Page 228 - DCOM202_COST_ACCOUNTING_I

Cost Accounting – I

Notes contract, if it is expected that is future also contract is subject to losses, it is advisable to
make a provision for contingencies.
(xvii) Notional Profit: Notional profit is the difference between the value of work-in-progress
certified and the cost of work-in-progress certified. It is computed as follows:
Notional profit is the difference between cost of work certified and value of work certified.
The formula is as follows:
Notional Profit = Value of work certified – (Cost of works to date – Cost of work not yet
Certified)
Particulars Amount (`)
Value of certified work 10,00,000
Add : Cost of work not yet certified 1,00,000
11,00,000
Less : Cost of work to date 9,00,000
Notional Profit 2,00,000
If in any year, cost of work done exceeds the value of certified work and uncertified, the
result will be a notional loss.

(xviii) Profit on Incomplete Contract: Profit can be accurately calculated only when contract
is complete. If a contract extends two, three or more years, the contractor will have to
wait for calculation of profit till the contract is completed. This is not desirable; hence,
profit has to be calculated on the contract even if the contract is not completed. But profit
on incomplete contract should be calculated after providing adequate sums for meeting
unknown contingencies. For calculating profit on incomplete contract abundant caution
and conservative approach are required so as to cover risk and uncertainty during the
balance of period of execution of contract.
There are no hard and fast rules regarding the calculation of profit of incomplete contract.
However, profit should be taken only in respect of certified work and uncertified work
should be valued at cost. When profit is based on the basis of certified work, it is known as
‘profit earned’. Following rules may be followed for calculating profit to be taken to profit
and less account:

th
(a) If the work certified is less then ¼ of the contract, no profit should be transferred
to profit and loss account. It means that entire notional profit should be treated as
reserve for future contingencies.
(b) It the work certified is 1/4 of contract price or more but less then ½ of the contract
th
price, the profit transferred to profit and loss account should be 1/3rd of the notional
profit:
Profit = Notional profit × 1/3

If it is desired to transfer the realised profit to profit and loss account it will be
calculated as under:
Profit = 1/3 × National profit × (Cash received/Work certified)
(c) If the work certified is ½ or more than of the contract price, the profit transferred to
profit and loss account would be 2/3 of the notional profit:
rd
Profit = Notional profit × 2/3
rd
If it is desired to transfer the realised profit to profit and loss account, it will be
calculated as under:
Profit = 2/3 × National profit × (Cash received/Work certified)

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