Cost depletion is calculated by taking the property’s basis, total recoverable reserves and number of units sold into account. The property’s basis is distributed among the total number of recoverable units. As natural resources are extracted, the accumulated depletion of a natural resource is reported on the they are counted and taken out from the property’s basis. One method of calculating depletion expense is the percentage depletion method. It assigns a fixed percentage to gross revenue—sales minus costs—to allocate expenses.
Natural resources
On the balance sheet, we classify natural resources as a separate group among noncurrent assets under headings such as “Timber Stands” and “Oil Reserves”. Accordingly, on the balance sheet, we report natural resources at total cost less accumulated depletion. On the balance sheet, we classify natural resources as a separate group among noncurrent assets under headings such as “Timber stands” and “Oil reserves”. Typically, we record natural resources at their cost of acquisition plus exploration and development costs; on the balance sheet, we report them at total cost less accumulated depletion. By crediting the Accumulated Depletion account instead of the asset account, we continue to report the original cost of the entire natural resource on the financial statements.
Percentage Depletion Method
Thus, statement users can see the percentage of the resource that has been removed. To determine the total cost of the resource available, we combine this depletion cost with other extraction, mining, or removal costs. We can assign this total cost to either the cost of natural resources sold or the inventory of the natural resource still on hand. Thus, we could expense all, some, or none of the depletion and removal costs recognized in an accounting period, depending on the portion sold.
Financial Accounting
For example, Atlantic Richfield Co., at one time, reported net producing property of $2.6 billion. To illustrate, at year-end, Callahan Mining had a retained earnings balance of $1,650,000, accumulated depletion on mineral properties of $2,100.000, and paid-in capital in excess of par of $5,435,493. The major accounting problem is to distinguish between dividends that are a return of capital and those that are not.
Depreciation, Depletion, and Amortization (DD&A): Examples
If all of the resource is sold, we expense all of the depletion and removal costs. Depletion is the exhaustion that results from the physical removal of a part of a natural resource. For example; removing copper through mining or cutting timber for a paper company. In each accounting period, the depletion recognized is an estimate of the cost of the natural resource that was removed from its natural setting during the period.
- This controversy in the oil and gas industry provides a number of lessons.
- Its proponents believe that the only relevant measure for a project is the cost directly related to it and that companies should report any remaining costs as period charges.
- Assets deteriorate in value over time and this is reflected in the balance sheet.
- For the past 52 years, Harold Averkamp (CPA, MBA) has worked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online.
In the oil and gas industry, where the costs of finding the resource are high, and the risks of finding the resource are very uncertain, most large companies expense these costs. The dollar amount represents the cumulative total amount of depreciation, depletion, and amortization (DD&A) from the time the assets were acquired. Assets deteriorate in value over time and this is reflected in the balance sheet. In the income statement, the depletion cost is part of the cost of goods sold.
As soon as a company has the right to use the property, it often incurs exploration costs needed to find the resource. When exploration costs are substantial, some companies capitalize on the depletion base. As a result, a company in the extractive industries, like ExxonMobil, frequently adopts a conservative policy in accounting for the expenditures related to finding and extracting natural resources. For example, if a large piece of machinery or property requires a large cash outlay, it can be expensed over its usable life, rather than in the individual period during which the cash outlay occurred.
A percentage of the purchase price is deducted over the course of the asset’s useful life. Accrual accounting permits companies to recognize capital expenses in periods that reflect the use of the related capital asset. In other words, it lets firms match expenses to the revenues they helped produce.