Oil and gas accounting: the key IFRS issues

Why is oil and gas accounting different?

Three features set the industry apart. Spending comes long before any revenue, and much of it, such as dry exploration wells, produces nothing. The assets are valued on reserves, estimates of what can be extracted profitably, which change with prices, technology and drilling results. And the companies rarely work alone: fields are shared between partners and governments under contracts that decide who owns which barrels and who pays which costs.

Which IFRS issues matter most in oil and gas accounting?

How are exploration costs accounted for?

IFRS 6 covers spending after a company has the legal right to explore and before the technical feasibility and commercial viability of extraction are demonstrable. It lets each company keep a policy for which costs it capitalises, so some capitalise exploration wells until their outcome is known while others expense more. Costs before a licence is obtained are outside IFRS 6 and expensed. See IFRS 6 exploration and evaluation.

What are successful efforts and full cost?

Two traditional methods from US practice. Successful efforts capitalises only costs that find reserves, expensing dry holes. Full cost capitalises all exploration costs in a country-wide pool. Under IFRS, companies can follow a successful efforts style approach, but a full cost pool cannot survive past the exploration phase, because development assets are depleted and tested for impairment field by field. See successful efforts vs full cost.

How are producing assets depleted?

Most companies deplete field assets on a units of production basis: the cost is spread over the barrels produced, in proportion to the reserves. The choice of reserves base, proved only or proved and probable, and whether future development costs are included, can change depletion materially. Reserve revisions are changes in estimate, applied prospectively. See depletion and units of production.

When is decommissioning provided for?

As soon as the obligation exists, usually when a well is drilled or a platform installed. The present value of the expected removal cost is recognised as a provision and added to the cost of the asset, then depleted with it. The discount unwinds through finance costs, and changes in estimate adjust the asset under IFRIC 1. See decommissioning provisions.

What triggers impairment?

A fall in long-term oil and gas price assumptions, reserve downgrades, cost overruns, licence changes and, increasingly, climate policies that may cut demand or raise carbon costs. Fields are tested at the level of cash-generating units, often a field or a group of fields sharing infrastructure. Impairments can be reversed under IFRS if prices recover. See impairment of oil and gas assets.

How do production sharing contracts work?

In many countries, the state owns the resources and a contractor finds and develops them at its own cost and risk. The contractor recovers costs from a share of production, cost oil, and shares the rest, profit oil, with the state. The contractor recognises revenue and reserves only on its entitlement barrels, which fall when prices rise. See production sharing contracts.

How are partners accounted for?

Licence partners sign a joint operating agreement, with one partner acting as operator. Because the partners have rights to the assets and obligations for the liabilities, the arrangement is usually a joint operation under IFRS 11: each partner records its share of the field, costs and decommissioning provision, and sells its own share of production. See joint operating agreements.

What revenue issues arise?

Revenue under IFRS 15 is recognised when control of the oil or gas passes, usually on loading or delivery. Provisional pricing, where the final price depends on market prices after delivery, is common; the later change in price is a financial instrument effect under IFRS 9, not revenue from contracts with customers, and is usually presented separately. Partners that lift more or less than their share in a period create imbalances that are settled in later liftings.

Are reserves disclosed?

IFRS does not require reserve quantities, although many companies disclose them, often on the same basis as US rules. Under US GAAP, ASC 932 and SEC rules require proved reserve quantities and a standardised measure of discounted future net cash flows. Reserves feed directly into depletion, impairment and decommissioning timing, so their estimation is one of the most important judgements in the accounts.

Where to go next

Each of the issues above has its own guide: IFRS 6 exploration, successful efforts vs full cost, decommissioning provisions, depletion and units of production, impairment, production sharing contracts and joint operating agreements. Further guides cover overlift and underlift, crude oil inventory, take-or-pay contracts, royalties and petroleum taxes and oil price hedging.

This guide is general information. It is not tax or legal advice for your situation.