On 1 January Moorhen Co installed an offshore platform. It is legally obliged to dismantle the platform after 10 years at an estimated cost of $5,000,000. The appropriate discount rate is 8%. What provision should be shown at 31 December of the first year? (Use unrounded discount factors and round your final answer to the nearest dollar.)

Correct answer: C) $2,501,244

Explanation

Initial provision = PV of $5,000,000 in 10 years at 8% = $5,000,000 / 1.08^10 = $2,315,967 (unrounded discount factor, rounded to the nearest dollar). The same amount is added to the cost of the platform. The discount unwinds at 8% during year 1: $2,315,967 x 8% = $185,277, charged as a finance cost. Closing provision = $2,315,967 + $185,277 = $2,501,244. The asset part is depreciated separately; depreciation does not reduce the provision.