Average/Weighted Average Profit Method(practice paper)

 Topic : Average/Weighted Average Profit Method

1. Define Goodwill [1]

2. List any four factors affecting goodwill. [1]

3. How does the factor ‘Quality of Products’ affect the goodwill of a firm? [1]

4. How does the factor ‘Location’ affect the goodwill of a firm? [1]

5. How does the factor ‘Efficiency of Management’ affect the goodwill of a firm? [1]

6. How does the market situation affect the value of goodwill of a firm? [1]

7. How does the nature of business affect the value of goodwill of a firm? [1]

8. Describe the need for valuation of goodwill. [3]

9. The profit for the last five years of a firm were as follows:

Year 2010 Rs.4,00,000; Year 2011 Rs.3,98,000; Year 2012 Rs.4,50,000;

Year 2013 Rs.4,45,000 and Year 2014 Rs.5,00,000.

Calculate goodwill of the firm on the basis of 4 years purchase of 5 years average profits.        (3)

10. Compute the value of goodwill on the basis of four years purchases of the average

profits based on the last five years.

Year                                                                                   Amount

2010                                                                                   90,000

2011                                                                                 (40,000) Loss

2012                                                                                   80,000

2013                                                                                   70,000

2014                                                                                     60,000                              (3)

11. The following were the profits of a firm for the last three years. Years ending Profit

2012 4,00,000 (Including an abnormal gain of Rs.50,000)

2013 5,00,000 (after charging an abnormal loss of Rs.1,00,000)

2014 4,50,000 (excluding Rs.50,000 payable on the insurance of plant and machinery)

Calculate the value of goodwill on the basis of two years purchase of the average profits for the last three years.

12. The following were the profit of a business firm:

2012 Rs.60,000 (including an abnormal gain Rs.15,000)

2013 Rs.1,20,000 (after charging an abnormal loss Rs.30,000)

2014 Rs.1,26,000 (excluding Rs.6,000 as insurance premium of property now to be insured)

Calculate firm’s goodwill at two year’s purchase of the average profit of the last three years.   (4)

                                                                       

                                                                        Challenge : 1

The profits of a firm for the year ended 31st March for the last five years were as follows:

Year                                                                                         Amount

2010                                                                                         20,000

2011                                                                                         24,000

2012                                                                                         30,000

2013                                                                                         25,000

2014                                                                                         18,000

Calculate the value of goodwill on the basis of three years purchase of weighted average profits after

weights 1,2,3,4 and 5 respectively tot he profits for 2010, 2011, 2012, 2013 and 2014.

                                    

                          

                                                                 Challenge : 2

Calculate the value of goodwill of a firm at 3 years purchase of the weighted average profits of

the last four years. Weights to be used are 2006 : 1 ; 2007 : 2 ; 2008 : 3 ; 2009 : 4. The profit

for these years are 2006 : Rs.20200 ; 2007 : Rs.24,800 ; 2008 : Rs.20,000 and 2009 : Rs.30,000.

i) On 1 September 2008 , a major repair was made in respect of the plant incurring

Rs.6,000 which amount was charged to revenue. The paid sum is agreed to be

capitalized for goodwill calculation subject to adjustment of depreciation of 10% p.a.

on reducing balance method.

ii) Closing stock for the year 2007 was over valued by Rs.2,400.

iii) To cover the management cost an annual charge of Rs.4,800 should be made for the

purpose of goodwill valuation.

Calculate the value of Goodwill.

                                                               

                                                                          ANSWERS

1. Goodwill can be defined as the present value of a firm’s anticipated excess earnings or as the

capitalized value attached to the differential profit capacity of a business. Thus, goodwill exists

only when the firm earns profits.

2. (a) Nature of Business (b) Location (c) Efficiency of Management (d) Market Situation

3. Customers get more satisfaction when a business firm provides quality goods which leads to

higher profits and leads to value of higher goodwill.

4. Location plays important role in increasing the sales and enhances better business which leads to

higher profits and higher value of goodwill.

5. Efficiency of management plays important role in high productivity and cost efficiency. This

leads to higher profit and higher value of goodwill.

6. The monopoly condition or limited competition enables the concern to earn high profits which

leads to higher value of goodwill.

7. A firm that produces high value added products or having a stable demand is able to earn more

profits and therefore has more goodwill.

8. (a) When there is change in profit sharing ratio amongst the existing partners

(b) When a new partner is admitted

(c) When a partner retires

(d) When a partner dies

(c) When business is sold as a running unit

9. Average Profit Rs.4,38,600 and Goodwill Rs.17,54,400

10. Average Profits Rs.52,000; Goodwill Rs.2,08,000

11. Average Profit Rs.4,50,000 and Goodwill Rs.9,00,000

12. Average Profit Rs.1,05,000 and Goodwill Rs.2,10,000

Challenge-1 : Weighted Average Profit Rs.23,200 and Goodwill Rs.69,600.

Challenge-2 : Weighted Average Profit Rs.21,928 and Goodwill Rs.65,784.