The APB's Contribution to Accounting for Revenue Recognition in Long-Term Contracts

Posted In | Finance | Accounting Software | Revenue Recognition

Accounting for long-term contracts has always been a challenging area in financial reporting. One of the critical aspects of long-term contracts is revenue recognition, which determines when and how much revenue should be recognized in the financial statements. The Accounting Principles Board (APB) has significantly contributed to the development of accounting standards for revenue recognition in long-term contracts. This article discusses the APB's role in shaping the accounting practices for long-term contracts and the impact of its guidance on financial reporting.
 

Accounting Principles Board (APB) and its role in accounting standard-setting

The APB was an authoritative group in the United States responsible for developing and issuing accounting standards from 1959 to 1973. It was a predecessor to the Financial Accounting Standards Board (FASB) and played a crucial role in shaping U.S. Generally Accepted Accounting Principles (GAAP). The APB was established by the American Institute of Certified Public Accountants (AICPA) and comprised experienced accounting professionals and academics.
 

APB's guidance on revenue recognition in long-term contracts

One of the significant contributions of the APB to accounting for long-term contracts is the issuance of Opinion No. 29, "Accounting for Nonmonetary Transactions," in 1973. This Opinion provided guidance on accounting for revenue recognition in long-term contracts, specifically addressing the percentage-of-completion and completed-contract methods.

The percentage-of-completion method recognizes revenue proportionately as the contract progresses, based on the estimated total contract costs and revenue. Under this method, revenue, costs, and gross profit are recognized in each accounting period based on the progress made towards contract completion. This method is considered more appropriate when the outcome of the contract can be reasonably estimated and is widely used in industries with long-term contracts, such as construction and engineering.

The completed-contract method recognizes revenue only when the contract is complete or substantially complete. Under this method, costs are accumulated during the contract period, and revenue, costs, and gross profit are recognized in the financial statements when the contract is completed. This method is suitable when the outcome of the contract cannot be reasonably estimated or when the contract duration is short.
 

Impact of APB's guidance on financial reporting

The guidance provided by the APB in Opinion No. 29 has significantly influenced the accounting practices for long-term contracts in the United States. The percentage-of-completion and completed-contract methods have become the primary methods for revenue recognition in long-term contracts under U.S. GAAP. This guidance has provided a consistent and systematic approach for companies to account for revenue in long-term contracts, ensuring comparability and reliability of financial information.

Moreover, the APB's Opinion has also influenced the development of international accounting standards. The International Accounting Standards Board (IASB) has adopted similar revenue recognition principles for long-term contracts in International Financial Reporting Standards (IFRS). IAS 11, "Construction Contracts," which was in effect until 2017, prescribed the use of the percentage-of-completion method for accounting for long-term contracts. The current standard, IFRS 15, "Revenue from Contracts with Customers," also incorporates the core principles of the percentage-of-completion method for recognizing revenue in long-term contracts.

 

The APB played a crucial role in establishing the foundation for accounting for revenue recognition in long-term contracts. Its guidance on the percentage-of-completion and completed-contract methods has shaped the accounting practices for long-term contracts in the United States and globally. The APB's contribution to this area of financial reporting has ensured consistency, comparability, and reliability of financial information for users of financial statements, facilitating informed decision-making by investors, creditors, and other stakeholders.