Q.Firm's Capital in a business is ₹2,00,000. The normal rate of return on firm's capital is 15%. During the year 2015 the firm earned a profit of ₹48,000. Calculate goodwill on the basis of 3 years purchase of super profit?

The Super Profit Method: From Everyday Intuition to Exam-Ready Knowledge

Think about two shops in your neighbourhood. One is an old, trusted general store that has been running for 20 years. The other is a brand-new supermarket that opened last month. Both sell groceries. Both have the same amount of money invested (say, ₹10 lakh each). But the old store earns ₹2 lakh profit every year, while the new one earns only ₹1.5 lakh.

Why the difference? The old store has loyal customers, a prime location, a good reputation, and experienced staff. These are intangible assets — not physical like a building or machinery, but valuable nonetheless. In accounting, we call this extra earning power Goodwill.

The Super Profit Method is one way to calculate the value of this Goodwill. It answers the question: How much extra profit does the business earn compared to what a normal business with the same investment would earn?

What Exactly is "Super Profit"?

Let's break it down step by step.

Normal Profit is the profit that an average business in the same industry would earn on its capital employed. For example, if the normal rate of return in the grocery business is 15%, then on a capital of ₹10 lakh, the normal profit would be:

Normal Profit = Capital Employed × Normal Rate of Return

= ₹10,00,000 × 15/100 = ₹1,50,000

Actual Profit is what the business actually earns. In our old store's case, it's ₹2,00,000.

Super Profit is the difference:

Super Profit = Actual Profit − Normal Profit

= ₹2,00,000 − ₹1,50,000 = ₹50,000

This ₹50,000 is the extra profit the business earns because of its goodwill. The Super Profit Method values goodwill as a multiple of this super profit.

Why Does This Method Matter?

In Class 12, you encounter this method in two main situations:

1. When a new partner is admitted into a firm. The existing partners have built the goodwill over time. The new partner must compensate them for it.
2. When a partner retires or dies. The outgoing partner is entitled to their share of the firm's goodwill.

The Super Profit Method is preferred when the firm's profits are stable and predictable. It's more objective than the Average Profit Method because it explicitly accounts for what a "normal" business would earn.

The Accounting Treatment: Which Account is Debited and Credited?

When a new partner brings in their share of goodwill (in cash), the journal entry is:

Then, the goodwill amount is distributed among the old partners in their sacrificing ratio (the ratio in which they have given up their share of profit):

The Proforma: Partners' Capital Account

When goodwill is adjusted through capital accounts (without bringing cash), the format in your NCERT textbook looks like this:

Partners' Capital Accounts