Problem Solving Survival Guide to accompany Financial Accounting, 8th Edition

EXERCISE G-1

Purpose: (L.O. 1) This exercise will test your ability to properly account for situations involving contingent liabilities.

As the accountant for the Blow-Dry Manufacturing Company you are to analyze the following situations in preparing the balance sheet at December 31, 2014:

1. The Blow-Dry Manufacturing Company grants a six-month warranty on each of the hair dryers it sells. Based on past experience, it is estimated that 3% of all hair dryers sold are returned; it costs the company an average of $4.40 to satisfy the warranty obligation for each unit returned. The company sold 77,000 hair dryers in the last half of 2014 and has spent $3,000 for warranty work on those units.
2. The Speedy-Dry Manufacturing Company has filed a lawsuit for $100,000 in damages against the Blow-Dry Manufacturing Company for infringement of patent rights. Legal counsel for Blow-Dry states that it is reasonably possible, but not likely, that there will be an unfavorable outcome of the case because the Blow-Dry Company has good evidence to support its position.
3. The Internal Revenue Service is currently auditing a tax return of the Blow-Dry Company for a prior year. It is remotely possible that the IRS may disallow a deduction of $4,200 on the tax return.
4. The Blow-Dry Company is a defendant in a lawsuit. A former executive filed suit on November 7, 2014 based on his claim that the Blow-Dry Company did not comply with a written promise to pay him a $50,000 bonus for 2013. The company did not make ...