Final Frontiers?

When Canada began seriously considering adopting International Financial Reporting Standards (IFRS), the management of many junior exploration companies feared the loss of their exploration and evaluation (E&E) assets on the statement of financial position; many stakeholders relied on this figure as an indicator of a company’s value. Then, IFRS 6, Exploration for and Evaluation of Mineral Resources, was introduced in December 2004, allowing for the capitalization of E&E costs, allaying companies’ fears. But now we’re well into 2015, and many juniors are struggling in a lagging economy. These companies now face tough decisions on their E&E assets and risk incurring impairment charges – the impact of which is accentuated by their prior choice to capitalize their E&E expenditures.

Mining companies have always had the option to either capitalize or expense E&E costs under IFRS. In some cases, adopting an accounting policy to capitalize property costs only once an economically recoverable reserve is identified could have significant advantages. But our proprietary research has found that a number of mining companies are moving toward expensing E&E costs as incurred – more than 15 Canadian reporting issuers cite an accounting policy change toward expensing E&E costs in their annual financial statements filed since January 1, 2014, with some disclosing that this policy is “more relevant and reliable.”

Is now the time for junior exploration companies to reconsider the common practice of capitalizing E&E costs? Here are a few advantages to making the switch to expensing your company’s E&E costs:

1. Reducing the impact of mineral asset impairment charges

By expensing E&E costs, companies can report their expenses in the historical periods when originally incurred, rather than as one major impairment charge to earnings during the period when an impairment may be identified. This helps improve the potential distortion of a company’s earnings, resulting in more favourable shareholder perception on a continuous basis and providing a clearer, more accurate picture for financial statement users. 

2. Juniors need to conserve cash now more than ever

By expensing E&E costs, the consideration of impairment indicators required under IFRS – such as inactivity on mineral properties or lack of funding to support exploration budgets – and impairment tests can be eliminated, decreasing internal administrative costs and external audit fees, including expensive and onerous asset valuation analyses. 

3. Becoming more consistent with many juniors’ current capital management strategies

For many companies whose current capital management plans have smaller and more focused mineral project budgets than in the past, a policy of expensing E&E costs may better reflect that current plan. If the plan is to hold tight, reconsider current projects and keep an eye out for better opportunities, presenting a significant mineral asset may appear to contradict management’s strategy, resulting in shareholder confusion. Further to this, if only minimal costs are being put into the project under such a strategy, a stagnant mineral asset on the statement of financial position will highlight this fact, potentially concerning some shareholders.

4. Familiarizing the statement of financial position for U.S. investors

The United States’ movement away from U.S. GAAP toward IFRS has slowed to a near halt, creating differences in reporting that may perplex U.S. investors exploring opportunities among Canadian companies. More specifically, U.S. GAAP dictates that until the economic viability of a project is established, only costs associated with acquiring the right to explore a mineral property (acquisition costs) are capitalized while all other costs are expensed as incurred. 

To help bridge the gap, companies may opt only to capitalize acquisition costs to more effectively mirror what U.S. investors are used to seeing, which may prove advantageous in their fundraising activities.

5. Providing greater transparency for investors

A policy of capitalizing costs may exaggerate the perceived value of the asset, since costs incurred are simply a reflection of management’s efforts to collect data on the property, not all of which is fruitful. Holding a large E&E asset on the balance sheet, during the time when a property moves from E&E stage to development stage, can result in an IFRS-mandated impairment test and may give pause to potential investors. 

6. Reducing the cost of production for accounting purposes

If historical E&E costs have not been capitalized after assets have been taken into production, the company will enjoy a lower apparent cost of production and thus a higher relative net income and IRR on the project. With many companies now reporting their “all-in” cost of production, which includes historical E&E costs, this aspect may not be an advantage for all companies. However, it is something to consider when selecting an E&E capitalization accounting policy.

7. Reducing potential complexities around deferred income taxes

Where a company has capitalized E&E costs, there’s a potential for tax timing differences. However, when E&E costs are expensed, the potential for deferred income tax liabilities in connection with E&E assets is reduced. 

Expensing E&E costs may have its downsides, of course. Seasoned investors are used to seeing E&E costs on the statement of financial position and may interpret their absence as an indication of weakness. Transparency and proactive communication can help stakeholders better understand the new approach. 

 Bryndon Kydd, CPA, CA, is the leader of BDO Canada’s Mining Sector Group. For more information, he can be reached at

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