Advanced project accounting: Revenue recognition and work-in-progress

With over two decades of experience working with professional service organisations, our 4-level project management maturity model focuses on specific processes and key performance indicators (KPIs) to help you efficiently manage all projects and improve your project accounting game.

Today, we dive into the advanced level of project financial management:

The guardian level: Reducing the risk

The goal for the guardian level: Monitor project profitability 

You can accurately monitor income, costs, and profitability by implementing processes for revenue recognition and work-in-progress and become a pro at project accounting.

Let's dive in!

1. Revenue recognition

Revenue recognition is essential to measure the financial results of your projects correctly.

The goal is to record income when it is actually earned, ensuring financial reports accurately reflect the company's actual performance. This helps give stakeholders a precise and reliable picture of the company's financial health.

What is revenue recognition? 

The process of revenue recognition

The process of revenue recognition is crucial for accurately measuring the financial performance of projects. It involves thoroughly assessing how much revenue the project has generated based on the total contract amount agreed upon with the client.

To kickstart this process, the project manager needs to review the work completed so far, considering the contributions of various team members. Examining the recorded revenue can establish a baseline for revenue recognition for the current month.

A robust revenue-securing process ensures the project team can confidently identify and acknowledge their revenue. This leads to improved accuracy in financial reporting and provides valuable insights into the actual value of the work being done.

Click to see key points in revenue recognition

Key points of revenue recognition:

Accrual Basis: Revenue is recognised when earned, not necessarily when cash is received.

Methods:

• Budget completion percentage: Revenue is recognised based on the project's progress.
• Completed contract: Revenue is recognised only when the project is fully completed.

Performance obligations: Revenue is recognised when specific project deliverables or milestones are achieved.

Contract terms: Understanding the project's contract to determine revenue recognition, including payment schedules and milestones.

Cost management: Accurate tracking of project costs to determine revenue recognition.

Accounting standards: Compliance with standards like IFRS 15 or ASC 606.

2. Work-in-progress

Once you’ve established the foundation of quality, real-time data and budgeting, you can start optimising your work-in-progress (WIP).

This means you track and manage unfinished tasks that are in progress but not yet completed.

This process involves monitoring the status of ongoing work, assessing completion percentage, and capturing the associated costs and revenues.

Handling WIP aims to accurately value and report the costs and progress of ongoing projects. This ensures that financial statements reflect the current status of projects, providing a clear and reliable picture of the company's financial position and project performance.

Click to see how you handle WIP in TimeLog PSA

How to handle work-in-progress in TimeLog PSA

1. Set up projects and tasks

• Create projects: Start by creating a new project in TimeLog PSA.
• Define tasks: Break down the project into tasks and milestones. Assign clear objectives and deliverables for each task. Add project members to your project.

2. Start tracking time

• Start tracking time: Log time on each task. Include comments, start and end times, and additional notes.

3. Review and approve time entries

• Review work hours: Establish the process of reviewing and approving time entries regularly.

3. Monitor work-in-progress

• WIP reports: Generate WIP reports to monitor the hours logged, the percentage of completion, and the costs incurred.
• Analyse data: Use the reports to analyse the data and compare actual hours worked against the estimated hours.

4. Billing and Invoicing

• Draft invoices: Create draft invoices based on the approved time entries and WIP reports; in TimeLog PSA, this is done with only a few clicks with our One Click Invoicing (OCI) process
• Adjustments: Make necessary adjustments before finalising the invoices to reflect the completed work accurately. The project manager can set up and draft invoices and the bookkeeper can send and finalise them.

5. Communicate with stakeholders

• Regular updates: Share progress updates and WIP reports with stakeholders to inform them about the project status.
• Feedback loop: Implement a feedback loop to address any concerns or adjustments needed based on the progress reported.

Also read: Stakeholder analysis for project managers

Essential project accounting KPIs to monitor income and project profitability 

• Earned value (EV) 
• Early write-downs
• Current cost price

Earned value (EV)

Now that you have precise revenue recognition, you can report how much revenue you’re earning in real time.

For example, if the actual percentage complete is 25% and the task budget is $10,000, EV = 25% x $10,000 = $2,500.

As a project manager, the earned value (EV) KPI lets you assess cost performance and helps identify if the project is on track financially and budget-wise. The KPI is also known as the ‘Budgeted cost of work performed (BCWP)’.

You can also use the KPI to forecast project outcomes.

Also read: Project management in Excel - is it enough?

Early write-downs

When you have a structure for the revenue recognition process, you can proactively identify, address, and mitigate adverse impacts on a project outcome. And this is precisely what the KPI ‘early write-downs‘ is about.

There isn’t a specific formula for early write-downs. It includes these components:

• Write-down amount: The monetary value of the write-down.
• Original value: The initial value of the asset/investment before the write-down.
• Time: The period over which the write-down occurs.

Actions can include booking less revenue than initially expected. Even though earning less revenue is risky for the financial outcome and profit, early write-downs help you avoid being blindsided and having to write down at the end of the project because the budget was inaccurate and you didn't track or review the numbers regularly.

Note: It is best practice to keep your bookings as accurate as possible. Rather than changing your contract or hourly rate, accept the write-down instead. That way, you retain traceability and the project history, and you can learn from the project's progression when doing quotes in the future.

You can easily see what has been estimated, recognised as income, and written down in TimeLog PSA for your project.

Also read: Introduction to Project Financial Management

Current cost price

The current hourly rate shows how much you spend on labour in real-time, helping you effectively manage and reduce project costs.

It differs from the average cost price by focusing on the present moment and is specific to a particular period. In contrast, the average hourly rate provides an overall perspective over a more extended time.

Also read: The project triangle: How to balance time, budget and scope 

Every offer is based on reliable time estimates, and we’re constantly improving our estimation skills based on our experience with TimeLog. The project factor is our guiding light, and we’re continually mindful of not ‘getting too red'."

Anna Porse Nielsen

CEO, Seismonaut A/S

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