O Level Notes : Accounts - Goodwill of sole traders
Goodwill is the money a buyer pays more than your net assets when he buys your successfully running business in order to benefit from your customer base which already is well established.
Purchased goodwill = total price – price of net assets
Now the question rises, why would anyone pay goodwill rather than opening up his/her new business??
Well the answer is quite simple, consider the following points for purchasing a business rather than opening up a new one:
- Regular pre- existing customer base.
- Good reputation of business
- Has experienced employees
- Business is situated in suitable location
- Business has good suppliers.
- Business has a well known brand name – is famous.
There are many ways to determine the goodwill one has to pay while purchasing a business, some of them are listed below:
For retail business: weekly sales are taken into account.
For public sector annual fee is taken into account.
For a trading business average annual net profit is taken into account.
SUPER PROFIT METHOD
Net profit XXXX
Less remuneration the propreiter would have earned elsewhere. XXXX
Less interests if he would have invested the capital elsewhere. XXXX
GOODWILL YYYY
Goodwill is only entered in the books of sole traders if the business has been puchased. Partners share goodwill in the same ratio as they share profit/loss. Goodwill is added or deducted from the capital account.
A little complication rises when a new partner joins a partnership, how to calculate and adjust the goodwill. The easiest method is by making the following table :
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Name |
Old ratio |
$ |
Name |
New ratio |
$ |
Gain / loss |
Adjustment in capital acc |
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