OIL AND GAS ASSET IMPAIRMENT BY FULL COST AND SUCCESSFUL EFFORTS FIRMS

Petroleum Accounting and Financial Management Journal, Fall 2004 by Al-Jabr, Yahya, Spear, Nasser

Descriptive Statistics for Key Accounting Methods Differentiating Variables during Write-Down Periods

Panel B of Table 4 presents descriptive statistics for the sample characteristics classified by years that did not witness a SFAS 121 or a ceiling test write-down (years of no write-down, hereafter) versus years in which SFAS 121 or ceiling test write-downs were taken (years of write-down, hereafter). Panel B shows that firms in the years of write-down tend to be more leveraged (a mean of 0.386) than in the years of no write-down (a mean of 0.311), reflective of the impact of write-down on the assets of firms that reported write-downs. This difference is statistically significant according to both Wilcoxon's test and the t-test. This implies that taking a write-down in a particular year poses greater risk of violating debt covenants, as accounting variables specified in covenants are influenced by the write-down.

Panel B also shows that although years of write-down yield greater exploration intensity, there will be far less success in recovering their investment in the acquisition, exploration, and development activities. The average success rate for years of no write-down (1.577) is significantly higher than that of years of write-down (0.755). These statistics imply that less success in recovering oil and gas investments is associated with more write-downs. Gallun and Nichols (1997) report that 88% of the SE firms surveyed in 1997 considered significant increases in costs which in turn lead to a lower success rate (as the value of denominator increases), an event that warrants testing for impairment. Finally, Panel B of Table 4 indicates that the degree of concentration in oil and gas activities does not exhibit a significant statistical difference between years of no write-down and years of write-down.11

Descriptive Statistics for Write-Down Amounts and Frequencies

Panel A of Table 5 indicates that the mean pre-tax (median) write-down amount recorded by the entire sample firms is 9.0% (2.5%) of the beginning market value of equity.12 This suggests that write-downs constitute economically significant amounts that have an important effect on firms' value. When write-downs are broken down by the accounting method (Panel B), the average ceiling test write-downs taken by the FC firms (19.2%) are significantly higher than the average SFAS 121 write-downs taken by the SE firms (5.2%), with a t-statistic for the mean difference of-7.845.

Consistent with prior literature, the magnitude of write-down is also measured by the ratios of the pre-tax write-down amount: to pre-write-down operating assets (w^sub t^*/oa^sub t^**), to pre-write-down book value of equity (w^sub t^*/bv^sub t^**) and to pre-write-down earnings (w^sub t^*/x^sub t^**).13 Panel C of Table 5 shows that the ceiling test write-downs resulted in greater reduction of operating assets than the SFAS 121 write-downs. The mean (median) w^sub t^*/oa^sub t^** under the ceiling test is 13.4% (11.3%) compared to 3.7% (1.3%) under SFAS 121. The difference is statistically significant with a t-statistic of -8.81 and a Wilcoxon's Z-statistic of -7.51. Similarly, the ceiling test write-downs reduced common equity by an average of 22.6% (a median of 17.4%) versus an average of 7.0% (a median of 1.9%) for SFAS 121. The difference is statistically significant according to the t-test (t = -6.98) and Wilcoxon test (Z = -7.14). In addition, Panel C shows a higher w^sub t^*/x^sub t^** ratio under the ceiling test than under SFAS 121. However, the difference in w^sub t^*/x^sub t^** is not statistically significant according to the t or Wilcoxon tests. The statistics suggest the write-downs that resulted from the application of the ceiling test have greater magnitude than those of SFAS 121. This could be attributed to the fact that the ceiling test applies more stringent rules when measuring impairment than SFAS 121.