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Answer: Goodwill is a thing which is not so easy to describe but in general words good-name,reputation and wide business connection which helps the business to earn more profits than the

profit could be earned by a newly started business. The monetary value of the advantage ofearning more profits is known as goodwill. Goodwill is an attractive force, which brings incustomers to old place of business. Goodwill is an intangible but valuable asset. In a profitable

concern it is not a fictitious asset.

Prof. Dicksee has defined goodwill as " When a man pays for goodwill, he pays for somethingwhich places him in the position of being able to earn more than he would be able to do by hisown unaided efforts ."

According to J. O. Magee " The capacity of a business to earn profits in future is basicallywhat is meant by the term goodwill."

According to Lord Lindley " The term goodwill is generally used to denote benefit arising from connections and reputation."

Lord Eldon has defined goodwill as " Goodwill is nothing more than the probability, that theold customers will resort to the old place."

In the words of Lord Macnaghten , " Goodwill is a thing very easy to describe, very difficult todefine. It is the benefit and advantage of the good name, reputation and connections of abusiness. It is the attractive force, which brings in customers. It is one thing whichdistinguishes an old established business from a new business at its first start."

In the words of Dr. Canning, " Goodwill is the present value of a firms anticipated excessearnings."

Methods of al!ation of oodwill

The following are the methods of valuation of goodwill of a firm: -

i. Average rofit !ethodii. "eighted Average rofit !ethod

iii. #uper rofit !ethod

iv. $apitali%ation of Average rofit !ethod

v. $apitali%ation of #uper rofit !ethodvi. resent &alue of #uper rofits !ethod

#. A$erage Profit Method: 'nder this method goodwill is calculated on the basis of the average profit of previous years. The average profit is multiplied by the number of year(s purchase.

oodwill % A$erage Profit & '!()er of *ears P!rchase

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E&a(+le: $alculate goodwill at twice the average profits of last four years( profits. The profitsof the last four years were:

)**+. s. ) ,***)**). s. /,***

)** . s. +0,*** Loss-

)**1. s. 1*,***

ol!tion: Total rofit for last four years 2 s. ) ,***3 s. /,***- s. +0,***3 s. 1*,*** 2 s.4*,***

A$erage Profit 2 s. 4*,***51 2 s. )*,***.

oodwill 2 s. )*,*** 6 ) 2 s. 1*,***.

/. 0eighted A$erage Profit Method: This method is a modified version of the average profitmethod. 'nder this method the respective number of weights i.e. +,), ,1 multiplies profit ofevery year, in order to find out value product and the total of products is then divided by the totalof weights in order to ascertain the weighted average profits.

oodwill % 0eighted A$erage Profits & 'o. of years P!rchase

0eighted A$erage Profit % 1otal of Prod!cts of Profits2 1otal of 0eights

E&a(+le: $alculate goodwill at twice the weighted average profits of last four years( profits.The profits of the last four years were:

)**+. s. ,***)**). s. )/,***)** . s. )0,***)**1. s. 1*,***

#olution:

*ears Profits

3s.

0eight Prod!ct

3s.

)**+ ,*** + ,***)**) )/,*** ) 74,***)** )0,*** 4,***)**1 1*,*** 1 +,0*,***1otal #4 5,55,444

0eighted A$erage Profit % s. , ,***5+* 2 s. , **

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oodwill % s. , ** 6 ) 2 s. 00,0**

5. !+er Profit Method: "hen the actual profit is more than the e6pected profit or normal

profit of a firm, it is called 8#uper rofit.( 'nder this method goodwill is to be calculate of on thefollowing manner:

oodwill % !+er Profit & '!()er of *ears P!rchase

E&a(+le: The books of a business showed that the capital employed on 9anuary +, )**+ was s.1,7*,*** and the profits for the last five years were as follows: )**+- s. 1*,*** )**) - s.7*,*** )** - s. 0*,*** )**1 - s. *,*** and )**7 - s. 4*,***.

;ou are re s. 17,*** 2 s. +7,***

oodwill 2 s. +7,*** 6 2 s. 17,***.

7. Ca+itali8ation of A$erage Profit Method: 'nder this method goodwill is difference betweenthe total $apitali%ed value of the firm and the net assets of the firm.

oodwill % Ca+itali8ed al!e the fir( 6 'et Assets

Ca+itali8ed al!e of the fir( % A$erage Profit & #442 'or(al 3ate of 3et!rn

'et Assets % 1otal Assets 6 E&ternal Lia)ilities

E&a(+le: A firm earns s. 07,*** as its average profits. The usual rate of earning is +*=. Thetotal assets of the firm amounted to s. 0,4*,*** and liabilities are s. +,4*,***. $alculate thevalue of goodwill.

ol!tion : Total $apitali%ed value of the firm 2 s. 07,*** 6 +**5+* 2 s. 0,7*,***

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'et Assets 2 s. 0,4*,*** > s. +,4*,*** 2 s. 7,**,***

oodwill % 1otal Ca+itali8ed $al!e of the fir( 6 'et Assets

oodwill 2 s. 0,7*,*** > s. 7,**,*** 2 s. +,7*,***.

9. Ca+itali8ation of !+er Profit Method:

a. $alculate $apitali%ed value of the firm b. $alculate re s. 0*,*** 2 s. *,***

oodwill % !+er Profit & #442'or(al 3ate of 3et!rn

2 s. *,*** 6 +**5+7 2 s. ),**,***

;. Present al!e of !+er Profit:

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*ears Profits

3s. + 4*,***) +,**,***

/*,***1 +,)*,***

The total assets of the firm are s. /,**,*** and outside liabilities are s. ,**,***. The presentvalue factors at +*= are as follows:

*ears Present al!e =actor + ./) /) .4*)/

. *701 .0/ 4

$alculate the &alue of goodwill.

#olution:

@et Assets 2 Total Assets > iabilities

2 s. /,**,*** > s. ,**,***

2 s. 0,**,***

@ormal rofit 2 +*5+** 6 s. 0,**,*** 2 s. 0*,***

*ears # / 5 7 rofits B s.C 4*,*** +,**,*** /*,*** +,)*,***

@ormal rofit 0*,*** 0*,*** 0*,*** 0*,***#uper rofit )*,*** 1*,*** *,*** 0*,***

resent &alue Dactor ./) / .4*)/ . *70 .0/ 4resent &alue of

#uper rofit+4,774 ),++0 )+,+04 1+,404

oodwill % 3s. #>,99> ? 3s. 5/,##; ? 3s. /#,#;> ? 3s. 7#,>;> % 3s. #,#5,@#4.