36) Fast Bikes, Inc. offers warranties on all their bikes. They estimate warranty expense at 3.5% of sales. At
the beginning of 2018, the Estimated Warranty Payable account had a credit balance of $1900. During the
year, Fast Bikes had $296,000 in sales and had to pay out $5900 in warranty payments. At the end of the
year, what is the ending balance in the Estimated Warranty Payable accounts?
A) $6360
B) $7800
C) $8460
D) $10,360
37) Vargas, Inc. sold goods with a selling price of $50,000 in 2019 and estimated 5% warranty expense for
the year. Customers complained of defects, and goods with a cost of $1500 had to be replaced. Which of
the following is the correct journal entry for honoring the warranties with goods?
A)
Estimated Warranty Payable
1500
Cash
1500
B)
Estimated Warranty Payable
1500
Merchandise Inventory
1500
C)
Warranty Expense
1500
Merchandise Inventory
1500
D)
Estimated Warranty Payable
1500
Warranty Expense
1500
38) Southwest, Inc. records indicate that January sales on account were $109,000. The company‘s
management estimates warranty expense to be 3.6% of sales. Prepare the journal entry to record warranty
expense. Omit explanation.
39) Superior Sales, Inc. offers warranties on all its electronic goods. Warranty expense is estimated at 3.5%
of sales revenue. In 2018, Superior had sales of $333,000. In the same year, Superior replaced defective
goods with merchandise inventory costing $8,750. Prepare the journal entry to record the warranty
expense. Omit explanation.
40) Metro Sales, Inc. offers warranties on all its electronic goods. Warranty expense is estimated at 3.5% of
sales revenue. In 2019, Metro had sales of $333,000. In the same year, Metro replaced defective goods with
merchandise inventory costing $8,750. Prepare the journal entry to record the replacement of defective
goods. Omit explanation.
41) McBride Industries completed the following transactions during 2018:
Made sales of $10,000. McBride estimates that warranty expense
is 5% of sales. (Record only the warranty expense.)
Paid $250 to satisfy warranty claims.
Estimated vacation benefits expense to be $2,350.
McBride expected to pay its employees a 4% bonus on net income
after deducting the bonus. Net income for the year is $25,000.
Journalize the transactions (explanations are not required). Round to the nearest dollar.
Warranty Expense (5% × $10,000)
Estimated Warranty Payable
Cash
Vacation Benefits Expense
Employee Bonus Expense (4% × 25,000) / 1.04
Employee Bonus Payable
42) The following transactions of Windsor Enterprises occurred in 2018 and 2019:
Jul. 31, 2018
Purchased a delivery truck at a cost of $14,000, signing a six-month, 8%
note payment for that amount.
Aug. 31, 2018
Recorded the month’s sales of $105,000 ($40,000 for cash and the balance
on credit). Sales amounts are subject to a 6% state sales tax. Ignore cost of
goods sold.
Sept. 20, 2018
Paid the August sales tax to the state.
Dec. 31, 2018
Accrued warranty expense, which is estimated to be 3% of sales of
$748,500.
Dec. 31, 2018
Accrued interest on the outstanding note payable.
Jan. 31, 2019
Paid off the note from July 31, 2018.
Journalize the transactions in Windsor’s general journal. Explanations are not required. Round to the
nearest dollar.
Delivery Truck
Short-term Notes Payable
Cash ($40,000 × 1.06)
Accounts Receivable ($105,000 – $40,000)(1.06)
Sales
Sales Tax Payable ($105,000 × .06)
Sales Tax Payable
Warranty Expense (3% × $748,500)
Estimated Warranty Payable
Interest Expense (14,000 × 8% × 5/12)
Short-term Notes Payable
Interest Payable
Interest Expense ($14,000 × 8% × 1/12)
Cash
43) You have started working for a company that manufactures lawn mowers. These mowers carry a
warranty that will replace defective parts for one year. The corporate president feels that an expense
should be recorded when the defective parts are replaced. Explain the proper accounting treatment to
the corporate president.
1) When a company co-signs a note payable for another entity, a current liability must be recorded.
2) A contingent liability is a potential, rather than an actual liability, because it depends on a future event.
3) Which of the following is true of a contingent liability?
A) It is a potential liability that depends on a future event.
B) It is an actual liability that is difficult to estimate.
C) It is an actual liability that depends on a past event.
D) It is a liability resulting from a lawsuit settled in court.
4) When determining how businesses record or do not record contingent liabilities, which is not one of
the three likelihoods that that are considered?
A) remote
B) reasonably probable
C) probable
D) reasonably possible
5) What is a contingent liability? Provide two examples of contingencies.
6) If a contingency is remote, the company does not need to record a liability and does not need to
disclose it in the notes to the financial statements.
7) A contingency was evaluated at year-end and considered to have a remote possibility of becoming an
actual liability. If this is not reported on the balance sheet or in the notes to the financial statements, it
could be considered a violation of generally accepted accounting principles.
8) A restaurant is being sued because a customer claims to have found a bug in her chili. The company’s
lawyers believe there is only a remote possibility that the lawsuit will result in an actual liability. Which
of the following actions should be taken by the company’s management?
A) The situation should be described in a note to the financial statements.
B) The possible liability should not be shown in the financial statements.
C) The liability should be estimated and accrued as an expense.
D) An expense must be matched to the period in which the incident occurred.
9) A contingency was evaluated at year-end and considered to have a remote possibility of becoming an
actual liability. If this was not reported on the balance sheet or in the notes to the financial statements,
what effect would this have on the financial reporting of the company?
A) There would be no effect.
B) The liabilities on the balance sheet would be understated.
C) The information about the transaction would be inadequately disclosed in the notes.
D) The net income of the company would be understated.
10) If the likelihood of a future event is remote, how should the company report the contingency?
11) A contingency was evaluated at year-end and considered to have a reasonable possibility of becoming
an actual liability. If this was not reported on the balance sheet or in the notes to the financial statements,
it could be considered a violation of generally accepted accounting principles.
12) Contingencies that are reasonably possible have a greater chance of occurring but are not likely.
13) Contingencies that are reasonably possible are not described in the notes to the financial statements.
14) A corporation has been sued for product failures allegedly resulting in injuries to the individuals
bringing the lawsuit. The company‘s lawyers believe it is more than remote, but less than probable, that
the lawsuit will result in an actual liability. Which of the following actions should be taken by the
company’s management?
A) The liability should be estimated and recorded as an expense.
B) The situation should be described in a note to the financial statements.
C) The possible liability should be ignored.
D) Management should consider resigning.
15) A contingency was evaluated at year-end and considered to have a reasonable possibility of becoming
an actual liability. If this was not reported in the notes to the financial statements, what is the effect on the
financial reporting of the company?
A) There would be no effect.
B) The liabilities on the balance sheet would be understated.
C) The information about the transaction would be inadequately disclosed in the notes.
D) The net income of the company would be understated.