{"id":1105,"date":"2020-05-19T20:45:00","date_gmt":"2020-05-19T20:45:00","guid":{"rendered":"http:\/\/oscillationss.blogspot.com\/?p=1105"},"modified":"2020-05-19T20:45:00","modified_gmt":"2020-05-19T20:45:00","slug":"ind-as-115-whether-covid-lockdown-expenditures-at-project-sites-are-abnormal-costs","status":"publish","type":"post","link":"https:\/\/oscillations.in\/?p=1105","title":{"rendered":"IND AS 115: Whether Covid Lockdown expenditures at Project sites are abnormal costs?"},"content":{"rendered":"
\n<\/p>\n
\nCovid lockdown has inflicted a
\nvery severe damage on the businesses (may be short time impact for most of the businesses).
\nBut in some cases, the hit is like a double edged sword where they have lost
\nthe revenue but can\u2019t avoid the expenses. Project sites are one such casualty.
\nInfrastructure projects generally recognize revenues under percentage
\ncompletion method (Input method) as per the guidelines of IND AS 115. Here the
\nissue is whether the expenditure incurred by any company at a project site
\nduring the covid lockdown is abnormal expenditure without having any impact on
\ncontract performance and these are not reflected in the contract price. So
\nthese covid period costs should be charged off into the profit and loss account
\ndirectly and should not be considered as part of contract costs and to evaluate
\nthe percentage completion of the contract. This view has been stemmed from the
\nfollowing Para from IND AS 115:-<\/div>\n
\n<\/div>\n

<\/p>\n

\nPara 98: An entity shall
\nrecognise the following costs as expenses<\/u><\/b> when incurred:<\/i><\/div>\n
\n(b) costs of wasted materials,
\nlabour or other resources to fulfill the contract that were not reflected in
\nthe price of the contract;<\/i><\/div>\n
\n
<\/i><\/div>\n
\nFirst of all, wasted material and
\nlabour cover the cases like when we supply some wrong dimension steel to site
\nwhich is not used at all for the work and so this is wasted material and an abnormal
\ncost as this incurred cost of steel will not impact<\/u><\/b> the work
\nprogress neither there is any clause<\/u><\/b> for the reimbursement of the
\nsame in the contract. Same is the case for a transmission tower erected at
\nwrong location with material given by customer so the labour is wasted and the
\nentire tower will be required to be erected again. So we can see abnormal costs
\nare those whose incurrence does not have any impact on the future work progress
\nand contract price.<\/div>\n
\n<\/div>\n
\nBut can we say that the costs
\nincurred for minimum site running expenditures like labour retention costs, crane rent, electricity
\nbill, car hire charges are abnormal and have no bearing on the progress of the
\nwork like abnormal costs we have explained above. But this is not the case
\nbecause if the management had decided to cancel these contracts (clause in the
\ncontract?) to save these costs and then re-arrange these resources after the
\nend of lockdown but in that case they would have incurred much higher costs due
\nto demobilization and mobilization costs and labour would have been more difficult to rearrange and that
\nwould have impacted the work progress very badly after the lockdown. So we can
\nsee that these expenditures are incurred in order to save the contract
\nfrom over costs and delays<\/u><\/b> which can result into penalties (even after
\nconsidering lockdown period as force majeure). So this expenditure is not
\nabnormal as non-incurrence of this expenditure will hinder the objectives of
\nthe contract (costs and timely completion) and by this way it is different from
\nthe two cases we have mentioned above where non-incurrence of wrong steel and labour
\nwill not have any impact on future work progress. By incurring these costs,
\nthe contractor keeps the project site ready for functioning after the end of
\nthe lockdown and so these costs have do have a bearing on future work progress.<\/b><\/div>\n
\n
<\/b><\/div>\n
\nFurther, in many contracts there
\nis a clause for reimbursement of minimum expenses incurred during force majeure
\nperiod (over run charges, ORC). This lockdown is a force majeure event (due to an
\nact of Government). Hence we can see that if there is such clause of ORC
\npayment o to contractors during force majeure period then these expenditures
\nincurred during lockdown is taken care by contract revenue in the form of ORC
\npayment and one can say that these are not abnormal. But force majeure events
\nare not abnormal events in the sense that even though they are difficult to
\nforesee but still these can be taken care in the contracts by having adequate
\nclauses in the contracts. It is just like we take project insurance because
\nloss\/damage events are impossible to foresee and prevent so these are taken
\ncare in the form of insurance and insurance has a cost to the contract. And
\nwhen insurance is in the scope of the contractor then he builds the same into
\nhis bid price. Hence, if insurance is in the scope of contractor then even if
\nthere is no explicit price mentioned against insurance cost but it is treated
\nas if insurance cost is built into the contract price. Hence, when there is a
\ndamage or theft of a material the same is not considered as abnormal cost
\nbecause it is insured although in many cases firms do not get any insurance
\nclaim from the insurance company for the loss.<\/b><\/div>\n
\n
<\/b><\/div>\n
\nSame thing is true for force
\nmajeure costs also. Force majeure event can be in the form of flood also. In
\nthe areas prone to heavy rains there are always chances of heavy flooding
\n(force majeure). So if there is no ORC clause in the contract for taking care
\nof extra costs due to floods then the contractor will have no choice but to
\nbuild the same into the price. So it all depends upon the judgment and
\nassessment of the contractor in each case because the events like lock down are
\nonce in a century type of events and if contractor decides to build the
\nprobable costs in the contract price there is every chance for his bid to be
\nlost. So inclusion or non-inclusion of force majeure costs becomes a
\ncommercial or business decision and so this is not an abnormal event.<\/b> Like if management specifies a clause in
\nthe crane rental contract that they can cancel the contract any time then the
\nsame will result in higher cost because some people will not bid as they would
\nsettle for somewhat lower price for a fixed period contract elsewhere with some
\nother customer. So this firm may either get sub-standard crane or higher price
\ndue to less competition. In order to avoid this management may continue without
\nmentioning such a clause in the contract just to save the force majeure period costs
\nbecause this can become counterproductive. So as we can see not having a
\ncontract cancellation clause is a commercial and business decision. The
\nrisks of force majeure events are well known but not taking care of the same in
\nthe contract does not make them abnormal events instead these are business
\ndecisions only. <\/b><\/div>\n
\n
<\/b><\/div>\n
\nBut buying a large quantity of
\nwrong dimension steel or erecting a transmission tower at wrong location are
\nabnormal events because firms do not bid for contracts (building these mistakes
\nin the price) thinking that they will do these types of mistakes which are in
\nfact the essence and purpose of their business. Hence as we can see there is
\nthis fundamental difference between abnormal costs and business decision. So incurring
\nunavoidable costs to keep the project sites ready for functioning after the end
\nof the lockdown is not abnormal costs not having any impact on the future work progress
\nbut in fact these costs will ensure the timely completion of the contract along
\nwith avoiding heavy mobilization and demobilization costs and penalties due to
\ndelay in the contract completion.<\/div>\n
\n<\/div>\n
\n<\/div>\n
\nHence expenditures incurred
\nduring covid lockdown should be considered as part of total estimated cost to
\nfulfill the contract and be treated as incurred for the purpose of revenue
\nrecognition.<\/p>\n
\nFurther, due to increase in the
\ncost of labour and material due to lockdown a contract may become onerous. An
\nonerous contract is a contract in which the aggregate cost required to fulfill
\nthe contract obligations exceed the economic benefits expected to be received
\nfrom it. In such cases, the contract shall be accounted for as per IND AS 37
\nand a provision\/liability is to be provided in the books.<\/div>\n<\/div>\n

<\/p>\n

\n<\/div>\n
\n( Views are Personal)<\/div>\n

<\/div>\n","protected":false},"excerpt":{"rendered":"

Covid lockdown has inflicted a very severe damage on the businesses (may be short time impact for most of the businesses). But in some cases, the hit is like a double edged sword where they have lost the revenue but can\u2019t avoid the expenses. Project sites are one such casualty. Infrastructure projects generally recognize revenues under percentage completion method (Input method) as per the guidelines of IND AS 115. Here the issue is whether the expenditure incurred by any company at a project site during the covid lockdown is abnormal expenditure without having any impact on contract performance and these…<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[1],"tags":[],"class_list":["post-1105","post","type-post","status-publish","format-standard","hentry","category-blog"],"_links":{"self":[{"href":"https:\/\/oscillations.in\/index.php?rest_route=\/wp\/v2\/posts\/1105","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/oscillations.in\/index.php?rest_route=\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/oscillations.in\/index.php?rest_route=\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/oscillations.in\/index.php?rest_route=\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/oscillations.in\/index.php?rest_route=%2Fwp%2Fv2%2Fcomments&post=1105"}],"version-history":[{"count":0,"href":"https:\/\/oscillations.in\/index.php?rest_route=\/wp\/v2\/posts\/1105\/revisions"}],"wp:attachment":[{"href":"https:\/\/oscillations.in\/index.php?rest_route=%2Fwp%2Fv2%2Fmedia&parent=1105"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/oscillations.in\/index.php?rest_route=%2Fwp%2Fv2%2Fcategories&post=1105"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/oscillations.in\/index.php?rest_route=%2Fwp%2Fv2%2Ftags&post=1105"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}