Bacchus Co. had sales of $400,000 in 2013. The company expects to incur warranty expenses amounting to 3% of sales. There were $6,500 of warranty obligations paid in cash during 2013. Based on this information:

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$400,000 x 3% = $12,000 warranty expense is recognized in 2013. Assets (cash) decrease by $6,500. Warranty obligations (warranties payable) increases by $12,000 when warranty expense is recognized and decreases by $6,500 when warranty obligations are paid, for a net increase of $5,500.