In Principal-Agent relationship, the agent will act for and on behalf of the principal. The principal bears significant risks and rewards associated with the sale of goods or the rendering of services. The agent follows principal’s terms and conditions and assumes an obligation of duties towards the principal.
The principal earns the gross amount charged to final customer, adjusted for commission given to agent. Whereas, the agent’s revenue comprises of commission income, determined as per terms in agency agreement.
Indicators that entity is acting as a principal
- the entity is primarily responsible for providing the goods or services to the customer or for fulfilling the order,
- the entity bears the inventory risk before or after the customer order, that is, inventory risk during shipping of the goods or when the customer return the goods;
- the entity has discretion in establishing prices, and
- the entity bears credit risk
- the entity performs the service for commission or on fee basis
- the amount that would be earned as commission is pre-determined, either a fixed fee per transaction or a stated percentage of the amount billed to the customer
Accounting Policies (Extract)
InterContinental Hotels Group Plc, (LON:IHG), Consolidated Financial Statement December 2012
The company runs its hotel in three ways - franchised, managed and owned. The franchise model is also an example of agent – principle relationship.
Franchise fees – received in connection with the license of the Group’s brand names, usually under long-term contracts with the hotel owner. The Group charges franchise royalty fees as a percentage of rooms’ revenue. Revenue is recognized when earned and realized or realizable under the terms of the contract.