Question

On December 2, 2018, one of the oil and gas division’s wells exploded. It leaked a significant amount of oil into a nearby stream until it could be repaired. The repair was completed on December 27, 2018, but remediation of the site has just begun. It cost $800,000 to repair the well, as a number of attempts initially failed, and new components had to be fabricated to replace the damaged parts.  Our CEO issued a press release soon after the explosion, stating that the company will bear the full cost for cleaning up the damage and returning the site to its original condition. It is estimated that it will cost between 2 million to $4 million to fully remediate the site. The process of remediation will likely take several years, as the process of cleaning up the site and the nearby waterway is complicated.

1. What potential journal entries will need to be made to account for the repair and the estimated cleaning costs?
2. What impact will this have on the balance sheet and the income statement?

Answer 1

According to IAS 16, Property, Plant and Equipment, cost of repair is included in cost of PPE since they are necessary to bring the well to the condition necessary for it to be capable of operating.

Restoration cost dr. 800000

To oil & gas division well 800000

Initial estimate of costs of restoring the site on which plant is located , reffered to as restoration, is the obligation for which an enterprise incurs either when the asset is acquired or as a consequence of having used the asset during a particular period of time.

Initially entry will be made with the present value of amount of restoration cost and every year inflation can be adjusted in finance cost.

(assuming cost of cleaning is 2 million)

Oil & gas division well. 2 million

To restoration cost 2 million