case study accouting
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case study accouting

Course: ACCOUNTING 389, Spring 2013

School: Washington

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Cuong Bui Your client, Hazelton Mining, recently entered into an agreement to obtain the rights to operate a coal mine in West Virginia for $15 million. Hazelton incurred development costs of $6 million in preparing the mine for extraction, which began on July 1, 2013. The contract requires Hazelton to restore the land and surrounding area to its original condition after extraction is complete in three years. The...

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Bui Your Cuong client, Hazelton Mining, recently entered into an agreement to obtain the rights to operate a coal mine in West Virginia for $15 million. Hazelton incurred development costs of $6 million in preparing the mine for extraction, which began on July 1, 2013. The contract requires Hazelton to restore the land and surrounding area to its original condition after extraction is complete in three years. The company controller, Alice Cushing, is not sure how to account for the restoration costs and has asked your advice. Alice is aware of an accounting standard addressing this issue, but is not sure of its provisions. She has narrowed down the possible cash outflows for the restoration costs to four possibilities: Alice also informs you that the company's credit-adjusted risk-free interest rate is 9%. Before responding to Alice, you need to research the issue. Required: 1. Obtain the relevant authoritative literature on accounting for asset retirement obligations using the FASB's Codification Research System. You might gain access at the FASB website (www.fasb.org). Explain the basic treatment of asset retirement obligations. What are the specific citations that you would rely on to determine (a) the accounting treatment for an asset retirement obligation and (b) how to measure the obligation? 2. Determine the capitalized cost of the coal mine. 3. Prepare a summary journal entry to record the acquisition costs of the mine. 4. How much accretion expense will the company record in its income statement for the 2013 fiscal year, related to this transaction? What are the specific citations from the FASB's Codification Research System that address (a) the calculation of accretion expense and (b) the classification of accretion expense in the income statement? Page582 5. Explain to Alice how Hazelton would account for the restoration if the restoration costs differed from the recorded liability in three years. By way of explanation, prepare the journal entry to record the payment of the retirement obligation in three years assuming that the actual restoration costs were $4.7 million. 6. Describe to Alice the necessary disclosure requirements for the obligation. What is the specific citation from the FASB's Codification Research System that contains these disclosure requirements? 1. The citations about appropriate treatment accounting for asset retirement obligation that I would rely on are founded in FASB ASC 410-20 Asset Retirement Obligations. Clearly, in section Section 410-20- 25, it requires that an existing legal obligation associated with the retirement of a tangible, long lived asset to be recognized as a liability and measured at fair value. Also in Section 410-20-25-5, it requires that upon initial recognition of the liability, the entity records the related asset at the same amount. 2. Capitalized cost of the coal mine. Purchase of rights to operate 15 million Development cost 6 million Cuong Bui Total cost of coal deposit 21 million 3. Journal entry: Coal obtain cost 15 million R&D expense 6 million Note payable 21 million 4. According to section 410-20-35-5, Accretion expense related to exist costs and asset retirement obligations shall not be considered to be interest purpose of applying subtopic and classified as expense in income statement. Also, in section 410-20-45-1, accretion expense shall be classified as an operating item in the statement of income. In Section 410-20-55-18, To calculate accretion expense, an entity shall multiply the beginning of the period liability balance by the credit- adjusted risk-fee rate that existed when the liability was initially measure Therefore, the Accretion expense = 21 * 0.09 =1.89 billion 5. Thus, a company must recognize an asset retirement obligation when it has an existing legal obligation associated with the retirement of a long-lived asset and when it can reasonably estimate the amount of the liability. Drilling platform 0.387 billion Asset retirement obligation 0.387 billion Interest in each 3 years Interest expense ($0.387x 9%) 0.3483 billion Asset retirement obligation 0.3483 billion 6. As stated in section 410-20-50-1, information about asset retirement obligations shall be all disclose are: a. A general description of the asset retirement obligations and the associated long-lived assets b. The fair value of assets that legally restricted for purpose of setting asset reitement obligation c. A reconciliation of the beginning and ending aggregate carrying amount of asset retirement obligation such as: liabilities incurred in the current period, liabilities settled in the current period, accretion expense, revisions in the estimated cash flows.

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