Question

On January 1, 2015, ABC Ltd. started its business by purchasing a productive oil well. The proved oil reserves from the well are expected to generate $ 7,000 cash flow at the end of 2015, $ 6,000 at the end of 2016, and $ 5,000 at the end of 2017. Net sales is gross revenues less production costs. Net sales equals cash flows. On January 1, 2018, the oil well is expected to be dry, with no environmental liabilities. The management of ABC Ltd. wishes to prepare financial statements on a present value basis with an interest rate of 10%. The following information is known about the well at the end of 2015.

Actual cash flows in 2015 amounted to $ 6,500— that is, $ 500 less than expected.
Changes in estimates: Due to improved recovery (of oil from the well), end of year cash flows for 2016 and 2017 are estimated to be $ 6,500 and $ 6,000 respectively.

Required
a. Prepare the income statement of ABC Ltd. for 2015 from its proved oil reserves.
b. Managements of some firms have expressed serious concerns about the reliability of present value information for oil and gas companies. Outline two of these concerns.



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  • CreatedSeptember 09, 2014
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