(Bellevue, Wash., October 10, 2018): Hotels, motels and inns should prepare now for changing accounting regulations that will impact how they recognize revenue.
“These new Generally Accepted Accounting Principles (GAAP) may significantly impact the bottom line of hospitality businesses,” said Julie Eisenhauer, a CPA and shareholder of Clark Nuber, PS, in Bellevue, Wash. “Although the new rules won’t take effect for private companies until 2019 and 2020, businesses would be wise to start planning for them now.”
One significant change involves customer loyalty programs, which allow customers to acquire additional accommodations or services for free or at a discount. Under current accounting standards, the most popular method to account for loyalty programs is the incremental cost method in which an accrual for the expected costs of satisfying the loyalty program is made with a corresponding charge to marketing expense.
However, under the new standard, companies will be required to allocate revenue to each distinct performance obligation, which in this case is a room rental and each loyalty point. The additional accommodations or services rewarded under a loyalty program are distinct when they provide the customer with a material right that they would not receive without being a member of the loyalty program. The customer in effect pays the company in advance for future accommodations or services. Revenue is allocated to both the current performance obligation (room rental) and the additional accommodation or services rewarded under the program. The revenue allocated to the reward is deferred until the future accommodations or services are provided or when the reward expires. Depending on the dollar value of the loyalty rewards deferred and the loyalty rewards redeemed in any one month, average daily rate (ADR) and revenue per available room (RevPar) could be affected as the value of the loyalty is no longer recognized as a marketing expense.
Typical hotel management agreements charge the owner incentive fees calculated based on a certain percentage of profit subject to a minimum threshold. These incentive fees are variable to the management company because they’re contingent on future profit. Under current accounting standards, a management company would not recognize those variable fees until the hotel has met the minimum profit threshold as stated in the agreement. However, under the new revenue recognition standard, those variable fees should be estimated and recognized throughout the life of the contract to the extent it is probable that a significant reversal in the amounts of cumulative revenue recognized will not occur. As a result, management companies may be able to accelerate recognition of incentive fee revenue under the new standard.
Previous accounting literature included little guidance on recognizing costs of revenue transactions. The new standard requires that certain costs to acquire a contract be capitalized and amortized. For hotels, an example of these costs are sales commissions. Companies that expense sales commissions as incurred may now be required to capitalize and amortize these costs. This new guidance may result in companies recognizing more assets than they do under current standards.
Meanwhile, stay tuned for changes coming in the accounting for leases. This standard becomes effective for private companies in 2020. Operating leases under the new standard would require a lessee to recognize a right-of-use asset and a lease liability initially measured at the present value of the lease payments. The result is to gross up the balance sheet to reflect an asset and a corresponding liability.
“Getting the correct systems in place now to address these new standards will save hospitality companies headaches and costs later,” Eisenhauer warned. “It’s not too early to start planning.”