Goodwill is defined as “the present value of a firm’s anticipated excess earnings”. Thus goodwill exists only when the firm earns super-profits.
Factors affecting Value of Goodwill
There are many factors that affect the valuation of goodwill. They are as follows:
The business located in a suitable place commands more goodwill than others. If the firm is centrally located or located in a very prominent place, it can attract, more customers resulting in an increase in turnover. A favorable location surrounding the company where many customers come enhances the value of goodwill.
The more, the capital of business, the more chance of goodwill. More buyers may be interested to purchase a business that requires a comparatively small amount of capital but the rate of earning profit is high and, consequently, raise the value of goodwill. A firm with a high debt will have to pay more interest from the profit of the firm and naturally goodwill will be less.
- Nature of Business
The nature of business is another factor that affects the value of goodwill. When the firm enjoys favorable situations, along with a secured monopoly which brings more earnings which are assured, the value of goodwill increases. A firm with constant sales has more chances of earning profit and naturally goodwill too.
- Efficient Management
Good management brings more profits to the business. Efficient management may also help to increase the value of goodwill by increasing profits through properly planned production, distribution, and services. An increase in the value of goodwill is the result of efficient management. Special ability and skill of the persons engaged in the management add to the value of goodwill.
A firm may enter into a contract of sales for a long period. A firm can make more profit on the sale of goods on that contract by making a purchase on reasonable terms. This leads to an increase in the value of goodwill. Possession of a large number of profitable contracts for the supply of goods or services enhances the value of goodwill.
- Patent Right
A firm having the patent right for the production of goods can earn more goodwill than others. The firm that enjoys special advantages like patents, trademarks, copyrights, etc. enjoy a higher value of goodwill.
- Quality of the Product
A firm producing qualitative products can easily have name and fame in the market. This lead to increase in the value of goodwill.
- Government Patronage
The product of an enterprises will be more demand, when it is patronized by the government. When a business enjoys the patronage of Government, people are willing to buy the products of such a company. As a result, the goodwill increases.
- Other Factors
Besides the factors mentioned above, money market condition, peace in the country, government’s policy, tendency of profit etc. also affect the value of goodwill.