Ultimate Corporation is a computer products supplier. Ultimate sells products to dealers who then sell the products to the end users. Most of the company’s competitors require dealers to pay for shipments within 45 to 60 days. Ultimate has followed a more relaxed policy; in 2011 the average length of time it took the company to collect its receivables was 158 days. (This average collection period can be computed as average accounts receivable balance/average daily sales.) It has been suggested that in return for this lax collection policy, dealers allowed Ultimate to ship more product than the dealers needed, allowing Ultimate to recognize the excess shipments as sales. In 2012, Ultimate attempted to reduce the level of its accounts receivable by stepping up collection efforts. As a result, product returns from dealers increased significantly.

1. Assume that Ultimate’s sales for the year were $1,000 with cost of sales being $600. For simplicity, also assume that all of the sales occurred on December 31 and that, on average, Ultimate expects about 15% of products sold to be returned by dissatisfied dealers or dealers who are unable to sell the products. What adjusting entry, if any, should be made at year-end to reflect the likelihood of future sales returns?

2. An allowance for sales returns is analogous to an allowance for bad debts. Most companies disclose an allowance for bad debts but very few disclose an allowance for sales returns. Why not?

3. What other more conservative accounting treatment is possible in regard to the potential sales returns?