Question

A firm earned average profit during the last few years is 40,000 and the normal
rate of return in similar business is 10%. The total assets is 3,60,000 and outside
liabilities is 50,000. Calculate the value of goodwill with the help of Capitalisation
of Average profit method.​

Answer 1

(i) Capitalisation of Super Profit Method

Step 1: Calculation of Capital Employed:

Capital Employed = Assets - External Liabilities

= 4000000 -720000 = 3280000

Step 2: Calculation of Normal Profit:

Normal Profit = 3280000 × [10/100] = 328000

Step 3: Calculation of Average Profit:

Average Profit = 400000

Step 4: Calculation of Super Profit:

Super Profit = 400000 - 328000 = 72000

Step 5: Calculation of Goodwill:

Goodwill = Super Profit × [100/Normal Rate Of Return]

= 72000 × [100/10] = 720000

(ii) Super Profit Method

Step 1: Calculation of Capital Employed:

Capital Employed = Assets - External Liabilities

= 4000000 - 720000 = 3280000

Step 3: Calculation of Average Profit:

Average Profit = 400000

Step 4: Calculation of Super Profit:

Super Profit = 400000-328000 = 72000

Step 5: Calculation of Goodwill:

Goodwill = Super Profit × Number of years' of purchase

= 72000 × 3 = 216000.

Answer 2

ANSWER :

• ❖ If a firm earned average profit during the last few years is Rs. 40,000 and the normal rate of return in similar business is 10% and the total assets is Rs. 3,60,000 and outside liabilities is Rs. 50,000; then the Value of Goodwill under Capitalisation of Average Profit Method is Rs. 90,000.

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SOLUTION :

❒ Given :-

• The firm earned average profit during the last few years is Rs. 40,000.

• The normal rate of return in similar business is 10%.

• The total assets is Rs. 3,60,000 and outside liabilities is Rs. 50,000.

❒ To Calculate :-

• Value of goodwill with the help of Capitalisation of Average profit method = ?

❒ Steps :-

• ✎ Ascertain the average profit (no need to ascertain if it is directly given in the question).

• ✎ Ascertain the total value of the business which is the capitalized value of average profit.

• ✎ Ascertain the value of net tangible assets or net capital employeed.

• ✎ Ascertain the goodwill of the firm.

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❒ Calculation :-

• ❍ Ascertainment of the total value of the business :

It is given that,

• Average Profit = Rs. 40,000.

• Normal Rate of Return = 10%

We know that,

• $\dag \: \: \underline{ \boxed{\rm{ \: Capitalized \: Value \: \: of \: \: Average \: \: Profit = \dfrac{Average \: \: Profit \times 100}{Normal \: \: Rate \: \: of \: \: Return }}}}$

Using this formula,

• $\bigstar \: \: \sf{ \: Capitalized \: Value \: \: of \: \: Average \: \: Profit = \dfrac{Average \: \: Profit \times 100}{Normal \: \: Rate \: \: of \: \: Return }}$

⇒ Capitalized Value of Average Profit = $\sf{\dfrac{Rs. \: 40,000 \times 100}{10}}$

⇒ Capitalized Value of Average Profit = Rs. 4,00,000.

• ✠ Capitalized Value of Average Profit is the Total value of the business.

∴ Total Value of the Business = Rs. 4,00,000.

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• ❍ Ascertainment of Net Tangible Assets :

It is given that,

• Total assets = Rs. 3,60,000

• Outside liabilities = Rs. 50,000.

We know that,

• $\dag \: \: \underline{ \boxed{ \rm{Net \: \: Capital \: \: Employed = Total \: (Tangible) \: Assets - Outside \: (External) \: Liabilities}}}$

Using this formula,

• ★ Net Capital Employed = Total (Tangible) Assets - Outside (External) Liabilities

⇒ Net Capital Employed = Rs. 3,60,000 - Rs. 50,000

⇒ Net Capital Employed = Rs. 3,10,000

• ✠ Net Capital Employed is the value of Net Tangible Assets

∴ Net Tangible Assets = Rs. 3,10,000.

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• ❍ Ascertainment of Value of Goodwill :

We have got that,

• Total Value of the Business = Rs. 4,00,000

• Net Tangible Assets = Rs. 3,10,000

We know that,

• $\dag \: \: \underline{ \boxed{ \bold{Value \: \: of \: \: Goodwill = Total \: \: Value \: \: of \: \: the \: \: Business - Net \: \: Tangible \: \: Assets }}}$

Substituting the values in the formula, we get,

• ✪ Value of Goodwill = Total Value of the Business - Net Tangible Assets

➨ Value of Goodwill = Rs. 4,00,000 - Rs. 3,10,000

∴ Value of Goodwill = Rs. 90,000

• Hence, the Value of Goodwill of the firm under capitalization method of average profit is Rs. 90,000.