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Brown, Williams, Moorhead & Quinn, Inc.

The depreciable lives of an entity’s assets are bound by three life expectancy estimates: 1) the average physical life expectancy of the various classes of property; 2) the remaining life of the natural gas reserves supporting the need for the assets; and 3) the average remaining depreciable life, which takes into account interim retirements. The Code of Federal Regulations defines depreciation as the 'accounting for the loss in value' of the asset. Estimating that loss in value over time encompasses a wide variety of mathematical models to reflect the depletion of the underlying natural resources, the rate of deterioration of the utility asset, the laws governing the use of accelerated depreciation, and the actual calculation of the depreciation rate itself. Brown Williams can ensure that the depreciation rate appropriately reflects the balancing act between ratepayers and utility owners, and between current and future generations of ratepayers.

Asset Retirement Obligations

An ARO is a legal obligation associated with the retirement of long-lived tangible assets. As a result of existing law, regulation, contractual or promissory estoppel, a company may be required to retire and remove certain facilities, including related obligations to restore the land to its original condition. The cash flow and financial reporting are recorded according to guidelines set out by the Financial Accounting Standards Board (FASB). The employment of an ARO requires that the legal obligation associated with the retirement of tangible long-lived assets be recognized as a liability and measured at fair value at the time the asset was acquired. In essence, it is an amount at which the ARO liability could be incurred in a current transaction. Brown Williams has been at the forefront of ARO developments for several years and can guide its clients to establish appropriate levels of ARO balances.

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Depreciation Methodologies

There are several methods of matching depreciation accruals to the useful life of assets. The methods relevant to pipeline accounting and rate making are straight line whole life method, straight line average remaining life method, unit of production method, and levelized method. Brown Williams experience in this field assures its clients that the recovery of its investment matches the manner in which the assets’ service lives are consumed.

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Negative Salvage

When depreciable property reaches the end of its service life, its physical retirement is accomplished by either 1) abandonment in place, 2) removal and storage for future use, or 3) removal and disposal. The cost of dismantlement, decommissioning, removal, and site remediation must be incorporated into the expenses associated with the depreciation of the original cost of the asset. The reuse or sale of the plant can offset these costs to some degree. Net salvage is the difference between the revenues realized from selling the retired plant and the costs associated with the retirement. The net salvage is estimated for both interim retirements and final termination retirements. Brown Williams assessment of retirement patterns, removal costs, and salvage estimates protects its clients from under- or over-recovery due to retirement costs.

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Resource Forecasts

The determination of the useful life of industrial property is often dependent upon an underlying non-renewable resource base, the exhaustion of which sets the outer limits of the assets’ depreciable lives. In the case of oil and natural gas properties, the useful life of some assets is limited to the reserve life of the oil or natural gas anticipated to flow through the assets, including "proved reserves" known to be accessible at any given time, plus the "future reserves" that can be reasonably expected to become proved reserves at some point. Of equal importance is the competition facing energy transmission providers in the form of shifting resource areas, pricing push backs, alternative energies, competing pipelines, new pipelines, railroads, and international developments. Williams’ staff of depreciation experts monitors oil and natural gas resource developments to ensure its resource availability forecasts accurately reflect the life expectancy probabilities of the pipeline under assessment.

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Survivor Curves

Depreciation expense is calculated by multiplying the depreciation rate times the plant balance. The reduction in the plant balance caused by plant retirements decrementally reduces depreciation accruals. Over the remaining life of the plant in service, these reduced accruals cause a shortfall in capital recovery. The effect of interim retirements and truncated economic lives are incorporated into depreciation rate derivations through the use of survivor curve methodology. Survivor curves are the end result of actuarial analyses of mortality patterns in industrial property. The curves provide a tool to estimate the average service lives of plant in service so that depreciation accruals can recover the investments over the actual useful lives of the assets. The selection of the curve can avoid over-accrual or under-accrual relative to the truncation date. Brown William’s staff of depreciation experts fully understands this field of extraordinarily complex data analysis and can help clients fit the depreciation accruals to the actual experience of the system.

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