Question

Occasionally a franchise agreement grants the franchisee the right to make future bargain purchases of equipment or supplies. When recording the initial franchise fee, the franchisor should

a. increase revenue recognized from the initial franchise fee by the amount of the
expected future purchases.
b. record a portion of the initial franchise fee as unearned revenue which will increase the selling price when the franchisee subsequently makes the bargain purchases.
c. defer recognition of any revenue from the initial franchise fee until the bargain
purchases are made.
d. None of these.

Answer 1

The franchisor should defer recognition of any revenue from the initial franchise fee until the bargain purchases are made.

Step-by-step explanation:

In the case where a franchise agreement grants the franchisee the right to make future bargain purchases of equipment or supplies, the franchisor should not record the initial franchise fee as revenue until the bargain purchases are made. This is because the initial franchise fee is a separate transaction from the future purchases.

The initial franchise fee is considered an intangible asset and should be recognized on the balance sheet as an asset, and gradually recognized as revenue over the term of the franchise agreement. The revenue recognition for the initial franchise fee should follow the matching principle, where revenue is recognized in the same period as the related expenses or the delivery of goods or services.

Therefore, the correct answer is option c. defer recognition of any revenue from the initial franchise fee until the bargain purchases are made.