Question

X Company acquired land in Costa Rica for a total cost of $45,000,000. Engineers conducted a study at an additional cost of $500,000 to determine that there were oil reserves that should yield approximately 1,000,000 barrels of oil. The purchase agreement includes a requirement that the land be restored when the oil has been extracted, which is expected to cost $1,300,000, after which the land is expected to be worth $4,500,000. In year 8, X Company incurred $200,000 in development costs and extracted and sold 130,000 barrels of oil. How much depletion will X Company recognize during year 8

Answer 1

$5,525,000

Explanation:

For computation of depletion during year 8 first we need to find out depletion base and depletion charge per unit which is shown below:-

Depletion base = Acquisition Cost + Exploration Cost + Restoration Cost + Development Cost

= $45,000,000 + $500,000 + $1,300,000 + $200,000

= $47,000,000

and

Depletion Charge per unit of barrel

= (Depletion Base - Salvage Value) ÷ Units to be recovered

= ($47,000,000 - $4,500,000) ÷ 1,000,000

= $42,500,000 ÷ 1,000,000

= $42.5

now,

Depletion during year 8 = Depletion charge per barrel × Number of barrels extracted

= $42.5 × 130,000

= $5,525,000

Therefore for computing the depletion during year 8 we simply multiply the depletion charge per barrel with number of barrels extracted.