intermediate financial accounting project

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Adoption of Ind AS 115 by Prestige Projects: Smooth or Serendipitous?1 Sunder was unsure if the April 11, 2018 meeting of the audit committee of Prestige Projects Limited (hereafter, Prestige, or the Company) went well. The main agenda item for the meeting was to finalize the appointment of new external auditors. Although its current auditors Omega and Company (hereafter, Omega) had served Prestige well for the past ten years, auditor rotation became necessary per a new rule of the Companies Act, 2013. Section 139(2) of the Act required all public and designated private companies in India to change their audit firms after two consecutive terms of five years each. Prestige started the process to replace Omega with the formation of a task force consisting of Sunder, the CFO of Prestige, Manoj, the controller, and Jayant, the head of its internal audit. The task force met several times to develop a robust and fair process for selecting the new auditors. It did not consider Gamma and Company since the firm was already doing the internal audit work for Prestige. The choice thus boiled down to the remaining two of the Big 4 accounting firms, Sigma and Company (hereafter, Sigma), and Epsilon and Company (hereafter, Epsilon), both of whom submitted competitive proposals. The task force reviewed the proposals of Sigma and Epsilon, their partner team, industry expertise, audit approach and technological sophistication. It recommended to the audit committee that Sigma be appointed as the external auditors for an initial five-year term. In the meeting of April 11, 2018, a Sigma partner made a presentation and answered questions from the committee. At the conclusion of the meeting, the committee endorsed the recommendation of the task force and forwarded it to Prestige’s board of directors for its approval. After the Board meeting, the following conversation ensued between Balakrishnan (chair, audit committee) and Sunder (CFO): Sunder: I am a bit concerned about a comment the Sigma partner made to me. He

suggested that down the line, Prestige might need to consider a change in the revenue recognition policy.

Balakrishnan: Anything wrong with our existing policy? Or, does Sigma know something that

we don’t? I am concerned that a change in our revenue recognition policy may have a significant effect on our income.

1 This case is developed by Professors Samir K. Barua and Mahendra R. Gujarathi for the purpose of class discussion. It is based on a real-world situation. The names of the auditing firms, company and characters in the case are disguised as are the company’s financial statement numbers. Please do not quote without authors’ permission.

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Sunder: Nothing wrong with our existing revenue recognition policy. We recognize

revenues using the percentage of completion method, determined on the basis of contract milestones achieved during the year for which clients are billed. If anything, our policy is more conservative than our industry peers. As for the effect on income, we will know only when we run the numbers.

Balakrishnan: Our previous auditors [Omega] were OK with our existing policy, weren’t they? Sunder: Yes. They were comfortable with our revenue recognition policy and our use of

the CTC [Costs-to-completion] method for recording contract execution expenses. In their opinion, both complied with the accounting standard for Construction Contracts, Ind AS 11.2

Balakrishnan: If I remember correctly, Ind AS 11 does not use the term CTC, right? Sunder: Right. Ind AS 11 does not mention CTC, but our income does get affected by CTC.

Let me explain how we calculate CTC. It consists of (a) cumulative costs incurred on a project, and (b) estimated future costs to complete the project. By subtracting CTC from the total contract price, we compute the CTC margin [absolute amount] and CTC margin percentage [CTC margin as a percentage of total contract price] for each contract at the end of an accounting period.

Balakrishnan: Please remind me how CTC impacts income. Is it because CTC determines the

contract execution expenses in our income statement? Sunder: Yeah, CTC determines our contract execution expenses. Let me explain. We first

calculate the cumulative “costs deemed to be incurred” (i.e., deemed costs), using the CTC margin percentage. For example, if the cumulative billings on a

2 Ind AS stands for Indian Accounting Standards that are converged with the International Financial Reporting Standards (IFRS). Prestige adopted Ind AS 11 from the required date of April 1, 2016. Ind AS 11 is almost identical to International Accounting Standards (IAS) #11 (Construction contracts). A copy of the Ind AS 11 can be accessed at: http://www.mca21.gov.in/Ministry/pdf/20IndAS11_2016.pdf. Recently, the IASB and FASB jointly released a new standard on revenue recognition, IFRS 15, and ASU 2014-9, respectively. At that time, the IASB withdrew IAS 11 and replaced it by IFRS 15, the generic revenue recognition standard. IFRS 15 (International standard), ASU 2014-09 (U.S. standard) and Ind AS 11 (Indian standard) are nearly identical.

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project are ₹280, and the CTC margin is 10% (i.e., ₹28), the cumulative costs deemed to be incurred would be ₹252 (₹280 - ₹28).3

Balakrishnan: I get it. And for the current year, the contract execution expenses would simply

be the difference between the cumulative deemed costs and the contract execution expenses recognized, if any, in the prior years, right?

Sunder: Absolutely. Balakrishnan: But the actual costs can be different from the deemed costs. How is the

difference treated for financial reporting?

Sunder: Actual costs and deemed costs are rarely the same. If the actual costs are higher than the deemed costs, we debit contracts-in-progress for the excess of actual costs over the deemed costs, and include the excess in inventory. For instance, if the actual costs in the example I just mentioned were ₹270, we record contracts- in-progress of ₹18 (₹270 - ₹252) and include them as inventory. If the actual costs are lower than the deemed costs, we record a provision for contractual expenses for the excess of deemed costs over the actual costs. As an example, if the actual costs incurred were ₹250, we record a provision for contractual expenses of ₹2 (₹252 - ₹250).4

Balakrishnan: I don’t see any problem with this. What I don’t understand is how the same

policy is acceptable to one auditing firm but not to the other? And they both are members of the Big 4! I suggest that we schedule a meeting of the audit committee with Sigma.

The next day, Sunder called Sigma’s engagement partner on Prestige. He asked about the partner’s reservation about Prestige’s revenue recognition policy. Sunder learned that the reservation came from the firm’s subject matter expert, a senior partner at Sigma’s headquarters. During the client acceptance protocol at the firm, the senior partner had familiarized himself with the Company and its business (Exhibit 1). He had also reviewed Prestige’s most recent annual report (2017-18), and examined its financial statements (Exhibit 2) and select footnotes (Exhibit

3 ₹ is Indian currency. The average exchange rate in 2018 was $1 = ₹70. 4 If a project is likely to result in a loss, the entire loss would be recognized cumulatively at the end of the year. A part of that loss would be the estimated future loss which will be debited, with an equivalent credit to the provision for future losses.

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3).5 Sunder and the engagement partner agreed that a meeting with the audit committee would be scheduled next week and it will be the senior partner of Sigma (firm’s subject matter expert) who would attend the meeting to answer questions from the committee. The following conversation took place in the audit committee meeting: Sunder: Thank you everyone for agreeing to meet at such short notice. Mr. Chair, would

you like to begin? Balakrishnan: Sure. Am I understanding it correctly that Sigma disagrees with our existing

method of revenue recognition. Are you concerned that it is output based? Sigma Partner: Not exactly. When the outcome of a contract can be estimated reliably, Ind AS 11

requires the use of percentage of completion (POC) for revenue recognition. The POC can be measured either using the output method or the input method. Prestige currently records revenues when clients are billed upon completion of milestones specified in the contract. It is a variant of the output method. While this method does not violate the provisions of Ind AS 11, it ignores the work completed between two milestones. It is thus a conservative assessment of revenue for a period.

Sunder: But isn’t being conservative good? Sigma Partner: I am not sure. In its quest to be conservative, Prestige’s financial statements

might fail to portray a true and fair picture of its financial position and performance. The work done between the milestones usually converts into billings and cash collection. Therefore, it should be recognized as revenue.

Balakrishnan: Do you have any other reservations about our accounting policy? Sigma Partner: We have some concerns about what Prestige includes in its inventory. Contracts-

in-Progress [CIP], for instance. We don’t think it qualifies for inclusion in ‘inventory’. Non-conformance with the industry practice is also an issue Prestige needs to address. We have several clients in the construction industry and almost every one records actual costs, not deemed costs, as contract execution expenses.

5 Prestige’s fiscal year starts on April 1, and ends on March 31 of the following year. Thus, its fiscal year 2017-18 began on April 1, 2017 and ended on March 31, 2018.

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Sunder: What’s wrong with being different? As a private company, we don’t face as many pressures from the market, and we can afford to be conservative.

Sigma Partner: That is OK, but your accounting is not easy to understand. Just because Prestige

has incurred more costs than it should have (i.e., its actual costs exceed the deemed costs), the excess doesn’t become ‘inventory’. Similarly, when the actual costs of a project are lower than the deemed costs, Prestige debits contract execution expenses and credits provision for contractual expenses. Auditing these cost provisions could be tricky. I do not see the future cost incurrence being contractual. Contract costs keep changing and without the supporting documentation, the provisions will be difficult to audit.

Sunder: So, what would be an alternative? Sigma Partner: Prestige could record a reduction in revenues, instead of an increase in expenses.

Revenues in the construction industry are oftentimes uncertain due to a variety of factors, including contract modifications and approval thereof by the clients. Either way, the effect on the bottom line would be the same.

Sunder: But wait a minute. It will hit our top line, wouldn’t it? That will be a difficult

proposition for me to sell to my boss [Prestige’s CEO] and to our business unit heads.

Sigma Partner: I hear you, but recording expenses and a related provision would not constitute

sound accounting, and neither would including in inventory the excess of actual costs over the deemed costs.

Balakrishnan: But our previous auditors - Omega - had no issues with our approach. Sigma Partner: That is surprising. What did they have to say? Sunder: They agreed that we incur costs specific to a project and in almost all cases those

costs are recoverable from the clients. Our history of cash collections supports this assertion. As such, these costs are no different from the Work-in-Progress in a manufacturing context. Omega was fine with our reporting them as inventory on the balance sheet.

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Sigma Partner: I understand what you are saying. But the position of our firm on this issue is different. Contracts-in-progress, as determined by Prestige, includes the value of work done, but not billed. It cannot be considered inventory.

Sunder: OK, if not Contracts-in-progress inventory, what should we record it as? Sigma Partner: Other current assets, maybe. Sunder: But recording them as other current assets would put our working capital

finances in jeopardy. Most banks provide working capital financing only against ‘qualified’ current assets such as inventory and debtors [trade receivables]. Also, won’t we need to adjust our books to effect the change?

Sigma Partner: Yes, per the existing accounting standards, the change will require a retrospective

application. Sunder: I will ask Swati, the head of our corporate finance team [Head, CF] regarding our

loan agreements and the potential effect of this change on our bank borrowing. But do you realize how much work it would be for my team to restate prior years’ financials?

Sigma Partner: I understand. But at Sigma, we insist on our clients’ accounting being sound and

their financial statements being representationally faithful. In the current environment, we don’t want to be on the wrong side of an accounting issue. But wait a minute … I have another thought.

Sunder: What is it? ANYTHING else you suggest has to be better than the verdict you

seem to be issuing so far. Sigma Partner: As you perhaps know, India has recently adopted a new revenue recognition

standard [Ind AS 115].6 Maybe you can change your accounting policy from that date. It will allow you to make a one-time adjustment in your books by choosing

6 A copy of the Ind AS 115 is available at: http://mca.gov.in/Ministry/pdf/INDAS115.pdf . It is almost identical to the new revenue recognition standard jointly issued by IASB (IFRS 15) and FASB (Accounting Standards Update 2014-09).

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‘modified retrospective’ application rather than full retrospective application.7 And I would strongly recommend you to move to the cost (input-based) method to determine the percentage of completion. That would also be in line with the industry.

Balakrishnan: Thank you for your inputs and insights. I think we are clear about the choices we

have. We will take a call after further reflection. Sunder’s restlessness continued throughout the day. Late in the evening, he reached home, still not convinced of the Sigma’s position on the issue. He worried about its implications and decided to bring the matter to the attention of Prestige’s audit committee in its next meeting. To prepare for that discussion, he called Prestige’s Controller Manoj (Controller), and the Company’s Head of Corporate Finance, Swati (Head, Corporate Finance) to his office. He debriefed them about the suggestions of the Sigma partner. Below are the excerpts from that meeting: Sunder: Guys, what do you think? Feel free to disagree but I think Sigma does not

understand the disaster this is going to spell for Prestige. Swati, am I right that this will put our bank financing in jeopardy?

Head, CF: Absolutely. For working capital, most of the lead bankers on our projects have a

policy of lending only against (a) inventory not financed by creditors [i.e., inventory minus creditors] and (b) debtors [trade receivables]. The banks loan funds against these two assets after subtracting the specified margins, 25% for inventories and 20% for debtors, for example. If the amount due to creditors (i.e. inventory financed by creditors) exceeds the amount of inventory, it results in a reduction of drawing power otherwise available [i.e., from other sources] to us from the banks.

Sunder: What about unbilled revenues and other current assets on our balance sheet? Head, CF: So far, they have been reluctant but I must admit that lately, they have been

providing some funding against these two assets, albeit very limited.

7 ASU 2014-09 does not use the terms ‘modified retrospective’ and ‘full retrospective’ but allows both these treatments, i.e. a company can record the transition effect (a) retrospectively with the cumulative effect recognized at the date of initial application, or (b) retrospectively to each prior reporting period presented.

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Sunder: Manoj, accounting-wise, should we do what Sigma is suggesting? And how much time will it take? I don’t want to skimp on the help our operations people need from us, just to take care of the compliance issues.

Controller: Retrospective applications are always headaches and huge time-sinks. Thankfully,

Sigma has suggested a way out for us. We can transition to Ind AS 115, and start measuring the percentage of completion by the costs incurred. Our policy would be consistent with our competitors. With conformance to the industry practice, I won’t have to explain every time why we are different.

Sunder: Adoption of Ind AS 115 is mandatory for us from April 1, 2018. Manoj, how would

the accounting mechanics work with what you are suggesting? Controller: The accounting would be simple. We will compute POC by dividing the

cumulative costs incurred on a project by the total of (a) costs incurred to date and (b) future estimated costs. If POC at the end of the year is 30%, cumulatively we will recognize 30% each of revenues, expenses and profits. Subtracting their respective amounts recognized in the prior periods, we can derive the amounts for the current year. Of course, if a project is likely to result in a loss, the entire loss would be recognized cumulatively at the end of the year. A part of that loss would be the estimated future loss which will be debited, with a corresponding credit to provision for future losses.

Sunder: Wait a minute … now our revenues for the period might not match our billings,

right? Controller: Yes. If our billings are higher than the revenue recognized, we will record

‘advance billings’ for the difference. On the contrary, if our billings are lower than the revenue recognized, we will record ‘unbilled revenues’ on our books. That would be pretty straightforward.

Head, CF: Straightforward alright, but are my bankers going to loan me additional money

against unbilled revenues? Heck, no! The banks go strictly by the lending agreements, which define the financial statement terms very rigidly. We could be losing financing of several hundred crores if this happens.8 And raising that much

8 1 crore = 10 million.

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money from alternative sources could be expensive, especially in the current market conditions.

Sunder: Swati, I understand your being upset. Let us hear other arguments Manoj might

have for making the change. Manoj? Controller: Sir, first and foremost, our new auditors will be off our back. Secondly, it is a

simpler method. No wonder most companies in our industry follow it. We should also change our method of computing POC. Using the inputs-based [cost-based] method will better reflect our efforts and accomplishments. And, if our POCs turn out to be higher, we don’t have to wait to get our bonuses until the clients are billed and revenues are recorded.

Head, CF: That raises an alarm for me. I don’t want our operations people to lose sight of

billings and collections. That can happen under the new method. Sunder: You’re right. I also wonder whether this will incentivize our operations people to

deploy materials to the project sites ahead of the times required. But we can address such issues by strengthening our systems of internal controls and performance evaluation. Manoj, can you calculate the effect of transition to Ind AS 115 and using the new basis of computing POC? Do we need any information that we currently don’t have in our system?

Controller: We have the needed information, I am sure. But it might be too much to digest if

I collate the data for each of our 100+ contracts currently in the works. Sunder: I understand. Maybe you should include the contracts where the differences

between the existing policy and the proposed policy will likely be large. Controller: I can do that, Sir. Sunder: And, more than the journal entry to record the effects of transition, please

provide us information on the major income statement items [revenues, expenses and profits under the existing and the proposed policy], as well as the balance sheet items. The balance sheet items will include contracts-in-progress and provisions under the existing policy, and unbilled revenues and advance billings under the new policy. And Swati, can you please talk to our lead bankers one more time to explore whether they can lend us against unbilled revenues?

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Head (CF): I will be happy to do that but frankly, I am not very hopeful. I don’t see why they

would be willing to go against the CMA [Credit Monitoring Arrangement] norms.9 Sunder: Give it a shot. We have nothing to lose. Try to convince them that it is largely a

change in the labels, which should not affect their funding. For the AA-rated company that we are, I think they will make some concessions.

Head (CF): Sure sir, I will follow up with two of our lead bankers next week and get back to

you. Sunder: That would be good. Thank you both. Let us meet in the later part of next week

to bring to conclusion the issues we discussed today. I am sure that audit committee chair [Balakrishnan] would like to be informed about the financial statement effects of adopting Ind AS 115. He also would like to know possible avenues to bridge the funding gap that may arise if our bankers refuse to oblige.

Later Developments Swati, Head of Corporate Finance, had conversations with two of Prestige’s bankers both of whom confirmed that they would continue with the existing policy of lending against inventory and debtors (trade receivables). However, they do not consider unbilled revenues as a ‘qualified’ asset for lending purposes and therefore were reluctant to loan funds against ‘unbilled revenues’ or ‘other current assets’. Nevertheless, she was told that in recognition of Prestige’s high credit rating (AA) and excellent repayment history, the bankers will continue to lend a limited amount against unbilled revenues. A ceiling of 10% of the total current assets minus inventories and debtors (trade receivables) will be put to lend against unbilled revenues. In other words, if the unbilled revenues are ₹200, total current assets are ₹650, inventories are ₹100, and debtors are ₹50, the qualifying current assets would be ₹500 (₹650 – ₹100 – ₹50). The ceiling for funding against unbilled revenues would be 10% of ₹500, i.e., ₹50. Furthermore, the banks will apply a higher margin (30%) and loan only ₹35 to Prestige (₹50 X (1 – 30%)) against unbilled revenues. The lending norms and margins for funding inventory and debtors (trade receivables) would continue as before.

9 Credit Monitoring Arrangement is the data required to be provided by a company to its bank for getting a loan and

for renewing or enhancing the existing loan. It is monitored by the Reserve Bank of India.

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Manoj, Prestige’s Controller, shared the data on major projects for the purpose of ascertaining the transition effect of Ind AS 115 (Exhibit 4). He classified Prestige’s projects into three groups: Category A (profitable contracts where Prestige has recorded provision for contractual expenses), Category B (profitable contracts where Prestige has recorded contracts-in-progress inventory), and Category C (onerous contracts, where Prestige would likely make a loss and has recorded a provision for future losses).

Requirements

Please note that Ind AS 115, IFRS 15, and ASU 2014-09 are nearly identical accounting standards on revenue recognition. Unless specifically identified in a requirement, you can cite authoritative pronouncement from any one of these sources that you prefer.

1. (a) If Prestige was a public company headquartered in the U.S., would its revenue

recognition policy (described in Exhibit 3) comply with the U.S. GAAP? Assume that the work in process (work completed between the milestones) is controlled by Prestige’s clients. Cite applicable authoritative pronouncement/s.

(b) To comply with Ind AS 115, would Prestige need to change its existing accounting policy? What changes, if any, would you recommend to its accounting policy? Why?

2. (a) Assume that Prestige decides to transition to Ind AS 115 as of April 1, 2018 and that it also changes to the input-based (cost) method to measure the percentage of completion. Using data on major projects provided in Case Exhibit 4, (a) present journal entries for each category of contracts, under the existing method and the proposed method, and (b) compute the cumulative amounts of select income statement and balance sheet items in the table provided on the next page.

(b) Present the journal entry to record the financial statement effects of Prestige’s transition to Ind AS 115. Assume an income tax rate of 35% and that Prestige will use the modified retrospective method.

(c) Has Prestige’s revenue and expense recognition policy for construction contracts indeed been conservative as claimed by its CFO? Explain.

3. Using norms for short-term lending specified in the case, and changes resulting from the transition to the proposed accounting policy, compute the amount of bank funding available under the proposed accounting policy. Compute the funding gap (i.e., funding

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available under the existing accounting policy and the proposed accounting policy), that Prestige will need to address. The computation of Prestige’s bank financing based on the financial statements for fiscal 2017-18 is presented in Exhibit 5.

4. What would be your recommendation to Prestige for addressing the funding gap? What are the implications of your recommendation?

5. What are some other considerations that Prestige will need to keep in mind in its implementation of Ind AS 115?

Format for Answer to Requirement 2(a)

Category A Category B Category C Total

Cumulative Amounts of:

Construction Revenues (a)

Gross Profit/(Loss): (c) = (a) – (b)

Contracts-in-progress inventory

Provision for contractual expenses

Provision for future losses

Category A Category B Category C Total

Cumulative Amounts of:

Construction Revenues (d)

Gross Profit/(Loss) (f) = (d) – (e)

Unbilled revenues

Advance billing

Provision for future losses

Existing Policy

Proposed Policy

Contract execution expenses + Estimated future loss on contracts (b)

Contract execution expenses + Estimated future loss on contracts (e)

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Exhibit 1 Description of Prestige Projects Limited, its Businesses and Financing

Prestige Projects Limited is one of the fastest growing infrastructure companies in India. Established in 1989, it belongs to one of the established, diverse and reputed business groups in India. Prestige is a closely-held limited company; its stock is not publicly traded. Six other companies in the business group have about 75% ownership in Prestige, the remaining 25% being held by an overseas institution. Its debt is rated AA by each credit-rating agency. Prestige specializes in executing large and complex industrial and urban infrastructure projects. Most of these projects are EPC (Engineering, Procurement and Construction) contracts in which Prestige is responsible for all the activities from design, procurement, construction, commissioning, and handing over the projects to the customers. The Company provides turnkey end-to-end solutions to set up power generation plants, power transmission and distribution systems, fully integrated rail and metro systems, commercial buildings and airports, chemical process plants, water and waste water management solutions, and complete mining and metal purification systems. Prestige has been growing fast, with revenues increasing from ₹780 crores in 2007-08 to ₹5,916 crores (approximately, $850 million) in 2017-18. At the end of 2017-18, the Company’s order book stood at ₹7,500 crores (approximately, $1.1 billion). The main business units of the Company consist of Industrial Systems, Power Transmission and Distribution, Railway Transportation, Urban infrastructure (metros, bridges, and tunnels), and Quality Assurance Services. The Company has subsidiaries in South East Asia, Middle East, and Africa but most of its projects are based in India. Engineering excellence, supply chain expertise and construction management are the key strengths of the Company. It uses world-class project management techniques to deliver projects on time, and has uncompromising standards of safety and sustainability. To date, Prestige has relied almost exclusively on short-term sources of funding to meet its capital requirements. Compared to its industry peers, its reliance on long-term financing has been strikingly low. Given its high credit rating, Prestige’s ability to raise short-term financing at attractive interest rates has been good, and so has been its ability to roll over the short-term financing arrangements when they mature. The situation in April 2018 was different, however. At that time, the world financial markets were showing signs of a liquidity crunch and Indian businesses, Prestige included, were faced with the prospects of interest rate increases.

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Income Statements for the year ended March 31 2018 2017

Revenue from operations 5,916 4,070

Contract execution and other operating expenses (5,615) (3,855)

Operating income 301 216

Interest expenses (116) (97)

Profit before tax 185 119

Income tax expenses (66) (47)

Profit for the year 119 72

Balance Sheet as at March 31 2018 2017

Non-current assets:

Property, plant and equipment 227 189

Investments 43 37

Trade receivables 119 105

Other financial assets 41 12

Deferred tax assets 124 96

Other noncurrent assets 72 52

Total non-current assets 626 491

Current assets:

Inventories 1,618 1,018

Trade receivables 2,528 2,199

Cash and bank balances 541 239

Unbilled revenues 861 318

Other current assets 695 513

Total current assets 6,243 4,288

Total Assets 6,869 4,779

Equity:

Equity share capital 13 13

General reserve 221 221

Retained earnings 540 433

Total equity 774 667

Non-current liabilities (employee benefits) 51 53

Current liabilities:

Secured loans 643 98

Unsecured loans 340 345

Trade payables 2,394 1,696

Other (Accrued interest, payables for PPE, and employee benefits) 114 75 Income tax payable 12 1

Advances from customers 1,749 1,377

Provision for contractual expenses 793 467

Total current liabilities 6,044 4,059

Total liabilities 6,094 4,112

Total Equity and Liabilities 6,869 4,779

Exhibit 2

Prestige Projects Limited: Summarized Financial Statements (₹ Crores)

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Exhibit 3 Prestige Projects: Select Financial Footnotes

(1) Revenue Recognition (i) Income from Construction Contacts

Contract revenue is comprised of the initial amount of revenue agreed in the contract, the variations in contract work, claims and incentive payments. When the outcome of a construction contract can be measured reliably, contract revenue and contract costs are recognized depending on the percentage of completion at the reporting date. The percentage of completion is determined on the basis of contract milestones achieved during the year for which clients are billed. No profit is recognized till at least 10% progress is made on the contract. In the case of projects in which we have little or no prior experience, no profit is recognized till a minimum of 30% progress is achieved.

The percentage of completion method is applied on a cumulative basis. The effect of a change in the expected outcome of a contract is accounted for as a change in accounting estimate. Its effect is recognized in the income statement in the year in which the change is made and in subsequent years.

When the outcome of a construction contract cannot be estimated reliably, revenue is recognized only to the extent of contract costs for which recovery is probable. When it is probable that the total contract cost will exceed total contract revenue, the expected loss is recognized in the income statement in the year in which such probability arises.

(ii) Revenue from sale of goods is recognized on dispatch of goods when significant risks and rewards

of ownership are transferred to the buyer. (iii) Income from services rendered is recognized when the services are rendered. (2) Inventories (lower of cost or realizable value) (₹Crores)

March 31, 2018 March 31, 2017

Raw materials 12 7 Work-in-progress 2 3

Contracts-in-progress 1,604 1,008 1,618 1,018

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(3) Revenue from operations (₹Crores): FY 2017-18 FY 2016-17

Income from contracts: Supply of contract equipment and materials 1,686 1,559 Civil and erection works 4,053 2,383 Technical fee 6 0

Income from quality inspection services 124 98 Income from sale of BWRO (Brackish Water Reverse Osmosis) units 17 8 Other operating revenues 31 21 5,916 4,070

(4) Unbilled revenues

Unbilled revenue represents value of work executed but not billed to the client on the date of the balance sheet. Among the reasons for not billing the client include difficulty in collating all of the supporting documents before the end of the financial period.

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Exhibit 4 Financial Data on Major Projects Categories as of March 31, 2018

(Amounts in ₹crore)

Item Category A Category B Category C Total

Total contract value 21,710 19,890 2,860 44,460

Total budgeted costs 19,760 19,240 3,120 42,120

Cumulative billings to date 13,026 6,962 2,431 22,419

Actual costs incurred to date 10,275 8,182 2,808 21,265

Additional estimated future costs 9,485 11,058 312 20,855

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Inventories 1,618.00 Less: Creditors (2,394.00)

(776.00) Less: Margin, 25% (194.00) Funding available against inventories not financed by creditors (a) (582.00)

Debtors 2,528.00 Less: Margin, 20% (505.60) Funding available against debtors (b) 2,022.40

Unbilled revenues 861.00 Ceiling calculations: Total Current assets 6,243.00 Inventories and Debtors 4,146.00 Qualifying current assets 2,097.00 10% Limit 209.70

Unbilled revenues eligible for financing 209.70 Less: Margin, 30% (62.91) Funding available against unbilled revenues (c) 146.79

Total funding available [(a) + (b) + (c)] 1,587.19

Exhibit 5 Bank Financing Availability - Existing Accounting Policy (Amounts in ₹ Crores)