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New on the Horizon: Production stripping costs

International Financial Reporting StandardsSeptember 2010

© 2010 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved.

ForewordIn Draft Interpretation DI/2010/1 Stripping Costs in the Production Phase of a Surface Mine the IFRS Interpretations Committee in effect proposes component accounting for production phase stripping costs.

Stripping activity can be a significant part of the cost base for many open pit mines. Allocating the cost of this activity between development and cost of sales has long been a matter of debate. In 2005 the US Financial Accounting Standards Board came down on the side of allocating all production stripping costs to inventory produced during the period in which the costs are incurred (essentially expense as you go); this was despite the long-standing practice of many mining companies of equalising the costs over production, usually using average stripping ratios. This approach was controversial as many commentators believed that it did not reflect their view of the economics of the decision to mine, and created inappropriate volatility in the income statements of many mining companies. In 2006 the Canadian accounting standard setter issued specific guidance allowing stripping costs to be capitalised in certain circumstances.

The IFRS Interpretations Committee has now decided to address this issue.

The proposals recognise that some production stripping activities will benefit future periods’ production and propose capitalising those costs and allocating them to the cost of producing the incremental ore exposed by the stripping campaign.

The proposed approach of identifying the costs of a stripping campaign against specific portions of the ore body and charging the cost to the production of the ore in those areas differs significantly from the currently popular average strip ratio approach. Application will require significant judgement in practice, which may limit the degree of consistency achieved by the proposals, although this may not be much different from the treatment of certain underground development costs.

We hope that this publication will assist you in gaining a greater understanding of the proposals in DI/2010/1. We encourage you to join in the debate and to provide the IFRS Interpretations Committee with your comments by the deadline of 30 November 2010.

Jimmy Daboo Lee HodgkinsonGlobal Audit Lead, Energy & Natural Resources Global Director of MiningKPMG in the UK KPMG in Canada


About this publicationThis publication has been produced by the KPMG International Standards Group (part of KPMG IFRG Limited).

We would like to acknowledge the efforts of the principal authors of this publication. Those authors include Julie Santoro of the KPMG International Standards Group, Nicole Perry of KPMG in Australia, and Jimmy Daboo of KPMG in the UK.

ContentOur New on the Horizon publications generally are prepared upon the release of a new proposed IFRS or proposed amendment(s) to the requirements of existing IFRSs. They include a discussion of the key elements of the new proposals and highlight areas that may result in a change of practice.

This edition of New on the Horizon considers the proposed requirements of Draft Interpretation DI/2010/01 Stripping Costs in the Production Phase of a Surface Mine, which was published by the IASB on 26 August 2010.

The text of this publication is referenced to the draft interpretation by way of references in the left-hand margin.

Further analysis and interpretation will be needed in order for an entity to consider the potential impact of this draft interpretation in light of its own facts, circumstances and individual transactions. The information contained in this publication is based on initial observations developed by the KPMG International Standards Group, and these observations may change.

Other KPMG publicationsA more detailed discussion of the general accounting issues that arise from the application of IFRSs can be found in our publication Insights into IFRS.

In addition to Insights into IFRS, we have a range of publications that can assist you further, including:

¬¬ The Application of IFRS: Mining¬¬ New on the Horizon publications, which discuss consultation papers such as Discussion Paper DP/2010/1:

Extractive Activities¬¬ IFRS compared to US GAAP¬¬ Illustrative financial statements for interim and annual periods¬¬ IFRS Handbooks, which include extensive interpretative guidance and illustrative examples to elaborate or

clarify the practical application of a standard¬¬ New on the Horizon publications, which discuss consultation papers¬¬ Newsletters, which highlight recent developments¬¬ IFRS Practice Issue publications, which discuss specific requirements and pronouncements¬¬ First Impressions publications, which discuss new pronouncements¬¬ Disclosure checklist.

IFRS-related technical information also is available at www.kpmg.com/ifrs.

For access to an extensive range of accounting, auditing and financial reporting guidance and literature, visit KPMG’s Accounting Research Online. This web-based subscription service can be a valuable tool for anyone who wants to stay informed in today’s dynamic environment. For a free 15-day trial, go to www.aro.kpmg.com and register today.


KPMG’s Global Energy & Natural Resources practiceKPMG’s Global Energy and Natural Resources (ENR) practice is organised through a global leadership team aligned with member firms’ ENR practices. KPMG’s ENR professionals help member firms’ clients address the complexities and challenges that affect their businesses by creating industry groups that tackle different areas of the global energy marketplace. The groups facilitate outstanding coverage of the oil and gas, power and utilities, and mining and forestry sectors. Further, KPMG has strategically located Centres of Excellence throughout the world. KPMG member firms provide advisory services related to acquisitions, corporate finance, restructuring, risk management, tax, and audit to their clients.

Your conversion to IFRSAs a global network of member firms with experience in more than 1,500 IFRS conversion projects around the world, we can help ensure that the issues are identified early, and can share leading practices to help avoid the many pitfalls of such projects. KPMG member firms have extensive experience and the capabilities needed to support you through your IFRS assessment and conversion process. Our global network of specialists can advise you on your IFRS conversion process, including training company personnel and transitioning financial reporting processes. We are committed to providing a uniform approach to deliver consistent, high-quality services for our clients across geographies.

Our approach comprises four key workstreams:

¬¬ Accounting and reporting¬¬ Business impact¬¬ Systems, processes, and controls¬¬ People.

For further assistance, please get in touch with your usual KPMG contact, or the national or global contacts listed on pages 13 and 14.


Contents1. Overview of proposals 5

2. Background 6

3. Scope and approach 7

4. Recognition 8

5. Measurement 9

5.1 Initial measurement 9

5.2 Subsequent measurement 9

6. Disclosure 11

7. Effective date and transition 12

Country contacts 13

Global contacts 14


5 New on the Horizon: Production stripping costs September 2010

1. Overview of proposals

¬¬ The draft interpretation deals with waste removal costs (stripping costs) that are incurred in surface mining activity during the production phase of a mine.

¬¬ Production stripping costs incurred as part of a stripping campaign would be capitalised as a component of an existing asset when the definition of an asset is met; a stripping campaign is a systematic process to gain access to a specific section of the ore body.

¬¬ The stripping campaign component would be classified as tangible or intangible, consistent with the classification of the larger asset to which the component relates.

¬¬ The component would be recognised initially based on the costs incurred, including an allocation of directly attributable costs.

¬¬ Subsequent to initial recognition, the stripping campaign component would be recognised at cost less depreciation/amortisation and less any impairment losses.

¬¬ The period of depreciation/amortisation would be based on the expected useful life of the specific section of the ore body that becomes directly accessible as a result of the stripping campaign.

¬¬ Routine production stripping costs, i.e. costs that are not part of a stripping campaign, would be included in current period production costs.

¬¬ The draft interpretation does not include a proposed effective date, but proposes that early adoption of the final interpretation be permitted.

¬¬ The final interpretation would be applied to production stripping costs incurred on or after the beginning of the earliest period presented following adoption of the final interpretation.

¬¬ Existing asset balances upon adoption of the final interpretation would be allocated to the relevant section of the ore body, or recognised in profit or loss at the beginning of the earliest period presented if allocation is not possible; existing liability balances would be recognised in profit or loss at the beginning of the earliest period presented.

¬¬ First-time adopters of IFRSs would be allowed to adopt the transition requirements for existing users of IFRSs, based on the later of the effective date of the final interpretation and the date of transition to IFRSs.


New on the Horizon: Production stripping costs September 2010

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2. Background The IFRS Interpretations Committee (Interpretations Committee) added a project to its agenda on

the accounting for production stripping costs in the mining industry in November 2009.

When mining entities perform significant operations as part of surface mining that involve the removal of waste materials, this activity usually is undertaken to allow and facilitate access to the underlying ore. This waste removal process is particularly important in open pit mining, but an analogous range of processes also exists in underground mining development.

Observations There is no existing guidance in IFRSs related specifically to the accounting for production stripping costs. In our publication The Application of IFRS: Mining1 we reported that generally the entities in our survey captalised production stripping costs; the majority of these entities stated that they capitalised costs to the extent that actual stripping ratios exceeded average life-of-mine stripping ratios. In practice, stripping costs generally are recognised in profit or loss over the remaining life of the mine as a whole. In our experience, this approach can also result in a provision being recognised when stripping ratios increase towards the end of the mine’s life, particularly when recognition is based on the mineral content of the ore.

Some entities follow the US GAAP treatment, which involves expensing all stripping costs incurred as a production cost of the period. Therefore, it appears that the proposals, if implemented in their current form, would improve consistency amongst entities in the industry that apply IFRSs, although there could continue to be a significant difference from US GAAP.

In addition, if the proposals are implemented in their current form, there is likely to be a change in accounting for many entities as they move away from using stripping ratios and life-of-mine calculations. Stripping costs would be depreciated/amortised over shorter periods under these proposals than if an entity was using a life-of-mine basis. In addition, some stripping costs that are capitalised currently would not qualify for capitalisation under these proposals because the costs cannot be related to a specific section of the ore body.

1 Published in September 2009; executive summary available at kpmg.com/ifrs



3. Scope and approachDI 5, 9 The scope of the draft interpretation is restricted to waste removal costs that are incurred in surface

mining activities during the production phase of a mine. While the main focus of the proposals is stripping costs incurred as part of a stripping campaign, other production stripping costs also are dealt with in the proposals.

DI 4 A stripping campaign is a systematic process undertaken to gain access to a specific section of the ore body. The proposals note that a stripping campaign is a more “aggressive” process than routine waste clearing activities. A stripping campaign is planned in advance, has a defined start date and forms part of the mine plan; the campaign ends when the entity has completed the waste removal activity necessary to access the ore with which the campaign is associated.

DI BC6 The draft interpretation focuses on surface mining activities, i.e. activities that will most commonly apply to open pit mines. The Interpretations Committee notes its understanding that stripping activities occur mainly in surface mining activities, rather than in underground mining or waste removal activities in the oil and gas industry. However, the draft interpretation does not rule out application by analogy to those other activities.

DI BC7 Stripping costs incurred during the development phase of a mine are excluded from the scope of the proposals based on the Interpretations Committee’s understanding that there is no diversity in practice. In our experience, pre-production stripping costs generally are capitalised and amortised over the productive life of the mine using the unit-of-production method.

Observations In our experience, there are many different types of surface mines and the ways in which stripping activity occurs in practice are very diverse; this means that in some cases it may not be easy to distinguish between pre-production stripping and production stripping.

Mines vary from “simple” single pits with a reasonably contained ore body (such as in the illustrative example included in the draft interpretation), to complex multi-pit mines in which each campaign is pre-production for the pit but not for the mine as a whole, to large single pits in which the ore body is accessed in phases and the initial pre-production stripping activity (or at least some part of it) provides access only to a part of the ore body. To determine what constitutes pre-production stripping versus production stripping may require considerable judgement. Entities should therefore consider whether it would be more appropriate for the final interpretation to cover all stripping costs that provide access to part, rather than the whole, of an ore body instead of requiring a judgemental distinction to be made between pre-production and production stripping activities.

Entities should consider whether the definition of a stripping campaign reflects the process and information that is used operationally. For example, some entities may undertake stripping activities that broadly meet the above definition; however, they may not have a defined start date. It is unclear whether the features of a stripping campaign as described above are intended to form part of the definition of a stripping campaign.

As current practice often involves recognising production stripping costs in profit or loss on some form of life-of-mine basis, the proposals would likely result in a less uniform recognition of the cost of production through the life of the mine than has been the case in the past.



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4. RecognitionDI 7 The draft interpretation notes that stripping activity gives rise to a benefit, being improved access to

the underlying ore that will be mined. However, in order to conclude that the costs incurred should be capitalised as part of an asset, it would be necessary to demonstrate:

¬¬ control of the benefit created, through ownership of either the land or the rights to mine the land;¬¬ the existence of a past event from which benefits arise, which would be the stripping activity; and¬¬ future economic benefits through improved access to economically recoverable reserves.

DI 8, 9 The draft interpretation envisages these tests being met when stripping costs are incurred as part of a stripping campaign, noting that the costs then become a component of an existing asset; this may be the mine asset, for example. However, “routine” production stripping costs that are not incurred as part of a stripping campaign would be recognised as a current cost of production in accordance with IAS 2 Inventories.

Observations Routine production stripping costs that are not incurred as part of a stripping campaign, but which may provide a benefit in future periods, would not be permitted to be recognised as an asset despite potentially meeting the above criteria for capitalisation.

DI 10 The draft interpretation proposes that an entity capitalise production stripping costs that meet

the recognition criteria as part of the larger asset to which the costs relate. This means that the component would be classified as a tangible or intangible asset component, based on the classification of the related asset.

Observations In our publication The Application of IFRS: Mining we reported diversity in the classification of capitalised stripping costs. For those entities whose classification was apparent from the financial statements, the majority classified capitalised stripping costs as property, plant and equipment; other classifications were as a separate non-current asset and as a separate current asset.

Although the component accounting proposed in the draft interpretation is an integral part of the accounting under IAS 16 Property, Plant and Equipment, it is not mentioned explicitly in IAS 38 Intangible Assets. However, in our experience component accounting is applied to intangible assets in a manner similar to property, plant and equipment in appropriate circumstances.

DI 11 The draft interpretation proposes that the stripping campaign component be specifically associated with, i.e. allocated to, the section of ore that becomes directly accessible as a result of the stripping activity.

Observations Entities should consider how their existing systems track specific ore extraction when compared to stripping campaigns. There may be systems alterations required to amend system data and mapping to implement these proposals.



5. Measurement

5.1 Initial measurementDI 12, 14, 15 The stripping campaign component would be measured initially at cost, i.e. as an accumulation

of the costs incurred as the stripping campaign is undertaken. This would include an allocation of directly attributable costs. However, any costs incurred in relation to incidental operations, i.e. operations not necessary for the stripping campaign to continue as planned, would be expensed as incurred. This approach is consistent with the initial measurement principles in IAS 16 for property, plant and equipment and in IAS 38 for intangible assets.

DI 13 Once the stripping campaign is complete, no further stripping costs would be capitalised.

Observations The draft interpretation provides no further guidance on the meaning of directly attributable costs. However, since this principle is consistent with the initial measurement principles of IAS 16 and IAS 38, we would expect those standards to be used as guidance. For example, we would expect directly attributable costs to include an allocation of fixed and variable overheads, such as haulage, transportation and labour. Assuming that the stripping campaign component is a qualifying asset, borrowing costs also would be capitalised.

5.2 Subsequent measurementDI 16 The measurement model proposed to be applied to the stripping campaign component is

consistent with the cost model under IAS 16 and IAS 38: cost less accumulated depreciation/amortisation and any accumulated impairment losses. The revaluation model would not be permitted.

DI 17, IE The draft interpretation proposes that the stripping campaign component be depreciated/amortised, in a rational and systemic manner, based on the expected useful life of the specific section of the ore body that becomes directly accessible as a result of the stripping campaign. The application guidance that forms part of the draft interpretation provides a simple worked example illustrating a number of different stripping campaigns occurring in a single ore body over a number of reporting periods, and shows the impact of each stripping campaign and the specific ore associated with each campaign.

DI 17 The unit-of-production method of depreciation/amortisation would be applied unless another method is more appropriate.

DI 18, BC18, The draft interpretation notes that the expected useful life of a specific section of the ore body may BC21 differ from that of life-of-mine assets because the stripping campaign will give access only to a

portion of the total ore body. The basis for conclusions includes a comment to the effect that the Interpretations Committee does not expect depreciation/amortisation to be based on a life-of-mine calculation; this is because the principle in the draft interpretation is to allocate the stripping component to an appropriate section of the ore body.

DI 19 The suspension or planned suspension of extraction activities would be an indication of impairment for the stripping campaign component, which would be tested for impairment in accordance with IAS 36 Impairment of Assets.



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Observations As noted in the basis for conclusions to the proposals, life-of-mine or whole-of-life depreciation/amortisation profiles generally would not be expected. This would be a significant change to current practice in which, in our experience, the use of a stripping ratio reflecting life-of-mine expectations is common.

In our experience, the unit-of-production method of calculating depreciation/amortisation generally has been accepted in practice as an appropriate way to allocate mine development costs over the life of a mine; this is because it results in an averaged allocation per unit of output across the whole life of the mine even when the costs of accessing different areas of the ore body are in fact different. The approach taken in the draft interpretation inevitably would mean that costs would be allocated more specifically.

It is unclear from the proposals whether using the life-of-mine basis of depreciation/amortisation always will be inappropriate. At first glance, it appears that some form of life-of-mine basis, while expected to be extremely rare, has not been prohibited in all circumstances.

A stripping campaign in an open pit mine may relate less to the extraction of ore and more to other reasons, e.g. undertaking a major pushback to change the slope of the pit wall for safety reasons. This type of campaign component is more likely to be able to depreciated/amortised over a larger reserves basis than a specific campaign.

Based on the application guidance, despite reserves at the bottom of a pit benefiting indirectly from the removal of ore and waste material in the layers above, the lower ore quantities would not qualify as part of the section of ore that becomes directly accessible as a result of the stripping activity. These reserves would be associated with a component only when they are the subject of a stripping campaign and will be extracted. This may be an over-simplification in the example in the application guidance and it is not clear whether this outcome was intended.

Entities should consider whether the proposals relating to depreciation/amortisation methodology are specified in too much detail. It may be more appropriate for entities to be required to use their judgement in determining the most appropriate rational and systematic manner of depreciation/amortisation for each particular set of circumstances that they face.

The proposed indications of impairment generally are consistent with factors to be considered in applying IAS 36 currently, which in practice would apply to the mine as a whole. However, the proposals could be read as implying a component-level impairment test, whereas in other areas of IFRSs the components of an asset are included in the impairment testing of the asset as a whole, which may itself be included in a larger cash-generating unit for the purposes of impairment testing.

Although in our experience few entities apply the revaluation model to mine assets under IAS 16, the proposals explicitly preclude revaluation as a measurement basis for the stripping campaign component. It is not clear how this proposal interacts with the overall choice of measurement model available to an entity.



6. Disclosure There are no specific disclosure proposals in the draft interpretation. However, the Interpretations

Committee asks constituents to comment on whether specific disclosures for a stripping campaign component would be useful.

Observations The stripping campaign component represents a part of a larger asset. In existing IFRSs there are no disclosure requirements that apply only to a component of an asset, and in our experience it would be unusual for the stripping campaign component to represent a significant balance when compared to the larger asset, for example the mine asset.



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7. Effective date and transitionDI 20 The draft interpretation does not propose an effective date, but notes that early adoption of the final

interpretation would be permitted.

DI 21 The final interpretation would be applied prospectively, to production stripping costs incurred on or after the beginning of the earliest period presented following adoption of the final interpretation.

DI 22 Any existing asset balance related to production stripping upon adoption of the final interpretation would be reclassified as a component of the larger asset to which it relates, and accounted for in accordance with the proposals prospectively; if the component cannot be associated with an identifiable section of the ore body, then the asset would be recognised in profit or loss at the beginning of the earliest period presented. Any existing liability balance related to production stripping upon adoption of the final interpretation would be recognised in profit or loss at the beginning of the earliest period presented.

DI App The draft interpretation proposes an amendment to IFRS 1 First-time Adoption of International Financial Reporting Standards to give first-time adopters the option of applying the above transition requirements. In that case the first-time adopter would adopt the requirements at the later of the effective date of the final interpretation and the date of transition to IFRSs.

Observations We expect that many entities that currently are using a whole-of-mine or life-of-mine stripping ratio would have to derecognise part of their capitalised balance at the date of adoption as the specific ore to which the costs relate has either been extracted previously or cannot be identified. The amount derecognised would be recognised in profit and loss, as opposed to retained earnings, which would require the adjustment of comparatives and may reduce the comparability of results.

For first-time adopters it is unclear whether the proposals would require any adjustment to previously recognised stripping cost balances to be recognised in retained earnings at the date of transition (as is common with other IFRS 1 exemptions) or in profit or loss immediately following transition.



Country contactsAustraliaSimon CraneKPMG in Australia Tel: +61 (7) 3233 3153 email: [email protected]

BrazilAndre Castello BrancoKPMG in Brazil Tel: +55 (21) 3515 9468 email: [email protected]

CanadaLee HodgkinsonKPMG in Canada Tel: +1 416 777 3414 email: [email protected]

ChilePatrick HanleyKPMG in Chile Tel: +56 (2) 798 1230 email: [email protected]

ChinaMelvin Guen KPMG in ChinaTel: +86 108 508 7019email: [email protected]

FranceJacques-Francois LethuKPMG in France Tel: +33 1 5568 7037 email: [email protected]

IndiaHiranyava BhadraKPMG in IndiaTel: +91 (223) 9836 000email: [email protected]

KazakhstanAlun BowenKPMG in Kazakhstan Tel: +7 (727) 3200 151 email: [email protected]

KuwaitCharles MilnerKPMG in Kuwait Tel: +965 2475090 email: [email protected]

OmanMichael ArmstrongKPMG in Oman Tel: +968 (24) 709181 email: [email protected]

QatarGopal BalasubramaniamKPMG in Qatar Tel: +974 432 9698 email: [email protected]

RussiaAlexandra BourikoKPMG in Russia Tel: +7 (495) 937 2522 email: [email protected]

Saudi ArabiaTim RockellKPMG in Saudi Arabia Tel: +966 (3) 887 7241 email: [email protected]

South AfricaCarel SmitKPMG in South Africa Tel: +27 (11) 647 7065 email: [email protected]

United Arab EmiratesSharad BhandariKPMG in the U.A.E. Tel: +971 (2) 632 3476 email: [email protected]

United KingdomJimmy DabooKPMG in the UK Tel: +44 (0) 20 7311 8350 email: [email protected]

United StatesSheri PearceKPMG in the US Tel: +1 303 295 8835 email: [email protected]



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Global contactsMichiel SoetingGlobal Chair, Energy and Natural Resources (ENR)KPMG in the UK Tel: +44 (0) 20 7694 3052 email: [email protected]

Jimmy DabooGlobal Audit Lead, ENRKPMG in the UK Tel: +44 (0) 20 7311 8350 email: [email protected]

Lee HodgkinsonGlobal Director of MiningKPMG in Canada Tel: +1 416 777 3414 email: [email protected]

kpmg.com/ifrs

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Publication name: New on the Horizon: Production stripping costs

Publication number: 314482

Publication date: September 2010

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