BP 2011 Annual Report Download - page 112

110 BP Annual Report and Form 20-F 2011
Business review
– In a legal settlement with environmental advocacy groups the
EPA committed to propose regulations under their New Source
Performance Standards (NSPS) for GHG emissions from refineries
by December 2011 and to finalize these by November 2012; the EPA
was unable to meet the December deadline, which may delay final
rulemaking. The EPA has communicated that they are considering
three options for these standards, energy management, command
and control (source specific emission limits) and benchmarking (e.g. a
Solomon-type GHG intensity index or variation).
– Legal challenges to the EPA’s efforts to regulate GHG emissions
through the CAA continue along with active political debate with
the final content and scope of GHG regulation in the US remaining
uncertain.
• A number of additional state and regional initiatives in the US will affect
our operations. Of particular significance, California is seeking to reduce
GHG emissions to 1990 levels by 2020 and to reduce the carbon
intensity of transport fuel sold in the state. California implemented a
low-carbon fuel standard in 2010 although a preliminary injunction filed in
late December 2011 is preventing its implementation. California issued
final rules for its cap and trade programme in December 2011, with the
scheduled start of the scheme to begin January 2012, with obligations
commencing in 2013.
• Canada has established an action plan to reduce emissions to 17%
below 2005 levels by 2020 and the national government continues to
seek a co-ordinated approach with the US on environmental and energy
objectives. Additionally, Canada’s highest emitting province, Alberta,
has been running a market mechanism to reduce GHG since 2007.
Controversy, partially driven by perceived GHG intensity regarding
Canadian oil sand produced crude, continues with some jurisdictions
contemplating policies to restrict or penalize its use.
• China has committed to reducing carbon intensity of GDP 40-45%
below 2005 levels by 2020 and increasing the share of non-fossil fuels
in total energy consumption from 7.5% in 2005 to 15% by 2020. The
country’s 12th (2011-2015) Development Programme has set the target
to reduce carbon intensity by 17% within five years, and this national
target has been deconstructed into provincial ones for local actions.
Meanwhile, five provinces and eight cities were selected as pilots for
low carbon development, and seven provinces/cities were formally
given instruction to start emission trading trials. As part of the country’s
energy saving programme, the government also requires any operating
entity with annual energy consumption of 10 thousand tonnes of coal
equivalent (7ktoe/a) to have an energy saving target for the next five
years. A number of BP joint venture companies in China will be required
to participate in this initiative.
Certain definitions
Unless the context indicates otherwise, the following terms have the
meaning shown below:
Replacement cost profit
Replacement cost profit or loss reflects the replacement cost of supplies.
The replacement cost profit or loss for the year is arrived at by excluding
from profit or loss inventory holding gains and losses and their associated
tax effect. Replacement cost profit or loss for the group is not a recognized
GAAP measure.
BP believes that replacement cost profit before interest and
taxation for the group is a useful measure for investors because it is
the profitability measure used by management. See Selected financial
information on page 56 for the nearest equivalent measure on an IFRS
basis, which is ‘Profit (loss) for the year attributable to BP shareholders’.
Inventory holding gains and losses
Inventory holding gains and losses represent the difference between the
cost of sales calculated using the average cost to BP of supplies acquired
during the period and the cost of sales calculated on the first-in first-out
(FIFO) method after adjusting for any changes in provisions where the
net realizable value of the inventory is lower than its cost. Under the FIFO
method, which we use for IFRS reporting, the cost of inventory charged
to the income statement is based on its historic cost of purchase, or
manufacture, rather than its replacement cost. In volatile energy markets,
this can have a significant distorting effect on reported income. The
amounts disclosed represent the difference between the charge (to the
income statement) for inventory on a FIFO basis (after adjusting for any
related movements in net realizable value provisions) and the charge
that would have arisen if an average cost of supplies was used for the
period. For this purpose, the average cost of supplies during the period
is principally calculated on a monthly basis by dividing the total cost of
inventory acquired in the period by the number of barrels acquired. The
amounts disclosed are not separately reflected in the financial statements
as a gain or loss. No adjustment is made in respect of the cost of
inventories held as part of a trading position and certain other temporary
inventory positions.
Management believes this information is useful to illustrate to
investors the fact that crude oil and product prices can vary significantly
from period to period and that the impact on our reported result under
IFRS can be significant. Inventory holding gains and losses vary from
period to period due principally to changes in oil prices as well as changes
to underlying inventory levels. In order for investors to understand the
operating performance of the group excluding the impact of oil price
changes on the replacement of inventories, and to make comparisons
of operating performance between reporting periods, BP’s management
believes it is helpful to disclose this information.
Non-GAAP information on fair value accounting effects
BP uses derivative instruments to manage the economic exposure
relating to inventories above normal operating requirements of crude oil,
natural gas and petroleum products. Under IFRS, these inventories are
recorded at historic cost. The related derivative instruments, however, are
required to be recorded at fair value with gains and losses recognized in
income because hedge accounting is either not permitted or not followed,
principally due to the impracticality of effectiveness testing requirements.
Therefore, measurement differences in relation to recognition of gains and
losses occur. Gains and losses on these inventories are not recognized
until the commodity is sold in a subsequent accounting period. Gains and
losses on the related derivative commodity contracts are recognized in
the income statement from the time the derivative commodity contract is
entered into on a fair value basis using forward prices consistent with the
contract maturity.
BP enters into commodity contracts to meet certain business
requirements, such as the purchase of crude for a refinery or the sale
of BP’s gas production. Under IFRS these contracts are treated as
derivatives and are required to be fair valued when they are managed as