Question

Merritt Equipment Company sells computers for $1,260 each and also gives each customer a 2-year warranty that requires the company to perform periodic services and to replace defective parts. During 2014, the company sold 860 computers on credit. Based on past experience, the company has estimated the per unit 2-year warranty costs as $40 for parts and $60 for labor. (Assume sales all occur at December 31, 2014.) In 2015, Merritt incurred actual warranty costs relative to 2014 computer sales of $11,200 for parts and $16,800 for labor. Under the expense warranty approach, give the entries to reflect the above transactions (accrual method) for 2014 and 2015. (Credit account titles are automatically indented when the amount is entered. Do not indent manually.) Date Account Titles and Explanation Debit Credit 2014 (To record sale of computers.) 2014 (To record liability against warranty costs.) 2015 Under the cash-basis method, what are the Warranty Expense balances for 2014 and 2015? (Do not leave any answer field blank. Enter 0 for amounts.) Warranty Expense 2014 $ 2015 $ The transactions of part (a) create what balance under current liabilities in the 2014 balance sheet? Current Liabilities-Warranty Liability $

Answer 1

Part 1)

The entries under the expense warranty approach to reflect the transactions (accrual method) provided in the question are given as below:

2014

Account Titles	Debit	Credit
Accounts Receivables (860*1,260)	$1,083,600
Sales Revenue		$1,083,600
Warranty Expense [860*(40+60)]	$86,000
Warranty Liability		$86,000

_____

2015

Account Titles	Debit	Credit
Warranty Liability (11,200+16,800)	$28,000
Inventory		$11,200
Cash/Accrued Payroll		$16,800

_____

Part 2)

Under the cash-basis method, the warranty expense balances for 2014 and 2015 are determined as below:

Warranty Expense Balance (2014) = $0 [under the cash-basis method, warranty expenses are recognized as and when they are paid. As no warranty expense has been incurred during 2014, the warranty expense balance will be 0]

Warranty Expense Balance (2015) = Actual Warranty Costs during 2015 Relative to 2014 Computer Sales = 11,200 + 16,800 = $28,000

_____

Part 3)

The transactions of part (a) create the following balance under current liabilities in the 2014 balance sheet:

Current Liabilities - Warranty Liability - $43,000 (86,000/2).

____

Explanation:

As the warranty period is two year, the current portion of warranty liability will be one half of the total liability ($86,000) as at the end of year 2014. Therefore, the current liabilities with respect to warranty liability will be $43,000 (86,000*1/2).