DEPRECIATION AND DEPLETION

Depreciation is a systematic allocation of the depreciable amount of an asset over its useful life.

Kinds of Depreciation
A. Physical Depreciation – is related to the depreciable asset’s wear and tear and deterioration over a
period. It may be caused by:
a. Passage of time due to non-use.
b. Action of elements such as wind, sunshine, rain, or dust.
c. Wear and tear due to infrequent use.
d. Accidents such as fire, flood, earthquake, and other natural disaster.
e. Diseases (animals and wooden buildings)
B. Functional or economic depreciation – arises from obsolescence or inadequacy of the asset to
perform efficiently. Functional depreciation may arise from:
a. When there is no future demand for the product which the depreciable asset produces.
b. When a new depreciable asset becomes available and the new asset can perform the same
function for substantially less cost.

Inadequacy arises when the asset is no longer useful to the firm because of an increase in the volume of
operations.

Methods of Depreciation Basis for Depreciation

1. Equal or uniform charge method
a. Straight-line Depreciable amount
b. Composite Method Depreciable amount
c. Group Method Depreciable amount
2. Variable charge or use-factor method
a. Working hours or service hours Depreciable amount
b. Output or production method Depreciable amount
3. Decreasing charge or accelerated or
diminishing balance methods
a. Sum of years' digits Depreciable amount
b. Declining balance method Initally at cost, then subsequently the book value
at the beginning of the period.
c. Double or 150% Declining method Initially at cost, then subsequently the book value
at the beginning of the period.
4. Other methods
a. Inventory or appraisal
b. Retirement Method
c. Replacement Me

NOTES:
a. Depreciation is reported in a single accumulated depreciation.
b. The composite or group rate is multiplied by the cost of the assets in the group to get the
periodic depreciation. Depreciation expense = Total cost of the assets X comp. or group rate
c. When asset in the group is retired, no gain or loss is reported.
 Entry:
Cash (if any) XX
Accum. Depreciation XX
Asset XX
d. When the asset is retired is replaced by a similar asset, the replacement is recorded by:
Asset XX
Cash XX

Subsequently, Depreciation expense = The Composite or Group rate X Total Balance of the Asset
account

WASTING ASSETS
Mining Value Chain
 Pre-exploratory expenditures are costs incurred before the company has obtained the legal rights to
explore a specific area. It may include activities to perform seismic testing of possible oil-drilling sites
before incurring any substantial costs of exploration. Since these are generally speculative in nature,
these are expensed as incurred.
 Exploration means the search for resources suitable for commercial exploitation. It includes:
 researching and analysing an area’s historic exploration data
 conducting topographical, geological, geochemical, and geophysical studies
 exploratory drilling, trenching, and sampling
 Evaluation means determining the technical feasibility and commercial viability of a mineral
resource. It includes:
 assessing the volume and grade of deposits
 examining and testing extraction methods and metallurgical or treatment processes
 surveying transportation and infrastructure requirements
 conducting market and finance studies
 Development means establishing access to and commissioning facilities to extract, treat and
transport production from the mineral reserve, and other preparations for commercial production. It
may include:
 sinking shafts and underground drifts
 permanent excavations
 constructing roads and tunnels
 advance removal of overburden and waste rock
 Production means the day-to-day activities of obtaining a saleable product from the mineral reserve
on a commercial scale. It includes extraction and any processing before sale.
 Closure occurs after mining operations have ceased and includes restoration and rehabilitation of the
site.

Recognition of Exploration and Evaluation Assets

At recognition, exploration and evaluation assets are measured at cost.

I. Wasting Assets are material objects of economic value and utility to man produced by nature.
II. Cost of wasting assets:
 a. Acquisition cost – price paid to obtain the property containing the natural resource.
b. Exploration cost
 Exploration for and evaluation of mineral resources mean the search for mineral
resources, including minerals, oil, natural gas and similar non-regenerative resources
after the entity has obtained legal rights to explore in a specific area, as well as the
determination of the technical feasibility and commercial viability of extracting the
mineral resource.
 Exploration and evaluation expenditures are expenditures incurred in connection with
the exploration and evaluation of mineral resources before the technical feasibility and
commercial viability of extracting a mineral resource is demonstrable.
c. Development cost – cost incurred to exploit or extract the natural resource that has been
located through successful exploration. Two form of Development cost:
 Tangible equipment – includes transportation, heavy machinery, tunnels, bunker, and
mineshaft. The cost of tangible equipment is not capitalized as cost of natural resource
but set up in a separate account and depreciated in accordance with normal
depreciation policies.
 Intangible development cost – is capitalized as cost of the natural resource. Such cost
includes drilling, sinking mine shaft and construction of wells.
d. Estimated restoration cost – cost that may be necessary to bring the property to its original
state. The estimated restoration cost is capitalized only to the extent that it is recognized as a
provision.

Depletion – the removal or extraction or exhaustion of a natural resource. As an accounting procedure, is

the systematic allocation of the cost or other basic value of a wasting asset over the period the natural
resource is extracted or produced.
 Depletion Method – Output method
 Change in the estimated units to be extracted- considered as change in accounting estimate to be
handled currently and prospectively.
 Increase in value of the wasting asset.
Wasting asset XX
Revaluation surplus XX

LECTURE DRILLS
Problem 1
On March 31, 2022, an entity purchased a drilling machine for ₱8,400,000 with useful life of 10 years and
no residual value. An important component of the machine is the drill housing component that will used
to be replaced in 5 years. The ₱2,000,000 cost of the drill housing component is included in ₱8,400,000
cost of the machine. The entity used the straight-line depreciation. The fiscal year ends December 31.
What total amount of depreciation should be recorded in 2022?
a. 630,000
b. 840,000
c. 780,000
d. 480,000
Problem 2
On April 1, 2022, an entity purchased machinery for ₱3,300,000. The machinery had an estimated useful
life of five years with residual value of ₱300,000. Depreciation was computed by the sum of year’s digits
method. What is the accumulated depreciation on December 31, 2023?
a. 1,600,000
b. 1,800,000
c. 1,000,000
d. 1,250,000

Problem 3
An entity purchased a vehicle on January 1, 2022 for ₱6,000,000 with residual value of ₱500,000. The
useful life in years is 8 years and useful life in miles is 50,000 miles. The actual miles driven totaled
15,000 in 2022, 10,000 in 2023 and 5,000 in 2024. What is the carrying amount of the asset on
December 31, 2023 using the double declining method?
a. 3,375,000
b. 2,175,000
c. 2,625,000
d. 3,250,000

Problem 4
An entity showed the following schedule of depreciable assets on January 1, 2022.
Asset Cost Accumulated Acquisition Date Residual
Depreciation
A 4,000,000 2,560,000 2020 400,000
B 2,000,000 1,440,000 2019 200,000
C 2,800,000 1,344,000 2019 560,000

The useful life of each asset is 5 years. The entity takes a full depreciation in the year of acquisition and
no depreciation in the year of disposition. Asset C was sold for ₱1,700,000 on June 30, 2022. Asset A is
depreciated under the double declining method.
1. What amount should be reported as depreciation of Asset A for 2022?
a. 1,600,000
b. 1,440,000
c. 416,000
d. 576,000
2. What amount should be reported as depreciation of Asset B for 2022 assuming same method in
prior years?
a. 240,000
b. 480,000
c. 360,000
d. 400,000
3. What amount should be reported as gain on sale of Asset C?
a. 244,000
b. 464,000
c. 356,000
d. 804,000
Problem 5
An entity acquired for ₱9,000,000 property which is believed to include mineral deposit. Geological
estimates indicated that approximately 1,000,000 tons of mineral may be extracted. It is further
estimated that the property can be sold for ₱2,500,000 following mineral extraction. After initial
acquisition, the entity incurred exploration cost ₱3,500,000, development cost related to drilling of wells
₱3,200,000 and development cost related to production equipment ₱4,500,000. The entity is legally
required to restore the land to a condition appropriate for resale at an estimated cost of ₱1,500,000 and
discounted amount of ₱800,000. The entity extracted 50,000 tons and sold 40,000 tons during the
current year. What amount should be recorded as depletion included in cost of goods sold?
a. 560,000
b. 700,000
c. 735,000
d. 740,000

Problem 6
In 2022, an entity purchased property with mineral resources of ₱28,000,000. The property had a
residual value of ₱4,000,000. During 2022, an amount of ₱3,000,000 was spent for roads and other
improvements to aid in the extraction of the resources. Tunnels, bunk houses and other fixed
installations were also constructed at a cost of ₱8,000,000. The entity spent ₱1,000,000 in development
cost and ₱4,000,000 in exploration cost. Production began in 2023 and the tons extracted totaled
3,000,000 in 2023 and 2,500,000 in 2024. The remaining tons totaled 7,000,000 on December 31, 2023
and 5,500,000 on December 31, 2024.
1. What amount of depletion should be recognized in 2023?
a. 12,000,000
b. 10,800,000
c. 9,600,000
d. 8,700,000
2. What amount of depletion should be reported in 2024?
a. 7,000,000
b. 6,350,000
c. 8,750,000
d. 7,875,000

Problem 7
On July 1, 2022, an entity purchased the rights to a mine for ₱20,000,000, of which ₱2,000,000 was
allocable to the land. Estimated reserves were 1,500,000 tons. The entity expected to extract and sell
20,000 tons per month starting July 2022. The entity purchased mining equipment on July 1, 2022 for
₱8,000,000. The mining equipment had a useful life of 8 years. However, after all the resource is
removed, the equipment will be of no use and will be sold for ₱500,000.
1. What amount should be reported as depletion for 2022?
a. 2,880,000
b. 1,440,000
c. 2,250,000
d. 1,125,000
2. What amount should be reported as depreciation for 2022?
a. 1,500,000
b. 1,200,000
c. 600,000
 d. 468,750

Problem 8
An entity incurred ₱4,000,000 in exploration cost for each of 15 oil sells drilled in the current year. Of the
15 wells drilled, 10 were dry holes. The entity used the successful effort method of accounting. The
entity depleted 30% of the oil discovered in the current year. What amount of exploration cost should be
reported in the year-end statement of financial position?
a. 42,000,000
b. 14,000,000
c. 20,000,000
d. 40,000,000