The following selected transactions relate to contingencies of Classical Tool Ma
ID: 2559364 • Letter: T
Question
The following selected transactions relate to contingencies of Classical Tool Makers, Inc., which began operations in July 2018. Classical's fiscal year ends on December 31. Financial statements are issued in April 2019. 1. Classical's products carry a one-year warranty against manufacturer's defects. Based on previous experience, warranty costs are expected to approximate 3% of sales. Sales were $3.8 million (all credit) for 2018. Actual warranty expenditures were $47,500 and were recorded as warranty expense when incurred. 2. Although no customer accounts have been shown to be uncollectible, Classical estimates that 2% of credit sales will eventually prove uncollectible. 3. In December 2018, the state of Tennessee filed suit against Classical, seeking penalties for violations of clean air laws. On January 23, 2019, Classical reached a settlement with state authorities to pay $3.3 million in penalties. 4. Classical is the plaintiff in a $5.8 million lawsuit filed against a supplier. The suit is in final appeal and attorneys advise that it is virtually certain that Classical will win the case and be awarded $4.3 million. 5. In November 2018, Classical became aware of a design flaw in an industrial saw that poses a potential electrical hazard. A product recall appears unavoidable. Such an action would likely cost the company $680,000. 6. Classical offered $20 cash rebates on a new model of jigsaw. Customers must mail in a proof-of- purchase seal from the package plus the cash register receipt to receive the rebate. Experience suggests that 70% of the rebates will be claimed. Eleven thousand and eight hundred of the jigsaws were sold in 2018. Total rebates to customers in 2018 were $123,000 and were recorded as promotional expenseExplanation / Answer
No entry
1-a & 1-b Ans: No. Journal Debit Credit 1) Warranty expense 66,500 Warranty liability 66,500 total expense for the year = 114,000 claims entry: warranty expense 47,500 cash 47,500 because this is the first year of operations, the beginning balance in the warranty liability account would be zero. so, the ending liability balance would be 66,500. we know the liability balance increased because the expense > the claims made. 2) Bad debt expense 76,000 Allowance for uncollectibles 76,000 3) This is a loss contingency. classical can use the information occurring after the end of the year and before the financial statements are issued to determine appropriate recognition and disclosure. Loss- litigation 3,300,000 Liability- litigation 3,300,000 4) This is a gain contingency. gain contingencies are not accrued even if the gain is probable and reasonably estimable. the gain should be recognized only when realized. a disclosure note is appropriate.No entry
0 No entry 0 5) This is a loss contingency, and it must be recognized because the loss is probable and reasonably estimable. Loss- product recall 680,000 Liability- product recall 680,000 a disclosure note also is appropriate 6) Promotional expense 42,200 Premium liability 42,200 Expense for the year = 165,200 (70% X $20 X 11,800) Promotional expense 123,000 Cash 123,000