P8-6 (Algo) Defining and Analyzing Changes in Current Liabilities L08-1

International Business Machines (IBM) is a leading provider of computer products and services. The company is known for its hardware products but has focused on providing information technology services in recent years. IBM provides standard warranties and extended warranties with the sale of its products. The company's note on significant accounting policies is as follows: The company offers warranties for its hardware products that generally range up to three years, with the majority being either one or three years. Any cost of standard warranties is accrued when the corresponding revenue is recognized. The company estimates its standard warranty costs for products based on historical warranty claim experience and estimates of future spending and applies this estimate to the revenue stream for products under warranty. Estimated future costs for warranties applicable to revenue recognized in the current period are charged to cost of sales. The warranty liability is reviewed quarterly to verify that it properly reflects the remaining obligation based on the anticipated expenditures over the balance of the obligation period. Adjustments are made when actual warranty claim experience differs from estimates. Costs from fixed-price support or maintenance contracts, including extended warranty contracts, are recognized as incurred. Revenue from extended warranty contracts is initially recorded as deferred income and subsequently recognized on a straight-line basis over the delivery period because the company is providing a service of standing ready to provide services over such term. Selected information related to warranties provided by IBM follows (in millions of U.S. dollars): Required: 1. Compute the amount of warranty expense for 2020 and 2021. (Enter your answers in millions of dollars.) 2. Prepare journal entries to record both the warranty expense for 2021 and the payments made under the warranty during the year. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in millions of dollars.) Journal entry worksheet Record to recognize the warranty expense for the year. Note: Enter debits before credits. 2. Prepare journal entries to record both the warranty expense for 2021 and the payments made under the warranty during the year. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in millions of dollars.) Journal entry worksheet Record to settlements made under the product warranty. Note: Enter debits before credits. 3-a. Compute the ratio of the warranty expense to net revenues for the three years. The Standard warranty liability had a balance of $116 at the beginning of 2019. (Round percentage answers to 2 decimal places (i.e., 0.1243 should be entered as 12.43 ).) 3-b. Has the ratio increased or decreased during the three-year period? 4. Based on the limited information available about the warranty expense and settlements during these three years, should IBM reduce the ratio of the warranty expense to net sales in future years? Yes No 5-a. Compute the extended warranty revenue recognized during 2020 and 2021. (Enter your answers in millions of dollars.) 5-b. Prepare the journal entry to record the revenue recognized in 2021. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in millions of dollars.) Journal entry worksheet Record to the recognize revenue related to extended warranties. Note: Enter debits before credits