Implementation of IFRS 6 for Exploration of Mineral Resources

IFRS 6 is devoted to assets derived from the exploration and utilization of natural mineral resources. It should be noted that IAS 16 on property, plant, and equipment does not apply to mineral rights and natural resources. The Standard is largely concerned with the handling of exploration and evaluation expenditures related to mineral extraction.

Need for IFRS 6

IFRS 6 was established as an interim guideline and was intended to provide a short-term solution to the issue of accounting for the exploration and appraisal of mineral resource assets. Nevertheless, it has now been in effect since December 2004 and pertains to accounting periods beginning on or after January 1, 2006. Prior to this IFRS Standard, there was a dearth of guidance, and when national standards did exist, accounting procedures were diverse, with a variety being employed throughout the world to account for the expenses of exploration and extraction. These options included capitalizing the expenditures or claiming them as research expenses.

The majority of the leading players in this sector employ the ‘successful efforts’ technique, in which the expenses of locating, acquiring, and developing reserves are capitalized on a ‘field by field’ basis. The capitalized costs are attributed to the finding of a commercially viable mineral resource. If no finding is made, the spending is accounted for as a cost. However, some businesses have adopted the ‘full cost’ method, in which all costs are capitalized. Many organizations would have had to adjust their accounting practices for these expenditures if IFRS 6 had not been implemented. It would have compelled them to rely on the IASB Conceptual Framework or standards established by their respective national standard setters.

IFRS 6 makes only minor adjustments to existing and past practice. This implies that the essential principle of capitalization of exploration expenses, which is adopted by the vast majority of mining companies, remains unchanged. The primary goal of IFRS 6 is to describe the situations under which businesses should test exploration and evaluation expenses for impairment and when to require the disclosure of information about such assets.

Capitalization of expenditure under IFRS 6

The phrase “exploration & evaluation of mineral resources” is referred to as the search for all-natural resources such as minerals, natural gas, oils, and other non-regenerative resources after the company has taken the necessary legal rights^[1] to explore and evaluate in a particular area. It is also concerned with the assessment of the technical feasibility as well as the commercial viability of extracting & evaluating the natural resources.

The expense incurred for the exploration and assessment of mineral resources comprises the money incurred prior to establishing the extraction’s technical and economic feasibility. According to the combined interpretation of the above definitions, the exploration & evaluation expenditure covered by the Standard is that which is expended after securing the legal rights for such exploration/evaluation and before determining the commercial/technical feasibility of the extraction.

The capitalization of exploration & evaluation expenditures is the essence of this Standard (IFRS 6). Exploration and evaluation expenditure may be considered as an exploration/evaluation asset depending on the corporation’s accounting policy. The consideration for the same is the “extent to which expenditures may be correlated with the discovery of certain mineral resources.” That means that an accounting policy in relation to the capitalization of an expenditure operates on the premise that the expenditure would result in cash flows over time.

Some examples of expenditure that can be capitalized as an asset include the following:

1. purchase of legal rights to explore the natural resources,
2. the conduct of topographical, geochemical, geological, as well as geophysical studies,
3. exploratory drilling,
4. sampling,
5. trenching,
6. the activities that are connected to the assessment of the technical feasibility and commercial viability of extracting a natural mineral resource.

Developmental costs are not covered by this Standard; instead, IAS 38 on intangible assets covers them. By following the cost model or revaluation model as in the case of fixed assets under IAS 16, the subsequent measurement of exploration and evaluation assets can be done. In addition, once the technical feasibility, as well as the commercial viability of the exploration/evaluation, can be demonstrated, the assets will no longer be categorized as exploration/evaluation assets and will be classified as ordinary tangible or intangible assets.

Thus, the scope of IFRS 6 is fairly limited, and expenses can only be capitalized when the firm has gained legal rights to explore in a specific region but before extraction has been proved to be both technically possible and commercially sustainable. As a result, expenses paid prior to obtaining legal rights to explore are expensed to profit or loss, however, once technical and economic viability has been shown, IAS 16 or 38 would apply to costs.

Under IFRS 6, recognized exploration and evaluation assets shall be categorized as either tangible or intangible assets. As a result, assets recognized in relation to licenses and surveys should be categorized as intangible assets. Subsequent expenditures spent throughout the exploration and assessment phases should also be capitalized in accordance with this policy. In essence, the firm can keep the cumulative cost as an exploratory asset until there is enough information to establish whether or not there will be commercial cash flows.

Once the technical, as well as the commercial viability of extracting a mineral resource, has been proved, the assets move outside the scope of IFRS 6 and are reclassified in accordance with other IFRS Standards. Before reclassification, the assets should be assessed for impairment and any impairment loss should be recognized.

Changes to an entity’s accounting policy for exploration and extraction assets may be implemented only if the outcome makes the financial statements more relevant and not less trustworthy, or more reliable and no less relevant to the demands of economic decision-makers.

In addition, a business would recognize the cost of any obligations for removal and restoration incurred as a result of the exploration and appraisal of mineral resources. Provisions, Contingent Liabilities, and Contingent Assets under IAS 37 would be used for the purpose.

Impairment

Assets used for exploration and evaluation are subjected to impairment. The carrying value of the asset must be compared to the recoverable amount to determine if the asset is impaired. The following are some examples of indicative impairment tests:

• The term for which the corporation has the right to explore in the particular area has ended or will lapse in the near future, and it is not likely to be renewed.
• There are no substantial budgeted or planned expenditures for further exploration and assessment of mineral resources in the specified region.
• The entity has chosen to terminate such operations in the specified region since exploration for and appraisal of mineral resources in the specific area have not resulted in the finding of commercially viable amounts of mineral resources.
• There is enough data to suggest that, while the development in the specific region is likely to occur, the carrying amount of the exploration & evaluation asset is improbable to be recovered in full via effective development or sale.

An organization must develop an accounting strategy for assigning exploration & evaluation assets to Cash Generating Units (CGUs) or groups of Cash Generating Units for the purpose of ascertaining whether such assets are impaired. Every Cash Generating Unit (CGU) or group of units to which an exploration and evaluation asset is assigned must be no bigger than an operating segment defined in line with IFRS 8 Operating Segments.

When facts and figures indicate that an exploration and evaluation asset’s carrying amount may exceed its recoverable value, the asset’s carrying amount is subject to impairment assessment. Thus, when facts and figures indicate that the carrying amount exceeds the recoverable amount, a company is required to measure, present, and declare any resulting impairment loss in line with IAS 36.

Conclusion

According to IFRS 6, exploration and development expenses that are capitalized are designated as non-current assets in the statement of financial position and should be stated separately on the face of the statement of financial position, as well as segregated from productive assets, wherever material. The distinction between ‘tangible’ and ‘intangible’ assets, created during the exploration stage, should be maintained throughout the development and production stages. The amounts capitalized as well as the amounts recognized as expenses from exploration, development, and production operations should be clearly stated.

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