Audit Method: Oil & Gas Industry

The Oil & Gas Industry comprises of three sectors:

The Upstream sector: This is also called the exploration and production sector (E&P). It involves the search for potential underground or underwater crude oil and natural gas.

The Midstream sector: This sector involves the transportation, storage and marketing of petroleum products.

The Downstream sector: this sector is involved in the refining of crude petroleum products and processing and purification of the raw natural gas.

Accounting for oil and gas companies is a bit complicated because it has to reflect the company’s principal assets; the oil and gas reserves, with ownership rights often based on contractual relationships between the oil and gas producing entities and the owners of the mineral rights. 

Some of the specific accounting issues which arise in the Oil and gas sector are as follows: 

• Joint Arrangements: It is a common term for oil & gas companies to share the risks and costs of exploration and production activities. A separate Joint Venture Account statement is prepared which shows the advances received from working interest owners and how the amount is spent.
• Revenue recognition: The revenue arising from each transaction is recognized based on the terms of the underlying sales agreement.
• Exploration & Evaluation Assets and Development Assets: IFRS 6 - Exploration for and Evaluation of Mineral Resources explain the complete accounting for these assets.
• Depletion, depreciation and amortization (DD&A): The unit of production method is most commonly used to deplete upstream oil and gas assets.
• Impairment of non-financial assets: IFRS 6 relaxed the rules of annual impairment testing for exploration and evaluation (E&E) assets. IFRS 6 requires these assets to be tested for impairment only when the facts and circumstances suggest that the carrying amount may exceed its recoverable amount and on the transfer of E&E asset to development assets. 
• Reserves Reporting: The purpose of reserve reporting is to make available information about the oil and gas reserves which are controlled by the company. This information helps to assess the companies’ current performance and future prospects.
• Provisions for Decommissioning Costs: Due to exploration and evaluation activities oil and gas companies often are required to create a provision for meeting the costs of site restoration, decommissioning and dismantling of assets. It is covered by IAS 37.

Practice

While conducting the audit of oil & gas companies, the auditor should gain thorough and deep understanding of the industry and the practices followed by the oil & gas companies. Audit requirements may vary depending on whether the company is operating in an upstream, midstream or downstream sector. Moreover audit procedures in upstream sector also vary depending on whether the company is an operator or non-operator of and oil or gas well or lease.