INDEX

Contents Page no.

Chapter 01 : Introduction 01-06
i) Valuation
ii) Goodwill
iii) Aims And Objectives
iv) Research Methodology
V) Features Of Goodwill
Chapter 02 : Company profile 07-08
Chapter 03 : Theoretical Background 09-45
Chapter 04 : Data Analysis And Interpretation 45–59
Chapter 05 : Findings And Suggestion 60-63
i) Findings
ii) Suggestion
iii) Conclusion

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 CHAPTER 01
INTRODUCTION

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 CHAPTER1
1.1.INTRODUCTION
1. MEANING OF VALUATION
Valuation is the process of estimating what something is worth. Valuation can be used as a very
effective business tool by management for better decision making throughout the life of the
enterprise. Valuations are needed for many reasons such as investment analysis, capital budgeting,
merger and acquisitiontransactions, financial reporting, determination of tax liability.Companies are
governed and valuations are influenced by the market supply &demand life cycles along with
product and technology supply-demand lifecycles.Correspondingly, the value of an enterprise over
the course of its lie peaks with the marketand product technology factors. Both financial investors
such asventure capitalists and entrepreneurs involved in a venture would ideally like to exit the
venture in some form near the peak to maximize their return on investment. Thus, valuation helps
determine the exit value of an enterprise at that peak. This exit value typically includes the tangible
and intangible value of the company‘s assets. Tangible value would typically include balance sheet
items recorded as the book value of the enterprise. Intangibles would typically includeintellectual
property, human capital, brand and customers, and others. In more traditional companies
considering the private equity markets, the value of intangibles is much higher than the value of the
tangible assets. Therefore, aneffective enterprise valuation methodology needs to be developed.
One can also define valuation as Measurement of value in monetary terms. Measurement of income
and valuation of wealth are two interdependent core aspects of financial accounting and reporting.
Wealth comprises of assets and liabilities. Valuation of assets and liabilities are made to portray the
wealth position of a firm through a balance sheet and to supply logistics to the measure of the
periodical income of the firm through a profit and loss account. Again valuation of business and
valuation of share are made through financial statement analysis for management appraisal and
investment decisions. Valuation is pivotal in strategic, long term or short term decision making
process in cases like reorganization of company, merger and acquisition, extension or
diversification, or for launching new schemes or projects. As the application area of valuation
moves from financial accounting to financial management, the role of accountant also undergoes a
transition. That order of transition in the concept and use of valuation process is followed in the
subsequent units of this chapter.

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2.GOODWILL
2.1) MEANING OF GOODWILL
Goodwill is said to be that element arising from reputation, connection or other advantages
possessed by a business which enables it to earn greater profits than the return normally to be
expected on the capital represented by net tangible assets employed in the business. In considering
the return normally to be expected, regard must be had to the nature of the business, the risk
involved, fair management remuneration and other relevant circumstances. Goodwill of a business
may arise in two ways. It may be inherent to the business that is generated internally or it may be
acquired while purchasing any concern. Purchased goodwill can be defined as being the excess of
fair value of the purchase consideration over the fair value of the separable net assets acquired. The
value of purchased goodwill is not necessarily equal to the inherent goodwill of the business
acquired as the purchase price may reflect the future prospects of the entity as a whole. Goodwill in
financial statements arises when a company is purchased for more than the fair value of the
identifiable net assets of the company. The difference between the purchase price and the sum of
the fair value of the net assets is by definition the value of the "goodwill" of the purchased company.
The acquiring company must recognize goodwill as an asset in its financial statements and present
it as a separate line item on the balance sheet, according to the current purchase accounting method.
In this sense, goodwill serves as the balancing sum that allows one firm to provide accounting
information regarding its purchase of another firm for a price substantially different from its book
value. Goodwill can be negative, arising where the net assets at the date of acquisition, fairly valued,
exceed the cost of acquisition. Negative goodwill is recognized as a gain to the extent that it
exceeds allocations to certain assets. Under current accounting standards, it is no longer recognized
as an extraordinary item. For example, a software company may have net assets (consisting
primarily of miscellaneous equipment, and assuming no debt) valued at ` 1 million, but the
company's overall value (including brand, customers, intellectual capital) is valued at ` 10 million.
Anybody buying that company would book ` 10 million in total assets acquired, comprising ` 1
million physical assets, and ` 9 million in goodwill.

2.2) Modern Meaning

Goodwill is a special type of intangible asset that represents that portion of the entire business value
that cannot be attributed to other income producing business assets, tangible or intangible.
For example, a privately held software company may have net assets (consisting primarily of
miscellaneous equipment and/or property, and assuming no debt) valued at $1 million, but the

4
company's overall value (including customers and intellectual capital) is valued at $10 million.
Anybody buying that company would book $10 million in total assets acquired, comprising $1
million physical assets and $9 million in other intangible assets. And any consideration paid in
excess of $10 million shall be considered as goodwill. In a private company, goodwill has no
predetermined value prior to the acquisition; its magnitude depends on the two other variables by
definition. A publicly traded company, by contrast, is subject to a constant process of market
valuation, so goodwill will always be apparent. While a business can invest to increase its
reputation, by advertising or assuring that its products are of high quality, such expenses cannot be
capitalized and added to goodwill, which is technically an intangible asset. Goodwill and intangible
assets are usually listed as separate items on a company's balance sheet.

2.3) AIMS AND OBJECTIVES

This project aims to study the method of goodwill accounting treatment in case of admission,
retirement, or death of a partner.
There are many objectives for this project. Major few objectives are given below.
Objectives:
• To understand what is goodwill accounting
. To know the purpose behind goodwill accounting
• To understand the various methods of goodwill accounting
• To know the importance of goodwill accounting
To ascertain any doubts regarding the various methods of valuation of goodwill
• To understand the need for goodwill accounting

2.4) Research Methodology

The required data is collected only from secondary sources.
Secondary Sources :
Secondary data is a data which is collected and complied for different purpose, which is used in
research for the study. The secondary data includes material collected from internet, newspaper,
books and magazines.

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2.5) Features of goodwill
 Be an intangible asset which cannot be seen;
 It cannot be separated from the business like a physical asset can;
 Its value is not relative to any investment amounts or costs;
 This value is subjective and depends on the person (customer) judging it; and
 It is subject to wild and unpredictable fluctuations in response to externalities.
If anything falls outside of these categories, then it cannot be said to be true goodwill. Additionally,
it cannot be transferred—goodwill forms a core part of the business which cannot separate and can
only move with the company in question.
A business asset is anything your business owns or has control over, such as a tangible computer or
an intangible invoice which is currently awaiting payment.

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 CHAPTER 02

COMPANY PROFILE

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 Tata Group's headquarters, the Bombay House

Industry = Conglomerate
Founded = 1868; 153 years ago
Founder = Jamsetji Tata
Headquarters = Bombay House, Mumbai, Maharashtra, India
Area served = Worldwide
Key people = Natarajan Chandrasekaran (Chairman)[1]
Products = Automotive, airlines, chemicals, defence, FMCG, electric
utility, finance, football club, home appliances, hospitality industry, IT
services, retail, e-commerce, real estatesteel, telecom
Revenue = US$106 billion[2] (2020)
Owner = Tata Sons (66%)
Number of employees = 750,000[2] (2020)
Subsidiaries = List of entities associated with Tata Group
Website = www.tata.com.

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 CHAPTER 03

THEROTICAL BACKGROUND

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 CHAPTER3
THEROTICAL BACKGROUND

1. VALUATION OF GOODWILL
1.1) Concept of valuation
 Valuation means measurement of an item in monetary term. The subjects of valuation are varied
as stated below:
 Valuation of Tangible Fixed Assets
 Valuation of Intangibles including brand valuation and valuation of goodwill
 Valuation of Shares
 Valuation of Business
 The objectives of valuation are again different in different areas of application in financial
accounting and in financial management.

1.2) NEED FOR VALUATION

Financial statements must give a ―true and fair view‖ of the state of affairs of a company as per
provisions of the Companies Act. Proper valuation of all assets and liabilities is required to ensure
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true and fair financial position of the business entity. In other words, all matters which affect the
financial position of the business have to be disclosed. Under or overvaluation of assets may not
only affect the operating results and financial position of the current period but will also affect these
for the next accounting period. The present unit deals with different principles involved in the
valuation of different types of assets. Assets can be classified as (i) Non- current assets and (ii)
Current assets.
Non-current assets have been further sub-classified into (a) fixed assets i.e. tangible assets,
intangible assets, capital W.I.P. and intangible assets under development (b) noncurrent investments
(c) deferred tax assets (Net) (d) long term loans and advances and (e) other non-current assets.
Current assets have been further sub-classified into (a) Current Investments (b) Inventories (c)
Trade Receivables (d) Cash and Cash Equivalents (e) Short Term Loans and Advances and (f)
Other Current Assets.
The students are expected to learn the essence and modalities of valuation, a core function in
financial accounting. Valuation is done sometimes by the
Values/Engineers in cases where technical inputs and knowledge is required to arrive at the Fair
value and accepted by various Government and Statutory Authorities. Students should be familiar
with these valuation Reports and their basis of valuation.
Different approaches to valuation of different kinds of assets and liabilities in different perspectives
have pushed the role of accountant to a complex position. This chapter is aimed to differentiate the
objectives, approaches and methods of valuation in order to integrate them in a comprehensive
logical frame.

1.3) BASES OF VALUATION

A number of different measurement bases are employed to different degrees and in varying
combinations in valuation of different assets in different areas of application. They include the
following: (a) Historical cost. Assets are recorded at the amount of cash or cash equivalents paid or
the fair value of the other consideration given to acquire them at the time of their acquisition. (b)
Current cost. Assets are carried at the amount of cash or cash equivalents that would have to be paid
if the same or an equivalent asset were acquired currently. (c) Realizable (settlement) value. Assets
are carried at the amount of cash or cash equivalents that could currently be obtained by selling the
asset in an orderly disposal.
(d) Present value. Assets are carried at the present value of the future net cash inflows that the item
is expected to generate in the normal course of business. Other generally used valuation bases are as
follows: Net Realizable Value (NRV): This is same as the Realizable (settlement) value. This is the
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value (net of expenses) that can be realized by disposing off the assets in an orderly manner. Net
selling price or exit values also convey the same meaning. Economic value: This is same as the
present value. The other name of it is value to business Replacement (cost) value: This is also same
as the current cost.
Recoverable (amount) value: This is the higher of the net selling price and value in use. Deprival
value: This is the lower of the replacement value and recoverable (amount) value. Liquidation value:
This is the value (net of expenses), that a business can expect to realize by disposing of the assets in
the event of liquidation. Such a value is usually lower than the NRV or exit value. This is also
called break-up value. Fair value: This is not based on a particular method of valuation. It is the
acceptable value based on appropriate method of valuation in context of the situation of valuation.
Thus fair value may represent current cost, NRV or present value as the case may be. In financial
accounting ‗An asset is recognized in the balance sheet when it is probable that the future economic
benefits associated with it will flow to the enterprise and the asset has a cost or value that can be
measured reliably.‘ ‗The measurement basis most commonly adopted by enterprises in preparing
their financial statements is historical cost. This is usually combined with other
Measurement bases. The requirements of regulations and accounting standards as to recognition of
assets, reliability of measurement and disclosure in financial reports have set certain limitations to
the freedom of valuation so far as financial accounting is concerned.

1.4) TYPES OF VALUE

The following are six types of value:
Going-concern value is the value of a firm as an operating business.
Liquidation value is the projected price that a firm would receive by selling its assets if it were
going out of business
 Book value is the value of an asset as carried on a balance sheet. In other words, it means (i) the
cost of an asset minus accumulated depreciation (ii)the net asset value of a company, calculated
by total assets minus intangible assets (patents, goodwill) and liabilities (iii) the initial outlay for
an investment. This number may be net or gross of expenses such as trading costs, sales taxes,
service charges and so on. It is the total value of the company‘s assets that shareholders would
theoretically receive if a company were liquidated. By being compared to the company‘s market
value, the book value can indicate whether a Inventory is under or overpriced. In personal
finance, the book value of an investment is the price paid for a security or debt investment.
When an inventory is sold, the selling price less the book value is the capital gain (or loss) from
the investment.
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 Market value is the price at which buyers and sellers trade similar items in an open market
place. It is the current quoted price at which investors buy or sell a share of common Inventory
or a bond at a given time. The market capitalization plus the market value of debt, sometimes
referred to as ―total market value‖. In the context of securities, market value is often different
from book value because the market takes into account future growth potential.
 Fair market value is the price that a given property or asset would fetch in the market place,
subject to the following conditions: (i) Prospective buyers and sellers are reasonably
knowledgeable about the asset; they are behaving in their own best interests and are free of
undue pressure to trade. (ii) A reasonable time period is given for the transaction to be
completed. Given these conditions, an asset‘s fair market value should represent an accurate
valuation or assessment of its worth. Fair market values are widely used across many areas of
commerce. For example, municipal property taxes are often assessed based on the fair market
value of the owner‘s property. Depending upon how many years the owner has owned the home,
the difference between the purchase price and the residence‘s fair market value can be
substantial. Fair market values are often used in the insurance industry as well. For example,
when an insurance claim is made as a result of a car accident, the insurance company covering
the damage to the owner‘s vehicle will usually cover damages up to the fair market value of the
automobile.
 Intrinsic value is the value at which an asset should sell based on applying data inputs to a
valuation theory or model. The actual value of a company or an asset based on an underlying
perception of its true value including all aspects of the business, in terms of both tangible and
intangible factors. This value may or may not be the same as the current market value. Value
investors use a variety of analytical techniques in order to estimate the intrinsic value of
securities in hopes of finding investments where the true value of the investment exceeds its
current market value. For call options, this is the difference between the underlying Inventory‘s
price and the strike price. For put options, it is the difference between the strike price and the
underlying Inventory‘s price. In the cases, if the respective difference value is negative, the
intrinsic value is given as zero. For example, value investors that follow fundamental analysis
look at both qualitative (business model, governance, target market factors etc.) and quantitative
(ratios, financial statement analysis, etc.) aspects of a business to see if the business is currently
out of favour with the market or is really worth much more than its current valuation.
 Extrinsic value is another variety. It is the difference between an option‘s price and the intrinsic
value. For example, an option that has a premium price of 10 and an intrinsic value of ` 5 would
have an extrinsic value of ` 5. Denoting the amount that the option‘s price is greater than the
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 intrinsic value, the extrinsic or time value of the option declines as the expiration date of an
option draws closer.These types of values can differ from one another. For example, a firm‘s
goingconcern value is likely to be higher than its liquidation value. The excess of goingconcern
value over liquidation value represents the value of the operating firm as distinct from the value
of its assets. Book value can differ substantially from market value. For example, a piece of
equipment appears on a firm‘s books at cost when purchased but decreases each year due to
depreciation charges. The price that someone is willing to pay for the asset in the market may
have little relationship with its book value. Market value reflects what someone is willing to pay
for an asset whereas intrinsic value shows what the person should be willing to pay for the same
asset

1.5) APPROACHES OF VALUATION

Three generally accepted approaches to valuation are as follows:
(1) Cost Approach: e.g. Adjusted Book Value
(2) Market Approach: e.g. Comparables
(3) Income Approach: e.g. Discounted Cash Flow
Each approach has advantages and disadvantages. Generally there is no ―right‖ answer to a
valuation problem. Valuation is very much an art as much as a science! These approaches can be
briefly discussed as:

1.6) COST APPROACH

This technique involves restating the value of individual assets to reflect their fair market values. It
is useful for valuing holding companies where assets are easy to value (for example, securities) and
less useful for valuing operating businesses. The value of an operating company is generally greater
than that of its assets. The difference between that value of the expected cash flows and that of its
assets is called the ―going concern value‖. It is a useful approach when the purpose of the valuation
is that the business will be liquidated and Trade payables must be satisfied. The financial adviser
estimates the amount of current cost required to recreate the goodwill component elements. The
cost approach typically involves a component restoration method. The first procedure in the
component restoration method is to list all of the individual components of the entity‘s goodwill.
The second procedure is to estimate the amount of current cost required to replace each goodwill
component. This procedure is based on the concept of goodwill as represented by the intangible
value of all entity assets in place and ready to use. One procedure in the restoration method is the
analysis of forgone income (considered an opportunity cost in the cost approach) during the time
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period required to assemble all of the entity‘s tangible assets and identifiable intangible
assets.While doing this valuation following adjustments to book value can be made:
 Bad debt reserves
 Market value of plant and equipment
 Patents and franchises
 Investments in affiliates
 Tax-loss carried forward
 Inventory undervaluation

1.7) MARKET APPROACH:

The market approach, as the name implies, relies on signs from the real market place to determine
what a business is worth. It is to be understood that business does not operate in vacuum. If what
one does is really great, then chances of others doing the same or similar things are more. If one is
looking to buy a business, one decides what type of business he is interested in and then looks
around to see what the "going rate" is for businesses of this type. If one is planning to sell business,
he will check the market to see what similar businesses sell for. So the market approach to valuing a
business is a great way to determine its fair market value - a monetary value likely to be exchanged
in an arms-length transaction, when the buyer and seller act in their best interest. There are two
common market approach methods related to goodwill. The first method estimates the value of
goodwill as the residual from an actual business acquisition price. This method is called the residual
from purchase price method. The second method estimates the value of goodwill based on an
analysis of guideline sale transactions. This method is called the sales comparison method.
Goodwill is rarely sold separately from any other assets (either tangible assets or intangible assets)
of a going-concern business
1.8) INCOME APPROACH.
The income approach considers the core reason for running a business ie. making money. Here the
so-called economic principle of expectation applies. Since the business value must be established in
the present, the expected income and risk must be translated to today. The income approach
generally uses two ways to do this translation: (i) Capitalization and (ii) Discounting.
The Income ApproachWith regard to goodwill, the income approach methods include the residual
from business value method, the capitalized excess earnings method, and the present value of future
income method. Each of these valuation methods is based on the concept of goodwill as the present
Valu of future not associated with entity tangible assets .

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 2.GOODWILL
2.1) WHAT IS GOODWILL ACCOUNTING
Goodwill is that the price of the name of a firm designed over time with relevance to the expected
future profits over and on top of the traditional profits. A well-established firm earns a decent name
within the market, builds trust with the purchasers, and conjointly has additional business
connections as compared to a recently came upon business. Thus, the price of this advantage that a
client is prepared to pay is termed as Goodwill.The buyer who pays expects that he is going to be
ready to earn super profits as compared to the profits attained by the opposite companies. Thus, it
will be aforesaid that goodwill exists solely just in case} of companies creating super profits and
not in case of companies earning traditional profits or losses. It an intangible real plus that can't be
seen or felt however exists essentially and might be bought and sold. Goodwill is excess of
purchase price over share of Net Assets (Fair Value) Goodwill is Intangible Asset Goodwill is
Reputation , higher earning of income , etc Goodwill = Purchase price – FV of Net Assets acquired
as on date of purchase
2.2) DEFINITION OF GOODWILL
An intangible asset that arises as a result of the acquisition of one company by another for a
premium value. The value of a company‘s brand name, solid customer base, good customer
relations, good employee relations and any patents or proprietary technology represent goodwill.
Goodwill is considered an intangible asset because it is not a physical asset like buildings or
equipment. The goodwill account can be found in the assets portion of a company's balance sheet.
2.3) EXPLANATION OF GOODWILL
The value of goodwill typically arises in an acquisition when one company is purchased by another
company. The amount the acquiring company pays for the target company over the target‘s book
value usually accounts for the value of the target‘s goodwill. If the acquiring company pays less
than the target‘s book value, it gains ―negative goodwill,‖ meaning that it purchased the company at
a bargain in a distress sale.
Goodwill is difficult to price, but it does make a company more valuable. For example, a company
like Coca-Cola (who has been around for decades, makes a wildly popular product based on a secret
formula and is generally positively perceived by the public), would have a lot of goodwill. A
competitor (a small, regional soda company that has only been in business for five years, has a
small customer base, specializes in unusual soda flavors and recently faced a scandal over a
contaminated batch of soda), would have far less goodwill, or even negative goodwill. Because the
components that make up goodwill have subjective values, there is a substantial risk that a company

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could overvalue goodwill in an acquisition. This overvaluation would be bad news for shareholders
of the acquiring company, since they would likely see their share values drop when the company
later has to write down goodwill.
2.4) CHARACTERISTIC OF GOODWILL
 It belongs to the category of intangible assets.
 It is a valuable asset.
 It contributes to the earning of excess profits.
 Its value is liable to constant fluctuations.
 Its value is only realised when a business is sold or transferred.
 It is difficult to place an exact value on goodwill and it will always involve expert judgement.
 There can be effect of personal ability for valuation of goodwill.

2.5) WHEN GOODWILL IS VALUED

 When the business is sold as a going concern.
 When the business is amalgamated with another firm.
 When business is converted into private or public company.
 When there is a change in the profit-sharing ratio amongst the existing partners.
 When a new partner is admitted.When a partner retires or dies or reconstruction.

2.6) NEED FOR VALUATION OF GOODWILL

Generally goodwill may be valued at the time of disposal of business of the firm. But in many cases
the goodwill may be valued to find out value of the firm. In case of proprietorship business it will
be valued at the time of disposal of business, in case of firm it may be calculated at the time of
addition, resignation and disposal of firm. Now in case of companies the need for valuation of
goodwill arises in the following circumstances;
1. In case of Amalgamation of company;
2. In case of takeover of one company by another or sold of business of one company;
3. In case of a company wants to write off or reduce debit balance in its profit and loss
account;
4. In case of a company wants to exercise controlling interest in other company;
5. In case of valuation of shares of an Unlisted Company;
6. In case of conversion of shares from one class to another class;

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7. In case of company‘s management has been taken over by Government and some other
events in which valuation of Goodwill held.

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2.7) NEEDS FOR ACCOUNTING:

In case of a sole
proprietorship-firm
In case of a
partnership firm
In case of a
company

 (a) In case of a Sole-Proprietorship Firm:

(i) If the firm is sold to another person;
(ii) If it takes any person as a partner; and
(iii) If it is converted into a company.
 (b) In the case of a Partnership Firm:
(i) If any new partner is taken;
(ii) If any old partner retires from the firm;
(iii) If there is any change in profit-sharing ratio among the partners;
(iv) If any partner dies;
(v) If different partnership firms are amalgamated;
(vi) If any firm is sold; and
(vii) If any firm is converted into a company.
 (c) In the case of a Company:
(i) If the goodwill has already been written-off in the past but value of the same is to be
recorded further in the books of accounts;
(ii) If an existing company is being taken with or amalgamated with another existing
company;
(iii) If the Stock Exchange Quotation of the value of shares of the company is not available
in order to compute gift tax, wealth tax etc.; and
(iv) If the shares are valued on the basis of intrinsic values, market value or fair value.

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2.8) IMPORTANCE OF GOODWILL

IMPORTANCE
TO BUSINESS

IMPORTANCE
TO
CUSTOMERS

A). Goodwill is for Business what Reputation is for a Person

You can say that goodwill is an emotion that exists within us and when you create an emotional
bond with the people, you deal with; you are rewarded with opportunity, business networks,
endorsements and trust. Here is a list of points to support the importance of business goodwill.
 Building goodwill with customers. Goodwill is important to increase your customer base
but also retain your old clients. This happens through word-of-mouth publicity and
recommendations. Many customers return to you if you‘ve provided them good customer
service and have established a good relationship with them.
 Investors are attracted to businesses that have goodwill. The goodwill of your firm is
equivalent to solid cash. It will help you obtain loans from banks with ease knowing that
you are a valued customer.
 New avenues open up; opportunities are created through business networks if you have
longstanding business goodwill.
 When you want to sell your business at any point in time, your reputation and the goodwill
of your business will attract many potential buyers. You will be able to sell your business
for a good amount.

2.9) How to Build Business Goodwill

Goodwill is something that cannot be bought but has to be earned; there is no way to earn it
overnight. It will take considerable time and effort to develop goodwill in for a business. We have
listed some factors that aids in developing goodwill in business.

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  Maintain the quality of your products or services – Remember that the first impression is
the best impression. If your business provides quality products/services right from the
beginning, you are taking the steps towards developing goodwill.
 Rapport building and integrity – People will find dealing with your business easier
when you take pleasure in servicing them and when you provide business integrity.
 Brand commitment -Your business should be one step ahead of your competitors. A
business under the limelight for the right reasons will attract goodwill for itself.
 Service satisfaction – A customer is likely to return to you and also recommend your
services/products if he is happy with his experience.
 Community service not only helps in developing business good will but also leads to
small business longevity - As your business grows, you should focus on investing in
community goodwill. Some suggestions could be, making a small donation to
community functions or by giving a helping hand to those start-ups of a different
industry that are struggling. You can also promote amateur artisans and musicians by
holding exhibitions or concerts for them. Local residents would be willing to buy tickets
that are fairly priced. You should include other small businesses to help with local
events. It will pay-off with long-term sales growth and business referrals.
Goodwill is all about the nature of the business and the integrity and ethics with which you conduct
your business. The understanding between your customers and you, your employees and you also
contribute to the business goodwill. Consider goodwill as an honour that is impossible to imitate.

A) The Importance of Creating Goodwill with Customers

Creating goodwill among people is important in almost every area of your life. Spreading goodwill
makes people feel good about you, and it encourages them to spread goodwill to others. In business,
creating goodwill can help you to build relationships that ensure the long-term success of your
business.
You can create goodwill in a number of ways, from creating customer appreciation programs to
going the extra mile when you are providing a service. In return, your business will reap a number
of benefits. Here are just a few ways that creating goodwill with customers can help your business.
1) Encourages Brand Loyalty:-
When you feel good about a company, you want to do business with them again and again.
Creating goodwill with customers encourages brand loyalty by making them feel good about
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 doing business with you. Not only does it encourage customers to contact your company the
next time they need a product or service that you offer, but it also encourages them to
recommend your company to their family and friends, helping you to expand your customer
base.
2) Encourages Forgiveness:-
Think about how you feel when your neighbour brings you a big tin of cookies at Christmas
time. You are probably less likely to be upset when that same neighbor parks in front of your
yard or doesn‘t bring in their newspaper, letting a pile form in the driveway. The same concept
applies to your business. When you create goodwill with your customers by going the extra
mile, by exceeding their expectations, or by showing them personal attention they are more
likely to overlook your mistakes when you make them.
3) Sets You Apart from the Competition:-
When customers are having a hard time choosing between companies who have similar
products and price points, the goodwill you create can help set you apart from your competition
and push them in your favour. Maybe you went the extra mile by tracking down obscure
information to answer a question.

4) Improves the Value of Your Business:-

Investors understand the importance of goodwill and what it builds with customers. If your
company has a positive reputation as a result of the goodwill it has built, it will increase its
value. This will help you to attract more investors or secure credit more easily if you are looking
to expand your operations, and it will help you to command more in a sale if you choose to sell
your business. Building goodwill builds value.

2.10) FACTORS AFFECTING THE VALUE OF GOODWILL :

1. The profitability of company is past and expected profit in future will affects value of
Goodwill;
2. Capital Employed to earn profit;
3. The yield from business as expected by the investors;
4. The longevity of existence of business concern;
5. Market share of products of entity;
6. Quality of services rendered;
7. The edge of concern over its competitions in the market;
8. Relationship between management and staffs;
22
 9. Location of business enterprise;
10. Brand position and efforts taken to establish brand of the concern;
11. Technical innovation, modern technology, patents, etc,;
12. Tax Planning;
13. Relationship with Government, Local Bodies;
14. There are some other factors affecting the value of Goodwill.
15. Nature of business: A firm that deals with smart quality merchandise or has stable
demand for its product is in a position to earn additional profits and so has additional worth.
16.Location of business: A business that is found within the main market or at an area
wherever there's additional client traffic tends to earn an additional profit and additionally
additional goodwill.
17. Owner's reputation: an owner, who incorporates a smart personal name within the
market, is honest and trustworthy, attracts additional customers to the business, and makes
additional profits and additionally goodwill.
18. Efficient management: a corporation with economic management has high productivity
and value potency. This offers it multiplied profits and, additionally, high goodwill.
19. Market situation: The organization having a monopoly right or condition within the
market or having restricted competition, permits it to earn a high profit that successively
ends up in the higher worth of goodwill.
20. Special blessings: A firm that has special Advantages like import licenses, patents,
trademarks, copyrights, assured an offer of electricity at low rates, subsidies for being
placed in an exceedingly special economic zona (SEZs), etc. possess a better worth of
goodwill.
2.11) ACCOUNTING FOR GOODWILL
The various ways in which goodwill can be accounted for are as follows:
(a) Carry it as an asset and write it off over a period of years through the profit and loss
account.
(b) Write it off against profits or accumulated reserves immediately.
(c) Retain it as an asset with no write-off unless a permanent diminution in value becomes
evident.
(d) Show it as a deduction from shareholders funds which may be authorized carried
forward indefinitely.
In this connection, it is important to state that goodwill should be recognized and recorded in
business only when some consideration in money or money‘s worth has been paid for it.
23
2.12) ADJUSTMENT FOR GOODWILL
The concept of goodwill can be understood on the basis of its operational significance. Goodwill is
what goodwill does. It brings in more customers to a firm, without much persuasion.
Goodwill arises mainly on account of:
(1) Good reputation of the owners,
(2) Established popularity of products,
(3) Effectiveness of Advertising,
(4) Favourable Locality,
(5) Monopoly and
(6) Non-availability of similar products etc.
In case a firm is not going and is not successful, there will be no value attached to goodwill; if any
value appears, then it will be not only intangible but also fictitious. Goodwill arises only if a firm
earns extra profits, which is called super profits.
There are two points:
(1) When one buys a business, he will be able to get profits in future only and is not
concerned with the past profits at all.
(2) Goodwill is paid for the ability to earn super profits and not for ordinary profits.
Goodwill is the value of reputation of a firm in respect of profits expected in future over and
above the normal profits.
Indications for the Existence of Goodwill:
There are a number of contributing factors responsible for the existence of goodwill.
The following are some of the deciding factors in favour of the existence of goodwill:
1. In a manufacturing firm, the quality, standardization, and price of a product etc. are
important factors.
2. In a distribution firm, the terms and conditions of the credit facility etc. are important.
3. In bank services, the safety of money deposited, liberal policy of lending, prompt
services etc. are indicators of goodwill.
4. In hotels, the taste and quality of the food, cleanliness and courteous service etc. are
indicators of goodwill.
5. In a firm of Doctors, the diagnostic ability, surgical dexterity is evidence for goodwill.
6. In a firm of Chartered Accountants, the sharp insight is an indication of goodwill.
7. In a provision store, the courtesy shown to the customers, supply of good quality items at
reasonable price etc. are the proof of existence of goodwill.

24
Because of all these special attractions, a firm may attract many customers, in turn more sales, in
turn more profits; in turn establish the existence of goodwill. The goodwill is a silent super-
salesman and an attractive force by which customers become invitees without persuasion.

25
2.13) ACCOUNTING TREATMENT OF GOODWILL
A) case of admission of a new partner.
B) In case of a death or retirement of a partner.
C) In In case of Reconstitution of Partnership.

(A).IN CASE OF ADMISSION OF A NEW PARTNER

When a new partner enters in partnership firm, the old partner sacrifices his share for him , so it is
the duty of new partner to give goodwill in cash or in any other way to old partner . There are
following method with this new partner give his share of goodwill to old partners .

1st method
Private distribution of goodwill.
Under this method , new partner gives his share of goodwill to old partners personally .So there is
no need to record it to the books of firm . No journal entry will pass .

2nd method
Goodwill is given in cash form by new partner

Under this method , old partner bring his share of goodwill in cash form in the firm and it is taken
by old partner in their sacrifice ratio . For this following journal entry pass in the books of firm
(1) Cash / Bank Account (Dr) ................xxxx
To Goodwill / Premium Account .............xxxx

(2) Goodwill account (Dr.).................. xxxx ( share of new partner‘s goodwill )

To old partner‘s capital account ..............xxxx ( divide in sacrifice ratio )

3rd method
when new partner bring goodwill in cash in business and taken by old partner and then
withdraw by old partner
Above two entries will pass as same as in second method but third new entry will pass

Old partner‘s capital account (Dr.)................ xxxx

To cash / bank account ...........................xxxx

26
4th method

When new partner do not bring goodwill in cash form

If new partner do not bring goodwill in cash in firm , then following entry will pass for the
adjustment of goodwill .

New partner‘s capital account (Dr.).......... xxxx (share of goodwill )

To old partner‘s capital account .......xxxx (division in sacrifice ratio)

5th method

If partial in cash form of goodwill

Part of cash goodwill

(1)Cash account(Dr.).............. xxxxxx
To goodwill / premium account .............xxxx

(2) Goodwill account (cash goodwill)(Dr.).......... xxxx

New partner account ( not in cash goodwill)(Dr.)......... xxxx
To old partner capital account in sacrifice ratio ........xxxxxxx

6th method

If goodwill already exits in balance sheet of old partner , then it must be transfer to old
partner’s capital account in old ratio .
Other method is same above from 1 to 5 method .

Entry passed for transferring of old goodwill

Old partner‘s capital account (Dr.) ..............xxxxxxx

To goodwill ...................xxxxxxx

27
7th method

If new partner brings other asset as goodwill of his share of goodwill .

Then following entry will pass
1. Asset account (Dr) ....................................xxxxxx
To goodwill account.............................. xxxxxxxx
2. Goodwill account (Dr.)............................... xxxxxxxxx
To old partner‘s capital account in sacrifice ratio ........xxxxxxxxxx

(B) IN CASE OF DEATH OR RETIREMENT OF A PARTNER

The valuation of goodwill has been discussed in admission of a partner. The same process should
be followed here too. But during the time of retirement, the retiring partner has the right to get his
share of goodwill of the firm. Therefore, to give effect to the same, the following adjustment must
be carried out.
A. Goodwill already appears in the books
i. If old value of goodwill is equal to new valuation of goodwill:
- Adjustment entry is not needed

ii. If the existing value of goodwill is less than the new valuation:
Goodwill A/C.........Dr.(excess value)
To all partners' capital A/C
Note: The excess amount of goodwill is transferred to remaining and outgoing partners according to
old profit sharing ratio.

iii. If the existing value of goodwill is greater than new valuation:

All partners' capital A/C..........Dr.(less value)
To Goodwill A/C

B. Goodwill not already appeared in the book

i. Goodwill raised at its full value:

Goodwill A/C.............Dr.
To All partners' capital A/C
28
ii. Goodwill raised at its full value and written off immediately:
Goodwill A/C ...........Dr.
To all partners' capital A/C (old profit sharing ratio)

iii. Goodwill raised at only retired partner's capital account and immediately written off:
Goodwill A/C............Dr.
To retired partner's capital A\C

(C)IN CASE OF RECONSITITUION OF PARTNERSHIP

1. Accounting Treatments required at the time when Existing Profit Sharing Ratios changes.
Following Accounting Treatments are required at the time of changing in Existing Profit Sharing
Ratios :
(i) Accounting Treatment for Goodwill (In Sacrificing and Gaining Ratio).
(ii) Accounting Treatment for Revaluation of Assets and Liabilities ( In Old Profit Sharing
Ratio)
(iii) Accounting Treatment for Distribution of Undistributed Profits-Losses and Reserves
(In Old Profit Sharing Ratio)
(iv) Accounting Treatment for Adjustment of Capital ( If Capital is changed)

2. Accounting Treatments are required at the time of Admission of a New Partner

Following Accounting Treatments are required at the time of Admission of a New
Partner/Partners :
(i) Accounting Treatment for Goodwill (In Sacrificing Ratio).
(ii) Accounting Treatment for Revaluation of Assets and Liabilities ( In Old Profit Sharing
Ratio)
(iii) Accounting Treatment for Distribution of Undistributed Profits-Losses and Reserves
(In Old Profit Sharing Ratio)
(iv) Accounting Treatment for Adjustment of Capital ( If Capital is changed)

3.Accounting Treatments are required at the time of Retirement/Death of a Partner

Following Accounting Treatments are required at the time of Retirement/Death of a Partner :

29
A) Calculation of Amount Due :
First of all Amount Due will be calculated with the help of the following points to be paid to the
Retiring partner or the legal heir/heirs of the deceased partner.
(i) Accounting Treatment for Goodwill (In Sacrificing Ratio and Gaining Ratio).
(ii) Accounting Treatment for Revaluation of Assets and Liabilities ( In Old Profit Sharing Ratio)
(iii) Accounting Treatment for Distribution of Undistributed Profits-Losses and Reserves
(In Old Profit Sharing Ratio)
(iv) Accounting Treatment for Life Insurance Policies (If taken)
(v) Other Accounting Treatments :
a) Interest on Capital
b) Interest on Drawings
c) Share in Profits (for the current accounting period, if retirement/death happens mid term)
d) Any Remuneration or Commission Amount.

(B) Payment of Amount Due :

After calculation of Amount Due, next step will be "the payment of the Amount Due". Payment can
be made by any of the following three methods :
(i) Lump-Sum Payment
(ii) In Instalments
(iii) By giving Annuity
So we are to take care of the above mentioned Accounting Treatments in the various cases of
Reconstitution of Partnership Firm.

3.Accounting Treatments are required at the time of

Retirement/Death of a Partner
Following Accounting Treatments are required at the time of Retirement/Death of a
Partner :

(A) Calculation of Amount Due :

First of all Amount Due will be calculated with the help of the following points to be
paid to the Retiring partner or the legal heir/heirs of the deceased partner.

30
(i) Accounting Treatment for Goodwill (In Sacrificing Ratio and Gaining Ratio).
(ii) Accounting Treatment for Revaluation of Assets and Liabilities ( In Old Profit
Sharing Ratio)
(iii) Accounting Treatment for Distribution of Undistributed Profits-Losses and
Reserves
(In Old Profit Sharing Ratio)
(iv) Accounting Treatment for Life Insurance Policies (If taken)
(v) Other Accounting Treatments :
a) Interest on Capital
b) Interest on Drawings
c) Share in Profits (for the current accounting period, if retirement/death
happens in mid term)
d) Any Remuneration or Commission Amount

(B) Payment of Amount Due :

After calculation of Amount Due, next step will be "the payment of the Amount
Due". Payment can be made by any of the following three methods :
(i) Lump-Sum Payment
(ii) In Instalments
(iii) By giving Annuity
So we are to take care of the above mentioned Accounting Treatments in the various
cases of Reconstitution of Partnership Firm.

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2.14) TYPES OF GOODWILL

PURCHASED GOODWILL

NON-PURCHASED
GOODWILL

(b) Purchased Goodwill:-

Purchased goodwill arises when a business concern is purchased and the purchase consideration

paid exceeds the fair value of the separable net assets acquired. The purchased goodwill is shown

on the assets side of the Balance sheet. Para 36 of AS-10 ‗Accounting for fixed assets‘ states that

only purchased goodwill should be recognized in the books of accounts.

(b) Non-Purchased Goodwill/Inherent Goodwill:-

Inherent goodwill is the value of business in excess of the fair value of its separable net assets. It is

referred to as internally generated goodwill and it arises over a period of time due to good

reputation of a business. The value of goodwill may be positive or negative. Positive goodwill

arises when the value of business as a whole is more than the fair value of its net assets. It is

negative when the value of the business is less than the value of its net assets.

32
2.15) METHODS OF GOODWILL

• Arbitrary Valuation
Methods • Average Profits Method

• Super Profits Method

Of • Capitalisation Method

• Annuity Method
Goodwill • Hidden & Implied Goodwill

These methods have been explained as follows:-

1.Arbitrary Valuation:-
value of goodwill, in this case is fixed by mutual agreement between the parties. In
some cases, the value may be fixed by an independent person known as Arbitrator.
This method can be used only where earning capacity of the firm is exactly known.

2.Average Profits :-

Under this method goodwill is calculated on the basis of the average of some agreed
number of past years. The average is then multiplied by the agreed number of years.
This is the simplest and the most commonly used method of the valuation of
goodwill.

Goodwill = Average Profits X Number of years of Purchase

Before calculating the average profits the following adjustments should be made in
the profits of the firm:

a. Any abnormal profits should be deducted from the net profits of that year.

b. Any abnormal loss should be added back to the net profits of that year.

c. Non operating incomes e.g. income from investments etc should be deducted
from the net profits of that year.

33
3. Super profits method:-
Super Profits are the profits earned above the normal profits. Under this method Goodwill is
calculated on the basis of Super Profits i.e. the excess of actual profits over the average profits.

For example if the normal rate of return in a particular type of business is 20% and your investment
in the business is $1,000,000 then your normal profits should be $ 200,000. But if you earned a net
profit of $ 230,000 then this excess of profits earned over the normal profits i.e. $ 230,000 – $
200,000= Rs.30,000 are your super profits. For calculating Goodwill, Super Profits are multiplied
by the agreed number of years of purchase.

Steps for calculating Goodwill under this method are given below:

i) Normal Profits = Capital Invested X Normal rate of return/100

ii) Super Profits = Actual Profits – Normal Profits

iii) Goodwill = Super Profits x No. of years purchased

Excess of future maintainable profit over normally expected profit is called super profit. Under this
method goodwill is taken as the aggregate super profit of the future years for which such super
profit is expected to be maintained. Factors considered in this method are:
(i) Future maintainable profit;
(ii) Actual capital employed;
(iii) Normal rate of return;
(iv) Period for which super profit is projected.
Super profit = Future maintainable profit minus (Actual Capital employed × Normal rate of return)
Goodwill = Super profit × No. of years for which Super Profit can be maintained.

Super Profits are the profits earned above the no rmal profits. Under this method Goodwill is calculated
on the basis of Super Profits i.e. the excess of actual profits over the average profits.
For example if the normal rate of return in a particular type of business is 20% and your investment
in the business is $1,000,000 then your normal profits should be $ 200,000. But if you earned a net
profit of $ 230,000 then this excess of profits earned over the normal profits i.e. $ 230,000 – $
200,000= Rs.30,000 are your super profits. For calculating Goodwill, Super Profits are multiplied
by the agreed number of years of purchase.
Steps for calculating Goodwill under this method are given below:
i) Normal Profits = Capital Invested X Normal rate of return/100
34
ii) Super Profits = Actual Profits – Normal Profits
iii) Goodwill = Super Profits x No. of years purchased

4.Capitalisation Method:
There are two ways of calculating Goodwill under this method:

(i) Capitalisation of Average Profits Method

(ii) Capitalisation of Super Profits Method

(i) Capitalisation of Average Profits Method:
Under this method we calculate the average profits and then assess the capital needed for earning
such average profits on the basis of normal rate of return. Such capital is called capitalised value of
average profits. The formula is:-
Capitalised Value of Average Profits = Average Profits X (100 / Normal Rate of Return)
Capital Employed = Assets – Liabilities
Goodwill = Capitalised Value of Average Profits – Capital Employed

(ii)Capitalisation of Super Profits:

Under this method first of all we calculate the Super Profits and then calculate the capital needed
for earning such super profits on the basis of normal rate of return. This Capital is the value of our
Goodwill .
The formula is:-
Goodwill = Super Profits X (100/ Normal Rate of Return)

1. Annuity Method:-Under this method, goodwill is calculated by finding the present worth of
annual super profits to be earned over an estimated period by discounting at a given rate of
interest. The present value factor of annuity for the given number of years and interest rate
can be obtained by making a reference to annuity table. Under this method, value of
goodwill is calculated by using the following formula:
Goodwill =super profits x Annuity factor

2. Hidden Goodwill:- When the value of goodwill is not given in the question, it has to be
calculated on the basis of total capital/net worth of the firm and profit sharing ratio.
Illustration 8. X and Y are partners with capitals of ₹ 10,000 each. They admit Z as a partner
for 1/4th share in the profits of the firm.

35
2.16) COMPONENTS OF GOODWILL

1. Excess of the fair values over the book values of the acquirer’s recognized
assets.
In a business acquisition, as assets acquired are measured at fair value, these excesses should
not exist. Subsequent to the acquisition, the acquirer‘s goodwill could include such excesses
where assets are measured at cost.
2 . Fair values of other net assets not recognized by the acquire
The assets of concern here are those tangible assets which are incapable of reliable
measurement by the acquire, and nonphysical assets that do not meet the identifiability criteria
for intangible assets.
3. Fair value of the ‘going concern’ element of the acquirer’s existing business.
This represents the ability of the acquire to earn a higher return on an assembled collection of
net assets than would be expected from those net assets operating separately. This reflects
synergies of the assets, as well as factors relating to market imperfections such as an entity‘s
ability to earn a monopoly profit, or where there are barriers to competitors entering a particular
market.
4. Fair value from combining the acquirer’s and acquirer’s businesses and net assets.
This stems from the synergies that result from the combination, the value of which is unique to
each combination.
5. Overvaluation of the consideration paid by the acquirer.
This relates to errors in valuing the consideration paid by the acquirer, and may arise
particularly where shares are issued as consideration with differences in prices for small parcels
of shares as opposed to controlling parcels of shares. There could also be overvaluation of the
fair values of the assets acquired. This component could then relate to all errors in measuring
the fair values in the business combination.
6. Overpayment or underpayment by the acquirer.
This may occur if the price is driven up in the course of bidding; conversely, goodwill could be
understated if the acquirer‘s net assets were obtained through a distress or fire sale.

2.17) GOODWILL DATA SOURCE

Goodwill data sources can be either internal or external to the entity. Internal data sources typically
relate to documentation regarding the entity‘s historical or prospective results of operations.

36
External data sources typically relate to empirical pricing data with regard to the goodwill of
guideline business or professional practice sale transactions

i) Internal Data Sources :-

1. The existence of identified tangible assets and intangible assets, including a detailed listing of
working capital accounts, real estate, tangible personal property, and identifiable intangible assets
(including intellectual property)
2. The valuation of tangible assets and identifiable intangible assets, including recent appraisals of
any asset category
3. The historical results of business operations, including historical income statement extern
balance sheets, cash flow statements, and capital statements
4. The prospective results of business operations, including current budgets, plans, forecasts, and
projections prepared for any purpose Information from these internal data sources can be used in the
goodwill valuation.
ii) External Data Source :-
For certain industries (principally professional practices), there are publications, periodicals, and
online data sources that report on the goodwill components of actual business sale transactions.
Some of these data sources are listed in the next section
 Bank M&A Weekly (Charlottesville, VA: SNL Financial, weekly). Bank M&A Weekly
is the only source dedicated to comprehensive coverage of bank and thrift industry
consolidation, including branch deals and other asset transactions. Delivered via e-mail
every week, each issue includes key deal ratios, buyer and target financials, industry
trends, and feature stories
 The Lawyer‘s Competitive Edge: The Journal of Law Office Economics and
Management (Eagan, MN: West, monthly). Practical management information to
minimize falling profits, client loss, and employee dissatisfaction.
 Merger & Acquisition Survey of Architecture, Engineering, Planning & Environmental
Consulting Firms (Natick, MA: Zweig White & Associates, annual).

2.18) REASONS TO VALUE GOODWILL

1.Economic damage analyses:

37
When a business has suffered a breach of contract or a tort (such as an infringement, breach
of a fiduciary duty, or interference with business opportunity), one measure of the damages
suffered is the reduction in the value of the entity‘s goodwill due to the wrongful action.
2.Business or professional practice merger:
When two businesses merge, the equity of the merged entity typically is to be allocated to
the merger partners. One common way to allocate equity in the merged entity is in
proportion to the relative value of the assets contributed, including the contributed goodwill
.
3.Business or professional practice separation:
When a business separates, the assets of the consolidated business typically have to be
allocated to the individual business owners. One common way to allocate the assets to the
separating business partners is in proportion to the relative value of the assets controlled by
or developed by each partner, including the goodwill of each business partner.
4.Solvency test:
The solvency of a business entity is an issue with regard to lender‘s fraudulent conveyance
concerns during a financing transaction or a financial restructuring. One of the individual
tests to determine if a business entity is solvent is: Does the fair value of the entity‘s assets
exceed the value of the entity‘s liabilities (after consideration of the financing transaction).
5.Insolvency test.
The degree of insolvency of a business entity may have federal income tax consequences if
debt is forgiven (in whole or in part) during a refinancing transaction or financial
restructuring. One of the specific tests to determine if a business entity is insolvent for
federal income tax purposes is: Is the fair market value of the entity‘s assets less than the
value of the entity‘s liabilities.
6.Business enterprise valuation.
The identification and quantification of goodwill is one procedure of the asset-based
approach to business valuation. An asset-based approach is often used in the valuation of an
industrial or commercial company or professional service business.
7.Deprivation analysis.
The goodwill valuation may be one component in the damages analysis associated with a
business that is subject to a condemnation, expropriation, or eminent domain action.
Financial advisers sometimes only consider the value of the entity‘s real estate and tangible
personal property subject to the condemnation or other ―taking.‖
8.Intercompany transfer price.
38
 When intangible assets are transferred between related entities (for example, between a
parent corporation and a less than wholly owned subsidiary), an arm‘s-length price should
be estimated for the intercompany transfer of the assets.
9.Ownership allocation litigation.
Several forms of litigation involve the allocation of direct or indirect ownership interests in
a business entity.
10.Intercompany transfer price.
When intangible assets are transferred between related entities (for example, between a
parent corporation and a less than wholly owned subsidiary), an arm‘s-length price should
be estimated for the intercompany transfer of the assets. Such an intercompany transfer may
affect the profitability and return on investment of, say, two subsidiaries—one that is wholly
owned and one that has a 10 percent minority interest owner.

2.19) LET US CONSIDER MAIN COMPONENTS OF GOODWILL :

1. PROFITABILITY :
The profitability is the most important factor in valuation of Goodwill. The main emphasis
is on future profits of the concern. Whether concern will able to increase in its profit in
future. Since the profit earned in past provides a base for the concern‘s future profit. The
process of assessment, whether a concern will maintain its profits in the future is otherwise
called ―Future Maintenance Profit‖.
Following factors are to be considered, while estimating the ―Future Maintenance Profit‖;
(i) All normal working expenses should be included;
(ii) Any appreciation in the fixed assets should be excluded;
(iii)Any appreciation in the value of Current Assets should be included;
(iv) Provision for taxes should be included;
(v) Income from non trading assets should not be taken into account;
(vi) Transfer to General Reserve should be excluded;
(vii) Dividend to Preference Shareholders should be excluded;
(viii) Non –recurring expenses should be included;
(ix) Average profits of past years should be considered
.
2. NORMAL RATE OF RETURN;

39
 Every person investing his/her/its funds in companies needs a fair return; this is referred as
―Rate of Earnings‖. The rate return is depend on the nature of industry and other factors
such as bank rate, risk, type of management, etc., it consists of following elements;
(i) Return at Zero Risk Level; in this case the risk to the investor is nil or zero, the concern
in which it has invested , do not has any risk in its activities. But at the same time the return
will be lower than expected. Such as investment in Government securities, Bonds, NSCs
etc.
(ii) Premium for business risk; it refers to risky investment. If a concern faces more risk in
its business transactions, then the rate of return or earning will be high. The profit will vary
in proportion to risk covered in the industry. The more is risk, higher is the Premium.
(iii) Premium for financial risk;it refers to risk connected with the Capital Structure. A
concern having higher debt/equity ratio is considered more risky. There are other factors
that affects the Rate of Returns are;
(a) The bank rate;
(b) Period of investment;
(c) Risk ( due to nature of business or capital structure);
(d) Economic and Political Scenario, etc
3. CAPITAL EMPLOYED;
The quantum of profits earned with respect to the capital used is an important basis for
valuation of goodwill. The Capital Employed represents Fixed Assets + Net Working
Capital. This represents Equity Holders fund plus long terms borrowings. Following items
to be included in determining Capital Employed;
(i) All Fixed Assets Less Depreciation written off;
(ii) Trade Investments;
(iii) All Current Assets
Following items should be excluded;
(i) Long term liabilities;
(ii) All Current Liabilities;
(iii) Intangible Assets including Goodwill;
(iv) Non Trading Assets;
(v) Fictitious Assets
Generally ―Average Capital Employed‖ is used instead of ―Capital Employed. Since profit
earning is a continuous process during the year.

40
2.20) VALUATION OF GOODWILL
There are basically two accounting methods for goodwill valuation. These are:
(i) Capitalisation Method and (ii) Super Profit Method. A third method called annuity method is a
refinement of the super profit method of goodwill valuation.
(i) Capitalisation method:
Under this method future maintainable profit is capitalised applying normal rate of return to arrive
at the normal capital employed. Goodwill is taken as the excess of normal capital employed over
the actual capital employed. Normal Capital employed = Future maintainable profit ÷ Normal rate
of return.
Goodwill = Normal Capital Employed – Actual Closing Capital Employed
Factors considered in this method are:
(i) Future maintainable profit;
(ii) Actual capital employed in the business enterprise for which goodwill is to be computed;
(iii) Normal rate of return in the industry to which the business enterprise belongs

2.21) METHODS OF VALUATION OF GOODWILL;

Following are the methods;
1. Average Profits Method;
2. Super Profits Method;
3. Capitalization Method;
4. Annuity Method

1) Average Profits Method:

Under this methodology, the worth of Goodwill is calculated by multiplying the typical Future
profit by an exact range of year's purchase.
Goodwill = Future reparable profit when tax x No. of years purchase
The first step below this methodology is that the calculation of average profit supported the past
few years' profits. Past profit is adjusted in respect of any abnormal things of profit or loss, which
can affect future profit. Average profit could also be supported easy average or weighted average. If
profits are constant, equal weight-age could also be given in hard the typical profits, i.e., the easy
average could also be calculated. However, if the trend shows increasing or decreasing profit, it's
necessary to administer a lot of weight-age to the profits of recent years.

41
i] Simple Average: Under this method, the goodwill is valued at the agreed number of years‘ of
purchase of the average profits of the past years. Goodwill = Average Profit x No. of years‘ of
purchase
ii] Weighted Average: Under this method, the goodwill is valued at an agreed number of years‘ of
purchase of the weighted average profits of the past years. We use the weighted average when there
exists an increasing or decreasing trend in the profits giving the highest weight to the current year‘s
profit.
 Goodwill = Weighted Average Profit x No. of years‘ of purchase
 Weighted Average Profit = Sum of Profits multiplied by weights/ Sum of weights
Explore more about Treatment of Goodwill
Treatment of goodwill
Accounting treatment of goodwill- death /retirement of partner-
 Accounting treatment of goodwill- change in PSR.

 Accounting treatment of goodwill in case of admission of partner

 Concept of Goodwill

Steps concerned below Average Profits Method:

1. Calculation of past profits before tax.
2. Calculate future-maintainable profit before tax when creating past changes.
3. Calculate Average Past adjusted Profits (taking the easy average or weighted average as
applicable).
4. Multiple Future reparable Profits by a range of years' purchase.
Value of Goodwill = Future reparable Profits x No. of years' purchase.
2) Super profit method
(i) The Number of Years Purchase Method:
Under this method, the goodwill is valued at the agreed number of years‘ of purchase
of the super profits of the firm.
 Goodwill = Super Profit x No. of years‘ of purchase#
 Super Profit = Actual or Average profit – Normal Profit #
 Normal Profit = Capital Employed x (Normal Rate of Return/100)

3. Capitalization Method
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  goodwill below this technique is observed by capitalizing the super profits on the premise of
the traditional rate of come back. This technique assesses the capital required for earning
the super profit.

i) Capitalization of average Profits:

Under this method, the value of goodwill is calculated by deducting the actual capital employed
from the capitalized value of the average profits on the basis of the normal rate of return.
 Goodwill = Normal Capital The – Actual Capital Employed
 # Normal Capital or Capitalized Average profits = Average Profits x (100/Normal Rate of
Return
 )# Actual Capital Employed = Total Assets (excluding goodwill) – Outside Liabilities

(ii) Capitalization of Super Profits:

Under this method, Goodwill is calculated by capitalizing the super profits directly.
Steps in calculating goodwill by capitalisation of average profit method
 Step 1: Calculate average estimated profits
 Step 2: Calculate the capitalised average profits
 Step 3: Calculate the value of Actual capital employed or net assets of the business
 Step 4: Calculate goodwill by subtracting the actual capital employed from the capitalised
average profit
4.ANNUITY METHOD
It is a refinement of the super profit method. Since super profit is expected toarise at different future
time periods, it is not logical to simply multiply super
profit into number of years for which that super profit is expected to be maintained. Further future
values of super profits should be discounted using appropriate discount factor. The annuity method
got the nomenclature because of suitability to use annuity table in the discounting process of the
uniform super profit. In other words, when uniform annual super profit is expected, annuity factor
can be used for discounting the future values for converting into the present value. Here in addition
to the factors considered in super profit method, appropriate discount rate is to be chosen for
discounting the cash flows.
This method considers the time value of money. Here, we consider the discounted value of the super
profit.
 Super profit is that the more than predictable future rectifiable profits over traditional profits.
An enterprise might possess some benefits that change it to earn additional profits over and

43
 on top of the conventional profit that may be attained if the capital of the business was
endowed in another business with similar risks. The goodwill below this methodology is
observed by multiplying the super profits by a bound range of year's purchase.
 Steps concerned in calculative Goodwill below Super Profit Method:
 Step 1: Calculate capital used (it is that the combination of Shareholders' equity and future
debt or fastened assets and current internet assets).
 Step 2: Calculate traditional Profits by multiplying capital used with a traditional rate of
come back.
 Step 3: Calculate average rectifiable profit.
 Step 4: Calculate the Super Profit as follows:
 Super Profit = Average rectifiable profits - traditional Profits.
 Step 5: Calculate goodwill by multiplying super profit
 Goodwill = Capitalized worth - net assets of thebusiness.
If the value of annuity is not given, it can be calculated with the help of following formula :

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 CHAPTER 04
DATA ANALYSIS
AND
INTERPRETATITION

45
 CHAPTER 04
DATA ANALYSIS AND INTERPRETATION

1) AVAREAGE PROFIT METHOD

Under this method the value of Goodwill is calculated by multiplying the Average Future profit by
a certain number of year‘s purchase.
Goodwill = Future maintainable profit after tax x No. of years purchase
The first step under this method is the calculation of average profit based on past few years‘ profit.
Past profit are adjusted in respect of any abnormal items of profit or loss which may affect future
profit. Average profit may be based on simple average or weighted average.
If profits are constant, equal weight-age may be given in calculating the average profits i.e., simple
average may be calculated. However, if the trend shows increasing or decreasing profit, it is
necessary to give more weight-age to the profits of recent years.

Number of year’s purchase:

After calculating future maintainable average profits, the next step is to determine the number of
years‘ purchase. The number of years of purchase is determined with reference to the probability of
new business to catch up with an existing business. It will differ from industry to industry and from
firm to firm. Normally the number of years ranges between 3 to 5.

Steps Involved under Average Profits Method:

(i) Calculate past profits before tax.

(ii) Calculate future-maintainable profit before tax after making past adjustments.
(iii) Calculate Average Past adjusted Profits (taking simple average or weighted average as
applicable).
(iv) Multiply Future Maintainable Profits by number of years‘ purchase.

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Illustration 1:

The following are the profits of a firm in the last five years:
2014: ₹ 4,000; 2015: ₹ 2016: 3,000; ₹2017: 5,000; ₹ 4,500 and 2018: ₹ 3,500

Years Amount
2014 4000
2015 3000
2016 5000
2017 4500
2018 3500

Calculate the value of goodwill at 3 years purchase of average profits of five years.

Solution

Goodwill = Average profit × Number of years of purchase

= 4,000 × 3 = ₹ 12,000

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Illustration 2
The profits and losses of a firm for the last four years were as follows:
2015:₹ 15000;2016:₹ 17000; 2017: ₹ 6000 (loss); 2018: ₹ 14000
Years Amount
2015 15000
2016 17000
2017 6000 (loss)
2018 14000

You are required to calculate the amount of goodwill on the basis of 5 years purchase of average
profits of the last 4 years.

Solution

Goodwill = Average profit × Number of years of purchase

Average profit = Total profit / Number of years

Goodwill = Average profit × Number of years of purchase

= 10,000 × 5 = ₹ 50,000

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Illustration 3
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:

Years Amount
2015 40000
2016 50000
2017 48000
2018 46000

The business was looked after by a partner. No remuneration was paid to him. The fair
remuneration of the partner valued at comes to ₹ 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

Goodwill = Average profit × Number of years of purchase

= 40,000 × 3 = ₹ 1,20,000

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Illustration 4
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 ₹ 46,000, ₹ 44,000
and ₹ 50,000 respectively.
b) A non-recurring income of ₹ 5,000 is included in the profits of the year 2016.
c) The closing stock of the year 2017 was overvalued by ₹ 10,000.

Solution
Calculation of adjusted profit

Tutorial note: Over valuation of closing stock in 2017 will result in over valuation of opening stock
in 2018

Goodwill = Average profit × Number of years of purchase = 45,000 × 2 = ₹ 90,000.

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Illustration 5
The following particulars are available in respect of a business carried on by a partnership firm:
a) Profits earned: 2016: ₹ 30,000; 2017: ₹ 29,000 and 2018: ₹ 32,000.
b) Profit of 2016 includes a non-recurring income of ₹ 3,000.
c) Profit of 2017 is reduced by ₹ 2,000 due to stock destroyed by fire.
d) The stock is not insured. But, it is decided to insure the stock in future. The insurance premium
is estimated at ₹ 5,600 per annum.
You are required to calculate the value of goodwill on the basis of 2 years purchase of average
profits of the last three years.

Solution
(a) Calculation of adjusted profit

Goodwill = Average profit × Number of years of purchase

51
= 24,400 × 2=₹ 48,800
(b) Weighted average profit method
Under this method, goodwill is calculated by multiplying the weighted average profit by a certain
number of years of purchase.
Goodwill = Weighted average profit × Number of years of purchase
In this method, weights are assigned to each year‘s profit. Weighted profit is ascertained by
multiplying the weights assigned with the respective year‘s profit. The sum of the weighted profits
is divided by the sum of weights assigned to determine the weighted average profit.
Weighted average profit = Total of weighted profits / Total of weights

This method is used when the profits show an increasing or decreasing trend. More weight is
generally given to the profits of the recent years.

Illustration 6
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:

Compute the value of goodwill.

52
Solution
Calculation of weighted average profit

Goodwill = Weighted average profit × Number of years of purchase

= 24,800 × 3 = ₹ 74,400.

53
2. Super profit methods
Under these methods, super profit is the base for calculation of the value of goodwill. Super profit is
the excess of average profit over the normal profit of a business.
Super profit = Average profit – Normal profit
Average profit is calculated by dividing the total of adjusted actual profits of certain number of
years by the total number of such years. Normal profit is the profit earned by the similar business
firms under normal conditions.
Normal profit = Capital employed × Normal rate of return
Capital employed = Fixed assets + Current assets – Current liabilities
Normal rate of return = It is the rate at which profit is earned by similar business entities in the
industry under normal circumstances.

(a) Purchase of super profit method

Under this method, goodwill is calculated by multiplying the super profit by a certain number of
years of purchase.
Goodwill = Super profit × Number of years of purchase.

Illustration 7
From the following information, calculate the value of goodwill based on 3 years purchase of super
profit
i. Capital employed: ₹ 2,00,000
ii. Normal rate of return: 15%
iii. Average profit of the business: ₹ 42,000.

Solution
Normal profit = Capital employed × Normal rate of return
= 2,00,000 × 15% = ₹ 30,000
Super profit = Average profit – Normal profit
= 42,000 – 30,000
= ₹ 12,000
Goodwill = Super profit × Number of years of purchase
= 12,000 × 3
= ₹ 36,000

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Illustration 8
Calculate the value of goodwill at 5 years purchase of super profit from the following information:
(a) Capital employed: ₹ 1,20,000
(b) Normal rate of profit: 20%
(c) Net profit for 5 years:
2014: ₹ 30,000; 2015: ₹ 32,000; 2016: ₹ 35,000; 2017: ₹ 37,000 and 2018: ₹ 40,000
(d) Fair remuneration to the partners ₹ 2,800 per annum.
Solution

Normal profit = Capital employed × Normal rate of return

= 1,20,000 × 20%
= ₹ 24,000
Super profit = Average profit – Normal profit
= 32,000 – 24,000
= ₹ 8,000
Goodwill = Super profit × Number of years of purchase
= 8,000 × 5
= ₹ 40,000.

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3) Capitalisation method
There are two ways of calculating profits in capitalisation method and these methods are:

1. Capitalisation of Average Profit Method

2. Capitalisation of Super Profits Method

Goodwill = Normal Capital – Actual Capital Employed or

Goodwill = Capitalised Average Profits – Actual Capital Employed

Capitalised Average Profits or Normal Capital = Average estimated profits x 100 / Normal Rate of
Return

Actual capital employed or Net Asset of Business = Total Assets ( excluding goodwill, non-traded
investments and fictitious assets ) – Outsiders liabilities

Steps in calculating goodwill by capitalisation of average profit method

Step 1: Calculate average estimated profits

Step 2: Calculate the capitalised average profits

Step 3: Calculate the value of Actual capital employed or net assets of the business

Step 4: Calculate goodwill by subtracting the actual capital employed from the capitalised average
profit.

Under this method, goodwill is the excess of capitalised value of average profit of the business over
the actual capital employed in the business.

Goodwill = Total capitalised value of the business – Actual capital employed

The total capitalised value of the business is calculated by capitalising the average profits on the
basis of the normal rate of return.

Capitalised value of the business = [ Average profit / Normal rate of return ] x 100

Actual capital employed = Fixed assets (excluding goodwill) + Current assets – Current liabilities.

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Illustration 1

Bhatt and Sons are able to earn a profit of 90,000 by infusing a capital of 5,00,00. The normal rate
of return is 15%. Determine the value of goodwill by using capitalisation of super profit method.

Solution

Normal profit = Capital employed x Normal rate of return / 100

= 5,00,000 x 15 / 100

= 75000

Super profit = Average profit – Normal Profit

= 90000 – 75000

= 15000

Goodwill = Average of annual super profit x 100 / Normal Rate of return

= 15000 x 100 / 15

= 100000

Illustration 2
From the following information, find out the value of goodwill by capitalisation method:
(a) Average profit = ₹ 60,000
(b) Normal rate of return = 10%
(c) Capital employed = ₹ 4,50,000
Solution
Total capitalised value of the average profit = [ Average profit / Normal rate of return ] x 100
= 60,000 / 10 = x 100
Goodwill = Total capitalised value of the average profit – Capital employed
= 6,00,000 – 4,50,000
= ₹ 1,50,000.

57
Illustration 3
M/s Mehta and sons earn an average profit of rupees 60,000 with a capital of rupees 4,00,000. The
normal rate of return is 10%. Using capitalization of super profits method calculate the value the
goodwill of the firm.
Solution:
Normal Profit = Capital employed x Normal Rate of Return/100
=4,00,000 x 10/100 = 40,000
Super Profit = Average Profit – Normal Profit
= 60,000 – 40,000 = 20,000
Goodwill = Super profits x (100/ Normal Rate of Return)
= 20,000 x 100/10 = 2,00,000.

03) Hidden and implies goodwill

Hidden Goodwill means the value of goodwill that is not specified at the time of admission of a partner.
If the new partner requires to bring the share of goodwill, then, in this case, we have to calculate the value
of the firm‘s goodwill. Difference between the capitalized value of the firm and the net worth of the firm
is treated as the value of Hidden Goodwill. In other words, we can say hidden Goodwill is the Inferred
Goodwill. This is not given in question but is implied from brought in capital by the new partner for his
share in the firm.

Illustration 1
M and N are two partners in a firm with the capital balances of ₹ 1,60,000 and ₹ 2,20,000 respectively.
The firm had a general reserve of ₹ 40,000. They admitted P into the firm for the 1/4th share of profits. He
brings capital of ₹ 1,80,000 Calculate the firm‘s goodwill and P‘s share of goodwill.
Solution
Value of Goodwill = Capitalised Value of Firm – Net Worth
Capitalised Value of Firm = P‘s Capital × Reciprocal of his Share
Net Worth = Total Capital (including P‘s Capital) + Reserve
Net Worth = (1,60,000 + 2,20,000 + 1,80,000) + 40,000 = 6,00,000
Value of Goodwill = 7,20,000 – 6,00,000 = 1,20,000

58
Now we are going to discuss accounting treatment of Hidden Goodwill.
particulars xxx
New partner capital *Reciprocal of new partner share xxx
Less: Total capital (including new partner capital) xxx
Value of Goodwill xxx

Following Is The Journal Entry

Date Particulars Amount Amount

(Dr.) (Cr.)
New Parter’s Capital A/C Dr xxx
To old partner’s capital A/c xxx
( Being New Partner‘s Share Of
Hidden Goodwill Adjusted
Through Old Partner‘s Capital
Account)

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 CHAPTER 05
FINDINGS AND SUGGESTION

60
 CHAPTER 05

FINDINGS AND SUGGESTION

5.4) FINDINGS :
Though the sales has been continuously increased from past 3 years but the proportionate
expenditure is also rising so overall not making any huge effect on net profit of this company. 
Here the in 2005 company has reinvest profit for business expansion it is good shine for the
company.

 The total expenditure is near by 80% of total income in every year.

 Every year PBT is near by 20% of total income.

 Fixed assets are efficiently utilized by the company due to which the profit of the
company is increasing every year.

 Liabilities are increasing rate it mean company has to developed business. And purchase
raw material on credit basis.

 Company has enough cash in hand so that in any condition company can take Any
Financial decision easily.

 All the years has quick ratio exceeding 1, the firm is in position to meet its immediate
obligation in all the years.

 GP Ratio shows how much efficient company is in Production.

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5.2) SUGGESTION
Business goodwill is an intangible asset owned by and associated with the operation of a company. Goodwill
is the premium that is paid when a business is acquired. If a business is acquired for more than its book value,
the acquiring business is paying for intangible items such as intellectual property, brand recognition, skilled
labor, and customer loyalty.

KEY TAKEAWAYS:

Business goodwill is an intangible asset that adds value to a company. Factors such as proprietary
or intellectual property and brand recognition are reflected in goodwill. While goodwill is not easily
quantifiable, it is calculated by subtracting the difference between the fair market value of a
company's assets and liabilities from its purchase price. Companies must record the value of
goodwill on their financial statements and record any impairments. Understanding Goodwill and Its
Effects on Corporate Value Factors such as proprietary or intellectual property and brand
recognition are reflected in goodwill. While goodwill is not easily quantifiable, it can be calculated
by taking the purchase price of a company and subtracting the difference between the fair market
value of the assets and liabilities. In fact, companies are required to record the value of goodwill on
their financial statements and record any impairments. While intangible assets typically have a
finite useful life, goodwill is considered indefinite. The presence of goodwill implies that a
company's value is greater than its combined raw assets. The effect of goodwill on a company's
value is better understood by learning the factors that create business goodwill. The three factors in
the creation of a company's goodwill include its going concern value, excess business income, and
the expectation of future economic benefits. The going concern value indicates that the company
can produce income by applying existing capital (equipment, employees, management, and
resources) effectively. The excess business income implies that a company is earning additional
income due to the presence of its goodwill. The overall value further increases when expectations
for economic growth are added to the equation. A company is expected to attract new customers
and create more products, resulting in combined wealth. There are a few opinions and suggestions
by family and friends whom I discussed my project findings with; they are given below:

Goodwill accounting should be taken seriously in any partnership firm.

IOI 4.00

Goodwill accounting says a lot about the partner's professional life.

• Awareness about this topic should be generated through the youth as it might help them enrich
their own professional life.

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5.3) CONCLUSION
According to this Research we find that The company's overall position is at a good position. The
company achieves sufficient profits in past four years. Fixed assets are efficiently utilized by the
company due to which the profit of the company is increasing every year. The long term solvency
of the company is good. The company maintains low liquidity to achieve high profitability .The
company distributes dividend every year to its shareholders. Inventory turnover ratio is increased as
compared to after that all year so management should take care about good efficiency of stock
management.Net Fixed Assets Turnover Ratio is increasing year by year because of Sale is
increasing continuously and Though the company‘s sale is continuously rising but the net profit is
not so mu ch increased so management should take so me steps to decrease its expenses.

63