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Chapter 11: Q20E. (page 588)

(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.)

Short Answer

Expert verified

The total cost per barrel is $6.62.

Step by step solution

01

Meaning of Depletion

Depletion measures the amount of natural resources that have been tapped over time. Accounting and tax reporting could be aided by depletion, much like devaluation. The most noticeable impact of depletion is on mining, lumber, petroleum, and the exploitation and utilization of common assets.

02

Computing the cost per barrel for the past year.

Working notes:

Computation of amount of initial payments

Computation of Rental amount

Computing amount of premium

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Most popular questions from this chapter

(Depreciation for Partial Periods鈥擲L, Act., SYD, and Declining-Balance) The cost of equipment purchased by Charleston, Inc., on June 1, 2017, is \(89,000. It is estimated that the machine will have a \)5,000 salvage value at the end of its service life. Its service life is estimated at 7 years, its total working hours are estimated at 42,000, and its total production is estimated at 525,000 units. During 2017, the machine was operated 6,000 hours and produced 55,000 units. During 2018, the machine was operated 5,500 hours and produced 48,000 units.

Instructions Compute depreciation expense on the machine for the year ending December 31, 2017, and the year ending December 31, 2018, using the following methods.

  1. Straight-line.
  2. Units-of-output.
  3. Working hours.
  4. 厂耻尘-辞蹿-迟丑别-测别补谤蝉鈥�-诲颈驳颈迟蝉.
  5. Declining-balance (twice the straight-line rate).

(Depreciation鈥擲YD, Act., SL, and DDB) The following data relate to the Machinery account of Eshkol, Inc. at December 31, 2017.


Machinery

A

B

C

D

Original cost

\(46,000

\)51,000

\(80,000

\)80,000

Year purchased

2012

2013

2014

2016

Useful life

10 years

15,000 hours

15 years

10 years

Salvage value

\( 3,100

\) 3,000

\( 5,000

\) 5,000

Depreciation method

Sum-of-the year digits

Activity

Straight-line

Double-declining balance

Accum. depr. through 2017

\(31,200

\)35,200

\(15,000

\)16,000

*In the year an asset is purchased, Eshkol, Inc. does not record any depreciation expense on the asset. In the year an asset is retired or traded in, Eshkol, Inc. takes a full year鈥檚 depreciation on the asset.

The following transactions occurred during 2018.

  1. On May 5, Machine A was sold for \(13,000 cash. The company鈥檚 bookkeeper recorded this retirement in the following manner in the cash receipts journal.

Cash 13,000

Machinery (Machine A) 13,000

b. On December 31, it was determined that Machine B had been used 2,100 hours during 2018.

c. On December 31, before computing depreciation expense on Machine C, the management of Eshkol, Inc. decided the useful life remaining from January 1, 2018, was 10 years.

d. On December 31, it was discovered that a machine purchased in 2017 had been expensed completely in that year. This machine cost \)28,000 and has a useful life of 10 years and no salvage value. Management has decided to use the double-declining-balance method for this machine, which can be referred to as 鈥淢achine E.鈥�

Instructions

Prepare the necessary correcting entries for the year 2018. Record the appropriate depreciation expense on the above-mentioned machines. No entry is necessary for Machine D.

Electroboy Enterprises, Inc. operates several stores throughout the western United States. As part of an operational and financial reporting review in a response to a downturn in its markets, the company鈥檚 management has decided to perform an impairment test on five stores (combined). The five stores鈥� sales have declined due to aging facilities and competition from a rival that opened new stores in the same markets. Management has developed the following information concerning the five stores as of the end of fiscal 2016.

Original cost \(36million

Accumulated depreciation \)10 million

Estimated remaining useful life 4 years

Estimated expected future

annual cash flows (not discounted) \(4.0 million per year

Appropriate discount rate 5 percent

Accounting

  1. Determine the amount of impairment loss, if any, that Electroboy should report for fiscal 2016 and the book value at which Electroboy should report the five stores on its fiscal year-end 2016 balance sheet. Assume that the cash flows occur at the end of each year.
  2. Repeat part (a), but instead assume that (1) the estimated remaining useful life is 10 years, (2) the estimated annual cash flows are \)2,720,000 per year, and (3) the appropriate discount rate is 6 percent.

Analysis

Assume that you are a financial analyst and you participate in a conference call with Electroboy management in early 2017 (before Electroboy closes the books on fiscal 2016). During the conference call, you learn that management is considering selling the five stores, but the sale won鈥檛 likely be completed until the second quarter of fiscal 2017. Briefly discuss what implications this would have for Electroboy鈥檚 2016 financial statements. Assume the same facts as in part (b) above.

Principles

Electroboy management would like to know the accounting for the impaired asset in periods subsequent to the impairment. Can the assets be written back up? Briefly discuss the conceptual arguments for this accounting.

Use the information for Lockard Company given in BE11-2. (a) Compute 2017 depreciation expense using the double-declining-balance method. (b) Compute 2017 depreciation expense using the double-declining-balance method, assuming the machinery was purchased on October 1, 2017.

Francis Corporation purchased an asset at a cost of \(50,000 on March 1, 2017. The asset has a useful life of 8 years and a salvage value of \)4,000. For tax purposes, the MACRS class life is 5 years. Compute tax depreciation for each year 2017鈥�2022.
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