In case of Admission:
Given a balance sheet as at 31 Dec 2007. The new partner was admitted on 1 Jan 2007.
Goodwill was agreed at 2 years purchase and was to be valued in accordance to the weighted average gross profit method for the previous four years starting from last year.
Gross Profits:
Year 2003 - 3,000,000 Weight - 1
Year 2004 - 1,800,000 Weight - 2
Year 2005 - 5,200,000 Weight - 3
Year 2006 - 6,300,000 Weight - 3
Year 2007 - 6,000,000 Weight - 2
Expenses:
2003 - 500,000
2004 - 800,000
2005 - 700,000
2006 - 800,000
2007 - 1,000,000
Req- Ascertain the amount of goodwill.
Note: Take care of admission date, balance sheet date and expenses...
To calculate the amount of goodwill, we need to follow these steps:
Step 1: Calculate the weighted average gross profit for the previous four years starting from the last year.
To do this, we assign weights to each year's gross profit based on the number of years between the admission date (1 Jan 2007) and the respective year. The formula to calculate weighted average is:
Weighted Average Gross Profit = (Gross Profit for a Year × Weight) / Total Weight
Let's calculate the weighted average gross profit for each year:
For Year 2004:
Weighted Average Gross Profit for Year 2004 = (1,800,000 × 2) / (2 + 3 + 2)
= 3,600,000 / 7
= 514,285.71
For Year 2005:
Weighted Average Gross Profit for Year 2005 = (5,200,000 × 3) / (2 + 3 + 2)
= 15,600,000 / 7
= 2,228,571.43
For Year 2006:
Weighted Average Gross Profit for Year 2006 = (6,300,000 × 3) / (2 + 3 + 2)
= 18,900,000 / 7
= 2,700,000
For Year 2007:
Weighted Average Gross Profit for Year 2007 = (6,000,000 × 2) / (2 + 3 + 2)
= 12,000,000 / 7
= 1,714,285.71
Step 2: Calculate the average weighted average gross profit.
To find the average weighted average gross profit, we add up the weighted average gross profit for each year and divide it by the number of years. In this case, we have four years.
Average Weighted Average Gross Profit = (Weighted Average Gross Profit for 2004 + Weighted Average Gross Profit for 2005 + Weighted Average Gross Profit for 2006 + Weighted Average Gross Profit for 2007) / 4
= (514,285.71 + 2,228,571.43 + 2,700,000 + 1,714,285.71) / 4
= 7,157,142.85 / 4
= 1,789,285.71
Step 3: Calculate the Goodwill amount.
Goodwill is agreed at 2 years' purchase of the average weighted average gross profit.
Goodwill = 2 × Average Weighted Average Gross Profit
= 2 × 1,789,285.71
= 3,578,571.42
Therefore, the amount of goodwill is 3,578,571.42.