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A company set up a gas exploration site on 1 January 2001 which will operate for five years.At the end of five years the site will need to be dismantled and the landscape restored. The amount required for dismantling and restoration discounted at the company’s cost of capital of 8% is 1.2m dollar and a provision is set up for this amount.
What is the total amount charged to profit and loss for the year ended 31 December 2002 in respect of these dismantling and restoration costs?
Well in understood the yearly depreciation part but cannot understand the unwinding of discount part,can you please explain it?That 1.2m amount is already a discounted one at 8% at 5 years time.So the yearly finance cost should be based on the original amount rather than the discounted figure of 1.2 m right?No, the unrolling of the discount uses as the start point the discounted present value … in this case, the value of $1.2 million
That figure, 5 years on, has been estimated to be, say, $2.5 million which, when discounted to 1 January, 2001 gives us a present value of $1.2 million
Now for each of the next 5 years, we need to unroll that discounted value by taking as the finance charge in the first year 8% of $1.2 million
Dr Finance Charges $96,000 (8% * $1.2)
Cr Discounted Provision Account $96,000Next year the amount unrolled will be 8% * $1,296,000
OK?
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