Documenti di Didattica
Documenti di Professioni
Documenti di Cultura
by
Dr.Thitisak Boonpramote
Department of Mining and Petroleum Engineering
Chulalongkorn University
Issues
The investment in a well of $1,000,000 may be partly
depreciated (tangible) and partly amortized (intangible.) The
rules (i.e. calculation procedures) for these two types of
systematic expensing may be different depending on the
standards set by either the financial or the tax model
employed.
The use of DD&A in a financial model is intended to give a
realistic view of the financial viability of a project or firm by
accounting for costs that are intended to benefit the future.
The use of the both financial model and cash flow model
should give a better view of financial viability than either model
alone.
Review of DD&A
1. Depreciation- the systematic expensing (i.e. treated as an immediate
deduction against revenue) of the cost of a tangible asset. A tangible
asset is something that has a physical presence such as a flowline,
wellhead or tanker.
2. Depletion-the systematic expensing of the cost of a natural resource.
For instance, if a company buys oil reserves the cost of these reserves
may be expensed in a systematic way, over the years, using depletion
methods.
3. Amortization- the systematic expensing of the cost of an intangible
asset. An intangible asset is one that has no physical presence. An
example might be the labor cost of installing oilfield equipment. The
equipment itself is tangible, but the labor has no physical presence after
the equipment is installed.
Tax Calculation
DD&A
These deduction allowances are non-cash charges that make cash flow
differ from profit or net income in any given year
Tax
=
% of CAPEX
(Depend on Type of Assets & Government Rule)
Depreciation Concepts
Depreciation
Depreciation
The key point to remember about depreciation from an
economic analysis standpoint is that you must separate
book depreciation (accounting depreciation) from tax
depreciation.
Our object in economic analysis is to get to the cash
flow stream.
Only tax depreciation causes cash flow.
If book depreciation is used, deferred tax is needed for
adjustment the cash flow.
Book Value =
Cost Basis =
Depreciation Methods
A. Straight line: use for financial/book accounting
Accelerated depreciation: use for tax accounting such as:
B. Sum of years digits
C. Declining balance
D. Unit of production
Most often used in book depreciation where the object is to minimize depreciation
expense in order to maximize net income.
Tax depreciation is normally not based upon straight line depreciation since other
methods will generally maximize tax depreciation expense which tends to minimize
taxes payable.
Straight line depreciation results in a constant depreciation expense each year
Each year a constant factor, f, was multiplied by the original basis to determine the
systematic expense for the yearly period.
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Note that the systematic expense for the final (fifth) year should have been $8,192.
If the formula, Basis at end of year =f*Basis at start of year were to continue without
interruption then the basis would never be completely expensed (i.e. reach the value of
zero.).
However the final years systematic expense is an exception and all the remaining basis is
expensed during the final year in the assets life.
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DDB =
2
Useful Life
This is a more rapid expensing of an asset than the single declining balance method.
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D. Unit of Production
this method allows for the systematic expensing of the cost of oil and gas
reserves. Thus it is primarily a depletion method. It differs considerably
from the above systematic expensing methods in the way the factor, f, is
computed.
In this case f = (production during the year)/(reserves at the start of the
year)
UOP
Used in situations where the loss in service value is more closely
related to use or number of units produced rather than time.
Most commonly associated with machinery and equipment
involved in producing natural resources where the physical life of
the equipment exceeds the economic or production life of the
natural resources.
Example:
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UOP example
Original basis = $100,000
Assumed life of asset (in this case, the natural resource)= 5 years
Reserves at the start of the first year= 10,000 STB
Production = amounts given in the table below
Year
Basis at
Systematic
Basis at
Reserves at Year's
Reserves at
start of year
expense
end of year start of year production end of year
1
$100,000
$20,000
$80,000
10000
2000
8000
2
$80,000
$30,000
$50,000
8000
3000
5000
3
$50,000
$25,000
$25,000
5000
2500
2500
4
$25,000
$10,000
$15,000
2500
1000
1500
5
$15,000
$15,000
$0
1500
1500
0
Reserves re-evaluation
The last example assumed that reserves were not adjusted from year to
year. If reserves had been adjusted then the systematic expense schedule
will change. Nevertheless, the factor, f, will still be calculated in the same
way. To show how adjustment of reserves influences systematic expenses
well use the following scenario:
Scenario
An oil companys engineering department has adjusted reserves at the end
of the second year to reflect the results of a new engineering study that
showed reserves had increased by an additional 2,000 STB. To simplify
the example, well assume that production rates remain the same. This
increases the reserve life beyond five years and will leave an unexpensed
basis at the end of that time
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Basis at
Systematic
Basis at
Reserves at Year's
Reserves at
start of year
expense
end of year start of year production end of year
1
$100,000
$20,000
$80,000
10000
2000
8000
7000
2
$80,000
$30,000
$50,000
8000
3000
$17,857
$32,143
7000
2500
4500
3
$50,000
$32,143
$7,143
$25,000
4500
1000
3500
4
$25,000
$10,714
$14,286
3500
1500
2000
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Note that the first change in systematic expense took place in year three. In the first
example the year three value of f was 2500/5000 = 0.5. In the second example the year
three value of f changed to 2500/7000 = 0.35714.
Comparing of 3 methods
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Revenues
Operating Expenses
Depreciation (Book)
Income Before Taxes
Book Tax Provision
Net Income (NIAT)
Key Comment:
NIAT does not equate to cash flow from operations.
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Tax Accounting
Revenues - generally similar to book revenues. We assume no difference.
Operating Expenses - generally similar to book definition. We assume no
difference.
(Book Depreciation - no such term in tax accounting.)
Tax Depreciation capital expenditure allocation of tax basis.
Tax Basis - historical cost of asset less any accumulated tax depreciation.
(Net Income - no such term in tax accounting.)
Taxable Income - revenues less operating expenses less tax depreciation.
Current Taxes Payable - taxable income times tax rate.
=
x
=
Revenues
Operating Expenses
Tax Depreciation
Taxable Income
Tax Rate
Current Taxes Payable
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Deferred Taxes
Deferred income taxes is a concept associated only with the
book or financial accounting. It is not a tax accounting concept.
Tax accounting computes an income tax payable. It is payable
for and within the current year.
Book accounting computes a provision for income taxes as a
reduction of net income. Thus, the book provision for income
taxes is based upon book depreciation and will differ from current
taxes payable if book and tax depreciation are not equal.
The difference between current taxes payable and the book
tax provision is known as deferred taxes and thus is important
in tracking cash.
Tax
10,000
2,000
8,000
4,000
4,000
Book
10,000
2,000
8,000
2,000
6,000
NOTE:
Tax rate of
50%
assumed.
2,000
3,000
3,000
Thus, our book provision for income taxes is 3,000 while our current taxes
are 2,000. The difference of 1,000 is known as a deferred tax.
The meaning of a deferred tax is that it represents a tax on current book
year earnings that will be paid in a future year.
The deferred tax could alternatively be computed as the difference in tax
and book depreciation (4,000-2,000) times the tax rate (50%).
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Tax
Depreciation
Book
Depreciation
Difference
800
1,400
1,200
1,000
1,000
1,000
900
900
900
900
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
(200)
400
200
(100)
(100)
(100)
(100)
10,000
10,000
-0-
Tax
Rate
46%
46%
46%
46%
46%
46%
46%
46%
46%
46%
Deferred
Tax
Accumulated
Deferred Tax
(92)
184
92
(46)
(46)
(46)
(46)
(92)
92
184
184
184
184
138
92
46
-0-
-0-
The deferred tax in the first year is negative meaning that the current
taxes payable to the government are higher than the book income tax
provision.
2.
Over time the exact same amount will be taken for tax depreciation as
taken for book depreciation.
3.
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Revenues:
$5,000/year
Operating Costs:
$1,000/year
Tax Rate:
46%
= - Investment = -10,000
Year
Year
Year
Year
Year
1
2
3
4
5
Year
Year
Year
Year
Year
1
2
3
4
5
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1
2
3
4
5
Taxes (Book)
[5000 - 1000 - 2000] x 46% = 920
[5000 - 1000 - 2000] x 46% = 920
[5000 - 1000 - 2000] x 46% = 920
[5000 - 1000 - 2000] x 46% = 920
[5000 - 1000 - 2000] x 46% = 920
Year
Year
Year
Year
Year
1
2
3
4
5
Net Income
5000 - 1000 - 2000 - 920 = 1080
5000 - 1000 - 2000 - 920 = 1080
5000 - 1000 - 2000 - 920 = 1080
5000 - 1000 - 2000 - 920 = 1080
5000 - 1000 - 2000 - 920 = 1080
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Note that the cash flows are identical in each period regardless of
approach! Must be true in all cases.
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