SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 1 OF 9

CONTENT

This instruction stipulates the appropriate accounting treatment for costs incurred for the purchase or
development of software to be used by Saudi Aramco. It includes the following sections:

1. Background
2. Scope
3. Stages of Computer Software Development
4. Costs to be Expensed as Incurred
5. Costs Required to be Capitalized
6. Amortization of Capitalized Costs
7. Additional Policy Considerations
8. Accounting

Attachment I - Decision Table

1. BACKGROUND

In March 1998, the U.S. Accounting Standards Executive Committee (AcSEC) issued
Statement of Position (SOP) 98-1, Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use, which has an effective date for Saudi Aramco of January 1, 1999.
Additionally, the Financial Accounting Standards Board Emerging Issues Task Force (EITF)
has issued two pronouncements providing guidance on the accounting for costs incurred relative
to information technology; EITF 96-14, Accounting for the Costs Associated with Modifying
Computer Software for the Year 2000, and EITF 97-13, Accounting for Costs Incurred in
Connection with a Consulting Contract or an Internal Project That Combines Business Process
Reengineering and Information Technology Transformation. This accounting policy is intended
to encompass the requirements contained in these pronouncements.

Prior to issuance of the above pronouncements, U.S. Generally Accepted Accounting Principles
(GAAP) contained little guidance on the accounting for computer software developed or
obtained for internal use. AcSEC has concluded that certain software purchase or development
activities create probable future economic benefits and that the related costs should be
capitalized as intangible assets and amortized over the estimated useful life of the software.

Consistent with most large corporations that follow US GAAP, Saudi Aramco has typically
expensed the costs of purchasing or developing software as they were incurred. Therefore, this
new accounting policy will represent a significant change in classification of costs incurred for
software projects or purchases that fall within its scope as outlined in Section 2 below. The
policy change will result in large software costs being allocated over the years that Saudi
Aramco benefits from the new software, as opposed to being recognized as expense
immediately.

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 2 OF 9

2 SCOPE

This policy is effective January 1, 1999 for each project/purchase contract where total costs for
a particular type of software are expected to reach $2 million or more and have an estimated
useful life of three or more years. Such software purchases or projects should be budgeted for,
and funded by, either stand-alone or Master Appropriation Capital Budget Items. Exceptions
include:

; Internal-use software used in research and development activities (e.g., laboratory,

exploration or petroleum engineering research and development activities) or software
that represents a pilot project – accounting treatment will continue to be dictated by
Financial Accounting Standards Board Statement (FASB) No. 2, Accounting for
Research and Development Costs.
; Software to be sold, leased or otherwise marketed – accounting treatment will continue to
be dictated by FASB No. 86, Accounting for the Costs of Computer Software to Be Sold,
Leased, or Otherwise Marketed.

For projects begun prior to January 1, 1999, software costs previously expensed will not be
adjusted to amounts that would have been capitalized had this policy been in effect when those
costs were incurred.

3. STAGES OF COMPUTER SOFTWARE DEVELOPMENT

The following table illustrates the various stages and related processes typically associated with
computer software development projects to assist with the classification of the software costs in
accordance with Sections 4 and 5. It is recognized that the development of internal use software
may not follow the order shown below. For costs incurred subsequent to the Preliminary
Project Stage, the capital and expense guidelines contained herein should be applied based on
the nature of the costs incurred, not the timing of their incurrence.

Post-Implementation/
Preliminary Project Stage Application Development Operation Stage
(Expense) Stage (Capital) (Expense)
- Conceptual formulation of - Design of chosen path, - Training
alternatives including software - Application Maintenance
- Evaluation of alternatives configuration & interfaces
- Determination of existence - Coding
of needed technology - Installation to hardware
- Final selection of - Testing, including parallel
alternatives processing phase

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 3 OF 9

4. COSTS TO BE EXPENSED AS INCURRED

The following costs incurred in connection with software purchases or development projects are
to be expensed as they are incurred:
• The costs of any internal-use software purchase/project whose total expected costs do not
meet the scope of this policy, as described in Section 2.

• Costs incurred to modify computer software to correct year 2000 problems, except where
the costs involve the purchase of software that replaces existing software that is not year
2000 compliant.

• Preliminary Project Stage costs, such as: feasibility studies, vendor/contractor selection or
costs incurred as described in the table in Section 3 above.

• All training costs incurred, at any stage.

• General and administrative or overhead costs.

• Internal application maintenance costs. However, external costs related to maintenance,

unspecified upgrades and enhancements, and costs under agreements that combine the costs
of maintenance and unspecified upgrades and enhancements should be recognized in
expense over the contract period on a straight-line basis unless another systematic basis is
more representative of the services received. If a distinction cannot be made between
maintenance and relatively minor upgrades/enhancements, the costs should be expensed as
incurred.

• Data conversion costs, other than the costs to develop or obtain software that allows for
access to, or conversion of, old data by new systems (see Section 5 for further discussion).

• The costs of business process reengineering activities, whether done internally or by third
parties. Reengineering activities include activities such as the preparation of a request for
consulting proposal, analyzing the current business process (i.e., current state assessment),
business process reengineering or restructuring of the work force.

• All costs incurred after the computer software is substantially complete and ready for its
intended use (i.e., all substantial testing is complete).

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 4 OF 9

5 COSTS REQUIRED TO BE CAPITALIZED

The following costs incurred in connection with software purchases or development projects
that meet the scope of this policy, as described in Section 2, are to be capitalized:
• Internal and external Application Development Stage project costs incurred as described in
the table in Section 3.

• External costs of materials and services consumed in obtaining/developing software. These

costs include fees paid to third parties for services provided to obtain/develop the software
during the application development stage (as defined in Section 3), costs incurred to obtain
computer software from third parties (e.g., software contracts that benefit three years or
more) and travel expenses incurred by employees in their duties directly associated with
developing software. Costs incurred to obtain software licenses are to be accounted for
similar to capital leases as described in General Instruction No. 20.161.

• The costs incurred to obtain/develop software that allows for access to, or conversion of, old
data by new systems.

• Upgrades and enhancements that will result in additional functionality – Upgrades and
enhancements are defined as modifications to existing internal-use software to enable the
software to perform tasks that it was previously incapable of performing. Upgrades and
enhancements normally require new software specifications and may also require changes to
all or part of the existing software specifications.

• Payroll and related costs, based on Saudi Aramco standard labor rates, for employees who
are directly associated with the software purchase/project. Project Managers should develop
a method of tracking or estimating internal labor cost directly associated with the project for
capitalization.

• Interest cost incurred while developing the software, consistent with the guidance contained
in Accounting Instruction No. 728, Interest Income and Expense, Section 4.

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 5 OF 9

6 AMORTIZATION OF CAPITALIZED COSTS

Once the appropriate accounting treatment has been determined based on the discussion in
Sections 3, 4 and 5, the amounts that have been capitalized should be amortized as follows:
• Amortization of the obtained/developed software should begin as soon as the software is
ready for its intended use. If a computer software project is implemented based on modules,
amortization of a module should begin when it is ready for its intended use and all other
modules upon which it is functionally dependent, if any, are also ready for their intended
uses. The Project Manager or proponent should send the Mechanical Completion Certificate
to the Fixed Assets & Work-In-Progress Accounting Department (FAWIP) advising when
the software is ready for its intended use and amortization should begin.

• The capitalized costs of computer software should be amortized on a straight-line basis

unless another systematic and rational basis is more representative of the software’s use.

• The estimated useful life for computer software depends on the effects of obsolescence and
should generally correspond to the term of software license.

7 ADDITIONAL POLICY CONSIDERATIONS

In addition to the discussion in the previous sections, the following should also be considered
when applying this policy:
• When existing software is being replaced by the newly obtained/developed software,
unamortized costs of the old software, if any, should be written off when the new software is
ready for its intended use. Included with the Mechanical Completion Certificate from the
proponent or Project Manager to FAWIP regarding the beginning of amortization of the new
software, FAWIP should also be sent a Form SA-630, Capital Assets Change Authorization
(GI 207.050), stipulating when the unamortized cost of the software being replaced should be
written-off.

• When computer software is purchased from third parties and the purchase price includes
multiple elements, such as: software, training, maintenance fees, data conversion costs,
reengineering and rights to future upgrades and enhancements, the capitalizable/expense
costs should be allocated among the individual elements as stipulated in Section 8. The
allocation should be estimated by the proponent based on objective evidence of fair value of
the elements in the contract, not necessarily on the separate prices stated within the contract
for each element. If a distinction cannot be made between maintenance and relatively minor
upgrades and/or enhancements, the costs should be expensed as incurred.

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 6 OF 9

• If it becomes no longer probable that the computer software project will be completed and
placed in service, no further costs should be capitalized and an analysis of the future benefit
of amounts previously capitalized should be performed. The proponent or Project Manager
should send Form SA-630 to FAWIP outlining the capitalized costs that have no future
benefit to Saudi Aramco so they can be written-off.

8 ACCOUNTING

The accounting process for capitalization of purchased/developed software is similar to the

accounting treatment for other capital projects.
• All costs, both capital and expense, will be accumulated in Type Code 60 accounts that will
consolidate to account 10-350-01, Incomplete Construction – T/C 60, in Saudi Aramco’s
General Ledger. This account is classified as Construction in Progress (CIP). The Type
Code 60 accounts should be segregated into phases representing costs that will be capitalized
and costs that will be expensed to ensure that expense items are properly cleared
automatically through voucher 95 and capital items remain in CIP until project completion.

• When the Mechanical Completion Certificate, representing the point at which the software is
ready for its intended use, has been received by FAWIP, the entries to properly reclassify the
costs included in CIP to the appropriate asset account are as follows:

In Voucher 91:
10-451-31 Misc Plant & Equip Clearances XXX
60-XXXXX-XXX Type Code 60 Account XXX

In Voucher 7:
10-380-50 Comp Sftwr Develop/Acquisition XXX
10-451-31 Misc Plant & Equipment Clearances XXX

• FAWIP will be responsible for calculating amortization on the capitalized software as

directed by the proponent or Project Manager and record the amortization as follows:

In Voucher 7:
10-877-07 Amort Exp – Comp Sftwr XXX
10-380-51 Acc Amort – Software XXX

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 7 OF 9

• When capitalized software is being replaced or retired, the proponent should prepare Form
SA-630 for FAWIP outlining the asset being replaced or retired. The entries required to be
made by FAWIP are as follows:

In Voucher 7:
10-380-51 Acc Amort – Software XXX
427-460 Loss on Software Write-Off XXX
10-380-50 Comp Sftwr Develop/Acquisition XXX

Approved by: ____________________

Abdulla M. Zahia, Manager
Accounting Policy, Methods &
Systems Department

MJH

W/C #P134

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 8 OF 9

Attachment I

The decision table below can be used to assist Saudi Aramco organizations in determining the proper
accounting treatment for software costs in accordance with this policy:
Expense As
Description of Activity Incurred Capitalize
Purchase/Development Projects whose total costs < $2 million
or benefits < 3 years X

Y2K Related:
Costs incurred to replace software not Y2K compliant (see
other elements of this table to determine which costs should
be capitalized) X
All other Y2K related software costs X

Business Process Re-engineering:

Preparation of request for consulting proposal X
Analyzing current business process X
Process re-engineering X
Restructuring the workforce X

Preliminary Project Stage Costs:

Feasibility study X
Vendor/contractor selection X
Conceptual formulation, evaluation and selection of
alternatives X

Training Costs (any stage) X

Application Maintenance:
Maintenance only (internal or external) X
Unspecified upgrades or enhancements bundled with
maintenance (if distinction can be made) X

Data Conversion Costs:

Costs to develop software that allows for access to, or
conversion of, old data by new systems (see other
elements of this table to determine which costs should be
capitalized) X
Other data conversion costs X

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION

SAUDI ARABIAN OIL COMPANY (Saudi Aramco) GENERAL INSTUCTION NO.

GENERAL INSTRUCTION MANUAL 202.320

ISSUE DATE REPLACES
ISSUING ORG. ACCOUNTING POLICY, METHODS & SYSTEMS DEPARTMENT 01-05-2000 New
APPROVAL PAGE NO.
SUBJECT
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use AMZ 9 OF 9

Expense As
Description of Activity Incurred Capitalize
Application Development Stage Costs:
Design of chosen path X
Software configuration and interface design X
Coding X
Installation to hardware and testing X
Payroll & payroll related costs (using SAOC standard labor
rates) X

Other Costs Incurred in Obtaining/Developing Software:

Costs to obtain software from 3rd Parties X
Costs incurred under contracts that benefit only one year X
Travel costs directly associated with developing software X

Costs Incurred After Software is Ready for Intended Use X

MJH
W/C #P134

* CHANGE ** ADDITION NEW INSTRUCTION COMPLETE REVISION