Lockheed Martin 2002 Annual Report Download - page 22

TWENTY-NINE
The Corporation has entered into an agreement with RD
AMROSS, a joint venture of the Pratt & Whitney division of
United Technologies Corporation and the Russian firm NPO
Energomash, for the development and purchase, subject to
certain conditions, of RD-180 booster engines for use in the
Corporation’s Atlas launch vehicles. Terms of the agreement call
for payments to be made to RD AMROSS upon the achievement
of certain milestones in the development and manufacturing
processes. Approximately $61 million of payments made under
this agreement for engines not yet delivered were included in
the Corporation’s inventories at December 31, 2002.
CRITICAL ACCOUNTING POLICIES
Contract Accounting/Revenue Recognition
A large part of our business is derived from long-term devel-
opment and production contracts which we account for consis-
tent with the American Institute of Certified Public
Accountants’ (AICPA) audit and accounting guide, “Audits of
Federal Government Contractors,” and the AICPA’s Statement
of Position No. 81-1, “Accounting for Performance of
Construction-Type and Certain Production-Type Contracts.”
We consider the nature of these contracts and the types of
products and services provided when we determine the proper
accounting for a particular contract. Generally, we record
long-term fixed-price contracts on a percentage of completion
basis using units-of-delivery as the basis to measure progress
toward completing the contract and recognizing revenue. For
certain other long-term fixed-price contracts which, along with
other factors, require us to deliver minimal quantities over a
longer period of time or to perform a substantial level of devel-
opment effort in comparison to the total value of the contract,
revenues are recorded when we achieve performance mile-
stones or using the cost-to-cost method of accounting. Under
the cost-to-cost method of accounting, we recognize revenue
based on the ratio of costs incurred to our estimate of total costs
at completion. We record sales under cost-reimbursement-type
contracts as we incur the costs. As a general rule, we recognize
sales and profits earlier in a production cycle when we use the
cost-to-cost and milestone methods of percentage of comple-
tion accounting versus when we use the units-of-delivery
method. We have accounting policies in place to address these
and other complex issues in accounting for long-term con-
tracts. For other information on accounting policies we have in
place for recognizing sales and profits, see our discussion under
“Sales and earnings” in Note 1 to the financial statements.
Contract accounting requires judgment relative to assess-
ing risks, estimating contract revenues and costs, and making
assumptions for schedule and technical issues. Due to the size
and nature of many of our contracts, the estimation of total
revenues and cost at completion is complicated and subject to
many variables. Contract costs include material, labor and
subcontracting costs, as well as an allocation of indirect costs.
Assumptions have to be made regarding the length of time to
complete the contract because costs also include expected
increases in wages and prices for materials. For contract
change orders, claims or similar items, we apply judgment in
estimating the amounts and assessing the potential for realiza-
tion. These amounts are only included in contract value when
they can be reliably estimated and realization is considered
probable. Incentives or penalties related to performance on
contracts are considered in estimating sales and profit rates,
and are recorded when there is sufficient information for us to
assess anticipated performance. Estimates of award fees are
also a significant factor in estimating sales and profit rates
based on actual and anticipated awards.
Products and services provided under long-term develop-
ment and production contracts make up a large portion of
our business, and therefore the amounts we record in our
financial statements using contract accounting methods and
cost accounting standards are material. We follow U.S.
Government procurement and accounting standards in assess-
ing the allowability and the allocability of costs to contracts.
Because of the significance of the judgments and estimation
processes, it is likely that materially different amounts could
be recorded if we used different assumptions or if the underly-
ing circumstances were to change. We closely monitor compli-
ance with and the consistent application of our critical
accounting policies related to contract accounting. Business
segment personnel perform reviews of the status of contracts
through periodic contract status and performance reviews.
When adjustments in estimated contract revenues or costs are
required, any changes from prior estimates are generally
included in earnings in the current period. Also, regular and
recurring evaluations of contract cost, scheduling and techni-
cal matters are performed by management personnel who are
independent from the business segment performing work
Lockheed Martin Corporation