Question

A Partnership firm earned net profits during the last three years as follows:

Years	Net Profit (₹)
2021-22	1,90,000
2022-23	2,20,000
2023-24	2,50,000

The capital employed in the firm throughout the above mentioned period has been ₹ 4,00,000. Having regard to the risk involved, 15% is considered to be a fair return on the capital. The remuneration of all the partners during this period is estimated to be ₹ 1,00,000 per annum.

Calculate the value of goodwill on the basis of

1. two year’s purchase of super profits earned on average basis during the above mentioned three years.
2. by capitalisation of average profits method.

Answer 1

Given:

Capital Employed = ₹ 4,00,000

Normal Rate of Return (NRR) = 15%

Partners’ Remuneration = ₹ 1,00,000 per year

Average Profit (before remuneration adjustment):

Average Profit = `(1,90,000 + 2,20,000 + 2,50,000)/3`

= `(6,60,000)/3`

= ₹ 2,20,000

Adjusted Average Profit = Average Profit − Partners’ Remuneration

= 2,20,000 − 1,00,000

= ₹ 1,20,000

Normal Profit = Capital Employed `xx "NRR"/100`

= `4,00,000xx15/100`

= ₹ 60,000

Super Profit = Adjusted Average Profit − Normal Profit

= 1,20,000 − 60,000

= ₹ 60,000

i. Goodwill = 2 years’ purchase of Super Profits

= 60,000 × 2

= ₹ 1,20,000

ii. Goodwill = Capitalisation of Average Profits Method

Capitalised Value = `"Adjusted Average Profit" xx 100/ "NRR"`

= `1,20,000 xx 100/15`

= ₹ 8,00,000

Goodwill = Capitalised Value − Capital Employed

= 8,00,000 − 4,00,000

= ₹ 4,00,000