Full Cost (FC) Method

What Is the Full Cost (FC) Method?

The full cost (FC) method is an accounting system used explicitly by extractive industries, for example, oil and gas companies. Under this technique, all exploration operating costs are capitalized, whether or not they were effective or not, and afterward amortized into expenses over the long haul as the total reserves are delivered.

This approach remains as opposed to the effective efforts (SE) accounting method, which just capitalizes expenses connected with productive extraction adventures.

Figuring out the Full Cost (FC) Method

Oil and gas companies spend huge amount of cash investigating new undiscovered reservoirs with no guarantee that they will track down anything. Costs incorporate securing land, obtaining the fundamental consents to concentrate, buying or leasing pertinent equipment, transportation, and paying a specialist labor force's wages.

At the point when a company's exploration efforts miss the mark, any costs incurred are normally recorded as an expense on the income statement. The full cost (FC) method adopts an alternate strategy, recording all effective and fruitless explorations as a cost on the balance sheet.

Oil and gas travelers can account for costs utilizing either the full cost (FC) method or the effective efforts (SE) accounting method. Under the last option, a company is permitted to capitalize just those expenses associated with successfully finding new oil and natural gas reserves. For fruitless, or "dry hole," results, the associated operating costs are promptly charged against revenues for that period.

Significant

Two differentiating types of accounting methods coincide because governing bodies are separated about which one best transparently reports a company's earnings and cash flows.

Full Cost (FC) Method versus Fruitful Efforts (SE) Method

The two alternative methods for recording oil and gas exploration and development expenses are the aftereffect of two varying perspectives on the real factors of investigating and creating oil and gas reserves. Each view demands that the associated accounting method best accomplishes transparency relative to an oil and gas company's accounting of its earnings and cash flows.

As per the view behind the SE method, the ultimate objective of an oil and gas company is to deliver the oil or natural gas from reserves it finds and grows with the goal that main those costs connecting with effective efforts ought to be capitalized. Conversely, because there is no change in useful assets with fruitless outcomes, costs incurred with those efforts ought to be expensed.

Defenders of the full cost (FC) method, in the mean time, fight that the predominant activity of an oil and gas company is just the exploration and development of oil and gas reserves, meaning that all costs incurred in quest for that activity ought to initially be capitalized and afterward written off throughout the span of a full operating cycle.

Benefits and Disadvantages of the Full Cost (FC) Method

Picking the full cost (FC) method path accompanies a series of benefits and downsides. Until a impairment happens, reported profit levels can give off an impression of being deceivingly raised, since the expense recognition for such countless costs has been deferred to a future date. Higher net income (NI) may make the company quickly seem more appealing to investors than contenders and assist it with raising new capital.

Simultaneously, capitalizing fruitless exploration costs as opposed to expensing them brings about the company being more helpless to large non-cash charges while the previous factors bring about an expected cash flow decline. These compose downs or accounting expenses tend to burden earnings and share prices.

At long last, it's worth bringing up that the requirement for periodic impairment audits can likewise increase accounting costs.

Special Considerations

The presence of two accounting methods represents clashing perspectives in the industry about how oil and natural gas companies can most transparently report their earnings. Ultimately, the two organizations that control accounting and financial reporting, the Financial Accounting Standards Board (FASB) and the Securities and Exchange Commission (SEC), can't necessarily in every case settle on which method is generally proper.

In its "Statement of Financial Accounting Standard No. 19," the FASB expects that oil and gas companies use the SE method. The SEC, then again, permits companies to use the full cost (FC) method. As such, these two governing bodies presently can't seem to settle on some shared interest expected to lay out a single accounting approach.

That ultimately means that investors must be cautious, recognizing that reporting varieties and are monitoring their associated influences. The decision between these two accounting methods influences a company's reported NI and cash flows, so investors ought to observe the method used and the differences between the two.

Features

• Full cost (FC) accounting is an alternative to the effective efforts (SE) accounting method, which just capitalizes expenses connected with productive extraction adventures.
• Full cost (FC) accounting permits companies to capitalize all operating expenses connected with finding new oil and gas reserves, no matter what the outcome.
• Conceding ineffective expenses to a future date blows up reported net income (NI) yet additionally makes the company more helpless to large non-cash charges.
• These two accounting techniques coincide because governing bodies can't necessarily settle on which method most transparently reports earnings and cash flow.