Franchisor Revenue Recognition – New Practical Expedient

Private company franchisors have raised concerns to the FASB regarding the complexity and cost in applying Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606). In response, the FASB issued ASU 2021-02, Franchisors—Revenue from Contracts with Customers (Subtopic 952-606), creating a practical expedient that simplifies the identification of performance obligations for private company franchisors for certain pre-opening services.
 
This practical expedient specifically targets step two, identifying performance obligations, in the five steps of revenue recognition under Topic 606. 

If the practical expedient is elected, the pre-opening services provided by a franchisor to a franchisee can be accounted for as a single performance obligation, distinct from the franchise license. Pre-opening services are defined as follows:  

1. Assistance in the selection of a site

2. Assistance in obtaining facilities and preparing the facilities for their intended use, including related financing, architectural, and engineering services, and lease negotiation

3. Training of the franchisee’s personnel or the franchisee

4. Preparation and distribution of manuals and similar material concerning operations, administration, and record keeping

5. Bookkeeping, information technology, and advisory services, including setting up the franchisee’s records and advising the franchisee about income, real estate, and other taxes or about regulations affecting the franchisee’s business

6. Inspection, testing, and other quality control programs

Once all performance obligations are identified, the franchisor must revert to the original guidance to complete the application of steps three, four, and five, which includes allocation of the transaction price and recognition of the revenue. Specifically, the new guidance does not provide any relief on determining the standalone selling prices of the pre-opening activities, which may require judgment.  Franchisors cannot assume that the value of those activities equals the amount of the initial franchise fee.  Guidance on the application of these steps can be found in Topic 606, Revenue from Contracts with Customers, A View from the Kitchen.

Entities that elect to use this practical expedient are required to disclose:

• The fact that they made the election to use the practical expedient

• An accounting policy to recognize the pre-opening services as a single performance obligation

Furthermore, the practical expedient provides transition guidance for entities who have and have not yet adopted ASC 606:

• For entities that have not yet adopted ASC 606 – existing provisions require adoption for annual reporting periods beginning after December 15, 2019 and interim reporting periods within annual reporting period beginning after December 15, 2020. The existing provisions allow for a modified retrospective transition or full retrospective transition.

• For entities that have adopted ASC 606 – this amendment is effective during interim and annual periods beginning after December 15, 2020, with early adoption permitted. Full retrospective transition is required.

For more information on ASC 606, visit BDO’s Revenue Recognition News & Resources hub, and don’t hesitate to reach out to the Restaurant Leaders for more information.
 
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