Manor Incorporated sells washing machines that include a two-year warranty covering parts. Experience shows that warranty expense averages about 2% of the selling price of each machine during the first 12 months following the sale and 1% during the next 12 months. Net sales totaled $400,000 during Year 1, the company’s first year of operations. Actual warranty costs incurred totaled $7,900 during Year 2 and $4,000 during Year 3. What is the amount of warranty expense that should be reported on the income statement for Year 1?
Question
Manor Incorporated sells washing machines that include a two-year warranty covering parts. Experience shows that warranty expense averages about 2% of the selling price of each machine during the first 12 months following the sale and 1% during the next 12 months. Net sales totaled 7,900 during Year 2 and $4,000 during Year 3. What is the amount of warranty expense that should be reported on the income statement for Year 1?
Solution 1
The warranty expense that should be reported on the income statement for Year 1 can be calculated as follows:
- Determine the total sales for Year 1: $400,000
- Calculate the expected warranty expense for the first 12 months: 2% of 8,000
- Calculate the expected warranty expense for the next 12 months: 1% of 4,000
However, since the warranty expense for the next 12 months (Year 2) is not incurred in Year 1, it should not be reported in Year 1's income statement. Therefore, the amount of warranty expense that should be reported on the income statement for Year 1 is $8,000.
Solution 2
To calculate the warranty expense that should be reported on the income statement for Year 1, we need to consider the average warranty expense as a percentage of the selling price of each machine.
According to the information given, the warranty expense averages about 2% of the selling price of each machine during the first 12 months following the sale.
Given that the net sales totaled $400,000 during Year 1, the warranty expense for Year 1 would be calculated as follows:
Warranty expense = 2% of total sales = 0.02 * 8,000
Therefore, the amount of warranty expense that should be reported on the income statement for Year 1 is $8,000.
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