Methods of Calculating Goodwill.

Ram and Shyam run a business in partnership. From the information given below calculate Goodwill of their firm:

  • Average capital employed in the business is Rs.700000

  • Net trading results of the firm for the past year profit 2009 – Rs.1,47600, loss 2010- Rs.1,48100, profit 2011- Rs.4,48700.

  • Rate of interest expected from capital having regard to the risk involved is18%.

  • Estimated remuneration to each partner for his service Rs.500 per month.

Calculate goodwill on the basis of last three year profits. For the first two methods goodwill is to be valued on the basis of purchase of three years profits.

(a) By Purchase of average profit method

(b) By Purchase of super profit method

(c) By capitalization of average profit method

(d) By capitalization of super profit method

asked Jul 17, 2016 in Partnership-Fundamentals by jbsclasses (3,971 points) 1,398 views

1 Answer

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(a)  Average Profit Method:

Goodwill = Average Profit x No. of years profits purchased

Average annual profits (Rs.1,47600 – Rs.1,48100 + Rs.4,48700)/3 = Rs.1,49,400

Less estimated annual salary of two partners (Rs.500x12x2)            =Rs.    12,000

Adjusted actual profits                                                                                = Rs.1,37,400

Goodwill (on the basis of three years purchase)                                  = Rs.4,12,200

(b)  Super Profit Method:

Goodwill = Super Profit x No. of years Super Profits purchased

Super Profit = Actual Average Profits – Normal Profits

Normal Profit = Capital employed x Expected rate of return

Capital employed = Rs.7,00,000

Actual Adjusted Average Profits (as calculated above)                     = Rs.1,37,400

Normal profit (Rs.7,00,000 x 18%)                                                         = Rs.1,26,000

Super Profit                                                                                                 = Rs.   11,400

Goodwill (Rs.11,400 x 3)                                                                           = Rs.   34200

(c)  By capitalization of average profit method:

Goodwill = Capitalized value of actual average profits – Actual Capital Employed

Capitalized value of actual average profits = Actual Average Profits/Required Rate of Return

Capitalized value of actual profits (Rs,1,37400/18%) = Rs.7,63,333

Less Actual Capital employed                                         = Rs.7,00,000

Goodwill                                                                                = Rs.   63,333

(d)  By capitalization of super profit method:

Goodwill = Super Profits/Required Rate of Return

Goodwill  = (Rs.11,400/18%) = Rs.63,333

answered Jul 17, 2016 by jbsclasses (3,971 points)