The energy and natural resources sector has many industries with complex business models including mining and minerals, power and energy, and utilities. It will be significantly impacted by the transition to Ind-AS.

Exploration, stripping costs Companies generally incur major costs in exploration and evaluation and invariably, there is a big time gap between start of exploration and commencement of production. Unlike the present, there is a separate standard under Ind-AS on this topic. It divides the lifecycle into four activities — pre-exploration, exploration, development, and production. The guidance on accounting for expenditure in the exploration phase could be significantly different from current practices.

There is no guidance currently on accounting for stripping costs (waste removal costs generally incurred in the production phase of surface mining). Ind-AS provides guidance on whether these costs can be recognised as non-current assets or should be expensed in the year when incurred. Ind-AS also has guidance on accounting for mine closure and rehabilitation provisions.

Group structures In the sector, most entities, due to regulatory restrictions, capital requirements or other reasons, create multiple special purpose vehicles (SPVs) and complex group structures. Unlike the current consolidation model under Indian GAAP, Ind-AS would require consolidation based on substance of control. So, companies currently not consolidated may be treated as subsidiaries and vice-versa. Further, entities in the sector often enter into joint ventures; Indian GAAP permits proportionate consolidation in such situations. But under Ind-AS, an entity will only be able to follow equity accounting for its interest in joint venture entities (referred to as ‘joint arrangements’). This will impact performance measures and ratios.

Hedging and financing Long-term contracts being common in the sector, entities enter into complex derivatives to hedge against commodity price risk, foreign currency risk, interest rate risk, etc. Application of the detailed guidance under Ind-AS relating to such instruments will pose a challenge.

Being a capital intensive sector, entities often obtain long-term foreign currency borrowings to benefit from lower interest rates. The foreign exchange differences on these were generally capitalised under current accounting practices to avoid earnings volatility. Ind-AS requires such forex differences to be charged to the profit or loss in the period when they are incurred. This would impact profitability and bring in volatility to earnings.

The writer is Partner, Accounting Advisory Services, KPMG in India

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