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Business Purchase

To be used in conjunction with PDF document entitled Business Purchase Student note

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Inherent vs Purchased Goodwill


So far in the course we have revalued goodwill based on what a partnership believes its goodwill is worth. This is known as inherent goodwill as it will only arise if and when the business is actually sold. Inherent goodwill can not be shown on the balance sheet of a limited company (according to FRS 10)
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Inherent vs Purchased Goodwill


When a business is purchased as a going concern, there will usually be some goodwill paid for this is purchased goodwill. Purchased goodwill is the difference between the fair value of the net assets of the business and the value of the business as a going concern Purchased goodwill can be reported in the balance sheet of a limited company
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Business purchase step 1


Debit all of the assets to be taken over by the new business Use the agreed value (not necessarily the book value from the balance sheet) and do not take over provision for depreciation. In most cases the bank/cash account balances are not taken over Include a line in the journal for goodwill although you may not know the amount yet.
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Assets are debited at their agreed values. There will always be goodwill on the purchase of an existing business leave room for it but calculate it at the end

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Business purchase step 2


Credit the liabilities that are being taken over in the purchase. Use the amounts shown in the balance sheet.

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Business purchase step 3


Credit the consideration (payment made to current owners) for the purchase. In most questions this will be in the form of cash and/or shares (at a premium) and/or debentures Be careful of the dates consideration may be made on different days

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The considerationCredit is a capital for the par value issued mix of share capital and of the shares Dont forget the cash! cash. and share premium for the balance.

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Business purchase step 4


Now you can calculate the amount of goodwill being purchased (i.e. goodwill is the amount required to balance the journal entry).

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71 600

Therefore the goodwill The credit side of the The debit side adds to paid for on purchase is journal entry adds to $225 870. $71 600. $297470

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Loan from a partner


Very often a business purchase question will include be for a company acquiring a partnership e.g. The Nelumdeniya company will isis a9%. partner issue Old interest rate New to be a It is common in these questions for there Nelumdeniya in a firm that is with being a 6% interest rate is 6%. loan from a partner on the books. purchased. debenture for The the partnership loan. How Nelumdeniya will need a In this instance it is usual for a debenture to be much books will show the debenture a(9/6 loan from need debenture of X 100 issued to the partner for the loan. 000) It is usually Nelumdeniya to be, for Nelumdeniya for $100 000 to $150 000 to ensure he receives worded so that the partner continues to receive receive 9% the ($9000 same after in amount interest of as the sameearning amount of interest the takeover as the same amount of interest interest perbefore. year). as before? before.
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Negative Goodwill
There may be occasions where a business is sold for an amount less than the fair value of its net assets. e.g. Hayward is running a The entry in the books of This may be because the owner would prefer a The change on Worasen Ltds business that shows netthe assets Worasen Ltd to record sale quick sale to a protracted winding up of the balance sheet would be: on his business of $100 000 would be:balance sheet. He an of on the In this instance theaccepts goodwill isoffer credited Assets 100 000 000 business from Worason Ltd books of $80 the Goodwill new 20 to 000 purchases theintangible business. It is still shown under the Bank 80 assets 000 but is a negative number.
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