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FRANCHISE

Franchising is a system whereby one company grants business rights to another
company or individual through a contract to operate a franchised business for a
specified period of time. The company granting the business rights is called the
franchisor, and the company receiving the business rights is called the FRANCHISE.

A franchise generally involves the grant from one party (franchisor) to another
party (franchisee), the right to sell the granting party’s goods or services. Each
party contributes resources.

The franchisor contributes his trade name, products, company’s reputation and
trademarks. He also imparts his expertise and on continuing basis provides
guidance and duties on the manner in which the franchisee must operate his
establishment. The franchisee on the other hand, provides operating capital and
managerial operational resources required for the operation of the franchised
business.

PAS 18 states that franchise fees may cover the supply of initial and subsequent
services, equipment, and other tangible assets, and know-how. Accordingly,
franchise fees are recognized as revenue on a basis that reflects the purpose for
which the fees were charged.

FRANCHISE FEE

Franchise fee is the payment to the franchisor in consideration for the reputation,
skill, products, and services contributed by the franchisor.

1. Initial Franchise Fee – represents the initial payment for establishing the
franchise agreement, and for providing certain initial services. It may be
payable immediately in cash or for an extended period of time.

2. Continuing Franchise Fee – represent continues payment to the franchisor
for providing specific future services such as advertising and for continued
use of intangible rights by the franchisee.

FRANCHISE ACCOUNTING
Substantial performance done?
Period of refund expired?
Collectability assured?
All YES With NO
Franchise fees (Cr) Unearned franchise fees (Dr)

REVENUE RECOGNITION

Initial Franchise Fees 1. b. The initial services required of the franchisor by contract or otherwise have been substantially performed or when the franchisee actually commences operations. Once substantial performance is achieved. Revenue from initial franchise fee should be recognized on the consummation of the transaction which occurs when all material services of the sale have been substantially performed. 2. a. . c. The franchisor is not obligated in any way to refund cash already received of forgive unpaid debt. revenue should be recognized using the following methods: Accrual Basis Used when the initial The initial franchisee fee franchise fee is is fully recognized as collectible over an revenue. Direct franchise costs of initial services rendered by the franchisor shall be deferred until related revenue is recognized while indirect costs that occur on a regular basis should be expensed when incurred. This is usually used when the direct costs of the initial services are minimal and revenue is recognized as cash is received. extended period of time and the collectivity of the unpaid portion is REASONABLY ASSURED Installment Method Used when the initial Revenue from initial (Cost Recovery franchise fee is franchise fee is Method) collectible over an recognized in proportion extended period of time to cash collections by and the collectivity of multiplying the the unpaid portion is collections during the NOT REASONABLY year by the gross profit ASSURED rate Alternative Method Cash basis of revenue recognition may also be used instead of installment method. No other material conditions or obligations exist.

Continuing Sale of Supplies  Franchisor usually sells supplies to the franchisee as part of the continuing services provided in the franchise contract.  The sale is recorded by the franchisor in the usual manner.  Total initial area franchise fee is multiplied by the POC to determine the revenue to be recognized. Tangible Assets Included in the Franchise Fee  Initial franchise fee may include the sale of specific tangible property thus a portion of the initial franchise fee must be allocated to such tangible property at its fair market value  The fair value of the tangible property is recognized as revenue when title to such property passes to the franchisee.Continuing Franchise Fees  Usually collected from the franchisee at the end of the month base on certain percentage of their monthly sales  Recognized as revenue when actually earned and receivable from the franchisee  All indirect costs related to continuing franchise fee are expensed immediately Area Franchise Fees  Percentage of completion method is usually used to determine the revenue to be recognized because substantial performance of services rendered by the franchisor is difficult to determine. Option to Purchase  Franchise agreement may include a provision that franchisor has an option to purchase the franchise business. even though substantial performance has not occurred. if granted the initial franchise fee is to be deferred. .  POC is computed by dividing the cost of servicing each individual franchise by the total costs of all franchise.

the deferred revenue is treated as a reduction from the franchisor’s investment. When option is exercised and the franchisor acquires the franchise business. .