Good will definition Essay

An account that can be found in the assets portion of a political partys balance sheet. Goodwill can often arise when one confederation is secured by some other company. In an acquisition, the amount pay for the company over book value usually accounts for the target unswervings intangible assets. Goodwill is seen as an intangible asset on the balance sheet because it is non a physical asset like buildings or equipment. Goodwill typically reflects the value of intangible assets such(prenominal) as a strong brand name, good customer relations, good employee relations and any patents or proprietary technology.MethodThere argon three rules of valuation of grace of the starchy1. mediocre lucre Method2. exceedingly winnings Method3. Capitalisation Method1. Average internet MethodThis regularity acting of grace valuation takes the average proceeds of previous years as its basis. This average arrive at is figure by the number of obtains made in that year.Goodwill = Aver age Profit x Number of Purchases in the yearBefore calculating the average cabbage the following adjustments should be made in the profits of the firm a. Any ab familiar profits should be deducted from the net profits of that year. b. Any abnormal going should be added back to the net profits of that year. c. nary(prenominal)-operating incomes eg. Income from investments etc should be deducted from the net profits of that year. spokespersonAn Ltd agreed to corrupt the business of B Ltd. For that purpose Goodwill is to be valued at three years purchase of Average net profit of last five years. The profits of B Ltd. for the last five years are category Profit/Loss ($)2005 10,000,0002006 12,250,0002007 7,450,0002008 2,450,000 (Loss)2009 12,400,000Following additional information is available1. In the year 2008 the company suffered a loss of $1,000,500 due to fire in the factory. 2. In the year 2009 the company earned an income from investments extraneous the business $ 4,500,250 .Solution thorough profits earned in the past five years= 10,000,000 + 12,250,000 + 7,450,000 2,450,000 + 12,400,000 = $ 39,650,000 Total Profits after adjustments = $ 39,650,000 + $ 1,000,500 $ 4,500,250=$ 36,150,250 Average Profits= $ 36,150,2505=$ 7,230,050Goodwill = $ 7,230,0503=$ 21,690,150Thus A Ltd would stipend $ 21,690,150 as the price of Goodwill earned by B Ltd.2. tiptop profits method actingSuper profit refers to a situation where in the actual profit is higher than what is expected. Under this method,Goodwill = ace profit x number of years purchaseSteps for calculating Goodwill under this method are given belowi) familiar Profits = Capital Invested X Normal pose of drive out/100ii) Super Profits = Actual Profits Normal Profitsiii) Goodwill = Super Profits x No. of years purchasedFor example, the capital employed as shown by the books of ABC Ltd is $ 50,000,000. And the normal send of return is 10 %. Goodwill is to be calculated on the basis of 3 years purchase of super profits of the last four years.Profits for the last four years areYear Profit/Loss ($)2005 10,000,0002006 12,250,0002007 7,450,0002008 5,400,000Total profits for the last four years = 10,000,000 + 12,250,000 + 7,450,000 +5,400,000 = $35,100,000 Average Profits = 35,100,000 / 4 = $ 8,775,000Normal Profits = 50,000,000 X 10/100 = $ 5,000,000Super Profits = Average/ Actual Profits Normal Profits = 8,775,000 5,000,000 = $ 3,775,000 Goodwill = 3,775,000 3 = $ 11,325,0003. Capitalisation MethodThere are two shipway of calculating Goodwill under this method(i) Capitalisation of Average Profits Method(ii) Capitalisation of Super Profits Method(i) Capitalisation of Average Profits MethodAs per this method,Goodwill = Capitalized Value the firm Net Assets CapitalizedValue of the firm = Average Profit x 100/ Normal Rate of grantNet Assets = Total Assets External LiabilitiesFor example a firm earns $40,000 as its average profits. The normal rate of rteturn is 10%. Total assets of the firm are $1,000,000 and its total external liabilities are $ 500,000. To calculate the amount of gracility Total capitalized value of the firm = 40,000 100/10 = 400,000 Capital Employed = 1,000,000 500,000 = 500,000Goodwill = 500,000 400,000 = 100,000(ii)Capitalisation of Super ProfitsUnder this method, good will is calculated asGoodwill = Super Profit x 100/Normal Rate of ReturnFor example ABC Ltd earns a profit of $ 50,000 by employing a capital of $ 200,000, The normal rate of return of a firm is 20%. To calculate Goodwill Normal Profits = 200,000 20/100 =$ 40,000Super profits = 50,000 40,000 = $10,000Goodwill = 10,000 100 / 20 = $50,000Partial Goodwill MethodIn the partial grace of God method, goodwill is calculated as the difference between the purchase consideration paid and the dealrs get by of the fair value of the net identifiable assets. In partial goodwill method, only the acquirers share of the goodwill is recognized. Goodwill under in full goodwill met hod exceeds goodwill under partial goodwill method by the non-controlling interest share of the goodwill. Partial goodwill method is not allowed under US GAAP but it is allowed as an option under IFRS (besides the full goodwill method). Goodwill under partial goodwill method differs from goodwill under full goodwill method only in situations in which investment by the acquirer is less than 100%.ExampleLets follow the same example that we discussed in full goodwill method. fraternity A acquired 75% shareholding in Company B for $20 million. Book value of net identifiable assets of Company B is $14 million. The fair value of Company Bs asset is the same as their book value except accounts receivables which are impaired by $1 million. Book value of assets is $54 million while book value of liabilities is $40 million.The purchase consideration is the change paid to acquire 75% ownership and it equals $20 million. Fair value of net identifiable assets is $13 million ($54 million book v alue minus $1 million on account if impairment in accounts receivable minus liabilities of $40 million). The acquirers share of the net identifiable assets equals 75% of $13 million which equals $9.75 million. Goodwill is hence $20 million minus $9.75 which equals $10.25 million. Company A will choke the following journal entry to record the business combination.Goodwill $10.25 M Assets $53 M Liabilities $40 MCash $20 MNon-Controlling Interest $3.25 MNon-controlling interest is calculated as 25% of fair value of net identifiable assets. It equals $3.25 ($13 million multiplied by 0.25). It can also be arrived at the balancing figure (goodwill under full goodwill method + assets acquired liabilities assumed cash paid). Total goodwill under full goodwill method was $13.67 and non-controlling interest was $6.67 million. The difference is non-controlling interest in case of partial goodwill is only because in partial goodwill method the non-controlling interest share of goodwill i s not recorded which equals $3.42 million (0.25 of ($26.67 minus $13 million)).Weighted average profit methodThis method of goodwill evaluation can be explained as a modified side of the he average profit method. This method involves the relevant number of weights, i.e. 1, 2, 3, 4 multiples profit of each year so as to find out value product. The total of products is thereafter divided by the total of weights so as to calculate the weighted average profits.Goodwill = Weighted Average Profits x No. of years PurchaseWeighted Average Profit = Total of Products of Profits/ Total of WeightsEXAMPLEThe profit of X Ltd. for the last five years and the corresponding weights are as follows.Calculate the value of goodwill on the basis of 3 years purchase of the weighted average profit.SolutionWeighted Average Profit = Rs. 21, 30,000 15 = Rs. 1, 42,000. Value of Goodwill = 3 years purchase of weighted average profit Rs. 1, 42,000 x 3 = Rs. 4, 26,000