Regardless of the method it chooses to follow, an oil and gas company engaged in the exploration, development and production of new oil or natural gas reserves will incur costs that are identified as belonging to one of four categories: As a result, we believe that the full-cost method of accounting better reflects the true economics of exploring.
The net unamortized capitalized costs are amortized on unit-of-production method, whereby property acquisition costs are amortized over proved reserves and property development costs are amortized over proved development reserves. Under both SE and FC accounting methods acquisition costs are capitalized.
We hope these assets will help. Other costs include those associated with drilling a well, which are further considered as being intangible or tangible. Although some of these costs will ultimately result in no additional reserves, we expect the benefits of successful wells to more than offset the costs of any unsuccessful ones.
Thus, when identical operational results are assumed, an oil and gas company following the SE method can be expected to report lower near-term periodic net income than its FC counterpart. On the other hand, the view represented by the FC method holds that, in general, the dominant activity of an oil and gas company is simply the exploration and development of oil and gas reserves.
In general, SE and FC methods differ in their approach to treating costs associated with the unsuccessful discovery of new oil or natural gas reserves. Conclusion When investing in companies involved in the exploration and development of oil and natural gas reserves, company analysis should include recognizing which accounting method a company follows.
Both SE and FC methods allow for the capitalization of all development costs. According to the view behind the SE method, the ultimate objective of an oil and gas company is to produce the oil or natural gas from reserves it locates and develops so that only those costs relating to successful efforts should be capitalized.
Production costs are considered part of periodic operating expenses and are charged directly to the income statement under both accounting methods. These costs are amortized using a unit-of-production method based on volumes produced and remaining proved reserves.
The Impact of Differing Levels of Capitalized Assets The effect of choosing one accounting method over another is apparent when periodic financial results involving the income and cash flow statement are compared with the effect of highlighting the way each method treats the individual costs falling into these four categories.
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Production costs are considered part of periodic operating expenses and are charged directly to the income statement under both accounting methods.1 Oil & gas value chain and signiﬁcant accounting issues 13 2 Upstream activities 15 Financial reporting in the power and utilities industry 11 Introduction Introduction What is the focus of this Financial reporting in the oil and gas industry 3.
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Home Work – Oil & Gas Accounting Page 33 & 34 Question 5 • Economic interest in oil and gas: After an E&P company has identified an area with potential, the company will seek to acquire the right to explore, develop, and produce any minerals that might exist beneath the property, unless it already holds this right.
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