Question

Kumar, Gupta and Kavita were partners in the firm sharing profits and losses equally. The firm was engaged in the storage and distribution of canned juice and its godowns were located at three different places in the city. Each godown was being managed individually by Kumar, Gupta and Kavita. Because of increase in business activities at the godown managed by Gupta, he had devoted more time. Gupta demanded that his share in the profits of the firm be increased, to which Kumar and Kavita agreed. The new profit sharing ratio was agreed to be 1: 2: 1. For this purpose, the goodwill of the firm was valued at two years purchase of the average profits of last five years. The profits of the last five years were as follows :

	Years	Profit Rs
I		4,00,000
II		4,80,000
II		7,33,000
IV	Loss	33,000
V		2,20,000

You are required to:

1) Calculate the goodwill of the firm

2) Pass necessary Journal Entry for the treatment of goodwill on the change in profit sharing ratio of Kumar, Gupta and Kavita.

Answer 1

Journal
Date	Particulars	L.F	Dr. Rs	Cr. Rs
	Gupta’s Capital A/c     Dr.    To Kumar’s Capital A/c    To Kavita’s Capital A/c (Being goodwill adjusted at the time of change in profit sharing ratio)		1,20,000	60,000 60,000

Working Note:

WN 1 Calculation of Gaining Ratio

Old Ratio = 1:1:1

New Ratio = 1:2:1

Gaining Ratio = New Ratio – Old Ratio

Kumar = `1/4 - 1/3 = (3-4)/12 = -1/12` (sacrifice)

Gupta = `2/4- 1/3 = (6-4)/12 = 2/12`  (Gain)

Kavita = `1/4 - 1/3 = (3-4)/12 = -1/12` (sacrifice)

Only Gupta is gaining, Kumar and Kavita are sacrificing in the ratio of 1:1.

WN2 Calculation of Goodwill of the firm

Average Profit = `" Sum of years of profit"/"Number of years"`

= `(4,00,000 + 4,80,000 + 7,33,000 - 33,000 +  2,20,000)/5`

`= 1800000/5 = 360000`

Goodwill is calculated on the basis of two years purchase of last 5 years average profit

Goodwill = 2 x Average Profit

= 2 x 3,60,000 = 7,20,000

Amount of goodwill to be adjusted = `720000 xx 1/12 = 60000`