Franchise

Franchises

Franchise revenue recognized from two sources:

- Initial Franchise Fee: sale of initial franchises and related assets or services

- Continuing Franchise Fees: based on franchise operations

No explicit guidance given in IFRS other than in the illustrative examples

(which are not technically part of the standard)

Initial Franchise Fee

Recorded as revenue only when and as the franchisor has established substantial performance:

a) The services obligated to be performed have been so performed

■ No obligation to refund any portion of the fee received to date

■ Substantial performance of required services

b) Collection of the fee is reasonably assured

· The beginning of operations normally considered the earliest time substantial

performance has occurred

Initial Franchise Fee - Example

· Initial franchise fee: P50,000

— Down payment: P10,000

— Balance: five equal annual installments

— Discount rate: 8%

■ PV of P8,000 ordinary annuity = P31,942

■ Difference (40,000 - 31,942) = P8,058 is interest revenue to franchisor

Entries if reasonable expectation of refund and significant performance by franchisor required:

Cash                           10,000

Notes Receivable        40,000

Discount on Note                       8,058

Unearned Franchise Fees        41,942

Entries if low expectation of refund, minimal amount of future services to be provided

by franchisor, and collection of the note reasonably assured:

Cash                          10,000

Notes Receivable        40,000

Discount on Note                         8,058

Revenue from Franchise Fees   41,942

· Entries if no refund, substantial performance by franchisor required, and collection reasonably

 assured;

Cash                            10,000

Notes Receivable        40,000

Discount on Note                         8,058

Revenue from Franchise Fees   10,000

Unearned Franchise Fees          31,942

· Entries if no refund of initial down payment, no performance by franchisor required,

and collection is highly uncertain:

Cash                   10,000

Revenue from Franchise Fees 10,000

■ Entries if down payment refundable, or substantial performance by franchisor required:

Cash                   10,000

Unearned Franchise Fees     10,000

Continuing Franchise Fees

· Received in return for continuing rights under the franchise agreement and

provision of services by franchisor

· Reported as revenues when they are earned and receivable from the franchisee

■ If an amount is included which is "ear-marked" for a specific purpose e.g. for local

advertising, that amount is deferred

Special Issues

■ Bargain Purchase

- When the franchisee may purchase assets at a lower than market price from the franchisor

- Portion of initial franchise fee is deferred //the bargain price is lower than normal

selling price or if franchisor does not make a reasonable profit

- Adjustment to selling price when assets are purchased by the franchisee

· Options to Purchase

  

- Where the franchisor has the right to purchase the franchisee's business

- Initial franchise fee recorded as a liability if it is probable that a purchase will occur

-When option is exercised, the liability would reduce the franchisor's investment

■ Franchisor's Cost

- Overall objective is to match related costs and revenues

- Direct costs are deferred for any specific franchise sale where revenue has not been recognized

- Indirect costs, such as selling and administrative expenses, are expensed as incurred

Disclosures of Franchisors

■ Full disclosure of all significant commitments and obligations is required

· Description of services yet to be performed is also required

· Initial franchise fees are reported as a separate revenue line item if significant

· Revenues and costs of franchisor-owned outlets should be disclosed separate from

the revenues and costs of franchised outlets