In the case of Hidden Goodwill, the value of goodwill is not mentioned at the time of admission of a new partner. It can be considered as one of the methods for calculating the value of goodwill of the firm. This is more prominent in cases, where the new partner does not bring his/her share of goodwill in cash. In such cases, the goodwill of the firm remains hidden and the value of the firm’s goodwill is determined by taking the difference between the capitalized value of the firm and the net worth of the firm. The capitalized value of the firm is ascertained by capitalizing the new partner’s capital on the basis of his/her share of profits.
The following formula is used to ascertain the value of the firm’s goodwill.
Value of Firm’s Goodwill = Capitalised Value of the Firm – Net Worth
Where Capitalized Value of the Firm = Capital of New Partner × Reciprocal of New Partner’s Share
Net Worth = Total Capital of New Firm (including New Partner’s Capital) + Accumulated Profits and Reserves (if any)
OR Net Worth = Total Assets – External Liabilities
Steps to Calculate Value of Firm’s Goodwill
Step 1: Calculate the capitalized value of the firm as:
Capitalized Value of the Firm = Capital of New Partner × Reciprocal of New Partner’s Share
Step 2: Calculate the net worth of the firm as:
Net Worth = Total Capital of New Firm (including New Partner’s Capital) + Accumulated Profits and Reserves (if any)
OR Net Worth = Total Assets – External Liabilities
Step 3: Subtract the value ascertained in step 2 from the value ascertained in step 1 to compute the value of goodwill of the firm. That is, Value of Firm’s Goodwill = Capitalised Value of the Firm – Net Worth
Step 4: The share of goodwill of the new partner is calculated by multiplying the value of goodwill of the firm (as calculated in step 3) by his/her share in profits. New Partner’s Share of Goodwill = Value of Firm’s Goodwill × New Partner’s Share
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