Q.The profits of a firm for the last five years were: 2019 – ₹40,000; 2020 – ₹50,000; 2021 – ₹45,000; 2022 – ₹60,000; 2023 – ₹55,000. Calculate the value of goodwill at 3 years' purchase of the average profit.

None of these profits contains any abnormal item, so the average profit can be calculated directly from the figures given, and goodwill is simply that average multiplied by the agreed number of years' purchase.

Total profit = 40,000 + 50,000 + 45,000 + 60,000 + 55,000 = ₹2,50,000. Average Profit = 2,50,000 ÷ 5 = ₹50,000. Goodwill = 50,000 × 3 = ₹1,50,000.

Step 1 — Total the profits of the five years:

Step 2 — Compute Average Profit:

Average Profit = Total Profit ÷ Number of Years = 2,50,000 ÷ 5 = ₹50,000

Step 3 — Apply the Average Profit Method formula:

Goodwill = Average Profit × Number of Years' Purchase = 50,000 × 3 = ₹1,50,000

Cross-check: re-add the five profit figures in reverse order (55,000 + 60,000 + 45,000 + 50,000 + 40,000) — the total still comes to ₹2,50,000, confirming the average of ₹50,000.

A common error is dividing by the wrong number of years (e.g., dividing by 4 instead of 5 when five figures are given) or multiplying by the wrong years' purchase figure stated in the question. Always count the years listed and match the years' purchase exactly as given.