Which method of accounting (CCM OR POC) has the greatest impact from capital interest, and why?

Which method of accounting (CCM OR POC) has the greatest impact from capital interest, and why?

• A. POC, because revenue is recognized over time.
• B. CCM, because costs are deferred and only recognized when contract is completed.
• C. CCM, because overhead is allocated evenly.
• D. POC, because profits are recognized on billings.

Answer: (B)

Capital interest is the borrowing cost tied to financing construction, and its effect depends on how long you defer recognition of costs and revenue for a long-term contract. Under the completed-contract method, all costs incurred during construction, including interest capitalized to the project, stay on the balance sheet and are not expensed until the contract is completed. When completion occurs, those accumulated costs flow into the income statement as the cost of the completed contract, creating a large, single impact on profits and asset values at that moment. Under the percentage-of-completion method, revenue and related costs are recognized as the work progresses, so the capitalized interest is spread over multiple periods and the earnings impact is smoother rather than concentrated at the end. Therefore, capital interest has the greatest impact under the completed-contract approach because costs are deferred and only recognized when the contract is finished. The other statements describe timing of revenue under POC or reference overhead or billings in ways that don’t explain the larger at-completion effect of capitalized interest.

Capital interest is the borrowing cost tied to financing construction, and its effect depends on how long you defer recognition of costs and revenue for a long-term contract. Under the completed-contract method, all costs incurred during construction, including interest capitalized to the project, stay on the balance sheet and are not expensed until the contract is completed. When completion occurs, those accumulated costs flow into the income statement as the cost of the completed contract, creating a large, single impact on profits and asset values at that moment. Under the percentage-of-completion method, revenue and related costs are recognized as the work progresses, so the capitalized interest is spread over multiple periods and the earnings impact is smoother rather than concentrated at the end. Therefore, capital interest has the greatest impact under the completed-contract approach because costs are deferred and only recognized when the contract is finished. The other statements describe timing of revenue under POC or reference overhead or billings in ways that don’t explain the larger at-completion effect of capitalized interest.