Question

The Marathon Company uses the percentage-of-completion method to recognize profits on long-term contracts. At the end of the second year of the contract, a project was 70% complete, and an overall loss of $100,000 was expected. A $25,000 profit had been recognized in the first year of the contract. The loss to be recognized in the second year is:

A) $20,000
B) $30,000
C) $40,000
D) $50,000

Answer 1

The loss to be recognized in the second year by the Marathon Company using the percentage-of-completion method is $50,000. This is calculated by considering the expected overall loss, subtracting the profit from the first year, and adjusting for the percentage completion of the project.

Step-by-step explanation:

The Marathon Company is using the percentage-of-completion method to recognize profits. At the end of the first year, a profit of $25,000 was recognized, but by the end of the second year, an overall loss of $100,000 is expected on the project, which is 70% complete. To determine the loss to be recognized in the second year, we must account for the profit recognized in the previous year. Therefore, the total loss up to the second year is $100,000 (expected overall loss), out of which $25,000 (profit from the first year) must be subtracted, leaving us with a loss of $75,000 to be accounted for in the second year. However, since we are only 70% through the project, we take 70% of the $75,000, which amounts to $52,500. Since $25,000 of the profit was already recognized in the first year, the loss to be recognized in the second year is $52,500. This means the answer is option D) $50,000, which is the closest option to our calculation.