Goodwill - Partnership accounting

GOODWILL

It means the reputation of a firm. It can be earned by a firm through the hard work and honesty of its owners. If the customers feel satisfied with the services of a firm they will come again and again. So we can say that Goodwill is the value of the reputation of a firm in respect of the profits expected in future over and above the normal profits earned by the other similar firms belonging to the same type of industry.

Main features:-

·        It is an intangible asset like patents, trademarks, copy rights etc.

·        It is a valuable asset. It can be purchased or sold with any other asset.

·        It is helpful in earning excess profits.

·        It cannot be sold in part. It can be sold with the entire business only.

·        The value of goodwill may fluctuate from time to time. It does not remain constant.

·        It is difficult to place an exact value of goodwill because it is fluctuating due to changing circumstances of the business.

·        It is not a fictitious asset. It has a value in case of profit making concerns.

 

CATEGORIES OF GOODWILL

There are two main categories of goodwill.

1.     Purchased Goodwill:

·        It arises on purchase of a business. It is acquired by making a payment.

·        It is recorded in the books of accounts because consideration is paid for it.

·        It is shown in the Balance Sheet in Assets side.

·        It can be amortized i.e. depreciated over its useful life.

·        It can be calculated by the excess of purchase consideration over its net assets on the time of purchase of a business.

 

2.     Self-Generated or Inherent Goodwill:

·        It is internally generated over a long period of time.

·        It arises from attributes of an on-going business.

·        Its valuation depends upon the judgement of the valuer.

·        It is not recorded in the books of accounts as per AS-26.

Factors affecting the value of Goodwill: Many factors are there which can be affect the value of a firm’s goodwill. Main are:

·        Location of the Business

·        Management’s efficiency

·        Nature of goods dealt by business firm

·        Possession of import-export licence

·        Longevity of the business i.e. how old your business is?

·        Risk involved in the business

·        Monopolististic & other special rights such as patents, trademarks, copyrights, concessions etc.

·        Increasing trend of profits

·        Possibility of increased future competition

·        Good industrial relations

·        Amount of capital required for the business

·        Favourable Government regulations

·        Research and Development efforts by the firm

·        Effective advertising to establish brand popularity

·        Stable political conditions of the country

·        Popularity of product in terms of quality

Need for valuation of Goodwill:- In partnership, need for valuing the goodwill arises:-

·        When there is a change in the profit sharing ratio among the existing partners;

·        When the firm is sold;

·        When a partner retires or dies;

·        When a new partner is admitted;

·        When the firm is amalgamated with another firm.