Question

In 2019, Lila Done Ltd explored two different areas of interest and spent $340,000 for Area X and $260,000 for Area Y. The results of exploration and evaluation (E&E) activities suggested that Areas X and Y may contain mineral reserves, so the company acquired leases over these two areas. The leases cost $300,000 for each area.

In 2020, Lila Done Ltd commenced a drilling program to evaluate Areas X and Y. Two exploratory wells were drilled in Area X and one in Area Y at a cost of $240 ,000 each. The two wells drilled in Area X indicated that the company had discovered economically recoverable reserves. Management was uncertain about the likelihood of finding economically recoverable reserves for the well in Area Y. Therefore, Lila Done Ltd decided to continue E&E activities in Area Y. After incurring costs of $120 ,000 to confirm the technical feasibility and commercial viability of extracting the mineral resources, development of Area X commenced.

In 2021, to evaluate the area of interest further, three more wells were drilled in Area X. Of these, two were dry. Each well costs $250 ,000. The successful wells in Area X were developed for a total cost of $600,000. After further dry wells costing $150 ,000 were drilled in Area Y, management concluded that Area Y did not contain any commercially viable quantities of mineral resources, so it was abandoned. Assume that the company's financial year starts on 1 January and closes on 31 December.

REQUIRED

Determine what amounts would be recognised as an expense (in the profit or loss) versus capitalised as an asset, in relation to each area of interest for each financial year assuming Lila DoneLtd capitalises successful E&E costs on an area of interest basis (i.e., expenses dry holes).

Answer 1

	Area X	Area Y
Year 2019
Exploration cost	340,000	260,000
Year 2020
Leases	300,000	300,000
Exploratory wells	480,000	240,000
technical feasibility	120,000
Year 2021
Dry wells	500,000	150,000
Successful	250,000
Development cost	600,000
Year 2019 - The exploration cost incurred on both the areas will be capitalised.
Year 2020 - The entire cost incurred on X & Y will be capitalised as the success of E&E is not yet known for any of the area.
Year 2021 - The cost of successful hole and development cost will be capitalised for area X.Dry well cost for both area
X & Y will be expensed off.Moreover the entire cost of area Y which was capitalised earlier can be amortised in 2021.