In Part 2, we understand the various methods of valuing goodwill.
This article deals with one of the normal way of computing or valuing goodwill particularly in a partnership whether at the time of a new partner, or the retiring or death of an old partner.
| Goodwill Valuation: |
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| In this case, the goodwill valuation is based on the following steps: |
Illustration No 1: Say Partnership A registered the following annual profits: Year 1 : Profits $10,000 Year 2:Profits $20,000 Year 3:Profits $30,000 If goodwill is agreed to be valued as:(a)two years’ purchase of average profit for the last three years
Solution: Goodwill computation: (a)Average profit = $10,000+$20,000+$30,000 / 3= $20,000 (b)Goodwill = $20,000 x 2 agreed years = $40,000 Illustration No 2
In the Partnership, the three partners A B C has the profit/loss sharing ratio of 2/5 ,2/5 and 1/5 respectively.In the partnership agreement, it states that in the event of death or retirement of a partner, goodwill should be valued on the basis of two years’ purchase of the average net profits for the preceding three years. EventuallyMr A retires on 31 /12 /xx. Compute the goodwill due to Mr A. Solution:
Following net profits registered:
Year 1 : $10,000 Year 2 : $20,000 Year 3 : $30,000
Total profits for preceding 3 years = $10,000+$20,000+$30,000=$60,000 Average profit = $60,000/3 = $20,000
Total goodwill = $20,000 x 2 = $40,000
Mr A’s share of goodwill = $40,000 x 2/5 = $16,000 |
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