Goodwill

What is Goodwill?

Goodwill is an intangible asset associated with the purchase of 1 company by another. Notably, goodwill is maintained in a situation where the purchase cost price is more than the sum total of the fair value of all distinguishable tangible and intangible assets bought in the possession and the liabilities presumed in the procedure. The value of an enterprise’s brand name, solid consumer base, good consumer associations, good employee associations and any patents or proprietary technology represent some instances of goodwill.

(A) MEANING OF GOODWILL

  • Goodwill is the reputation of a firm which enables it to earn higher profits in comparison to the normal profits earned by other firms in the same business.
  • Goodwill is the benefit and advantage of good name, reputation and connections of business.
  • It is the attractive force which brings in customers.
  • According to Lord Elton, “Goodwill is nothing more than the probability that the old customers will resort to the old place.”

(B) NATURE OF GOODWILL

  • Goodwill is the intangible asset which does not have a physical existence. It is not a fictitious asset. It can be sold with the sale of the business itself.

(C) FACTORS AFFECTING GOODWILL

(1) LOCATION

  • The better location will attract more customers resulting in an increase in sales and profits which in turn, will result in an increase in the value of goodwill.

(2) QUALITY OF PRODUCT

  • Better quality of product will increase the sales and profits which will increase the value of goodwill.

(3) EFFICIENCY OF MANAGEMENT

  • Efficient management enables the firm to earn higher profits, which will increase the value of goodwill.

(4)SPECIAL ADVANTAGES

  • If a firm enjoys special advantages like patents, trademarks, brand image, or any other exclusive benefit,then the firm enjoys a higher value of goodwill.

(5) ACCESS TO SUPPLIES (RAW MATERIAL ETC.)

  • If a firm has better access to supplies or assured supply of inputs then it enjoys a better reputation than others and a higher goodwill.

(6) OTHERS

  • After sales service, Research & Development, Effectiveness of Advertisement etc. also

Causes affecting the value of Goodwill

The vital factors influencing the value of goodwill are as follows :

  • Character of business: An enterprise that manufactures high value-added goods or possessing a solid demand is capable to earn more gains and hence has more goodwill

  • Location: If the trade is centrally situated or is at a place possessing heavy consumer traffic, the goodwill tends to be more

  • Efficiency of management: A well-handled interest normally enjoys the merit of more cost efficiency and productivity. This leads to more gains and hence, the value of goodwill will also be more

  • Market condition: The monopoly situation or limited competition facilitates the concern to earn more gains which leads to the more value of goodwill

  • Advantages: The enterprise that enjoys exceptional merits like low rate and assured supply of electricity, import licenses, well-known collaborators, long-term contracts for supply of materials, trademarks, patents, etc.certainly enjoy more value of goodwill.

Need for Valuation of Goodwill

  • The difference in the profit sharing ratio (PSR) amongst the existing partners
  • Admission of a new partner
  • Retirement of a partner
  • Death of a partner
  • Dissolution of an enterprise involving the sale of the business as a trading concern
  • Consolidation of partnership firms

Methods of Valuation of Goodwill

The significant methodologies of valuation of goodwill are mentioned :

  • Average Profits Method
  • Super Profits Method
  • Capitalisation Method

The above mentioned is the concept that is explained in detail about Goodwill for the class 12 Commerce students. To know more, stay tuned to BYJU’S.

1 MARK QUESTION

Q.1- DEFINE GOODWILL.

ANS: Goodwill is the reputation of a firm which enables it to earn higher profits in comparison to the normal profits earned by other firms in the same business.

Q.2- WHY IS ‘GOODWILL’ CONSIDERED AN ‘INTANGIBLE ASSET’ BUT NOT A ‘FICTITIOUS ASSET’?

ANS: Goodwill is considered an intangible asset as it cannot be seen or touched. However, it is not a fictitious asset as it can be sold for money or money’s worth.

Q.3- STATE ANY CIRCUMSTANCE WHEN THERE IS A NEED TO REVALUE GOODWILL OTHER THAN RECONSTITUTION DUE TO ADMISSION, RETIREMENT & DEATH OF A PARTNER.

ANS: On Sale of business to a company

Q.4- MENTION TWO CHARACTERISTICS OF GOODWILL.

ANS:

(i) Goodwill is an intangible asset and not a fictitious asset.

(ii) Goodwill enables to earn a super profit.

Q.5- NAME ANY TWO FACTORS AFFECTING GOODWILL OF A PARTNERSHIP FIRM.

ANS:

(i) Favorable Location of the Business.

(ii) The efficiency of Management.

Q.6- NAME ANY TWO METHODS OF VALUATION OF GOODWILL

ANS:

(i) Average Profit Method

(ii) Super Profit Method

Q.7- HOW DOES THE FACTOR ‘LOCATION’ AFFECT THE GOODWILL OF A FIRM?

ANS: The better location will attract more customers resulting in an increase in sales and profits which in turn, will result in an increase in the value of goodwill.

Q.8- HOW DOES THE FACTOR ‘EFFICIENCY OF MANAGEMENT’ EFFECT THE GOODWILL OF A FIRM?

ANS: Efficient management enables the firm to earn higher profits, which will increase the value of goodwill.

Q.9- HOW DOES THE FACTOR ‘QUALITY OF PRODUCT’ AFFECT THE GOODWILL OF A FIRM?

ANS: Better quality of product will increase the sales and profits which will increase the value of goodwill.

Q.10- HOW DOES ACCESS TO SUPPLY AFFECT THE VALUE OF GOODWILL OF A FIRM?

ANS: A firm which has better access to supply or supply of raw material and other inputs surely enjoys more goodwill than its competitors.

Q.11- HOW DOES NATURE OF BUSINESS AFFECT THE VALUE OF GOODWILL OF A FIRM?

ANS: The firm that produces high value-added products or has stable demand will be able to earn more profit and enjoy goodwill.

Q.12- WHAT IS THE NATURE OF GOODWILL?

ANS: Goodwill is the intangible asset which does not have a physical existence. It is not a fictitious asset. It can be sold with the sale of the business itself.

MULTIPLE CHOICE QUESTIONS

Q.1-Goodwill is a ________asset which cannot be seen or touched.

a. Liability.

b. Current asset.

c. Intangible.

d. None of the above.

Q.2- Goodwill is shown in:

a. P & L Appropriation A/c

b. Balance sheet.

c. Profit and Loss A/c…

d. None of the above.

Q.3- In which side, the goodwill is shown in the balance sheet.

a. Asset side under Fixed Assets

b. Assets side under current assets.

c. Intangible Fixed Assets

d. Both (a)&(c)

ANSWER KEY

1-c, 2-b, 3-d.