Question

Abhay, Babu, and Charu are partners sharing profits and losses equally. They agree to admit Daman for an equal share of profit. For this purpose, the value of goodwill is to be calculated on the basis of four years' purchase of the average profit of the last five years. These profits for the year ended 31st March were:

Year	2015	2016	2017	2018	2019
Profit/(Loss) (₹)	1,50,000	3,50,000	5,00,000	7,10,000	(5,90,000)

On 1st April 2018, a car costing ₹ 1,00,000 was purchased and debited to Travelling Expenses Account, on which depreciation is to be charged @ 25%. The interest of ₹ 10,000 on Non-trade Investments is a credit to income for the year ended 31st March 2018 and 2019.
Calculate the value of goodwill after adjusting the above.

Answer 1

Normal Profit for the year ended 31st March 2018 :
= (Total Profit + Purchase of Car wrongly debited - Depreciation on Car - Income from non - Trade Investment )
= ₹ ( 7,10,000 + 1,00,000 - 25,000 - 10,000 ) = ₹ 7,75,500.

Normal Profit for the year ended 31st March,2019 :
= (Total Loss +  Income from non - Trade Investment )
= ₹ ( 5,90,000 + 10,000 ) = ₹ 6,00,000.

Average Profits = `"Normal Profit for the year ended 31st March,2015 to 31st March,2019"/5`

Average Profits = `[ 1,50,000 + 3,50,000 + 5,00,000 + 7,75,000 - (6,00,000) ]/5` = Rs. 2,35,000

Goodwill = Average Profits of last three years x No. of Years of Purchase

Goodwill = Rs.( 235,000 x 4 ) = Rs. 9,40,000.