Definition
A franchisor usually charges an initial fee when a franchise agreement is signed, plus ongoing royalties. Under ASC 952-606 and ASC 606, the franchisor identifies its performance obligations, such as the franchise license and preopening services like site selection, training, and equipment assistance. A franchisor that is not a public business entity may elect the practical expedient in ASU 2021-02 to treat specified preopening services as distinct from the franchise license, and must disclose that election. Fees allocated to the license are generally recognized over the franchise term.
Why it matters in an audit or review
Auditors read the franchise agreements, test the identification of performance obligations and the allocation, and recompute deferred revenue. Franchisors must include audited financial statements in their Franchise Disclosure Document under 16 CFR 436.5(u), with a phase-in for start-ups, so the audit is also a regulatory deliverable.
Example
Illustrative: a franchisor receives a $50,000 initial fee for a 10-year agreement and treats the whole fee as the license. It recognizes $5,000 per year ($50,000 / 10) and carries the balance as a contract liability.
Common mistakes
- Recognizing the whole fee at signing.
- Not updating recognition when an agreement is terminated early.
Sources
- FASB ASC 952-606, Franchisors, Revenue from Contracts with Customers
- FASB ASU 2021-02, Franchisors: Practical Expedient: https://www.fasb.org
- 16 CFR 436.5(u), Franchise Rule, Item 21 financial statements: https://www.ecfr.gov/current/title-16/section-436.5
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error