Revenue recognition is a central accounting principle that determines when and how income is recorded in financial statements. For franchisors in the UK, this issue is particularly important because franchise arrangements involve multiple revenue streams—such as upfront fees, ongoing royalties, and supply chain sales—that occur at different times and under different contractual terms. Proper recognition of revenue not only ensures compliance with accounting standards but also provides transparency to investors, regulators, and franchisees. The introduction of the global standard IFRS 15, which replaced previous rules, has significantly reshaped how franchisors account for their income.
The Framework for Revenue Recognition
In the UK, franchise revenue recognition is governed by International Financial Reporting Standard 15 (IFRS 15), which was adopted by UK companies in 2018. IFRS 15 requires companies to recognise revenue based on the transfer of control of goods or services to the customer. For franchisors, this means carefully assessing whether fees relate to one-off services, such as initial training, or ongoing performance obligations, such as brand support, system updates, or territory exclusivity.
The standard outlines a five-step model: identifying the contract, identifying performance obligations, determining the transaction price, allocating the price to performance obligations, and recognising revenue as obligations are fulfilled. Applying this model to franchises requires a nuanced understanding of each type of fee and obligation.
Initial Franchise Fees
Many franchisors charge new franchisees an upfront fee for joining the network. Historically, some companies recognised this as revenue immediately. Under IFRS 15, however, this is only permissible if the upfront fee corresponds to a distinct service—such as providing initial training or access to systems. In most cases, the fee is considered an advance payment for services to be delivered over the life of the franchise agreement. As such, the income must be spread (or amortised) over the contract term, ensuring revenue is matched with the period in which support is provided.
Ongoing Royalties
Royalties, typically calculated as a percentage of franchisee sales, are the backbone of most franchisors’ income streams. These payments are generally recognised as revenue in the period when the sales occur, because they are directly linked to the franchisee’s ongoing performance. IFRS 15 treats royalties as “sales-based or usage-based consideration,” which means they are recognised only when the underlying sales take place. This provides a clear alignment between franchisee revenue generation and franchisor reporting.
Advertising and Marketing Contributions
Franchise systems often require franchisees to contribute to a central marketing or advertising fund. These contributions do not automatically count as franchisor revenue. Instead, they are usually treated as restricted funds to be used solely for marketing activities that benefit the network. In practice, franchisors act more like custodians of this money, and the income is only recognised if the franchisor is the principal in providing the service rather than merely administering the fund. Clear disclosure is critical, as misreporting can lead to disputes with franchisees and regulatory scrutiny.
Supply of Goods and Services
Some franchisors earn revenue by selling products, equipment, or services directly to their franchisees. In these cases, revenue is recognised when control of the goods passes to the franchisee or when the service is delivered. This part of revenue recognition is more straightforward, but franchisors must ensure they are correctly distinguishing between product sales and franchise fees, as the accounting treatment differs.
Challenges and Compliance
The shift to IFRS 15 has required many UK franchisors to revisit their contracts and accounting practices. One of the biggest challenges is allocating transaction prices fairly across different obligations, particularly when upfront fees cover multiple services. Another is ensuring proper disclosure in financial statements, as stakeholders expect clarity on how income is earned and recognised. Non-compliance not only risks financial misstatements but can also damage relationships with franchisees and erode trust.
Summary
Franchise revenue recognition in the UK is governed by clear but demanding rules under IFRS 15. Franchisors must carefully analyse each revenue stream—whether upfront fees, royalties, marketing contributions, or product sales—and match income to the period in which obligations are fulfilled. While this adds complexity, it also enhances transparency and ensures a fair representation of financial performance. For franchisors, mastering revenue recognition is not simply about compliance; it is about building trust with franchisees, investors, and regulators, while laying a sustainable foundation for long-term growth.