Question

A firm's average profits are Rs 70,000. It includes an abnormal profit of Rs 5,000. Capital invested in the business is Rs 5,50,000 and the normal rate of return is 10%. Calculate goodwill at four times the super profit.

Answer 1

(i)Calculation of Actual Average Profit:

$\begin{array}{cc}\text{Average Profit}& 70,000\\ \text{Less: Abnormal Profit}& 5,000\\ \text{Actual Average Profit:}& \underset{–}{\overline{65,000}}\end{array}$

(ii) Normal Profits=Capital Invested $\times \frac{\text{Normal Rate of Return}}{100}$

$=5,50,000\times \frac{10}{100}=Rs55,000$

(iii)Super Profit = Actual Average Profit -Normal Profit

=65,000 -55,000 =Rs 10,000

(iv) Goodwill = Super Profit $\times$ Number of years purchased

$=Rs10,000\times 4=Rs40,000.$