What is the significance of pre-opening activities being 'distinct' for Chocolate Bash franchisees?
Chocolate_Bash Franchise · 2024 FDDAnswer from 2024 FDD Document
The Company's primarily performance obligation under the franchise agreement mainly includes granting certain rights to access the Company's intellectual property and a variety of activities relating to opening a franchise unit, including initial training and other such activities commonly referred to collectively as "pre-opening activities", which are recognized as a single performance obligation. The Company expects that certain pre-opening activities provided to the franchisee will not be brand specific and will provide the franchisee with relevant general business information that is separate and distinct from the operation of a company-branded franchise unit. The portion of pre-opening activities that will be provided that is not brand specific is expected to be distinct as it will provide a benefit to the franchisee and is expected not to be highly interrelated or interdependent to the access of the Company's intellectual property, and therefore will be accounted for as a separate distinct performance obligation. All other pre-opening activities are expected to be highly interrelated and interdependent to the access of the Company's intellectual property and therefore will be accounted for as a single performance obligation, which is satisfied by granting certain rights to access the Company's intellectual property over the term of each franchise agreement.
The Company estimates the stand-alone selling price of pre-opening activities using an adjusted market assessment approach. The Company will first allocate the initial franchise fees and the fixed consideration, under the franchise agreement to the standalone selling price of the training services that are not brand specific and the residual, if any, to the right to access the Company's intellectual property. Consideration allocated to pre-opening activities, which are not brand specific are recognized ratably as those services are rendered. Consideration allocated to pre-opening activities included under Accounting Standards Update (ASU) to ASC 606, Franchisors—'Revenue from Contracts with Customers (Subtopic 952-606): Practical Expedient' is recognized when the related services have been rendered.
Source: Item 21 — FINANCIAL STATEMENTS (FDD page 38)
What This Means (2024 FDD)
According to Chocolate Bash's 2024 Franchise Disclosure Document, the distinction of pre-opening activities has specific accounting implications. Chocolate Bash identifies that some pre-opening activities provided to franchisees are not brand-specific and offer general business information, separate from the Chocolate Bash brand.
This distinction allows Chocolate Bash to account for these non-brand-specific pre-opening activities as a separate performance obligation. This means that Chocolate Bash recognizes revenue for these activities as they are rendered. The company estimates the stand-alone selling price of these pre-opening activities using an adjusted market assessment approach, allocating a portion of the initial franchise fees to these services.
For a prospective Chocolate Bash franchisee, this accounting practice means that a portion of the initial franchise fee covers these distinct, non-brand-specific pre-opening activities. The fees allocated to these activities are recognized by Chocolate Bash as revenue as these services are provided. The remaining portion of the franchise fee, which is related to the brand-specific aspects and access to Chocolate Bash's intellectual property, is recognized over the term of the franchise agreement. This accounting treatment affects how Chocolate Bash reports its revenue and may provide insights into the value and nature of the pre-opening support offered.
The FDD indicates that the pre-opening activities that are not brand specific are expected to be distinct because they provide a benefit to the franchisee and are not highly interrelated or interdependent to the access of Chocolate Bash's intellectual property. All other pre-opening activities are considered highly interrelated and interdependent to the access of Chocolate Bash's intellectual property and are accounted for as a single performance obligation, which is satisfied by granting certain rights to access the Company's intellectual property over the term of each franchise agreement.