Situation MacKenzie Refrigeration is a manufacturer of residential refrigerators and freezers. MacKenzie manufactures refrigerators for various retailers and sells its products under the retailers own brand name. Each refrigerator it sells comes with a 2-year warranty. Recently, MacKenzie discovered a defective damper control assembly—an automatic valve that periodically opens to let cold air into the refrigerator compartment from the freezer compartment—that is used on its most popular refrigerators. Because of this defect, the valve has a tendency to remain in the open position and allow too much cold air into the refrigerator compartment. Therefore, any food in the refrigerator that contains liquid (e.g., milk, orange juice, meats, fruits) will freeze. MacKenzie’s Chief Operations Officer (COO) wishes to issue a product recall to repair the defective assembly which will cost the company approximately $1,000,000 to $1,200,000, or about 5% of its net income. However, the Chief Financial Officer (CFO) believes that such an expense is not necessary. Based on an internal investigation, MacKenzie estimated that approximately one-fourth of all its refrigerators will experience a damper control failure prior to the expiration of the 2-year warranty. The CFO has determined that it will be more cost effective to repair, under the existing warranty program, only those units that fail within the first 2 years. In fact, he argues that the company’s refrigeration repair division might actually make money as it charges the customer for repairing the defective assemblies outside of the warranty period. As most of MacKenzie’s products are sold under other company’s brand names, the CFO argues that there will be mini-mal impact on the company’s image. The Chief Executive Officer (CEO) must present this issue to MacKenzie’s board of directors and wants to know the proper accounting treatment of these product recall costs. Directions Research the related generally accepted accounting principles and prepare a short memo to the Chief Executive Officer that explains how MacKenzie should report the product recall costs. Cite your reference and applicable paragraph numbers.
Situation MacKenzie Refrigeration is a manufacturer of residential refrigerators and freezers. MacKenzie manufactures refrigerators for various retailers and sells its products under the retailers own brand name. Each refrigerator it sells comes with a 2-year warranty. Recently, MacKenzie discovered a defective damper control assembly—an automatic valve that periodically opens to let cold air into the refrigerator compartment from the freezer compartment—that is used on its most popular refrigerators. Because of this defect, the valve has a tendency to remain in the open position and allow too much cold air into the refrigerator compartment. Therefore, any food in the refrigerator that contains liquid (e.g., milk, orange juice, meats, fruits) will freeze. MacKenzie’s Chief Operations Officer (COO) wishes to issue a product recall to repair the defective assembly which will cost the company approximately $1,000,000 to $1,200,000, or about 5% of its net income. However, the Chief Financial Officer (CFO) believes that such an expense is not necessary. Based on an internal investigation, MacKenzie estimated that approximately one-fourth of all its refrigerators will experience a damper control failure prior to the expiration of the 2-year warranty. The CFO has determined that it will be more cost effective to repair, under the existing warranty program, only those units that fail within the first 2 years. In fact, he argues that the company’s refrigeration repair division might actually make money as it charges the customer for repairing the defective assemblies outside of the warranty period. As most of MacKenzie’s products are sold under other company’s brand names, the CFO argues that there will be mini-mal impact on the company’s image. The Chief Executive Officer (CEO) must present this issue to MacKenzie’s board of directors and wants to know the proper accounting treatment of these product recall costs.
Directions Research the related generally accepted accounting principles and prepare a short memo to the Chief Executive Officer that explains how MacKenzie should report the product recall costs. Cite your reference and applicable paragraph numbers.
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