Risks in rewarding loyalty

If you have a customer-loyalty program, you’d be wise to re-evaluate it. Pending accounting changes may soon make your program too risky.

Incentives to returning customers already require a careful balancing act between risk and reward. While they can increase sales, customer-loyalty programs can trigger unclaimed property exposure and cybersecurity liabilities and other risks. The new revenue-recognition guidelines, which begin to roll out in 2018, may have more businesses deciding their customer-loyalty programs are not worth the risk.

Businesses should review Accounting Standards Update 2014-09 Revenue from Contracts with Customers (Topic 606) before deciding the fate of their program or plans for one.

Companies currently have two options to account for loyalty programs. In the cost/provision method, companies record the cost to fulfill the reward obligation as a liability with the offset to expense. Take the following example: A restaurant offers its frequent customers $20 of food after 10 visits. The reward meal costs the restaurant $7 to deliver. The restaurant would record the $7 as a liability in their expense line over the period of time that the reward is earned, allowing the company to record the expense without an impact to revenue.

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Companies can also elect to defer the revenue related to their reward obligation until the customer redeems the incentive. Under the revenue-deferral method of accounting, entities record the loyalty program as a liability with a direct offset to revenue. The restaurant from the example above would have to defer revenue across the customer’s 10 visits and wait to recognize that revenue until the customer redeems the $20 reward. In the end, it is only a timing difference, but it can have significant impact on quarterly performance indicators such as same-store sales.

Most companies currently use the cost/provision method. That option, however, will soon be going away. The new revenue-recognition guidance under ASU 2014-09 makes the revenue-deferral accounting method mandatory. Recognizing the revenue associated with the customer-loyalty program will come much later in the business cycle, and many companies will have to determine whether they want to take on that liability.

The new revenue-recognition guidance is complex, and the effect of the changes will have a wide impact on operations. Public companies will adopt the guidance for annual periods beginning after Dec. 15, 2017, and private entities will adopt for annual periods after Dec. 15, 2018, and interim periods after Dec. 15, 2019.

n Abandoned/unclaimed property: Just as with gift cards, customer-loyalty programs can become abandoned/unclaimed property if customers do not redeem their rewards. Companies need to monitor their sources of abandoned/unclaimed property and review appropriate unclaimed-property laws to minimize their exposures.

n FTC risks: The Federal Trade Commission keeps track of customer terms and conditions. Companies will need to verify that their opt-out abilities and use of customer information function as promised or they risk FTC enforcement actions.

n Cybersecurity: Customer-loyalty program information poses a high risk for data breach because security measures around these types of databases tend to be less stringent.

n Antitrust laws: Loyalty programs that provide discounts can trigger antitrust concerns, particularly in wholesale trade. Wholesale retailers should keep an eye out on how the FTC rules on cases involving loyalty programs and competition because the regulations in this area can be murky. •

Paul Languirand is the shareholder in charge of the Rhode Island accounting and auditing group at CBIZ Tofias & Mayer Hoffman McCann.

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