What is warranty provision?

Hi Nataly

A warranty on an asset is what you would be given by, say, the car manufacturer. Effectively the manufacturer is saying “Our cars are so good that we are certain you won’t have any problems with them. If you in fact DO have a problem, then under the warranty scheme that we operate we promise to reap air the fault free of charge.

Then, as a result of the history of how many faults are discovered by the owners of that manufacturer’s cars, the directors will decide what is the likely return rate for our cars and how much is it going to cost us to repair those future returns.

So they will set up a warranty provision Dr Profit or Loss and credit the Warranty Provision account

Each year the directors will review the situation and increase or decrease the provision as necessary. The entry for increasing a provision is Dr the Profit or Loss account by the amount of the increase and Cr the Provision account.

But note this! There is no mention of “Cash” in that entry. An increase or a decrease in a Provision involves no cash outflow nor inflow.

And that answers the second part of your question – why do we add back an increase in a provision in a cash flow statement. Because, although it’s an expense, it doesn’t involve any cash flow. As an expense, it will have been used to calculate the profit before tax amount (it will have been deducted) so when we prepare the statement of cash flows we need to addit back as a non-cash item.

Just the same as we add back the non-cash item that has been charged as the depreciation charge / expense

Ok?

You’re welcome

$75,000 as a long term liability on the statement of financial position

$15,000 credited to statement of profit or loss (in administrative expenses) as a provision no longer required

I don’t understand the question!

The answer could be:

– a private company
– a public company
– a partnership
– a joint venture

It’s probable that the answer will be something like “a manufacturing company that is involved in providing equipment or goods to customers and is giving a guarantee (technically that’s not the correct word to use) that those goods will continue to operate as intended for a specified period of time”

But simply giving me the closing statements of financial position figures for two years ….

Does that help?