Under which method is the goodwill valued at agreed number of years' purchase of the average profits of the past few years?
Under which method is the goodwill valued at agreed number of years' purchase of the average profits of the past few years?
Solution
Under the Average Profits Method, goodwill is calculated by multiplying the average profits of past few years with an agreed number of years' purchase.
The formula is:
Goodwill = Average Profits × Number of Years' Purchase
Where:
- Average Profits = Total of past few years' profits ÷ Number of years
- Number of Years' Purchase = Agreed multiplier (like 2 years, 3 years, etc.)
Example: If average profits are ₹50,000 and the agreed years' purchase is 3 years, then:
Goodwill = ₹50,000 × 3 = ₹1,50,000
The other options work differently:
Super Profits Method uses super profits (Average Profits - Normal Profits) multiplied by number of years, not just average profits.
Capitalisation Method capitalises either average profits or super profits at a normal rate of return to find goodwill, rather than using years' purchase concept.
Value-addition Method is not a standard method for goodwill valuation in partnership accounts.
Since the question specifically mentions "agreed number of years' purchase of average profits," it directly refers to the Average Profits Method.
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