BP 2014 Annual Report Download - page 112

1. Significant accounting policies, judgements, estimates and assumptions – continued
Other than the unwinding of discount on the provision, any change in the present value of the estimated expenditure is reflected as an adjustment to
the provision and the corresponding asset.
Environmental expenditures and liabilities
Environmental expenditures that are required in order for the group to obtain future economic benefits from its assets are capitalized as part of those
assets. Expenditures that relate to an existing condition caused by past operations that do not contribute to future earnings are expensed.
Liabilities for environmental costs are recognized when a clean-up is probable and the associated costs can be reliably estimated. Generally, the timing
of recognition of these provisions coincides with the commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive sites.
The amount recognized is the best estimate of the expenditure required to settle the obligation. Provisions for environmental liabilities have been
estimated using existing technology, at current prices and discounted using a real discount rate. The weighted average period over which these costs
are generally expected to be incurred is estimated to be approximately five years.
Significant estimate or judgement: provisions
The group holds provisions for the future decommissioning of oil and natural gas production facilities and pipelines at the end of their economic lives.
The largest decommissioning obligations facing BP relate to the plugging and abandonment of wells and the removal and disposal of oil and natural
gas platforms and pipelines around the world. Most of these decommissioning events are many years in the future and the precise requirements
that will have to be met when the removal event occurs are uncertain. Decommissioning technologies and costs are constantly changing, as well as
political, environmental, safety and public expectations. BP believes that the impact of any reasonably foreseeable change to these provisions on the
group’s results of operations, financial position or liquidity will not be material. If oil and natural gas production facilities and pipelines are soldtothird
parties and the subsequent owner is unable to meet their decommissioning obligations, judgement must be used to determine whether BP is then
responsible for decommissioning, and if so the extent of that responsibility. Consequently, the timing and amounts of future cash flows are subject
to significant uncertainty. Any changes in the expected future costs are reflected in both the provision and the asset.
Decommissioning provisions associated with downstream and petrochemicals facilities are generally not recognized, as the potential obligations
cannot be measured, given their indeterminate settlement dates. The group performs periodic reviews of its downstream and petrochemicals long-
lived assets for any changes in facts and circumstances that might require the recognition of a decommissioning provision.
The provision for environmental liabilities is estimated based on current legal and constructive requirements, technology, price levels and expected
plans for remediation. Actual costs and cash outflows can differ from estimates because of changes in laws and regulations, public expectations,
prices, discovery and analysis of site conditions and changes in clean-up technology.
Other provisions and liabilities are recognized in the period when it becomes probable that there will be a future outflow of funds resulting from past
operations or events and the amount of cash outflow can be reliably estimated. The timing of recognition and quantification of the liability require the
application of judgement to existing facts and circumstances, which can be subject to change. Since the cash outflows can take place many years in
the future, the carrying amounts of provisions and liabilities are reviewed regularly and adjusted to take account of changing facts and
circumstances.
The timing and amount of future expenditures are reviewed annually, together with the interest rate used in discounting the cash flows. The interest
rate used to determine the balance sheet obligation at the end of 2014 was a real rate of 0.75% (2013 1.0%), which was based on long-dated US
government bonds.
Provisions and contingent liabilities relating to the Gulf of Mexico oil spill are discussed in Note 2. Information about the group’s other provisionsis
provided in Note 21. As further described in Note 21, the group is subject to claims and actions. The facts and circumstances relating to particular
cases are evaluated regularly in determining whether it is probable that there will be a future outflow of funds and, once established, whether a
provision relating to a specific litigation should be established or revised. Accordingly, significant management judgement relating to provisions and
contingent liabilities is required, since the outcome of litigation is difficult to predict.
Employee benefits
Wages, salaries, bonuses, social security contributions, paid annual leave and sick leave are accrued in the period in which the associated services are
rendered by employees of the group. Deferred bonus arrangements that have a vesting date more than 12 months after the balance sheet date are
valued on an actuarial basis using the projected unit credit method and amortized on a straight-line basis over the service period until the award vests.
The accounting policies for share-based payments and for pensions and other post-retirement benefits are described below.
Share-based payments
Equity-settled transactions
The cost of equity-settled transactions with employees is measured by reference to the fair value at the date at which equity instruments are granted
and is recognized as an expense over the vesting period, which ends on the date on which the employees become fully entitled to the award. A
corresponding credit is recognized within equity. Fair value is determined by using an appropriate, widely used, valuation model. In valuing equity-
settled transactions, no account is taken of any vesting conditions, other than conditions linked to the price of the shares of the company (market
conditions). Non-vesting conditions, such as the condition that employees contribute to a savings-related plan, are taken into account in the grant-date
fair value, and failure to meet a non-vesting condition, where this is within the control of the employee is treated as a cancellation and any remaining
unrecognized cost is expensed.
Cash-settled transactions
The cost of cash-settled transactions is recognized as an expense over the vesting period, measured by reference to the fair value of the corresponding
liability which is recognized on the balance sheet. The liability is remeasured at fair value at each balance sheet date until settlement, with changesin
fair value recognized in the income statement.
Pensions and other post-retirement benefits
The cost of providing benefits under the group’s defined benefit plans is determined separately for each plan using the projected unit credit method, which
attributes entitlement to benefits to the current period to determine current service cost and to the current and prior periods to determine the present value
of the defined benefit obligation. Past service costs, resulting from either a plan amendment or a curtailment (a reduction in future obligations as a result of
a material reduction in the plan membership), are recognized immediately when the company becomes committed to a change.
Net interest expense relating to pensions and other post-retirement benefits, which is recognized in the income statement, represents the net change
in present value of plan obligations and the value of plan assets resulting from the passage of time, and is determined by applying the discount rate to
the present value of the benefit obligation at the start of the year, and to the fair value of plan assets at the start of the year, taking into account
expected changes in the obligation or plan assets during the year.
108 BP Annual Report and Form 20-F 2014