BP 2014 Annual Report Download - page 108

1. Significant accounting policies, judgements, estimates and assumptions – continued
Goodwill is reviewed for impairment annually or more frequently if events or changes in circumstances indicate the recoverable amount of the group of
cash-generating units to which the goodwill relates should be assessed. In assessing whether goodwill has been impaired, the carrying amount of the
group of CGUs (including goodwill) is compared with their recoverable amount. The recoverable amount of a group of CGUs to which goodwill is
allocated is the higher of value in use and fair value less costs of disposal. Where the recoverable amount of the group of CGUs to which goodwill has
been allocated is less than the carrying amount, an impairment loss is recognized. An impairment loss recognized for goodwill is not reversed in a
subsequent period.
Significant estimate or judgement: recoverability of asset carrying values
Determination as to whether, and by how much, an asset or group of CGUs containing goodwill is impaired involves management estimates on
highly uncertain matters such as future commodity prices, the effects of inflation on operating expenses, discount rates, production profiles and the
outlook for global or regional market supply-and-demand conditions for crude oil, natural gas and refined products. For oil and natural gas properties,
the expected future cash flows are estimated using management’s best estimate of future oil and natural gas prices and reserves volumes.
The estimated future level of production in all impairment tests is based on assumptions about future commodity prices, production and
development costs, field decline rates, current fiscal regimes and other factors.
Fair value less costs of disposal may be determined based on similar recent market transaction data or, where recent market transactions for the
asset are not available for reference, using discounted cash flow techniques. Where discounted cash flow analyses are used to calculate fair value
less costs of disposal, accounting judgements are made about the assumptions market participants would use when pricing an asset, a CGU or a
group of CGUs containing goodwill and the test is performed on a post-tax basis. The discount rate used is the group’s post-tax weighted average
cost of capital (2014 8%), with a 2% premium added in higher-risk countries. Reserves assumptions for fair value less costs of disposal discounted
cash flow tests consider all reserves that a market participant would consider when valuing the asset, which are usually broader in scope than the
reserves used in a value-in-use test. Discounted cash flow analyses used to calculate fair value less costs of disposal use market prices for the first
five years and long-term price assumptions that are consistent with the assumptions used by the group for investment appraisal purposes
thereafter. The long-term oil price assumption used in such tests is $97 per barrel in 2020 and is inflated at a rate of 2.5% per annum for the
remaining life of the asset. This long-term assumption is derived from the $80 per barrel real oil price assumption used for investment appraisal. In
the current price environment, the market prices used for the first five years of both value-in-use and fair value less costs of disposal impairment
tests are particularly volatile. Market prices used for the first five years of both value-in-use and fair value less costs of disposal impairment tests are
shown in the table below:
2014
2015 2016 2017 2018 2019
Brent oil price ($/bbl) 61 69 73 76 77
Henry Hub natural gas price ($/mmBtu) 3.11 3.53 3.82 4.00 4.15
2013
2014 2015 2016 2017 2018
Brent oil price ($/bbl) 108 102 97 93 90
Henry Hub natural gas price ($/mmBtu) 3.86 4.02 4.10 4.17 4.27
For value-in-use calculations, future cash flows are adjusted for risks specific to the cash-generating unit and are discounted using a pre-tax discount
rate. The discount rate is derived from the group’s post-tax weighted average cost of capital and is adjusted where applicable to take into account
any specific risks relating to the country where the cash-generating unit is located. In 2014 the discount rate used for value-in-use calculations was
12% nominal (2013 12% nominal), with a 2% premium added in higher-risk countries. The discount rates applied in assessments of impairment are
reassessed each year. Reserves assumptions for value-in-use tests are confined to proved and sanctioned probable reserves. For value-in-use
calculations, prices for oil and natural gas used for future cash flow calculations are based on market prices for the first five years (consistent with
those shown in the table above) and the group’s flat nominal long-term price assumptions thereafter. As at 31 December 2014, the group’s long-
term flat nominal price assumptions were $90 per barrel for Brent and $6.50/mmBtu for Henry Hub (2013 $90 per barrel and $6.50/mmBtu). These
long-term price assumptions are subject to periodic review and revision.
Irrespective of whether there is any indication of impairment, BP is required to test annually for impairment of goodwill acquired in a business
combination. The group carries goodwill of approximately $11.9 billion on its balance sheet (2013 $12.2 billion), principally relating to the Atlantic
Richfield, Burmah Castrol, Devon Energy and Reliance transactions. In testing goodwill for impairment, the group uses the approach described
above to determine recoverable amount. If there are low oil or natural gas prices or refining margins or marketing margins for an extended period,
the group may need to recognize goodwill impairment charges.
The recoverability of intangible exploration and appraisal expenditure is covered under Oil and natural gas exploration, appraisal and development
expenditure above.
Details of impairment charges recognized in the income statement are provided in Note 3 and details on the carrying amounts of assets are shown
in Note 10, Note 12 and Note 13.
Inventories
Inventories, other than inventories held for trading purposes, are stated at the lower of cost and net realizable value. Cost is determined by the first-in
first-out method and comprises direct purchase costs, cost of production, transportation and manufacturing expenses. Net realizable value is
determined by reference to prices existing at the balance sheet date, adjusted where the sale of inventories after the reporting period gives evidence
about their net realizable value at the end of the period.
Inventories held for trading purposes are stated at fair value less costs to sell and any changes in fair value are recognized in the income statement.
Supplies are valued at cost to the group mainly using the average method or net realizable value, whichever is the lower.
104 BP Annual Report and Form 20-F 2014