FRANCHISE ACCOUNTING

WHAT IS FRANCHISING   it is where a leading , known business entered into agreement  in which for fee ONE PARTY ( FRANCHISOR)  gives the other party ( FRANCHISEE)  the rights to perform certain functions  or sell certain products or services of the franchisor.

A SUBSTANTIAL PERFORMANCE  OF THE FRANCHISOR IS THE KEY TO RECOGNITION OF THE INITIAL FRANCHISE FEE.   SUBSTANTIAL PERFORMANCE OF THE FRANSHISOR DENOTES CONSUMMATION OFTHE TRANSACTIONS  WHEN:

       1.   THERE IS NO REMAINING OBLIGATION BY AGREEMENT , TRADE OR PRACTICE  TO REFUND THE INITIAL FEE.   OR TO EXCUSE NON PAYMENT OF UNPAID NOTES
2.  SUBSTANTIALLY ALL THE INITIAL SERVICES OF THE FRANCHISOR HAVE BEEN PERFORMED
3. ALL OTHER CONDITIONS WHICH AFFECT CONSUMMATION  HAVE BEEN MET.

EXAMPLE :

INITIAL FEE IS 250,000.00 ,   INITIAL DOWN IS 50,000, BALANCE OF 40,000 YEARLY PAY AT 12% INTEREST.

METHOD  1 (   THE SUBSTANTIAL FUTURE  SERVICES ARE YET TO BE PROVIDED TO THE FRANCHISEE, THAT MEANS PERFORMANCE OF FRANCHISOR HAS YET TO OCCUR.

CASH                                  50,000
NOTES RECEIVABLE      200,000
     UNEARNED INITIAL FEE                250,000

TAKE NOTE IT IS CREDITED TO A  SUSPENSE ACCOUNT, OR  DEFERRED ACCOUNT OR A LIABILITY ACCOUNT. BECAUSE THE PERFORMANCE HAS NOT YET SUBSTANTIALLY MET.

METHOD 2    THE PROBABILITY OF REFUNDING IS  REMOTE  AND THE AMOUNT OF FUTURE SERVICES OF FRANCHISOR IS MINIMAL, THAT MEANS PERFORMANCE HAS ALMOST TAKEN PLACE.

CASH                         50,000
NOTES REC              200,000
          REVENUE EARNED     250,000
TAKE NOTE IT IS CREDITED TO AN DEFINITE INCOME ACCOUNT BECAUSE THE POSSIBILITY OF THE AGREEMENT TO TAKE PLACE.


METHOD  3

 THE DOWN PAYMENT IS NOT REFUNDABLE ,  BUT  A SIGNIFICANT SERVICES BY THE FRANCHISOR IS YET TO BE PERFORMED

CASH
NOTES
         UNEARNED                  200,000
         REVENUE EARNED       50,000
 SINCE  THE DOWN IS NOT REFUNDABLE , IS CREDITED DIRECT TO INCOME ACCOUNT.

METHOD 4

THE DOWN IS NOT REFUNDABLE ., THE COLLECTION OF NOTES IS UNCERTAIN , SO NOTES IS NOT RECORDED

CASH     50,000
       EARNED REVENUE

METHOD 5

THE DOWN IS EITHER  REFUNDABLE .  OR SUBSTANTIAL  SERVICES MUST BE PERFORMED BEFORE THE FEE CAN BE CONSIDERED EARNED.

CASH
     UNEARNED FEE


IN THE FRANCHISE AGREEMENT , THERE ARE A LOT OF CONDITIONS:

1.  THERE IS AN INITIAL FRANCHISE FEE NORMALLY FOR A NUMBER OF YEARS WITH A LOT OF CONDITIONS SUCH AS:
       a.   AMOUNT OF DOWN PAYMENT AT A CERTAIN TIME  LIKE UPON SIGNING OF THE AGREEMENT
b.  a certain amount again on a certain date  say  start of operation ,  or a certain conditions that has to be met.
c.   the balance covered by a notes with interest  for a certain period  and the date of the start of amortization


2.  THERE IS ALSO SOME COST OR EXPENSES BY THE FRANCHISOR  ASSOCIATED TO THE INITIAL FEE  SUCH AS TRANSFER OF FIXED ASSETS,  TRAINING AND DEVELOPMENT COST  .  ALL OF WHICH IS TIED UP WITH A DATE OF PERFORMANCE.

3.  THERE IS ALSO  A CONTINUING FEE BASED ON WHATEVER IS THE AGREEMENT, SAY A PERCENTAGE OF SALES,   FOR A CERTAIN NUMBER OF PERIODS, THEN THAT FEE IS CHANGED FOR  ANOTHER AMOUNT ONWARD.
4.   THERE IS ALSO A CONTINUING COST TO BE INCURRED BY FRANCHISOR .  THE FAIR MARKET VALUE OF THIS CONTINUING COST IS ALSO DETERMINED.


ILLUSTRATIVE PROBLEM

A CONTRACT HAS BEEN SIGNED ON MAY 1, 2011, WITH THE FF; PROVISIONS

 1.  AN INITIAL IRREVOCABLE FEE OF 500,000  TO BE PAID AS FF:
                100,000 UPON SIGNING  mAY 1, 2011
                  50,000  WHEN OPERATION STARTS. IN OCTOBER 2011
                 350,000 PAYABLE 7 YEARS  OR 50,000 BEG.  MAY 1 2011 AT 12% INTEREST.

2.   DIRECT COST ASSOCIATED WITH THE INITIAL FEE   THIS IS NOT A CONTINUING COST,  THIS IS RELATIVE TO THE INITIAL FEE.

                a           80,000 COST OF EQUIPMENT  DELIVERY ON MAY1  2011, THE FAIR MARKET IS 120,000.
             b.  initial services of 140,000 ,  50,000 prior to signing,   90,000 to be incurred in oct 1 2011.

3.  CONTINUING FEE of 10% of gross  sales  , which is estimated to be 90,000 per month , for  3 years , then 150,000  a month thereafter.

4.  CONTINUING COST  starting the commencemnent of operation,   to be incurred by franchisor 10,000 a month., these cost have a fair market value of 11,000.


JOURNAL ENTRIES:

MAY 1  

1.         CASH                                    100,000
            NOTES REC.                        350,000
                     REVENUE                                          120,000
                   UNEARNED REVENUE                      330,000

THE REVENUE OF 120,000 IS ARRIVED AT BECAUSE THE EQUIPMENT WAS PERFORMED BY THE FRANCHISOR ON TIME,  OF COURSE THE 330,000 IS ASSUMED TO BE UNEARNED DEPENDING ON THE DATE OF  THE PERFORMANCE OF  ANY AGREEMENT.

2.  COST OF EQUIPMENT                  80,000
       MACHINERY AND EQUIPMENT             80,000

OF COURSE IF THERE IS ACCUMULATED DEPN , IT IS DEBITED

3.   FRANCHISE EXPENSE                  60,000
           ACCTS. PAYABLE                                60,000
       this is relative to initial fee and not regular continuing fee

OCT 1

 1.  CASH                             50,000
              REVENUE FROM INITIAL FEE     50,000
       THIS IS AS PER AGREEMENT TO BE RECEIVED OCT.

2.    UNEARNED INITIAL FRANCHISE FEE        258,000
                REVENUE FROM INITIAL FRANCHISE FEE           258,000

       explanation : since all the agreement by oct  has already been met, a need to recognized the actual revenue must be computed.
 supposed to be  the 330,000 is credited to revenue on entry no. 2 in OCT.  but  the 72,000 has not incurred yet by the franchisor because it will be incurred monthly, hence cannot credit to revenue in total now.   THAT IS WHY   330,000 LESS  72,000 IS  258,000.00   this 72,000 will be amortized for 36 months.

       THE INITIAL FEE IS                                                                                         500,000
        1.   TO DEDUCT THE FAIR MARKET VALUE OF THE EQUIPMENT       (120,000)
        2.      TO DEDUCT THE POSSIBLE DEFICIENCY BETWEEN THE
    CONTINUING FEE AGAINSt THE CONTINUING COST as ff:.

THE CONTINUING FEE IS ONLY( 90,000 X 10%                             9,000         
THE CONTINUING COST IS HAS A FAIR MARKET VALUE OF 11,000
             DEFICIENCY  A MONTH                                                       2,000
          FOR 3 YEARS AS PER CONTRACT                                       36 MOS
TOTAL                                                                              ....................................  (   72,000
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ADJUSTED INITIAL FEE                                                                                        308,000
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 LESS :  THE PAYMENT IN OCT  and already credited to revenue                           ( 50,000)
NET ..........  TO BE CREDITED TO  REVENUE FROM INITIAL FEE                   258,000


3.  FRANCHISE EXP                                80,000
             ACCTS. PAYABLE

4.  CASH                                        9,000
     UNEARNED INITIAL               2,000
                 REVENUE  CONTINUING FEE      11,000
 THE 2,000 IS DEBITED TO UNEARNED  FOR THE NEXT 36 MONTHS TO CLOSE THE UNEARNED INITIAL REVENUE

5.   franchise exp                            10,000
          accts/ pay                                        10,000

NOVEMBER

 CASH                                               9,000
 UNEARNED INITIAL REVENUE   2,000
          REVENUE EARNED CONTINUING    11,000

FRANCHISE EXP                          10,000
 PAYABLE                                                10,000


DECEMBER

CASH                                               9,000
 UNEARNED                                   2,000
       REVENUE                                         11,000

FRANCHISE EXP              10,000
 PAYABLE                                       10,000

INTEREST RECEIVABLE             28,000
    INTEREST INCOME                              28,000
TO ACCRUE INTEREST INCOME

JAN   2012

INTEREST INCOME              28,000
     INT. REC                                              28,000
REVERSE THE ACCRUED.

CASH                                    9,000
UNEARNED                         2,000
        REVENUE                                11,000

franchise exp          10,000
   accts. pyable                      10,000

this will be the repetitive entry onward , except the amortization f the  2,000.00  and of course the additional entry on the collection of notes receivable 

THE ENTRY IN FEB, ONWARD