A partnership firm earned net profits during the last five years as fo

1.	A partnership firm earned net profits during the last five years as follows:1st year Rs 45,0002nd year Rs 50,0003rd year Rs 55,0004th year Rs 70,0005th year Rs 80,000The capital investment of the firm is Rs 5,00,000. A fair return on the capital having regard to the risk involved is 8%. Calculate the value of goodwill on the basis of 3 years purchase of average super profits earned during the above mentioned period.
Answer» Actual Average Profit of 5 years \(= \frac { Rs. \,45,000 + Rs. \,50,000 + Rs. \,55,000 + Rs. \,70,000 + Rs. \,80,000 }{ 5 }\) \(= \frac { Rs.\ 3,00,000 }{ 5 }\)= Rs 60,000 Normal Profit = Rs 5,00,000 x \(\frac{8}{10}\) = Rs 40,000 Super Profit = Rs 60,000 – Rs 40,000 = Rs 20,000 Goodwill = Super Profit x No. of Years Purchase = Rs 20,000 x 3 = Rs 60,000 (1)Capitalization Method: Under this method, goodwill can be calculated in two ways : (i) By capitalizing the average profit (ii) By capitalizing the super profit (2) Capitalizing the Average Profit Method: Under this method, first of all we calculate the average profit and then we assess the capital needed for earning such average profit on the basis of normal rate of return. Such capital is also called Capitalized Value of Average Profit. It is calculated as under. Capitalized Value of Average Profit = Average Profit x \(\frac {\textit{100}}{\textit{Normal Rate of Return}} \) Goodwill = Capitalized Value of Profit – Capital Employed

A partnership firm earned net profits during the last five years as follows:1st year Rs 45,0002nd year Rs 50,0003rd year Rs 55,0004th year Rs 70,0005th year Rs 80,000The capital investment of the firm is Rs 5,00,000. A fair return on the capital having regard to the risk involved is 8%. Calculate the value of goodwill on the basis of 3 years purchase of average super profits earned during the above mentioned period.

Answer»

Actual Average Profit of 5 years

\(= \frac { Rs. \,45,000 + Rs. \,50,000 + Rs. \,55,000 + Rs. \,70,000 + Rs. \,80,000 }{ 5 }\)
\(= \frac { Rs.\ 3,00,000 }{ 5 }\)= Rs 60,000
Normal Profit = Rs 5,00,000 x \(\frac{8}{10}\) = Rs 40,000
Super Profit = Rs 60,000 – Rs 40,000 = Rs 20,000
Goodwill = Super Profit x No. of Years Purchase
= Rs 20,000 x 3 = Rs 60,000

(1)Capitalization Method:
Under this method, goodwill can be calculated in two ways :
(i) By capitalizing the average profit
(ii) By capitalizing the super profit
(2) Capitalizing the Average Profit Method: Under this method, first of all we calculate the average profit and then we assess the capital needed for earning such average profit on the basis of normal rate of return. Such capital is also called Capitalized Value of Average Profit. It is calculated as under.

Capitalized Value of Average Profit

= Average Profit x \(\frac {\textit{100}}{\textit{Normal Rate of Return}} \)

Goodwill = Capitalized Value of Profit – Capital Employed

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