What it means
When working on projects that span several months or years, such as building a skyscraper or developing custom software, waiting until the final delivery to record any revenue creates misleading financial statements. Without this method, a business might show massive losses one year and huge profits the next, even though it was steadily working all along.
This accounting approach matches revenues with the costs incurred during the exact same period, giving business owners, investors, and lenders a realistic view of financial health. In practice, companies measure progress using different metrics.
The most common approach compares the actual costs spent so far against the total estimated cost of the entire project. Alternatively, an independent engineer or project manager might review the physical work done to estimate a percentage of completion.
Once this percentage is calculated, the business applies it to the total expected contract revenue to determine how much money it has earned during that accounting period. This method is vital for cash flow management and accurate tax reporting.
It stops companies from paying too much tax in the early stages of a project or accidentally misleading stakeholders into thinking the business is more or less profitable than it actually is. However, it relies heavily on accurate estimations.
If initial cost forecasts are flawed, the reported profits will also be incorrect until adjustments are made.
In practice
Real-world examples.
Example
BuildCorp wins a 100,000 pound contract to build a bridge. By the end of year one, they have spent 40,000 pounds out of an estimated 80,000 pound total cost. They report 50 percent completion, recording 50,000 pounds of revenue.
Example
Apex Software agrees to create a custom inventory system for 50,000 pounds. After six months, the team completes two of four major milestones. Apex reports 50 percent completion, recognising 25,000 pounds in revenue for that period.
Example
GreenLeaf Landscaping signs a multi-year park renovation deal worth 200,000 pounds. At the end of the first year, an independent surveyor certifies that 30 percent of the physical landscaping is done, yielding 60,000 pounds in revenue.
Think of it
“Imagine baking a massive wedding cake that takes four weekends to complete. Instead of waiting until the final bite is eaten to declare the job done, you get paid for one quarter of the cake each weekend as you finish each distinct tier.
Formula
Calculation
Percentage Complete = (Costs Incurred to Date / Total Estimated Project Costs) * 100. Recognised Revenue = Percentage Complete * Total Contract Price. For example, if costs incurred are 30,000 pounds and total estimated costs are 60,000 pounds, the project is 50 percent complete. If the contract price is 100,000 pounds, recognised revenue is 50,000 pounds.Case study
Seen in the real world.
Meridian Engineering secured a contract to construct a regional water treatment plant for 2 million pounds. Company leaders estimated the project would cost 1.5 million pounds and take two years to finish. During the first year, Meridian spent 600,000 pounds on materials and labour. Using the percentage-of-completion method, Meridian divided the 600,000 pounds spent by the 1.5 million pound total estimated cost, revealing that the project was 40 percent complete. Meridian then multiplied the 2 million pound total contract value by 40 percent, allowing the firm to report 800,000 pounds in revenue and 200,000 pounds in gross profit for year one. This accurate reporting showed steady business performance, keeping bank lenders satisfied and helping managers budget effectively for year two.
Watch out
Common mistakes.
- Failing to update total estimated costs when market prices for materials or labour increase.
- Waiting too late in the project lifecycle to begin recognising revenue, skewing annual tax returns.
- Confusing cash received from the client with actual work completed and revenue earned.
Questions
People also ask.
When should a company use this method?
It is typically used for long-term construction, engineering, or custom manufacturing contracts where it is possible to reliably estimate progress and costs.
What happens if a project starts losing money?
Under accounting rules, the moment a project is projected to make a net loss, the entire estimated loss must be recorded immediately, regardless of the percentage complete.
Is this the same as cash accounting?
No. This method recognises revenue based on work progress, whereas cash accounting only records money when it actually enters or leaves your bank account.
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