[nshah002]

I am having a hard time understanding how Wiley got $88,000 in the question below?

On December 31, year 1, Moon, Inc. authorized Luna Co. to operate as a franchisee for an initial franchise fee of $100,000. Luna paid $40,000 on signing the agreement and signed an interest-free note to pay the balance in three annual installments of $20,000 each, beginning December 31, year 2. On December 31, year 1, the present value of the note, appropriately discounted, is $48,000. Services for the initial fee will be performed in year 2. In its December 31, year 1 balance sheet, what amount should Moon report as unearned franchise fees?

Please help.

Thanks!

[nosleep135]

Finally a question I can answer 🙂 (I'm excited..how loserish!)

I think this makes more sense with a JE:

DR. Cash 40,000

DR. Notes Receivable 60,000 (20,000*3 years)

CR Discount on Notes Receivable 12,000 (Note Receivable 60,000 – PV of notes receivable 48,000)

CR Unearned franchise fee revenue 88,000 (Cash 40,000 + PV of notes receivable 48,000)

The logic behind it, the PV of contract amount and the cash receive is not considered revenue, it is considered revenue when the franchisee starts it's operations..

Hope this helps!

[Anonymous]

The key in the Q is the sentence “services for the initial fee will be performed in year 2.” Thus, all of the $88k (40k + 48k) = unearned rev.

[nshah002]

Great! Thanks.

What happens then the Franchisor begins to recognize the revenue, what is the JE then?

Thanks.

[Anonymous]

It's all or nothing under franchise agreements. The franchisor won't recognize a dime until he/she has “substantially performed all material services and conditions and collectivity is assured.” So in year 2 when all of the services are performed then they will book the $88K as earned

[Author]

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