Cost of a natural resource; depletion and depreciation
Response to the following :
[This exercise is a continuation of Problem 1 focusing on depletion and depreciation.]
Jackpot Mining Company operates a copper mine in central Montana. The company paid $1,000,000 in 2016 for the mining site and spent an additional $600,000 to prepare the mine for extraction of the copper. After the copper is extracted in approximately four years, the company is required to restore the land to its original condition, including repaving of roads and replacing a greenbelt. The company has provided the following three cash flow possibilities for the restoration costs:
|
|
Cash Outflow
|
Probability
|
|
1
|
$300,000
|
25%
|
|
2
|
400,000
|
40%
|
|
3
|
600,000
|
35%
|
To aid extraction, Jackpot purchased some new equipment on July 1, 2016, for $120,000. After the copper is removed from this mine, the equipment will be sold for an estimated residual amount of $20,000. There will be no residual value for the copper mine. The credit-adjusted risk-free rate of interest is 10%.
The company expects to extract 10 million pounds of copper from the mine. Actual production was 1.6 million pounds in 2016 and 3 million pounds in 2017.
Required:
1. Compute depletion and depreciation on the mine and mining equipment for 2016 and 2017. The units-ofproduction method is used to calculate depreciation.
2. Discuss the accounting treatment of the depletion and depreciation on the mine and mining equipment.
Problem 1:
Cost of a natural resource; asset retirement obligation
Jackpot Mining Company operates a copper mine in central Montana. The company paid $1,000,000 in 2016 for the mining site and spent an additional $600,000 to prepare the mine for extraction of the copper. After the copper is extracted in approximately four years, the company is required to restore the land to its original condition, including repaving of roads and replacing a greenbelt. The company has provided the following three cash flow possibilities for the restoration costs:
|
|
Cash Outflow
|
Probability
|
|
1
|
$300,000
|
25%
|
|
2
|
400,000
|
40%
|
|
3
|
600,000
|
35%
|
To aid extraction, Jackpot purchased some new equipment on July 1, 2016, for $120,000. After the copper is removed from this mine, the equipment will be sold. The credit-adjusted, risk-free rate of interest is 10%.
Required:
1. Determine the cost of the copper mine.
2. Prepare the journal entries to record the acquisition costs of the mine and the purchase of equipment.