Marmon Drilling Limited leases property on which oil has been discovered. Wells on this property produced 21,000 barrels of oil during the current year and it was sold at an average of $85 per barrel. The total oil resources of this property are estimated to be 250,000 barrels.
The lease provided for an immediate payment of $5 million to the lessor (owner) before drilling began and an annual rental of $275,000. Development costs of $6,250,000 were incurred before any oil was produced, and Marmon follows a policy of capitalizing these preproduction costs. The lease also specified that each year the lessor would be paid a premium of 5% of the sales price of every barrel of oil that was removed. In addition, the lessee is to clean up all the waste and debris from drilling and to pay the costs of reconditioning the land for farming when the wells are abandoned. It is estimated that the present value of the obligations at the time of the lease for the cleanup and reconditioning for the existing wells is $300,000.
Instructions
(a) From the information given, provide the journal entry made by Marmon Drilling Limited to record depletion for the current year assuming that Marmon applies ASPE.
(b) Assuming that the oil property was acquired at the beginning of the current year, provide the entry to record the acquisition of the asset and the annual rental payment.