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SYBAF

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Valuation of Shares & GoodwillWhen the shares of the company get valued?1. They are not quoted on stock exchange.

2. When shares of unlisted companies or privatecompany are not freely transferable.

3. In case of amalgamation, absorption, reconstructionor pledge of shares as security of loan.

4. Government want to acquire controlling interestthrough shares of the company.

5. Wealth Tax purpose.

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Method of valuation of Goodwill.

Simple Profit Method1. Purchase of number of years of simple

profits:

2. Capitalisation of Simple profit method.Super Profit Method.1. Number of years Purchase of super profit

method2. Annuity Method

3. Capitalisation of Super profit4. Sliding Scale valuation Method.

Super Profit = Future Maintainable profit Normalprofit.

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Steps for calculation of goodwill under

super profit method.Step 1 Calculate FMP [Future Maintainable Profit]:It is average adjusted profit to be computed with the help ofinformation given about the company. It is expected future

income of the business which may be continued in future.If nothing is given take average profit as FMP.

Step 2 Calculate Normal Rate of ReturnNRR = Dividend Per share X 100

Market price per share

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Steps for calculation of goodwill under super profit

method.

Step 3 Calculate Average Capital Employed.

Average capital employed= (Opening capital +

Closing Capital)/2OR

Average capital employed= Opening capital +profit earned during the period.OR

Average capital employed= Closing Capital profitearned during the period.

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Steps for calculation of goodwill under super

profit method.Step 4 Calculate Normal Profit= Average capital Employed

X Normal rate of return.

Step 5 Calculate Super Profit= FMP - Normal Profit.

Step 6 Calculate Goodwill = Super profit X no of yearspurchase.(Number of year purchase method)

OR Goodwill = super profit/NRR (Capitalisation of Superprofit method)

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Simple Profit MethodPurchase of number of years of simple profits:

Goodwill = Average Future maintainable profitXNo ofyears of Purchase.Example 1:The profits of XYZ for the last 3 years were as follows2008 ----Rs 500002009 ----Rs 800002010 ----Rs 20000Goodwill is valued at 4 years purchase of average profits oflast 3 years.

Find the value of Goodwill.Ans:Calculation of Average Profit:(50000+80000+20000)/3=50000Goodwill= 50000 X 4 = 2, 00,000/-

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Capitalisation of Simple profit method.

Goodwill= Capitalised value - Actual Capital Employed

Capitalised value is nothing but how capital needs to beemployed to earn present level of profit at the normal

rate of return.

Exp: Average profit is Rs 45,000 and NRR is 10 % andAverage capital employed is 2,50,000.

So capitalised value of business:= 45000/10%= 4,50,000/-Goodwill= Capitalised value - Actual Capital EmployedGoodwill= 4, 50,000 - 2, 50,000= 2, 00,000/-

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Example 1.

Profit of XYZ Company for the last 3 years is as follows2008 ----Rs 500002009 ----Rs 80000

2010 ----Rs 20000NRR is 10 % Actual Capital employed is Rs 10, 00,000/-Find Goodwill on the basis of capitalisation of averageprofits

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Super Profit Method.

1.Number of years Purchase of super profit method:

The number ofyears purchase of super profit is nothing

but capitalisation of super profit. Certainty of superprofit is goes on decreasing as one move into future.Therefore a period of 3 to 5 year may be considered fordeciding on the number of years purchase as super

profits.

Goodwill = Super profit X No of years purchase.

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2.Annuity MethodIt takes in to account present value of future super profit. If thenumber ofyears purchase is 5 and normal rate of return is 10%.

Then on the basis of this data, and from annuity table the presentvalue of Rs 1 is determined.

Goodwill= Super profit X Annuity value.

3.Capitalisation of Super profitSuper profit is capitalised on the basis of normal rate of return inorder to determine value of goodwill.

Goodwill = Super profit / NRR

4.Sliding Scale valuation Method.This method takes into consideration the probability distributionattributable with the super profit of the company which may be

different for different proportions of profits.

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Example: If the amount of Super profit is estimated at Rs5, 00,000. The value of goodwill determined as under.First 3, 00,000 for 3 years purchase = Rs 9, 00,000Second 2, 00,000 for 2 years purchase = Rs 4, 00,000

Balance 1, 00,000 for 1 year purchase = Rs 1, 00,000Value of Goodwill = Rs 14, 00,000

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Trade and Non trade investments:

interesting thing about Trade n non Trade Investments isthat Trade Investments cannot be traded in open marketGenerally, but Non Trade Investments are generallytraded in open market.

If nothing is given assume investment as NON TRADEINVESTMENT

Trade investment is an for the purpose of business.

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Future Maintainable Profit1st year Rs 5, 00,0002nd Year Rs 3, 00,000

3rd

Year Rs 8, 00,000

1. In future company expected that they need to employadditional employee for which salary need to be paid as10000/- per employee per month. Company employed 2

more employee2. Manager remuneration is increased by Rs 1,00,000 per

annum.3. One manager is removed from his job whose salary was Rs

2,00,000 per annum4. There was fire in factory in 2nd year due to which there was

loss of Rs 1, 50,000 due to fire.5. There is Non Trade investment with the company on

which company earns Rs 15,000 every year.

6. Company has taken new insurance policy for which itneeds to pay premium of Rs 50,000 every year.