DEPRECIATION, DEPLETION AND AMORTIZATION (SAS 9)

In financial accounting, tangible property and equipment is depreciated, intangible property is

amortized, and natural resources are depleted. For oil and gas financial accounting, industry
professionals commonly refer to depreciation, depletion, and amortization of proved property
and wells and related equipment and facilities as DD&A.

In particular, for SE companies, acquisition costs of proved properties and the costs of wells
and related equipment and facilities are amortized to become part of the cost of oil and gas
produced. Acquisition costs are amortized over proved reserves. Wells and related
equipment and facilities are amortized over proved developed reserves.

Acquisition costs represent expenditures made on behalf of the entire cost center and thus
apply to all reserves that will be produced from that cost center. Proved reserves are the
reserves reasonably certain of being produced from a property and include both reserves that
will be produced from wells already completed and from wells to be drilled in the future.
Therefore, proved reserves should be used to amortize acquisition costs.

Proved developed reserves are reserves that will be produced from existing wells and
equipment. Wells and related equipment and facilities should be amortized using proved
developed reserves because, by definition, those are the reserves that will be produced as a
result of the costs already incurred for completed wells and equipment. The remaining proved
reserves, i.e., the proved undeveloped reserves, are excluded in amortizing wells and related
equipment and facilities because those reserves will be produced only as a result of incurring
additional future costs. When a property is fully developed, proved reserves and proved
developed reserves are the same.

Both acquisition costs and the costs of wells and related equipment and facilities are
amortized using the unit-of-production method, which is as follows:

Basis of Amortization
The major method employed for the calculation of DD&A is the unit of production method.
Although there is second method called the equivalent formula

Unit-of-production formula
______Net book value at year end_______ x Production for year
Estimated Reserves at beginning of year

Equivalent formula
_______Production for year________ x Book value at year end
Estimated reserves at beginning of year

Estimated reserves at beginning of year = Estimated reserves at year end + Production for the
year
Book value at year = total cost accumulated to year-end - accumulated DD&A at the
beginning of the year.

Example 1:
AFIT oil and gas plc has the following information on Lease A oil field:
Capitalized cost at the end of the year N3,400,000
Accumulated amortization for previous year N200,000
Reserves estimates at the beginning of the year 10,000,000 barrels
Production for the year 500,000 bbls
Reserves estimates at the end of the year 8,000,000 bbls
Required:
Calculate DD&A per barrel
DD&A for the year end

Suggested Solution
Applying unit of production method
DD&A per barrel = Net book value at year end_______
Estimated Reserves at beginning of year

3,400,000/8,000,000 bbls + 500,000 bbls = N0.3765 per barrel

DD&A for the year end = N0.3765 x 500,000 bbls = N188,235

Amortization under SEM and FCM of Accounting

SE companies capitalize the exploration and development costs that leads to the discovery of
oil and gas reserves by posting such costs into the statement of financial position as assets.
While all other costs that do not lead to the discovery of oil and gas reserves are expense by
taken them to income statement.

For calculation of DD&A or amortization for SE companies, acquisition costs of proved

properties and the costs of wells and related equipment and facilities are amortized to become
part of the costs of oil and gas produced. This means that the cost cannot be added together
when calculating DD&A. the amortization of acquisition cost must be calculated based on
proved reserves while the DD&A for well and related equipment and facilities must be
computed over proved develop reserves.

For full cost companies, all capitalized costs incurred in a cost center should be amortized on
the unit of production basis using proved reserves. FC companies capitalized all acquisition,
exploration, development and production costs.
Example 2:
Queen oil and gas company plc drilled the first successful well on Lease A early in 2021. The
company plans to develop this lease fully over the next several years. Data for the lease as of
December 31, 2021, are as follows:
Leasehold cost (acquisition costs—proved property) $ 50,000
IDC (wells and related E&F) 90,000
Lease and well equipment (wells and related E&F) 30,000
Production during 2021 5,000 bbl
Total estimated proved reserves, December 31, 2021 895,000 bbl
Total estimated proved reserves recoverable from the well, December 31, 95,000 bbl
2021 (i.e., proved developed reserves)

Required:

i. DD&A for Leasehold (proved property):

ii. DD&A for IDC and Lease and Well Equipment (wells and related E&F)
iii. Show the journal entry to record the above transaction

Example 3:
Dr Money limited has a partially developed lease as of 31st December, 2020. The cost
information for the said lease is as follows:

Cost Data:
Lease bonus . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 500,000
Other capitalized acquisition costs . . . . . . . . . . . . . . . . . . ___40,000
Total leasehold costs at year–end . . . . . . . . . . . . . . . . . . . $ 540,000

Accumulated DD&A on leasehold costs at beginning of year $ 40,000

IDC at year–end 650,000
Accumulated DD&A on IDC at beginning of year 120,000
Lease and well equipment at year–end 275,000
Accumulated DD&A on equipment at beginning of year 50,000
Reserve and Production Data:
Estimated proved developed reserves, 12/31/20 1,750,000 bbl
Estimated proved undeveloped reserves, 12/31/20 2,200,000 bbl
Production during year 50,000 bbl

Required:
i. DD&A for Leasehold (proved property):
ii. DD&A for IDC and Lease and Well Equipment (wells and related E&F)
iii. Show the journal entry to record the above transaction