Question

The Clarion Company provides a one-year warranty on all merchandise it sells. In Year 1, the company recorded sales of

$500,000. It estimated that the warranty costs on these sales would amount to $2,000. In July, Year 2, Clarion paid $250 to
satisfy a warranty claim. Indicate whether each of the following statements is true or false.
a) Clarion's recognition of the warranty obligation at the end of Year 1 reduced total assets and total equity.
b) Clarion's recognition of the warranty obligation at the end of Year 1 increased Clarion's total liabilities.
c) The July, Year 2 transaction reduced total assets and net income for Year 2.
d) The July, Year 2 transaction reduced Clarion's total liabilities.
e) The recognition of the warranty obligation at the end of Year 1 did not affect Clarion's revenue for the year.

Answer 1

Let's evaluate each statement:

a) Clarion's recognition of the warranty obligation at the end of Year 1 reduced total assets and total equity.

- True. Recognizing the warranty obligation as an estimated liability at the end of Year 1 would reduce total assets (specifically, current liabilities would increase), and total equity would also decrease since it represents the owners' claim on the assets.

b) Clarion's recognition of the warranty obligation at the end of Year 1 increased Clarion's total liabilities.

- True. Recognizing the warranty obligation as an estimated liability at the end of Year 1 increased total liabilities because it represents an obligation to provide warranty services in the future.

c) The July, Year 2 transaction reduced total assets and net income for Year 2.

- True. When Clarion paid $250 to satisfy a warranty claim in Year 2, it would reduce total assets (specifically, cash or accounts payable would decrease), and this expense would reduce net income for Year 2.

d) The July, Year 2 transaction reduced Clarion's total liabilities.

- True. When Clarion paid $250 to satisfy a warranty claim, it would reduce the liability associated with that specific warranty claim, thus reducing total liabilities.

e) The recognition of the warranty obligation at the end of Year 1 did not affect Clarion's revenue for the year.

- True. Recognizing the warranty obligation at the end of Year 1 does not directly affect revenue. It is an accounting adjustment to recognize a liability, but it does not impact the revenue recorded in Year 1. Revenue is recognized when goods are sold, not when the warranty obligation is estimated.