With more than 22 million Groupons sold in the United States and a user base exceeding 50 million, many businesses, as well as not-for-profit organizations, have turned to Groupon, as well as other "deal sites" such as Living Social. These sites offer organizations the opportunity to create dynamic pricing structures, advertise events and services, build and create customer relationships, expedite cash flow, and generate incremental revenue. Designing successful deals can be difficult; subsequently, accounting for them properly can also prove to be tricky.
When designing a deal, organizations should first identify what they hope to achieve by offering the deal. If the goal is to expand and reach new customers, it is important to consider if the deal targets the demographic that best fits your organization's business model. These deals generally have a low rate of conversion when it comes to turning a new customer into a repeat customer. If the goal is to solely reach new customers by running a loss-leader promotion, ensuring that your organization's business structure is appropriately designed for the customer demographic is key. These deals typically attract bargain seekers who may not come back unless there is another promotion. Understanding and considering this fact prior to running the deal is crucial as it is important that you obtain contact information from these customers when they redeem the deal. Obtaining this information will allow you to directly contact the customer about future promotions and deals directly, thus cutting out the promotion fee in the future and hopefully achieving repeat business from this customer.
If the goal is to increase "profitability," organizations should be aware of the fact that many deal structures prove to be unprofitable. Deals are usually structured such that customers generally receive a discount of more than 50% on their purchase. In addition, other fees such as credit card fees and promotional fees to the deal site are incurred. As such, organizations with higher variable costs often have low to zero profitability on these deals. On the other hand, businesses with high fixed costs and low variable costs often can increase profitability as each new customer represents additional revenue that otherwise would not have been received. Within the arts segment, deals for events like concerts and art gallery showings are a great example of higher fixed-cost events. The additional cost of each attendee is minimal and increased attendance can increase revenue and create buzz around events, thus making these deals more attractive.
Based on a strategic business analysis, if your organization decides that offering a deal has merit, it's important to then consider how to account for these deals. When accounting for these sales, the specific terms within each individual deal contract should be evaluated, as the accounting treatment may vary based upon the terms and conditions within the contract. Terms to consider include, but are not limited to:
Promotion fee percentage
- Discount amount
- Expiration date of the deal
- Treatment of unclaimed deals after their expiration date
- Our hypothetical example below is based on the general terms and conditions noted for Groupon deals but will not necessarily be the same as your specific deal.
Upon the initial sale of the deal, an organization should account for the sale as an increase in both accounts receivable (or cash, depending on when payment is received from the deal site) and deferred revenue. Revenue should then be recognized as the deals are redeemed by the customers. The tricky part is in regards to deals that are not redeemed by customers by their expiration date. The remaining deferred revenue balance can't just be recognized at this expiration date. The cash value of deals never expires – so even if the deal expires, the amount paid by the customer still can be redeemed.
As such, at the expiration date, all unredeemed deals should not be recognized as revenue but should remain in deferred revenue and continue to be tracked by the organization until redeemed by the customer. Understandably, some of these deals will never be redeemed. As such, the organization should use historical evidence obtained from previous deals to estimate the percentage of deals that historically have never been redeemed – this amount is referred to as breakage. For an organization's first deal, once this breakage percentage is determined (for example, an organization determines that historically 20% of deals are not redeemed), this amount of unredeemed deals should be recognized as revenue. Then for future deals, revenue recognized should be based on this percentage (for example, after the expiration date, 20% of deferred revenue would be recognized). This breakage percentage should continue to be evaluated by the organization as it continues to do new deals to ensure it is accurate and appropriate.
When evaluating breakage and possible recognition of unused deals, not-for-profit organizations also need to consider the applicable unclaimed property laws in effect in their respective states. There is ongoing discussion regarding whether such deals are considered gift cards and thus would be covered under state escheat laws. Until a final decision is reached, organizations should consider whether they would have any future liability regarding these unused deals that should be factored into their accounting for these deals.
Accounting for Advertising Costs
Each year, for-profit and not-for-profit businesses combine to spend billions of dollars on advertising to reach and persuade customers to spend their time and money with their respective organizations. Without it, even the best performers would be playing to empty seats and theatres. Given the large amounts of money spent on advertising and promotion, understanding how not-for-profits should account for these costs is critical.
Generally, advertising costs are considered management and general expenses and should be expensed as incurred or at the time that the advertising campaign first takes place. However, there is a circumstance where this conventional rule does not apply - direct-response advertising.
In order for advertising costs to be considered direct-response advertising, an organization must be able to show that customers responded to a specific advertisement and there is probable future economic benefit derived from this advertisement. Probable future economic benefit means that future revenues are expected to be in excess of future costs related to the advertising campaign. If the advertising costs are considered to be direct-response advertisements, direct, incremental costs incurred in transactions with third parties and a portion of associated payroll-related costs can be capitalized and amortized over the period the advertisement campaign expects to generate sales.
Under U.S. Treasury Department guidelines, we hereby inform you that any tax advice contained in this communication is not intended or written to be used, and cannot be used by you for the purpose of avoiding penalties that may be imposed on you by the Internal Revenue Service, or for the purpose of promoting, marketing or recommending to another party any transaction or matter addressed within this tax advice. Further, RubinBrown LLP imposes no limitation on any recipient of this tax advice on the disclosure of the tax treatment or tax strategies or tax structuring described herein.
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