasted cost to complete)
Step 2:
Revenue to date = % completion * contract amount
Step 3:
Gross profit = Revenue to date – Cost incurred to date

Question 18

True or false: Significant underbillings always indicate problems

Answer 18

True