New Revenue Rule Affects Franchisors
An updated rule issued by the Financial Accounting Standards Board (“FASB”) will again change when most franchisors can recognize revenue in their financial statements from the sale of their franchises and their collection of initial franchise fees.
Historically, initial franchisee fees were recognized as revenue upon receipt. In March 1981, FASB mandated that initial franchise fees could only be recognized when the franchisor provided substantially all of the initial services required under the franchise agreement, which was generally at the time of the opening of the franchised business. In November 2018, FASB mandated that the recognition of initial franchise fees would have to be divided up equally over the term of the franchise agreement.
In January 2021, FASB issued another update that provides that non-public franchisors may account for the following pre-opening services as distinct from the franchise license:
- Assistance in the selection of a site.
- Assistance in obtaining facilities and preparing the facilities for their intended use, including related financing, architectural, and engineering services and lease negotiation.
- Training of the franchisee’s personnel or the franchisee.
- Preparation and distribution of manuals and similar material concerning operations, administration, and record keeping.
- 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.
- Inspection, testing, and other quality control programs.
Thus, a franchisor that provides any or all of these pre-opening services may recognize the revenue attributable to those services when the franchised unit opens for business.
Barry Kurtz is the Chair of our Franchise & Distribution Practice Group.