Question

The following selected transactions relate to contingencies of Eastern Products Inc., which began operations in July 2021. Eastern's fiscal year ends on December 31. Financial statements are published in April 2022.

1. No customer accounts have been shown to be uncollectible as yet, but Eastern estimates that 3% of credit sales will eventually prove uncollectible. Sales were $300 million (all credit) for 2021.
2. Eastern offers a one-year warranty against manufacturer's defects for all its products. Industry experience indicates that warranty costs will approximate 2% of sales. Actual warranty expenditures were $3.5 million in 2021 and were recorded as warranty expense when incurred.
3. In December 2021, Eastern became aware of an engineering flaw in a product that poses a potential risk of injury. As a result, a product recall appears inevitable. This move would likely cost the company $1.5 million.
4. In November 2021, the State of Vermont filed suit against Eastern, asking civil penalties and injunctive relief for violations of clean water laws. Eastern reached a settlement with state authorities to pay $4.2 million in penalties on February 3, 2022.
5. Eastern is the plaintiff in a $40 million lawsuit filed against a customer for costs and lost profits from contracts rejected in 2021. The lawsuit is in final appeal and attorneys advise that it is virtually certain that Eastern will be awarded $30 million.

Required:
Prepare the appropriate journal entries that should be recorded as a result of each of these contingencies. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in whole dollars.)

Answer 1

		Date	Account Title	Debit	Credit	Remark
A	No customer accounts have been shown to be uncollectible as yet, but Eastern estimates that 3% of credit sales will eventually prove uncollectible. Sales were $300 million (all credit) for 2021.	31-Dec-21	Bad Debts	$          9,000,000		Accounting Estimates are used in accrual basis accounting to make the financial statements more complete. It usually anticipate events that have not yet occurred, but which are considered to be probable.
			Provision for Doubtful Debts		$               9,000,000	(300,000,000 X 3%)
B	Eastern offers a one-year warranty against manufacturer's defects for all its products. Industry experience indicates that warranty costs will approximate 2% of sales. Actual warranty expenditures were $3.5 million in 2021 and were recorded as warranty expense when incurred.	Date	Account Title	Debit	Credit
		31-Dec-21	Warranty Liability	$          2,500,000		(2%*300000000-3500000)
			Warranty Expense		$               2,500,000
C	In December 2021, Eastern became aware of an engineering flaw in a product that poses a potential risk of injury. As a result, a product recall appears inevitable. This move would likely cost the company $1.5 million.	Date	Account Title	Debit	Credit	Adjustments must be made if the event provides evidence of conditions that existed at the end of the reporting period (the reporting date-31-Dec-2021).contingent liabilities should be recorded in the accounts when it is probable that the future event will occur and the amount of the liability can be reasonably estimated.
		31-Dec-21	Injury Expenses	$          2,500,000
			Continge Liability-Liability on product		$               2,500,000
D	In November 2021, the State of Vermont filed suit against Eastern, asking civil penalties and injunctive relief for violations of clean water laws. Eastern reached a settlement with state authorities to pay $4.2 million in penalties on February 3, 2022.	Date	Account Title	Debit	Credit	Adjustments must be made if the event provides evidence of conditions that existed at the end of the reporting period (the reporting date-31-Dec-2021).contingent liabilities should be recorded in the accounts when it is probable that the future event will occur and the amount of the liability can be reasonably estimated.
		31-Dec-21	Penalty expenses	$    4,200,000.00
			State Authorities		$         4,200,000.00
E	Eastern is the plaintiff in a $40 million lawsuit filed against a customer for costs and lost profits from contracts rejected in 2021. The lawsuit is in final appeal and attorneys advise that it is virtually certain that Eastern will be awarded $30 million.	Date	Account Title	Debit	Credit	Adjustments must be made if the event provides evidence of conditions that existed at the end of the reporting period (the reporting date-31-Dec-2021).A contingent asset becomes a realized (and therefore recordable) asset when the realization of income associated with it is virtually certain
		31-Dec-21	Coningent Asset	$        30,000,000
			Accounts Receivable		$            30,000,000