Partnership Goodwill Notes2 Study Material & Notes for the Chapter 2 Partnership - Goodwill II. METHODS OF VALUATION OF GOODWILL A. Simple Average Profit Goodwill = Simple Average Profit X Number of years purchased Where:Simple Average profit = Simple Average of pure profit of last few years Computation of Pure ProfitsProfit or Loss of past year (before adjustments)Add:Abnormal losses (e.g., loss by fire, theft etc.)Loss on sale of fixed assetsOvervaluation of Opening stock or Undervaluation of Closing StockNon-recurring expensesAssets treated as expense less depreciationLess:Abnormal gainsProfit on sale of fixed assetsOvervaluation of Closing stock or Undervaluation of Opening StockNon-recurring incomesExpenses treated as assets less depreciationPartners Salary Number of years purchased = For how many years firm will earn same profits (this is given in the question) B. Weighted Average Profit Goodwill = Weighted Average Profit X Number of years purchased Where:Weighted Average profit = Weighted Average of pure profit of last few years Weights for each year Profit is given in the questionPure Profit is multiplied by weight of respective year and ‘Product’ is obtainedWeighted Average Profit = Total Product / Total WeightsNumber of years purchased = For how many years firm will earn same profits (this is given in the question) C. Super Profit Method Goodwill = Super Profit X Number of years purchased Where:Super Profit = Average Profit – Normal profitAverage profit = Simple Average of pure profit of last few years Normal Profit = Normal Profit is the Profit earned by similar firms in similar businesses and can be computed with the formula Average Capital Employed X Normal Rate of ReturnAverage Capital Employed =(Capital Employed at beginning of year + Capital Employed at end of year) / 2Normal Rate of Return = Rate of return earned by the similar firms in the market. This rate is already given in the questionNumber of years purchased = For how many years firm will earn same profits (this is given in the question)Computation of Capital EmployedLiabilities Side ApproachCapitalAdd: ReservesLess: Non-trade InvestmentsGoodwillAdvertisement SuspenseAssets Side ApproachAll Assets (excluding goodwill, fictitious assets, Non-trade Investments)Less:Outside Liabilities D. Capitalization of Super Profit Method Goodwill = Super Profit X Where:Super Profit = Average Profit – Normal profitAverage profit = Simple Average of pure profit of last few years Normal Profit = Profit earned by similar firms in similar businesses and can be computed with the formula: Average Capital Employed X Normal Rate of ReturnNormal Rate of Return = Rate of return earned by the similar firms in the market. This rate is already given in the question E. Capitalization of Average Profits Goodwill Employed = Average Profits X – Net Assets or Average Capital As per the profit earned by firm, how much capital is required for the same (using normal rate)How much Capital Firm has put in the business (Capital Employed)If the Firm is able to earn more profits even by putting lesser capital, it is because of Firm’s GoodwillWhere:Average Profits = Simple Average of pure profit of last few years Normal Rate of Return = Rate of return earned by the similar firms in the market. This rate is already given in the question Average Capital Employed =