How decommissioning and site restoration costs are recognized under IAS 37, IAS 16, and ASC 410
- Graziano Stefanelli
- 9 minutes ago
- 5 min read
When companies operate in industries such as oil and gas, energy, mining, or chemicals, they incur obligations to dismantle assets and restore sites once operations cease. These decommissioning or asset retirement obligations (AROs) require early recognition, because the obligation arises when the asset is installed or disturbed, not when the site is actually closed. IFRS (IAS 37, IAS 16) and US GAAP (ASC 410) share the same underlying logic — record a liability at present value and a corresponding asset component — but they differ in subsequent measurement and discount rate updates.
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How decommissioning obligations arise
A decommissioning or restoration obligation exists when:
The company is legally required to remove, decontaminate, or restore a site at the end of use (e.g., lease, law, permit).
The obligation results from the construction or installation of an asset that causes future cleanup needs.
A constructive obligation exists from past practice or public commitments to restore.
Common examples:
Plugging and abandoning oil wells.
Dismantling offshore platforms.
Removing nuclear or wind facilities.
Restoring landfills and contaminated soil.
Example:An energy company builds a power plant costing €12,000,000 and is legally required to dismantle it after 20 years at an estimated future cost of €3,000,000.
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IFRS recognition and initial measurement (IAS 37 and IAS 16)
Under IFRS, when the obligation arises, recognize:
A decommissioning liability (provision) measured at the present value of expected future cash outflows, discounted using a pre-tax rate reflecting current market assessments of the time value of money and risks specific to the liability.
A corresponding asset retirement cost added to the cost of the related asset (IAS 16).
Example computation (IFRS):
Future cost = €3,000,000 in 20 yearsDiscount rate = 5%Present value = €3,000,000 ÷ (1.05)²⁰ = €1,127,000
Initial entry (at construction):
Dr Property, Plant and Equipment (Decommissioning Asset) 1,127,000
Cr Provision for Decommissioning 1,127,000
Subsequent measurement:
The liability increases each year via unwinding of discount (interest accretion).
Dr Finance Cost 56,000
Cr Provision for Decommissioning 56,000
The asset is depreciated over its useful life (e.g., 20 years).
End of life (actual dismantling):
Dr Provision for Decommissioning 3,000,000
Cr Cash 3,000,000
If actual costs differ from estimates, record a remeasurement (adjust both the provision and the asset).
Changes in discount rate or timing:
Recalculate present value and adjust the carrying amount of both asset and liability.
If the asset is fully depreciated, recognize the effect in profit or loss.
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US GAAP recognition and initial measurement (ASC 410-20)
ASC 410-20 requires recognition of an Asset Retirement Obligation (ARO) when:
A legal obligation exists to retire a tangible long-lived asset, and
The fair value of the obligation can be reasonably estimated.
If fair value cannot be estimated initially, record it when estimable.
Initial measurement (same example):
Future cost = $3,000,000Discount rate (credit-adjusted, risk-free) = 5%Present value = $1,127,000
Initial entry:
Dr Asset Retirement Cost (ARC) 1,127,000
Cr Asset Retirement Obligation 1,127,000
Subsequent measurement:
Accrete the liability each period using the credit-adjusted risk-free rate determined at inception (no updates for market rate changes).
Dr Accretion Expense 56,000
Cr ARO Liability 56,000
Depreciate the ARC asset over the useful life of the asset.
At settlement:
Dr ARO Liability 3,000,000
Cr Cash 3,000,000
If actual cost differs from the liability, record the difference in profit or loss at settlement.
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Comparative framework — IFRS vs US GAAP
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Worked example with subsequent changes
Facts:
Original PV of obligation = €1,127,000 (20 years @5%).
After 10 years, new estimate of future cost = €3,600,000 and discount rate = 4%.
Remaining term = 10 years.
Under IFRS:
New PV = €3,600,000 ÷ (1.04)¹⁰ = €2,438,000Old carrying amount of provision (after 10 years’ accretion) = €1,838,000Difference = €600,000 increase
Entries:
Dr PPE (Decommissioning Asset) 600,000
Cr Provision for Decommissioning 600,000
Revised liability and asset now aligned with updated estimate.
Under US GAAP:
Revisions in estimates are treated by layering:
Compute incremental ARO for change in estimate using new rate (4%) and remaining life (10 years).
Add this layer to existing liability; accrete each layer using its own rate.
Entry:
Dr Asset Retirement Cost 600,000
Cr ARO Liability 600,000
This layering approach preserves the original accretion schedules.
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Journal entries summary
IFRS
Initial recognition:
Dr PPE (Decommissioning Asset) xx
Cr Provision for Decommissioning xx
Unwinding discount:
Dr Finance Cost xx
Cr Provision xx
Remeasurement (rate change):
Dr / Cr PPE xx
Cr / Dr Provision xx
Settlement:
Dr Provision xx
Cr Cash xx
US GAAP
Initial recognition:
Dr Asset Retirement Cost xx
Cr ARO Liability xx
Accretion:
Dr Accretion Expense xx
Cr ARO Liability xx
Change in estimate (layer):
Dr Asset Retirement Cost xx
Cr ARO Liability xx
Settlement:
Dr ARO Liability xx
Cr Cash xx
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Disclosure requirements
IFRS (IAS 37 / IAS 16):
Nature, timing, and expected costs of obligations.
Major assumptions (discount rate, inflation, risk adjustments).
Reconciliation of opening and closing provisions.
Sensitivity analysis for rate changes.
US GAAP (ASC 410-20-50):
Reconciliation of ARO beginning and ending balances.
Total accretion expense recognized.
Liabilities incurred and settled during the period.
Description of methods and assumptions used to estimate fair value.
Example (IFRS note):
At December 31, 2025, the Group recognized provisions of €45.8 million for decommissioning obligations, discounted at rates between 3.8% and 5.2%. The liability increased by €2.4 million due to changes in estimates and €1.7 million from unwinding of discount.
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Impact on financial performance and ratios
EBITDA: Unaffected by accretion expense (below EBITDA) but affected by depreciation of the capitalized asset.
Leverage: Recognition increases liabilities; important for debt covenant calculations.
Asset turnover: Increases PPE base, potentially reducing return on assets.
Profit volatility: Changes in discount rates under IFRS can create year-to-year volatility not seen under GAAP.
Long-term transparency depends on consistent estimation, documentation, and disclosure of all assumptions driving the obligation’s present value.
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Operational considerations
Establish a centralized model for estimating decommissioning costs with consistent inflation and discount assumptions.
Reassess estimates annually and whenever regulations or market rates change.
Align engineering forecasts with accounting assumptions for timing and cost.
Implement tracking systems for asset-level obligations to ensure accurate unwinding and depreciation.
Review contracts for embedded decommissioning clauses that might create unrecorded liabilities.
Recognizing and updating decommissioning and site restoration costs under IAS 37 and ASC 410 ensures that environmental and closure obligations are transparently reflected throughout the asset’s lifecycle, not deferred to its end.
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