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Question
The following particulars are available in respect of the business carried on by a partnership firm:
- Profits earned: 2016: ₹ 25,000; 2017: ₹ 23,000 and 2018: ₹ 26,000.
- Profit of 2016 includes a non-recurring income of ₹ 2,500.
- Profit of 2017 is reduced by ₹ 3,500 due to stock destroyed by fire.
- The stock was not insured. But, it is decided to insure the stock in the future. The insurance premium is estimated to be ₹ 250 per annum.
You are required to calculate the value of goodwill of the firm on the basis of 2 years purchase of average profits of the last three years.
Solution
Calculation of adjusted profit
| Particulars | 2016 (₹) | 2017 (₹) | 2018 (₹) |
| Profit | 25,000 | 23,000 | 26,000 |
| (−) Non-recurring income | 2,500 | - | - |
| 22,500 | 23,000 | 26000 | |
| (+) Stock destroyed fire | - | 3,500 | - |
| 22,500 | 26,500 | 26,000 | |
| (−) Insurance premium | 250 | 250 | 250 |
| Profit after adjustments | 22,250 | 26,250 | 25,750 |
Total profit = 22,250 + 26,250 + 25,750 = ₹ 74,250
Average profit = `"Total profit"/"Number of years"`
= `(74250)/3`
= ₹ 24,750
Valuation of goodwill = Average profit × No. of year purchase
= ₹ 24,750 × 2
= ₹ 49,500
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