Accountancy · Ch 5 — Reconstitution of a Partnership Firm — Admission of a Partner
Meaning of Goodwill
Meaning of Goodwill
Goodwill is not a physical asset you can touch, but it has real monetary value. Over time, a well-run business builds a good name, a strong reputation, and wide business connections. These advantages allow it to earn more profit than a newly set up business can. In accounting, the monetary value of this advantage is called goodwill.
Goodwill is classified as an intangible asset. More precisely, goodwill is the value of a firm's reputation in terms of the profits expected in the future that are over and above the normal profits earned by other firms in the same industry.
When a new partner pays for goodwill upon admission, they are paying for something that puts them in a position to earn these extra profits — called super profits. In simple words, goodwill is:
- "The present value of a firm’s anticipated excess earnings."
- "The capitalised value attached to the differential profit capacity of a business."
Goodwill exists only when the firm earns super profits. A firm earning only normal profits, or incurring losses, has no goodwill.
The accounting treatment for goodwill at the time of a partner's admission is governed by this core idea: the new partner must compensate the existing partners for their share of the firm's superior earning capacity. The journal entry to record this is:
| Date | Particulars | L.F. | Debit (₹) | Credit (₹) |
|---|---|---|---|---|
| New Partner's Capital A/c | Dr. | (Amount of goodwill brought in) | ||
| To Old Partners' Capital A/c (in sacrificing ratio) | (Amount of goodwill brought in) |