Abnormal, wasted and rework costs excluded from the measure of progress and contract cost base · IFRS 15

In plain words

Sometimes a contractor must redo work because of its own mistakes, such as a badly poured concrete slab. The question is whether rework costs count toward progress on the contract. Abnormal waste and rework not reflected in the contract price are excluded from the cost-to-cost progress measure and expensed immediately. Planned wastage already built into the estimate stays in. This avoids inflating revenue and makes the overrun visible.

Why it matters

Including abnormal rework, waste and inefficiency costs in the cost-to-cost progress calculation both overstates progress (since these costs do not represent transfer of control to the customer) and masks the underlying performance problem from management, because the cost overrun gets buried inside a seemingly on-track percentage-complete figure instead of flowing through as an immediate charge that signals a genuine execution issue.

Diagnostic questions

Was the cost incurred due to your entity's own inefficiency, error, or defective work, rather than a customer-caused variation or normal spoilage already priced into the contract and cost estimate? Was the abnormal cost anticipated in the original bill of quantities or planned wastage allowance, or does it exceed that planned tolerance? Would including this rework or waste cost in the cost-to-cost progress calculation overstate the percentage of work actually transferred to the customer? Is there a process to flag and exclude such abnormal costs from both the numerator and denominator of the progress measure each period?

Recognition

Identify costs incurred due to the entity's own significant inefficiencies that were not reflected in the price of the contract, wasted materials, labor, or other resources, and costs of rework due to defective design, engineering or construction errors.
Distinguish these abnormal costs from normal contingency or planned wastage already built into the original cost estimate and contract price (which properly remain part of the progress calculation).
Exclude identified abnormal costs from both the numerator and denominator of the cost-to-cost measure of progress, since they do not depict transfer of control of the contracted goods or services.
Expense abnormal costs immediately in the period incurred rather than spreading them through the progress measure.
Track rework and abnormal costs through a separate cost code from inception so they can be reliably identified, monitored by management, and consistently excluded each period.

Measurement

Distinguish abnormal costs from normal contingency or planned wastage by comparing actual costs to the original estimating basis (bill of quantities, planned wastage allowances, engineering tolerances); a cost that exceeds the planned allowance due to an identifiable inefficiency (defective work, rework, avoidable delay) is abnormal, while a cost within the planned allowance is not. Measure the abnormal cost at its actual amount incurred, expensed in full in the period, separate from the cost-to-cost progress base.

Presentation & disclosure

Disclose: (1) the accounting policy for identifying and excluding abnormal, wasted and rework costs from the progress measure; (2) the amount of such costs expensed in the period, if material, as a component of cost of sales; (3) the nature of significant rework or inefficiency events if they materially affected reported margin; (4) the basis for distinguishing abnormal costs from planned contingency.

Common mistakes

Including all rework and wasted-material costs within the cost-to-cost progress base as if they were normal contract costs, inflating percentage complete and deferring recognition of an execution problem
failing to distinguish planned contingency (properly part of the cost base) from abnormal, unplanned inefficiency (properly excluded and expensed immediately)
not tracking rework through a distinct cost code, making it operationally impossible to reliably identify and exclude such costs each period
smoothing abnormal costs across future periods instead of expensing them immediately when incurred.

Simple example

A contractor's total costs incurred to date are SAR 22,000,000 against a total estimated cost of SAR 40,000,000, giving an unadjusted 55% complete. Of the SAR 22,000,000, SAR 2,000,000 relates to rework of a defectively poured concrete slab caused by the contractor's own quality-control failure, which is an abnormal cost not reflected in the original contract price. Excluding the abnormal cost, adjusted costs incurred = SAR 20,000,000; total estimated cost is also reduced by the same abnormal amount for consistency (since it was never part of the planned cost base) to SAR 38,000,000. Adjusted percentage complete = 20,000,000 / 38,000,000 = 52.63% (unrounded 52.6316%). On a SAR 55,000,000 contract, adjusted revenue = 55,000,000 x 20,000,000 / 38,000,000 = SAR 28,947,368.
Journal entry:
Dr Abnormal rework cost (P&L, expensed immediately, not part of progress base) 2,000,000
Dr Cost of construction (progress-eligible) 20,000,000
Cr Cash / accounts payable 22,000,000

Dr Contract asset 28,947,368
Cr Revenue from construction contracts 28,947,368

Professional judgment

The line between normal planned contingency (part of the cost base) and abnormal inefficiency (excluded and expensed immediately) requires judgment about what the original cost estimate genuinely contemplated, a robust original estimating basis with explicit wastage and contingency allowances makes this distinction far more objective than a vague, blended contingency figure. Attributing rework cost specifically to the contractor's own inefficiency (excluded) versus a cause outside its control such as a design change or third-party damage (which may instead be a recoverable variation or claim, not an abnormal cost) requires a genuine root-cause investigation, not an assumption based on where the cost happened to occur.

Source basis

IFRS 15 · Revenue from Contracts with Customers

Paragraph references

IFRS 15.98IFRS 15.39–41

Verified against the official standard texts used in the IFRS Expert skill.

IFRS 15 Revenue from Contracts with Customers

Issued: 28 May 2014 · Effective: 1 January 2018

Related issues

Educational and navigation content only. Not professional advice. Does not reproduce official IFRS/IAS text. Consult the authoritative standards and qualified professionals; professional judgment may still be required.