Shaw Company sells 2,000 units of its product for $500 each. The selling price includes a one-year warranty on parts. It is expected that 3% of the units will be defective and that repair costs will average $50 per unit. In the year of sale, warranty contracts are honored on 40 units for a total cost of $2,000. What amount will be reported on Shaw Company's balance sheet as Estimated Warranty Liability on December 31, 2010?

Question

Quizplus · Accepted Answer

To determine the estimated warranty liability on December 31, 2010, we need to calculate the expected cost of repairs for defective units that will be honored under warranty after the date of sale.

Number of defective units = 2,000 x 3% = 60
Expected repair cost per unit = $50
Expected total repair cost = 60 x $50 = $3,000

Since $2,000 was already spent on repairs in the year of sale, the remaining estimated warranty liability on December 31, 2010 would be $3,000 - $2,000 = $1,000. Therefore, the correct answer is option C).

Shaw Company Sells 2,000 Units of Its Product for $500