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18.8 Asset retirement and environmental obligations
Publication date: 22 Nov 2023
us Utilities guide
Regulated utilities have certain specific considerations when accounting for asset retirement and environmental obligations as highlighted in this section. See UP 13 for further information on accounting for asset retirement and environmental obligations by utilities and power companies.
18.8.1 Asset retirement obligations
Regulated utilities often receive rate allowances for the disposition and retirement of utility plant assets. Rates may include amounts for obligations that meet the accounting definition of an asset retirement obligation as well as funds to cover decommissioning costs for which no legal obligation exists and no liability is recorded under other relevant accounting guidance (i.e., “cost of removal”). This section discusses considerations for regulated utilities in accounting for all such amounts collected through rates.
18.8.1.1 Regulatory assets and liabilities related to asset retirement obligations
ASC 980-410 requires a regulated utility to recognize plant decommissioning costs and other asset retirement obligations (AROs) in accordance with the general guidance in ASC 410. It further states that plant decommissioning costs represent costs incurred in the past (i.e., as the plant is used) and do not qualify as regulatory liabilities under ASC 980-405-25-1(b). However, in some cases, there may be timing differences between amounts recognized under ASC 410 and amounts allowed in rates. In accordance with ASC 980-410-25-2, a regulated utility should recognize a regulatory asset or liability for differences in the timing of recognition of costs associated with an asset retirement obligation and collection of such amounts through rates if it is probable that such amounts will be recovered.
In addition, ASC 980-410-25-2 provides specific guidance when a regulated utility is collecting amounts in rates for retirement costs that do not meet the definition of an asset retirement obligation (i.e., cost of removal that is not a legal obligation). Such cost of removal included in depreciation expense should be recorded as a regulatory liability.
18.8.2 Cost of removal recovered through rates
The allowance for depreciation included in a regulated utility’s rates often includes a component for the expected cost of plant removal (also known as negative salvage). In some cases, the regulated utility may have a legal obligation that meets the definition of an asset retirement obligation (e.g., the requirement to decommission a nuclear plant). In other cases, the regulated utility may not have an explicit current obligation resulting from a past event. These situations should be evaluated to determine if an asset retirement obligation has been established under the doctrine of promissory estoppel.
Although the utility and regulator may not have agreed on a specific retirement plan, if such costs are included in determination of the utility’s revenue requirement, customers may have a reasonable expectation that the regulated utility will incur the costs necessary to retire the asset at the end of its useful life. This expectation would create an asset retirement obligation in accordance with the criteria of ASC 410 only if a legal obligation exists. The determination of whether the reporting entity has an asset retirement obligation is a legal question that it should evaluate with the assistance of legal counsel.
If a regulated utility concludes that no legal obligation exists, it should evaluate whether any negative salvage or cost of removal amounts collected in rates should be recognized as a regulatory liability in accordance with ASC 980-405-25-1. Removal costs that do not meet the definition of an asset retirement obligation should only be deferred if such amounts meet the definition of a regulatory liability. Any regulatory liability recognized should be classified as a liability on the balance sheet and not as an offset to utility plant.
Amounts expended for the removal of assets where no legal obligation exists are generally reflected as investing cash outflows in the statement of cash flows as they are related to the disposal of property, plant, and equipment.
18.8.3 Environmental obligations
Regulated utilities often have significant environmental clean-up costs. These types of costs may be incurred over a long period. The determination of whether to accrue a liability for these costs depends on the facts and circumstances. Regulated utilities should follow the guidance in ASC 410-30 and ASC 450-20.
SAB Topic 10.F, Presentation of Liabilities for Environmental Costs (codified in ASC 980-410-S99-1), also provides specific guidance related to the potential impact of regulatory recovery on the accounting for environmental remediation liabilities:
- A regulated utility may not present estimated liabilities for environmental costs net of probable future revenue resulting from the inclusion of such costs in allowable costs for ratemaking.
- A regulated utility may not delay recognition of a probable and estimable liability for environmental costs while a regulator debates potential recovery of the costs.
The SEC guidance indicates that an environmental remediation liability may be an allowable cost that qualifies for recognition as a regulatory asset. However, consistent with the overall model for application of the impact of regulation, a reporting entity should evaluate, measure, and record environmental remediation liabilities in accordance with the US GAAP guidance for entities in general. Any potential regulatory recovery should be evaluated and recognized in accordance with the criteria in ASC 980-340-25-1.
Examples UP 18-5 and UP 18-6 illustrates regulated utility considerations for environmental obligations.
EXAMPLE UP 18-5
Evaluating timing of settlement of an asset retirement obligation
Evaluating timing of settlement of an asset retirement obligation
Rosemary Electric & Gas Company operates a nuclear generating plant which it operates under a license from the Nuclear Regulatory Commission. REG originally recorded an ARO based on the original license expiration date; however, management now intends to apply for a license renewal.
What should REG consider in evaluating the timing of settlement of the ARO?
Analysis
The timing of the cash flows in REG’s expected present value analysis should include a scenario whereby the license is renewed and decommissioning of the plant is delayed. The weight assigned to this probability should consider all relevant facts and circumstances, including:
- Management’s past success in obtaining similar licenses
- The political climate (e.g., is there a homeowners’ or other group that will object to the relicensing?)
- Regulatory environment, including licensing requirements
- Plant economics — is it profitable to continue operating or are there prohibitive costs associated with repowering the plant?
The outcome of this assessment may also impact the depreciable life or expected salvage value of the plant. However, the life of the plant and the timing of the asset retirement may differ. Depreciation is an accounting allocation methodology based on management’s current best estimate of the useful life and expected salvage value at the end of the life of the facility.
EXAMPLE UP 18-6
Applying the expected present value technique to dismantling of a nuclear power plant
Applying the expected present value technique to dismantling of a nuclear power plant
Rosemary Electric & Gas Company owns a nuclear power plant that it plans to decommission in 2030 and is determining the initial fair value of its asset retirement obligation.
Which scenarios would REG consider in its expected present value calculation?
Analysis
Management determines that there are three potential scenarios for retirement of the asset (amounts in millions):
Probability |
Timing |
Estimated third-party cost |
Credit adjusted risk-free rate |
Present value |
Probability- weighted present value |
|
|---|---|---|---|---|---|---|
Dismantle in 2030; use U.S. Department of Energy (DOE) disposal facilities
|
65%
|
2030; one-time cost |
$ 1,775
|
10%
|
$ 161
|
$ 105
|
Entomb plant in 2030; ongoing monitoring for 50 years
|
30%
|
2030; Annual |
1,500
10
|
10%
10%
|
137
|
41
|
Dismantle in 2030; DOE facilities are not available, third party paid to assume disposal liability
|
5%
|
2030; one-time cost |
5,000
|
10%
|
455
|
23
|
Expected value
|
$ 169
|
Costs are not discounted.
1 As these costs are incurred each year, they should be discounted based on the applicable rate for each year; however, for simplicity the same rate is used for all cash flows.
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