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X Co sells goods with a one year warranty and had a provision for warranty claims of $64,000 at 31 December 20X0. During the year ended 31 December 20X1, $25,000 in claims were paid to customers. On 31 December 20X1, X Co estimated that the following claims will be paid in the following year:
Scenario Probability Anticipated cost
Worst case 5% $150,000
Best case 20% $25,000
Most likely 75% $60,000What amount should X Co record in the statement of profit or loss for the year ended 31 December 20X1 in respect of the provision?
A $57,500
B $6,500
C $18,500
D $39,000The answer is C.
Have they arrived at that answer because our closing provision for the year, after making payments, were 39000 and the expected provision to be paid in the next year were 57500 so minus of both is -18,500, which means 18500 must be the extra provision they will create next year?
It is very much the same logic as that which we use in dealing with irrecoverable and doubtful debts.
The expense this year is the 25,000 paid this year less the decrease in the provision of 64,000 – 57,500 = 6,500.
This gives a net expense of 25,000 – 6,500 = 18,500.
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