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Chapter 11: Q11-27Q (page 583)

Shumway Oil uses successful-efforts accounting and also provides full-cost results as well. Under fullcost, Shumway Oil would have reported retained earnings of \(42 million and net income of \)4 million. Under successful effort, retained earnings were \(29 million, and net income was \)3 million. Explain the difference between full-costing and successful-efforts accounting.

Short Answer

Expert verified

Answer

Using full-cost accounting, the cost of unsuccessful ventures, as well as those that are successful, is capitalized; while in successful efforts, accounting capitalizes only those costs related to successful projects.

Step by step solution

01

Meaning of Depletion

Loss of natural resources as a result of access to them on a regular basis is called depletion. A company uses it when any kind of registered asset is involved, such as oil, coal, or gravel deposits.

02

Explaining the difference between full-costing and successful-efforts accounting.

  1. All exploration costs associated with the search for oil and gas are capitalized in full-cost accounting, whereas all exploration costs associated with the discovery of oil and gas are capitalized in successful-effects accounting.
  2. When oil and gas are retrieved from wells, the capitalized cost is expensed in the future, but under successful-efforts accounting, all expenditures that do not result in the discovery of oil and gas are expensed in the period incurred.

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Most popular questions from this chapter

Explain how estimation of service lives can result in unrealistically high carrying values for fixed assets.

Last year, Wyeth Company recorded an impairment on an asset held for use. Recent appraisals indicate that the asset has increased in value. Should Wyeth record this recovery in value?

(Depletion Computations鈥擮il) Diderot Drilling Company has leased property on which oil has been discovered. Wells on this property produced 18,000 barrels of oil during the past year that sold at an average sales price of \(55 per barrel. Total oil resources of this property are estimated to be 250,000 barrels.

The lease provided for an outright payment of \)500,000 to the lessor (owner) before drilling could be commenced and an annual rental of \(31,500. A premium of 5% of the sales price of every barrel of oil removed is to be paid annually to the lessor. In addition, Diderot (lessee) is to clean up all the waste and debris from drilling and to bear the costs of reconditioning the land for farming when the wells are abandoned. The estimated fair value, at the time of the lease, of this clean-up and reconditioning is \)30,000.

Instructions

From the provisions of the lease agreement, you are to compute the cost per barrel for the past year, exclusive of operating costs, to Diderot Drilling Company. (Round to the nearest cent.)

Companies following international accounting standards can revalue fixed assets above the assets鈥� historical costs. Such revaluations are allowed under various countries鈥� standards and the standards issued by the IASB. Liberty International, a real estate company headquartered in the United Kingdom (U.K.), follows U.K. standards. In a recent year, Liberty disclosed the following information on revaluations of its tangible fixed assets. The revaluation reserve measures the amount by which tangible fixed assets are recorded above historical cost and is reported in Liberty鈥檚 stockholders鈥� equity.

Liberty International

Completed Investment Properties

Completed investment properties are professionally valued on a market value basis by external valuers at the balance sheet date. Surpluses and deficits arising during the year are reflected in the revalution reserve.

Liberty reported the following additional data. Amounts for Kimco Realty (which follows GAAP) in the same year are provided for comparison.

Liberty

(pounds sterling, in thousands)

Kimco

(dollars, in millions)

Total revenues

拢 741

$ 517

Average total assets

5,577

4,696

Net income

125

297

Instructions

  1. Compute the following ratios for Liberty and Kimco.
    1. Return on assets.
    2. Profit margin on sales.
    3. Asset turnover.

How do these companies compare on these performance measures?

  1. Liberty reports a revaluation surplus of 拢1,952. Assume that 拢1,550 of this amount arose from an increase in the net replacement value of investment properties during the year. Prepare the journal entry to record this increase.
  2. Under U.K. (and IASB) standards, are Liberty鈥檚 assets and equity overstated? If so, why? When comparing Liberty to U.S. companies, like Kimco, what adjustments would you need to make in order to have valid comparisons of ratios such as those computed in (a) above?

It has been suggested that plant and equipment could be replaced more quickly if depreciation rates for income tax and accounting purposes were substantially increased. As a result, business operations would receive the benefit of more modern and more efficient plant facilities. Discuss the merits of this proposition.
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