DEPLETION

LEARNING OBJECTIVES
1. Be familiar with IFRS 6 concerning financial reporting of exploration and evaluation of
mineral resources
2. Be familiar with the concept of wasting assets and depletion
3. Determine acquisition cost, exploration cost, development cost, and restoration cost in
relation to wasting asset;
4. Account for depreciation of mining equipment;
5. Explain trust fund doctrine and wasting asset doctrine in relation to dividend
declaration.

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IFRS 6
The objective of this standard is to
specify the financial reporting for the
exploration and evaluation of mineral
resources.

Mineral resources include minerals, oil,

natural gas and similar non-generative
resources

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EXPLORATION
AND EVALUATION
OF MINERAL RESOURCES

It is defined as the search for mineral resources AFTER the entity has
obtained legal right to explore in a specific area as well as the
determination of the technical feasibility and commercial viability
of extracting the mineral resources.

The expenditures incurred by an entity in connection with the

exploration and evaluation of mineral resources BEFORE technical
feasibility and commercial viability of extracting a mineral
resource are known as exploration and evaluation expenditures.

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ITEMS NOT INCLUDED IN
EXPLORATION AND EVALUATION EXPENDITURES

✘ Expenditures incurred BEFORE an entity has obtained the legal

right to explore a specific area

✘ After the technical feasibility and commercial viability of

extracting a mineral resource are demonstrable. This pertains
to development expenditure.

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 EXPLORATION AND EVALUATION
EXPENDITURES (GASTATE)
a. Acquisition of rights to explore
b. Topographical, geological, geochemical and geophysical
studies
c. Exploratory drilling
d. Trenching
e. Sampling
f. Activities in relation to evaluating the technical feasibility and
commercial viability of extracting a mineral resource.
g. General and administrative costs directly attributable to
exploration and 6
EXPLORATION AND EVALUATION ASSET
The exploration and evaluation expenditures may qualify as
exploration and evaluation asset.

Since the standard has NO clear-cut guidance for its recognition,

an entity must develop its own accounting policy for the
recognition of exploration and evaluation asset.

IFRS permits an entity to continue to apply its previous accounting

policy provided that the resulting information is relevant and
reliable.

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MEASUREMENT AND RECLASSIFICATION

The exploration and evaluation asset which may be

tangible (e.g. vehicles or drilling rigs) or intangible (e.g.
drilling rights) shall be measured initially at COST.

SUBSEQUENT MEASUREMENT:
1. Cost model or
2. Revaluation model

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 WASTING ASSETS

• Material objects of economic value and utility to man produced by

nature

• Natural resources

• Include coal, oil, ore, precious metals like gold, silver, and timber

• Presented in the statement of financial position as non-current asset

• Physically consumed and irreplaceable

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COST OF WASTING ASSETS (DEAR)

1. Acquisition Cost
2. Exploration Cost
3. Development Cost
4. Estimated Restoration Cost

Total cost is allocated over periods benefited by

means of depletion.
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 ACQUISITION COST
▪ It is the price paid to obtain the property containing natural
resources.

▪ If there is residual land value, the portion of the acquisition

cost applicable to the land may be:
➢ INCLUDED in the natural resource account
➢ Set up in a SEPARATE account

▪ Land value is the residual value of the wasting asset in

computing depletion.
▪ Depletable amount = acquisition – residual value
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 EXPLORATION COST
▪ Expenditure incurred BEFORE the technical feasibility and
commercial viability of extracting mineral resources are
demonstrated.
▪ Exploration cost is the cost incurred in an attempt to locate the
natural resources that can economically be extracted or exploited.
▪ Includes acquisition of right to explore, geological study,
exploratory drilling, trenching, and sampling or GASTATE.
▪ Exploration may result in either success or failure.

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 TWO METHODS OF ACCOUNTING FOR
EXPLORATION COST
SUCCESSFUL EFFORT METHOD FULL COST METHOD

▪ Exploration cost directly related to ▪ ALL exploration costs whether

the successful discovery of successful or unsuccessful are
commercially producible natural capitalized as cost of the
resources is capitalized as cost of successful resource discovery.
the resource property.
▪ Cost of drilling dry holes is part of
▪ Exploration cost related to “dry the cost of locating productive
holes” or unsuccessful discovery is holes.
expensed in the period incurred.
ADD A FOOTER 13
 EXPLORATION COSTS
FULL-COST METHOD
▪ All exploration costs are capitalized as part of the cost of
the natural resource.
▪ This method tends to be used by smaller firms primarily in
the exploration business.

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 DEVELOPMENT COST
▪ Cost incurred to exploit or extract the natural resource that has been
located through successful exploration.
▪ May be in the form of tangible equipment or intangible development
cost.
▪ Tangible equipment – transportation equipment, heavy machinery,
tunnels, bunker and mine shift. NOT capitalized as cost of natural
resource but set up in a SEPARATE account (PPE).
▪ Intangible development cost is CAPITALIZED as cost of the natural
resource such as drilling, sinking mine shaft, and construction of wells.
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 RESTORATION COST

▪ Estimated restoration cost is the cost to be incurred in order

to bring the property to its original condition.
▪ CAPITALIZED only when the entity incurs the obligation when
the asset is acquired;
▪ Must be an existing present obligation;
▪ Must be discounted.

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NATURAL RESOURCES RESTORATION COSTS

▪ In some cases, the extractor is required to restore

the land to its original state subsequent to the
resources being extracted.
▪ The estimated cost of restoration increases the
depletion base.

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 DEPLETION
▪ Removal, extraction or exhaustion of a natural resource.
▪ Is the systematic allocation of the depletable amount of a
wasting asset over the period the natural resource is extracted
or produced.
▪ Is the cost of the material used in production and becomes the
finished product.
▪ Wasting asset is conceived as the total cost of the materials
available for production.
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NATURAL RESOURCES DEPLETION METHOD

Depletion is calculated using the units-of-production method.

Unit depletion rate is calculated as follows:

Capitalized Cost Residual

of Natural Resource Value

Estimated Recoverable Units

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NATURAL RESOURCES (WASTING ASSET)
Total depletion cost for a period is:

UNIT DEPLETION RATE

× NUMBER OF UNITS
EXTRACTED IN PERIOD

The unit depletion rate . . .

▪ is inventoried with each extracted unit.
▪ is expensed as a part of cost of goods sold for each unit sold.
▪ remains in inventory with each unsold unit.
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 ILLUSTRATIVE PROBLEM
A wasting asset entity has acquired the right to use a property to explore a natural
resource. The acquisition cost is P6,000,000; the related exploration costs amount to
P4,000,000 and development cost incurred in erecting wells and drilling the deposit are
P10,000,000. It is estimated that the resource deposit is approximately 2,000,000 units.
During the first year of operations, 500,000 units were extracted. Compute the depletion
for year 1.

Unit depletion rate = P20,000,000 / 2,000,000 tons

= P10 per unit

Depletion 5,000,000
Accumulated Depletion 5,000,000

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ILLUSTRATIVE PROBLEM: PRESENTATION

In the income statement, the depletion is classified as part of the cost

of production or cost of sales.

If the statement of financial position is prepared at the end of the first

year, the wasted asset is to be shown as a separate line item as follows:

Resource deposit, cost P20,000,000

Accumulated depletion (5,000,000)
Carrying amount P15,000,000

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 REVISION OF DEPLETION RATE

▪ The unit depletion rate is based on estimated recoverable units.

▪ Changes in estimate are to be handled currently and prospectively.

▪ revised unit depletion rate = remaining depletable cost revised

estimate of the productive output

▪ Prior depletion costs are not revised.

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 ILLUSTRATIVE PROBLEM
Using the previous illustration, assume that an additional development costs of
P7,500,000 are incurred in the second year, and the recoverable deposits are
estimated to be 2,500,000 units at the beginning of the second year.
The depletion rate per unit for the second year is computed as follows:
Original cost of wasting asset P20,000,000
Additional development cost in 2nd yr 7,500,000
Total P27,500,000
Accumulated depletion (5,000,000)
Remaining depletable amount P22,500,000
Depletable rate per unit (P22,500,000/2,500,000) = P9
If 600,000 units are extracted in the second year, the depletion is P5,400,000
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 DEPRECIATION OF MINING PROPERTY
Tangible equipment such as transportation equipment, heavy machinery, mine shaft, and other
equipment used in mining operations shall be reported in separate accounts and depreciated
following normal depreciation policies. The depreciation of equipment used in mining operations is
based on:

Useful life of the equipment

or whichever is SHORTER
Useful life of the wasting asset

▪ If the useful life of the equipment is shorter, the straight line method of depreciation is normally
used.
▪ If useful life of wasting asset is shorter, output method of depreciation is frequently used.
▪ If mining equipment is movable and can be used in future extractive project, equipment is
depreciated over its useful life using straight-line method
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 ILLUSTRATIVE PROBLEM
A natural resource deposit is estimated to contain 450,000 units. Heavy
equipment necessary to extract the deposit is acquired at a cost of P9,000,000.
The useful life of the equipment is 10 years.
whichever is SHORTER
If it is estimated that 30,000 units will be extracted each year, then the deposit
will be exhausted in approximately 15 years (450,000 units / 30,000 units).
Using SLM, the annual depreciation of the equipment is P900,000 (9M /10 yrs).

If it is estimated that 50,000 units will be extracted each year, then the deposit will be extracted
in approximately 9 years (450,000 units / 50,000 units), which is shorter than 10 yrs.
Depreciation per unit (9M / 450,000 units) = P20
Using output method of depreciation, the depreciation is P1,000,000 (50,000 units x P20).
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 SHUTDOWN

▪ When the output method is used in depreciating mining property,

in the event of shutdown, such method cannot be used.
▪ Depreciation in the year of SHUTDOWN = remaining carrying
amount divided by the remaining life of the equipment (using the
straight line method).
▪ When operation resumes, depreciation is again computed
following the output method based on the remaining carrying
amount.
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 TRUST FUND DOCTRINE

▪ The share capital of a corporation is conceived as a trust

fund for the protection of creditors. Such capital CANNOT be
returned to shareholders during the lifetime of the
corporation.

▪ Corporation pay out dividends only up to the extent of the

balance of retained earnings.

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 WASTING ASSET DOCTRINE

▪ Wasting asset corporation or any entity engaged in the

extraction of a natural resource can legally return capital to
shareholders during the lifetime of the corporation.

▪ Dividends are paid out of extent of retained earnings and

accumulated depletion.

▪ Amount paid in excess of retained earnings is accounted for

as liquidating dividend or return of capital

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 ILLUSTRATION
BSA Mining had a retained earnings balance of P1,500,000,
accumulated depletion on mineral properties of P200,000,
The maximum dividend that can be declared is P1,700,000.

The journal entry to record the dividend declared is:

Retained Earnings 1,500,000
Capital Liquidated** 200,000
Dividends Payable 1,700,000
** Treated as deduction from total shareholders’ equity
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THANK YOU!