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Depletion definition

Chevron Corp. (CVX) reported $19.4 billion in DD&A expense in 2018, more or less in line with the $19.3 billion it recorded in the prior year. In its footnotes, the energy giant revealed that the slight DD&A expense increase was due to higher production levels for certain oil and gas producing fields. The dollar amount represents the cumulative total amount of depreciation, depletion, and amortization (DD&A) from the time the assets were acquired. Assets deteriorate in value over time and this is reflected in the balance sheet. The expense is calculated by multiplying the depletion per unit by the number of units consumed or sold during the current period.

  1. The use of depreciation is intended to spread expense recognition for fixed assets over the period of time when a business expects to earn revenue from those assets.
  2. Company ABC runs a mining operation that uses heavy machinery (capital) and skilled engineers (labor) to extract shale oil from an oil well (land).
  3. One method of calculating depletion expense is the percentage depletion method.
  4. Conceptually, depletion is similar to the depreciation of property, plant and equipment.
  5. The depletion concept is used in accounting to charge the costs of natural resource extraction to expense as those resources are being used.

From an accounting perspective, it is a charge against the recorded asset value of a natural resource. This charge is made in each reporting period, in an amount that reflects the level of asset usage during the period. Examples of depletion involve the logical expensing of a company’s cost of natural resources such as oil, natural gas, coal, metals, stone, etc. If a company uses all three of the above expensing methods, they will be recorded in its financial statement as depreciation, depletion, and amortization (DD&A). A single line providing the dollar amount of charges for the accounting period appears on the income statement.

Recording Depreciation, Depletion, and Amortization (DD&A)

Adjusted basis is the basis at end of year adjusted for prior years depletion in cost or percentage. The owner of this website may be compensated in exchange for featured placement of certain sponsored products and services, or your clicking define depletion in accounting on links posted on this website. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear), with exception for mortgage and home lending related products.

What is depletion?

However, in some cases, cost depletion must be used over percentage depletion, such as the case with standing timber. Cost depletion is typically part of the «DD&A» (depletion, depreciation, and amortization) line of a natural resource company’s income statement. Depletion is similar to depreciation, which is used to allocate the cost of tangible assets like factories and equipment over their useful lives. Depletion is used for natural resources, which can include minerals, ore, oil, gas, and timber. In particular, a company that extracts resources will use depletion to account for the use of these assets.

DD&A Under the Successful Efforts Method

For tax purposes, the two types of depletion are percentage depletion and cost depletion. The objective of depletion is to match the cost of the natural resources that were sold with the revenues from the natural resources that were sold. For example, if a large piece of machinery or property requires a large cash outlay, it can be expensed over its usable life, rather than in the individual period during which the cash outlay occurred.

Analysts and investors in the energy sector should be aware of this expense and how it relates to cash flow and capital expenditure. My Accounting Course  is a world-class educational resource developed by experts to simplify accounting, finance, & investment analysis topics, so students and professionals can learn and propel their careers. Shaun Conrad is a Certified Public Accountant and CPA exam expert with a passion for teaching.

Cost Depletion: Meaning, Formula, Example

Depreciation applies to expenses incurred for the purchase of assets with useful lives greater than one year. A percentage of the purchase price is deducted over the course of the asset’s useful life. The depletion equation is somewhat different than a typical depreciation formula because you have to figure out an average price per unit first. To calculate the depletion per unit you take the total cost less salvage value and divide it by the total number of estimated units. Company ABC runs a mining operation that uses heavy machinery (capital) and skilled engineers (labor) to extract shale oil from an oil well (land). By using the units remaining at the end of the year, the adjustment allows for revised estimates of the reserves.

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