As I reported in late 2018, beginning on January 1, 2019 all franchisors operating in the United States were required to follow the FASB Accounting Standards Codification® Topic 606 (“ASC 606”). Under ASC 606, franchisors must defer recognition of a portion of the up-front franchise fee revenues they receive over the life of a franchise agreement. This is true even when initial fees received from franchisees are designated in the franchise agreement as non refundable.
Because ASC 606 went into effect in 2019, the new standard applies to financial statements issued by franchisors as of the end of their 2019 fiscal year. As franchisors are updating their franchise disclosure documents (“FDDs”) for 2020, the certified public accountant (“CPA”) who is auditing their 2019 financial statements must apply ASC 606 as part of the audit.
Apparently, many franchisors have been submitting FDDs with audited financials that don’t apply ASC 606. This morning, Maryland’s franchise chief, Dale Cantone, warned franchise companies about failure to follow ASC 606:
State franchise regulators have already noticed a number of franchise disclosure documents this year with audit reports that do not correctly apply the new standards for recognizing revenue under ASC 606.
Applicants who file a franchise registration with state franchise agencies should confirm that audit reports included with financial statements correctly describe and apply the standards for recognizing revenue after the effective date of ASC 606. If they do not, the franchise registration will not be made effective until the audit report and audit complies with ASC 606.
Franchisors and the CPAs who conduct franchise audits have had plenty of warning about this new accounting standard. Franchise companies that are now working through their audit should ensure that the CPA handling the audit is aware of ASC 606 to avoid possible delays in registration.