Contra, barter, trade outs, exchanges – they are all the same thing. Exchanging goods and or services is older than currency and it’s still used today, especially in hospitality. How you can use this tool effectively and how to properly record these transactions on your books is the meat on the stick in this article.
The first thing you need to know that typically stops most people from pursuing trade out agreements is they do not have a direct positive impact on your profit and loss statement. The trade out itself if it’s recorded properly will not reduce expenses. It only saves you cash. So, if cash flow is a concern and let’s face it, it is for many hospitality operations especially seasonal ones, then contra agreements might be something to consider. Lastly, before we get into the body of this piece is to do your local homework and get the tax facts straight. Each jurisdiction is different. What I will describe here is a generic version but don’t rely on the process as it’s laid out here. Get the local facts on exactly how it is treated in your location.
Typically, in the hospitality business, we trade rooms and food and beverage for advertising; this is by far the most common. The second most popular trade I have seen is our services for transportation – air, rail, and car rentals. The third is health club memberships. In all three instances, the advertising aspect is the main driver on the hotel side.
It goes like this.
How can I get advertising on my regional radio station to drive room nights? Or, how can I get an ad in the airline’s magazine or how can we participate in a promotion that features our hotel as a prize? How can I get the local popular health club members to use my bars and restaurants? The answer many times is let’s try and set up a trade out with one of these organizations so we can get some increased visibility without having to use cash.
We can use our “unused” room inventory and our capacity in food and beverage operations to help drive more sales of rooms and F&B. Remember, if we don’t occupy a room tonight or one night next week, we can resell that inventory. This is the main driver for hotels to use trade outs to help boost business. In my experience, it’s also a tool that General Managers and Directors of Sales love to use because they get to “make a deal” and for most of them this is an exciting prospect.
But beware of the rules and the proper treatment of the transactions before you jump in with both feet. First off, your state or national income tax rules probably preclude your business from treating the trade out any differently than any other sale. Same with your municipal sales tax rules. You will have to come good on all taxes due just like complimentary rooms in most locations. I strongly recommend checking with your accounting leader before any deals are made. I can’t tell you how many times I have had to “counsel” my fellow executives on the proper treatment of these exchange agreements that caught them completely by surprise. Don’t think you can simply trade your stuff for theirs without paying the piper. Do this and you’re both liable for some trouble.
First off, when we trade it’s important to know that rooms and F&B are very different from a cost point of view and, as such, the rooms typically should trade on a 1-1 basis at rack pricing with your trading partner’s rack prices. Or we both agree on a price that’s going to stand up to scrutiny, certainly an exchange price on our side that is equal to or above our average room rate. If it’s below that level, then local taxing authorities will ding you for the difference, plus a penalty and interest. Don’t be tempted. Second, where we are trading F&B you are going to want to get a 2-3 times exchange. F&B costs plus labor are extremely high and therefore we want to ensure we get additional advertising or travel as a result.
In the F&B trade, example let’s say you are trading a banquet for 100 clients of the radio station and the bill is estimated at $10,000. You are going to want to bargain for at least $20,000 to $30,000 worth of advertising because you have a considerable cost associated with producing the food and staffing the event. Their costs to produce and run the adds are much less. Be a savvy negotiator and get more.
Back to the room scenario and, in this case, we have agreed to exchange two suites for two nights and 30 superior rooms for two nights. The radio station will run a series of ads over a two-week period as a promotion to give away two 2-night suite stays to the lucky listener. That is what the hotel gets: The radio station is going to use your hotel and the 30 superior rooms for an event for their staff and owners.
The question is how we treat all of these transactions.
Here is where it gets just a little bit technical but stay with me. I will explain exactly what you need to do in your books. It may help to write the following transactions out in the form of T-accounts, so you can see the movement.
Let’s start with the F&B and already we see a challenge. We’re trading $10,000 worth of F&B for 20-30 k worth of advertising. The first transaction will be to set up the asset and the liability for the fair value of the entire trade. In this case, we debit pre-paid advertising or trade out advertising for 10,000 and we credit accrued advertising or trade out advertising for 10,000. This is the fair value of the trade not the 20-30 k retail value on their side. The reason being the advertising is equal in value to our F&B service and we need to use the conservatism principle here to set up the lower of the values because we will be recognizing the income, in this case, 10 k not 20 k or 30 k.
The second part is when the banquet happens. When we trade goods and services timing needs to be clear and the transactions recorded when they happen. When the banquet happens, we record the revenue like we always do, and we close the banquet check to a house account on the guest ledger. The revenue transaction is a debit to the guest ledger and a credit to food and beverage sales, plus the corresponding taxes. The next step is to write off the value of the house account (guest ledger) against the liability account. This in effect zero’s out my guest ledger balance and my it removes all or most of my accrued liability. Debit the liability and credit the guest ledger. This part of the transaction is complete. Now we wait. We wait until the advertising has run.
When the advertising has been run we need to recognize the advertising expense on our books and remove our pre-paid. The entry is to debit the advertising and credit the pre-paid expenses (asset).
All but for the pennies and rounding these transactions should remove the balance sheet values of both the asset and liability as well as recognizing the revenues and sales tax. This is what you need to do to properly record the trade out.
1. Set up the asset (pre-paid) and the liability (accrued advertising) for the proper retail value of the trade.
2. Recognize the revenue for the value you give when the hotel event takes place, posting the settlement to the balance sheet accrued advertising liability.
3. Book the related advertising expenses when the adds run and debit the expense and credit the prepaid.
Do the same with the rooms exchange only recognize the appropriate room revenue and taxes. Exchange agreements need not be complicated so long as you follow the steps and get it right from the beginning on how the trades need to be treated in your books.
Pay me or trade me, exchanges can be good for cash flow but remember the effect on the income statement is the same as using traditional means to pay for your purchases.
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