- Goodwill is an intangible asset that represents the value of a business's name, reputation and customer loyalty. It enables a business to earn more profits.
- Goodwill can be calculated using different methods such as average profits, weighted average profits, super profits and capitalization of super profits.
- Several examples are provided to demonstrate calculating goodwill values based on factors like capital employed, normal rate of return, profits over recent years using different valuation methods.
Responsibility accounting is a system of dividing an organization into similar units, each of which is to be assigned particular responsibilities. These units may be in the form of divisions, segments, departments, branches, product lines and so on. Each department is comprised of individuals who are responsible for particular tasks or managerial functions. The managers of various departments should ensure that the people in their department are doing well to achieve the goal. Responsibility accounting refers to the various concepts and tools used by managerial accountants to measure the performance of people and departments in order to ensure that the achievement of the goals set by the top management.
Responsibility accounting, therefore, represents a method of measuring the performances of various divisions of an organization. The test to identify the division is that the operating performance is separately identifiable and measurable in some way that is of practical significance to the management. Responsibility accounting collects and reports planned and actual accounting information about the inputs and outputs of responsibility centers.
Responsibility accounting is a system of dividing an organization into similar units, each of which is to be assigned particular responsibilities. These units may be in the form of divisions, segments, departments, branches, product lines and so on. Each department is comprised of individuals who are responsible for particular tasks or managerial functions. The managers of various departments should ensure that the people in their department are doing well to achieve the goal. Responsibility accounting refers to the various concepts and tools used by managerial accountants to measure the performance of people and departments in order to ensure that the achievement of the goals set by the top management.
Responsibility accounting, therefore, represents a method of measuring the performances of various divisions of an organization. The test to identify the division is that the operating performance is separately identifiable and measurable in some way that is of practical significance to the management. Responsibility accounting collects and reports planned and actual accounting information about the inputs and outputs of responsibility centers.
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Sales:
Relationship between profit and sales is shown by computing “Profit margin ratios”.
Gross Profit Ratio
Operating Ratio
Expenses Ratio
Operating Profit Ratio
Net Profit Ratio
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2. Goodwill is the good name or reputation of
the business which brings benefit to the
business.
It enables the business to earn more profit.
It is an intangible asset.
It is shown under fixed assets in the balance
sheet.
3. Goodwill is an intangible fixed asset.
It has a definite value depending on the
profitability of the business enterprise.
It cannot be separated from the business.
It helps in earning more profit and attracts
more customers.
It can be purchased or sold only when the
business is purchased or sold in full or in part.
4. Profitability of the firm
Location
Quality of goods and service offered
Efficiency of management
Degree of competition
6. Average profit
Weighted average profit
Super profit
Annuity method
Capitalization method
7. Formula:
1. Average profit =Total profit / No. of years of purchase
Goodwill = Average profit * No. of purchase of years
2. Weighted average profit =Total of weighted profits/Total of weights
Goodwill = Weighted average profit * No. of year of purchase
3. Super profit = Average profit – Normal profit
Normal profit = capital employed * normal rate of return
4.Total capitalized value of average profit = Average profit / Normal rate of return *100
Goodwill =Total capitalized value of average profit – Capital employed
8. The profits and losses of a firm for the last four years were as follows: 2015: Rs.15,000;
2016: Rs.17,000; 2017: Rs. 6,000 (Loss); 2018: Rs.14,000.You are required to calculate the
amount of goodwill on the basis of 5 years purchase of average profits of the last 4 years.
Example No. 1
Average profit (Type 1)
Solution:
Average profit =Total profit / No. of years of purchase
= 15000+17000-6000+14000/4
=40000/4
Average profit = 10000 Rs.
Goodwill = Average profit * No. of purchase of years
= 10000* 5
Goodwill = 50000 Rs.
9. Example No. 2
Average profit (Type 2)
A partnership firm has decided to value its goodwill for the purpose of settling a retiring
partner.The profits of that firm for the last four years were as follows:
2015: Rs. 40,000; 2016: Rs. 50,000; 2017: Rs.48,000 and 2018: Rs.46,000
The business was looked after by a partner. No remuneration was paid to him.The fair
remuneration of the partner valued at comes to Rs.6,000 per annum. Find out the value
of goodwill, if it is valued on the basis of three years purchase of the average profits of
the last four years.
Solution:
Average profit =Total profit / No. of years of purchase
= 40000+50000+48000+46000/4
=184000/4
Average profit = 46000 Rs.
Average profit before adjusting remuneration = 46000
Less: Fair remuneration = 6000
Average profit after adjusting remuneration = 40000
Goodwill = Average profit * No. of purchase of years
= 40000* 3
Goodwill = 120000 Rs.
10. From the following information relating to Arul enterprises, calculate the value of goodwill
on
the basis of 2 years purchase of the average profits of 3 years.
(a) Profits for the years ending 31st December 2016, 2017 and 2018 were Rs.46,000,
Rs.44,000and Rs.50,000 respectively.
(b) A non-recurring income of Rs.5,000 is included in the profits of the year 2016.
(c)The closing stock of the year 2017 was overvalued by Rs. 10,000.
Example No. 3
Average profit (Type 3)
Solution:
Computation of adjusted profit:
Particulars 2016 2017 2108
Profit 46000 44000 50000
less: Non recurring income 5000 - -
41000 44000 50000
less: over valuation of closing stock - 10000 -
41000 34000 50000
add: over valuation of opening stock - - 10000
profit after adjustment 41000 34000 60000
11. Average profit =Total profit / No. of years of purchase
= 41000+34000+60000/3
=135000/3
Average profit = Rs. 45000
Goodwill = Average profit * No. of purchase of years
= 45000* 2
Goodwill = 90000 Rs.
12. Example No. 4
Weighted average profit:
For the purpose of admitting a new partner, a firm has decided to value its goodwill at 3
years purchase of the average profit of the last 4 years using weighted average method.
Profits of the past 4 years and the respective weights are as follows:
Particulars 2015 2106 2017 2018
Profits 20000 22000 24000 28000
Weights 1 2 3 4
Solution:
Year
Profit
(A)
Weight
(B)
weighted profits
(A*B)
2015 20000 1 20000
2016 22000 2 44000
2017 24000 3 72000
2018 28000 4 112000
Total 10 248000
13. Weighted average profit =Total of weighted profits/Total of weights
= 248000/10
Weighted average profit = Rs. 24800
Goodwill =Weighted average profit * No. of year of purchase
= 24800* 3
Goodwill = 74400 Rs.
14. Example No. 5
Super profit:
From the following information, calculate the value of goodwill based on 3 years purchase
of super profit
(i) Capital employed: Rs.2,00,000
(ii) Normal rate of return: 15%
(ii)Average profit of the business: Rs. 42,000
Solution:
Average profit = 42000 Rs.
Normal profit = capital employed * normal rate of return
= 200000*15/100
Normal profit = 30000 Rs.
Super profit = Average profit – Normal profit
= 42000 – 30000
Super profit = 12000 Rs.
Goodwill = Super profit * No. of purchase of years
= 12000* 3
Goodwill = 36000 Rs.
15. Example No. 6
Super profit (Annuity method)
From the following information, compute the value of goodwill as per annuity method:
(a) Capital employed: Rs.50,000
(b) Normal rate of return: 10%
(c) Profits of the years 2016, 2017 and 2018 were Rs.13,000, Rs.15,000 and Rs.17,000
respectively.
(d)The present value of annuity of 1 for 3 years at 10% is 2. 4868.
Solution:
Average profit =Total profit / No. of years
= 13000 + 15000 + 17000/3
Average profit = Rs. 15000
Normal profit = capital employed * normal rate of return
= 50000*10/100
Normal profit = 5000 Rs.
Super profit = Average profit – Normal profit
= 15000 – 5000
Super profit = 10000 Rs.
Goodwill = Super profit *Annuity value
= 10000* 2.4868
Goodwill = 24868Rs.
16. Example No. 7
Capitalization super profit:
From the following information, compute the value of goodwill by capitalizing super
profit:
(a) Capital employed is Rs.4,00,000
(b) Normal rate of return is 10%
(c) Profit for 2016: Rs.62,000; 2017: Rs. 61,000 and 2018: Rs.63,000
Solution:
Average profit =Total profit / No. of years
= 62000 + 61000 + 63000/3
Average profit = Rs.62000
Normal profit = capital employed * normal rate of return
= 400000*10/100
Normal profit = 40000 Rs.
Super profit = Average profit – Normal profit
= 62000 – 40000
Super profit = 22000 Rs.
Goodwill = Super profit / Normal rate of return * 100
= 22000 / 10 * 100
Goodwill = 220000 Rs.
17. From the following information, find out the value of goodwill by capitalization
method:
(a) Average profit = Rs.60,000
(b) Normal rate of return = 10%
(c) Capital employed = Rs.4,50,000
Example No. 8
Capitalization method:
Solution:
Total capitalized value of average profit = Average profit / Normal rate of return
*100
= 60000/10% *100
Total capitalized value of average profit = Rs. 600000
Goodwill =Total capitalized value of average profit – Capital employed
Goodwill = 600000 – 450000
Goodwill = 150000 Rs.
