Question

On January 1, 2014, Neal Mining Company opened a new strip mining operation in West Virginia. Neal is legally required to restore the land to its original state when the mine is closed, estimated to be in ten years. Neal estimates that restoration will cost $10,000,000. Based on a 10 percent discount rate, the fair value of the asset retirement obligation is estimated to be $3,855,400 ($10,000,000 x 0.38554).

a. Record the ARO initially at fair value.
b. Record accrued interest expense 2014 and 2015.
c. On February 18, 2024, Neal closes the mine and contracts with Earth Movers International, Inc. to restore the land to its original state at a contract price of $12,500,000. What journal entries are recorded for settlement of the ARO?

Answer 1

The question is regarding accounting journal entries for an Asset Retirement Obligation. Initial recording of the ARO is made at fair value, with subsequent annual adjustments for accrued interest. Upon settlement, the ARO's book value is debited, any additional costs are recorded as a loss, and cash is credited for the contracted restoration work.

Step-by-step explanation:

Journal Entries for Asset Retirement Obligation

The student's question pertains to accounting for an Asset Retirement Obligation (ARO) in the context of a strip mining operation. The ARO is an estimate of the costs associated with the eventual closure and restoration of the mine. Here are the required journal entries:

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Note that the calculation of accrued interest considers the compound effect on the ARO each year, which is why the amount increases from 2014 to 2015. Additionally, for the settlement, the original ARO book value is debited, and a loss is recorded for the difference between the actual cost of restoration and the ARO carrying value.