Page 252 - DCOM205_ACCOUNTING_FOR_COMPANIES_II

Unit 11: Valuation of Goodwill

Solution notes

Calculation of Average Profits
`
2011 Profit 1,00,000
2012 Profit 1,50,000
2,50,000

Less: Loss 2010 34,000
Total Profits of 3 years 2,16,000

Average Profits = 2,16,000 = 72,000
3
Less: Partners remuneration = 12,000
1. Actual average profit 60,000
Average Capital Employed × Normal Rate of Return
2. Normal profits =
100
×
= 4,00,000 10 = ` 40,000
100
3. Super Profit = Actual Average Profit – Normal Profit
= ` 60,000 – ` 40,000
= ` 20,000

4. Goodwill = Super Profit × No. of years’ Purchase
= ` 20,000 × 2
= ` 40,000
Illustration 5
The average net profit is (before adjustment) ` 3,10,000. It includes ` 3,000 as income on
non-trading investment, the cost of which is ` 75,000. Expenses amounting to ` 4,500 p.a. are likely
to be discontinued in future. The burden of annual taxation is 50% and fair return is considered to
be 8%. The average capital employed (including investments) is ` 19,75,000. Calculate the value
of goodwill on the basis of 5 years’ purchase of super profit.

Solution
`
Average Annual Profit 3,10,000
Add: Expenses likely to be discontinued 4,500
3,14,500
Less: Non-trading income 3,000

3,11,500
Less: 50% Provision for Tax 1,55,750
1. Average Future Maintainable Profits 1,55,750

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