DK Goel Solutions Class 12 Accountancy Chapter 3 Change in Profit Sharing Ratio Among the Existing Partners

Short Answer Questions

Question 1. Mention the occasions on which reconstitution of partnership firm can take place.

Solution  1. A firm is reconstituted on the occasions of :-

1.) Change in the profit sharing ratio among the existing partners.

2.) Admission of an existing partner.

3.) Retirement of an existing partner.

4.) Death of a partner.

5.) Amalgamation of two or more partnership firms.

Question 2.  What adjustments are required at the time of reconstitution of a partnership firm?

Solution  2. Following adjustments are required at the time of reconstitution of a partnership firm:

(i) Determination of Sacrificing Ratio and Gaining Ratio

(ii) Accounting for Goodwill.

(iii) Accounting Treatment of Reserves and Accumulated Profits

(iv) Accounting for Revaluation of Assets and Liabilities.

(v) Adjustment of Capitals.

Question 3. Who should compensate whom in case of a change in profit sharing ratio of existing partners?

Solution  3. The purpose of calculating sacrificing ratio is to determine the amount of compensation to be paid by the gaining partner (i.e. the partner whose share has increased as a result of change) to the sacrificing partner (i.e. the partner whose share has decreased as a result of change). Such compensation is usually paid on the basis of proportionate amount of goodwill.

Question 4. Give any three features of goodwill.

Solution  4 Below are the features of goodwill:-

1.)  It is an intangible asset.

2.)  It does not have an existence separate from that of an enterprise. Thus, is has realisable value when business is sold.

3.)  The value of goodwill is the subjective assessment of the value.

Question 5. Write any four factors which affect the goodwill of a partnership firm.

Solution  5 Below are the four factors of affect the goodwill of a partnership firm:-

1.) Favourable Location of the business:-  If the business is located at a convenient or prominent place, it will attract more customers and therefore will have more goodwill.

2.) Efficiency of Management:- If the business is run by experienced and efficient management, its profits will go on increasing which result in increase in the value of goodwill.

3.) Nature of Goodwill:- If a business deals in goods of daily use, it will have steady profit as the demand for these goods will be stable. Such business will have more goodwill. But if it deals in fancy goods, its profit will be uncertain and as such the value of the goodwill will be less.

4.) Capital Required:- The amount of capital required for a business will also influence the value of goodwill. If two business enterprises earn the same rate of profit, the business with lesser capital requirement shall enjoy more goodwill. 

Question 6. On what occasions does the need for valuation of goodwill arise?            

Solution  6 The need for valuing the goodwill in partnership arise in the following circumstances:

1.) When there is a change in the profit sharing ratio among the existing partners.

2.) When a new partner is admitted.

3.) When a partner retires or dies.

4.) When the firm is sold.

5.) When the firm is amalgamated with another firm.

Question 7. Explain any two methods of valuation of goodwill.

Solution  7         

1.) Average Profit Method:- This is a very simple and widely followed method of valuation of goodwill. In this method, goodwill is calculated on the basis of the number of past year profits. Average of such profits is multiplied by the agreed number of years to find out the value of goodwill. Thus the formula is :

Value of Goodwill = Average Profit × Number of Year of Purchases.

2.) Super Profit Method:- In this method goodwill is calculated on the basis of surplus profit earned by a firm in comparison to average profits earned by other firms. If a business has no anticipated excess earning, it will have no goodwill. Of super profits.

Thus the formula is:

Question 8. What is meant by number of years' purchase at the time of valuation of goodwill?

Solution  8 Number of year purchase is used to calculate the value of goodwill in average profit method and super profit method at the time of valuation of goodwill.

Example:- If a firm earns a profit of Rs. 60,000 p.a. on an average basis and the normal rate of return is 10% p.a. Capital employed amount Rs. 4,00,000. Capitalised value of average profit will be:

Rs. 60,000 ×  = Rs. 6,00,000

Goodwill = Rs. 6,00,000 – Rs. 4,00,000 = Rs. 2,00,000 

Question 10.   Distinguish between average profit and super profit method of valuation goodwill.

Solution  10                                                                                                     

Question 11.   How will you deal with goodwill when there is change in the profit sharing ratio among the existing partners? Illustrate with the help of imaginary figures.

Solution  11      A change in profit sharing ratio basically implies that one partner is purchasing from another partner, a share of profit previously belonging to the latter. The purchasing or gaining partner must compensate the sacrificing partner by paying the proportionate amount of goodwill. In other word, the gaining partner should pay the sacrificing partner that share of goodwill which is equal to the share gained by him.

 If the profits of the firm are Rs. 1,00,000 p.a. A will lose Rs. 20,000 and B will gain Rs. 20,000 annually. This must be compensated by B by paying to A an amount equal to ¹/₅ ^th of total value of goodwill of the firm. If the goodwill is valued at Rs. 2,50,000 i.e. Rs. 50,000. Such an adjustment is made by passing an adjustment entry wherein B’s Capital Account will be debited and A’s Capital Account will be Credited with Rs. 50,000.

Question 12. How will you deal with reserves and accumulated profits at the time of change in profit sharing ratio among the existing partners?

Solution  12 At the time of change in the profit sharing ratio, there are Reserves or Accumulated profits/losses existing in the books of the firm, these should be transferred to the Partner’s Capital Accounts or to Current Accounts in their old profit sharing ratio.

Question 13. Is it necessary to revalue the assets and liabilities if there is a change in profit sharing ratio of the existing partners? Give reason.
Solution  13     Yes, it is necessary to revalue Assets and liabilities of a firm must also be revalued at the time of change in profit sharing ratio of existing partners. The reason is that the realisable of actual value of assets and liabilities may be different from those shown in the balance sheet. It is possible that will the passage of time some of the assets might have appreciated in value while the value of certain other assets might have decreased and no record has been made of such changes in the books of accounts. 

Question 14. Why are reserves and accumulated profits credited to the partner’s capital accounts in case of change in profit sharing ratio amongst the existing partners?

Solution  14 Reserves and accumulated profits are credited to the capital accounts of all partners in their old profit sharing ratio because they have been set apart out of the profits earned in the period before change. If they are not adjusted at present, they will get adjusted later in their new profit sharing ratio which will result in loss to the sacrificing partner and gain to the gaining partner.

Question 15.  Anand and Vikas were partners in a firm sharing profits and losses in the ratio of 2 : 1. With effect from 1st April 2019, they agreed to share the profits equally. On that date, the Balance Sheet of the firm showed Rs. 75,000 as Workmen Compensation Reserve against which there was no liability. Vikas expressed his opinion that it should be credited to the Capital account equally. However, Anand was of the opinion that it should be credited to the Capital accounts in the ratio of 2:1. Anand was able to convince Vikas. Explain what argument must have been put forward by Anand to which Villas agreed?

Solution  15 Anand would have given the argument that Workmen Compensation Reserve was created out of profits when their profit sharing ratio was 2 : 1. Hence, it should be credited in the old profit sharing ratio.

Question 16.   Priya and Rani were partners in a firm sharing profits and losses in the ratio of 2:1. With effect from 1st April 2019, they agreed to share the profits equally. They prepared a Revaluation Account on this date and an unrecorded asset (Motorbike) worth Rs. 40,000 was found not to have been recorded in the books. Priya was of the view that it should be Credited to Revaluation Account whereas Rani was of the view that it should be Credited to the Capital accounts in equal proportion. Rani agreed to the viewpoint of Priya. Explain what argument must have been put forward by Priya to which Rani agreed?

Solution  16 Priya would have given the argument that unrecorded asset belonged old firm when the profit sharing ratio was 2 : 1. Hence it should be Credited to Revaluation Account so that the profit on account of this asset shared in 2:1.

Question 17. Chaman and Dinesh were partners in a firm sharing profits in 3:1. With effect from 1^st April 2019, they agreed to share the profits in 2:1. They prepared a Revaluation Account on this date and it was found that an unrecorded liability towards salary of an employee of 50,000 existed. Dinesh was of the view that it should be debited to Revaluation Account whereas Chaman was of the could be recorded in the books of accounts at the time of its payment. Chaman agreed to the viewpoint of Dinesh. Explain what argument been put forward by Dinesh to which Chaman agreed?

Solution  17 Dinesh must have given the argument that liability towards salaries related to the old firm when the profit sharing ratio was 3:1. Hence, it should be debited to Revaluation Account so that the loss on account of this liability could be bome 3:1. If it was recorded at the time of actual payment, the partners will bear the loss in 2:1.

Numerical Questions

Question 1. (A) X and Y were partners in a firm sharing profits in the ratio of 5:3. With effect from 1st April, 2021 they agreed to share profits equally. Calculate the individual partner's gain or sacrifice due to change in ratio.

Old Ratio of X and Y = 5 : 3

New Ratio of X and Y = 1 : 1

Calculation of Sacrifice or Gaining Ratio =

Point of Knowledge:-

Here the negative value of is gaining and positive value is sacrificing.

Question 1.(B)       A and B were in partnership sharing profits equally.  With effect from1st April, 2019 they agreed to share profits in ratio of 4:3. Calculate the individual partner’s gain or sacrifice due to change in ratio.

Solution  1 (B)         

Old Ratio of A and B = 1 : 1

New Ratio of A and B = 4 : 3

Calculation of Sacrifice or Gaining Ratio =

Point of Knowledge:- 

Here the negative value of is gaining and positive value is sacrificing.

Question 2. (A)        A and B and C were in partnership sharing profits in the ratio of 4:3:1. The partners agreed to share future profits in the ratio of 5: 4 : 3. Calculate each partner's gain or sacrifice due to change in ratio.

Solution  2  (A)         

Old Ratio of A, B and C = 4 : 3 : 1

New Ratio of A, B and C = 5 : 4 : 3

Calculation of Sacrificing or Gaining Ratio =

Point of Knowledge:-

Here the negative value of is gaining and positive value is sacrificing.

Question 2. (B)        Mahesh, Naresh and Om were partners sharing profits in the ratio of 2 : 3 : 4. With effect from 1st April, 2021 they agreed to share profits in the ratio of 1 : 2 : 3. Calculate each partner's gain or sacrifice due to change in ratio

Solution  2  (B)         

Old Ratio of Mahesh, Naresh and Om = 2 : 3 : 4

New Ratio of Mahesh, Naresh and Om = 1 : 2 : 3

Calculation of Sacrificing or Gaining Ratio =

Point of Knowledge:-

Here the negative value of is gaining and positive value is sacrificing.

Question 3.     The goodwill of a firm is valued at 4 years' purchase of average profits of a five years. The profits of the last five years were :

Year                                       Profit (Rs.)

2013-14                :               2,00,000

2014-15                :               (3,00,000)

2015-16                :               4,50,000 (including an abnormal gain of Rs. 50,000)

2016-17                :               3,50,000 (after charging an abnormal loss of Rs. 90,000)

2017-18                :               2,60,000

Calculate the amount of goodwill.

Solution  3.          Total Profit = Rs. 2,00,000 – Rs. 3,00,000 + (Rs. 4,50,000 – Rs. 50,000) + Rs. 3,50,000 + Rs. 2,60,000

Total Profit =  Rs. 10,00,000

Goodwill = Average Profit × Number of year purchases

Goodwill = 2,00,000 × 4

Goodwill = 8,00,000

Question 4.       X purchased the business of Y from 1st April, 2019. For this purpose goodwill is to be valued at 100% of the average annual profits of the last four years. The profits shown by Y's business for the last four years were :

Year ended                                            (Rs.)                      

31st March, 2016            Profit           1,00,000  (after debiting loss of stock by fire Rs. 50,000)

31st March, 2017            Loss             1,50,000  (includes voluntary retirement compensation paid Rs. 80,000)

31st March, 2018            Profit           1,50,000              

31st March, 2019            Profit           2,00,000              

Verification of books of accounts revealed the following:

(i)                  During the year ended 31st March, 2017, a machine got destroyed in accident and Rs. 60,000 was written off as loss in Profit & Loss Account.

(ii)                On 1st July 2017, Two Computers costing Rs. 40,000 each were purchased and

were debited to Travelling Expenses Account on which depreciation is to be charged @ 10% p.a. on Straight Line Method. Calculate the value of goodwill.

Solution  4.

Question 5.                   A, B and C are partners in a firm sharing profits and losses in the ratio of 3:2:1. They decide to take D into partnership for 1/4^th share on 1st April, 2017. For this purpose, goodwill is to be valued at 3 times the average annual profits of the previous four or five years whichever is higher. The agreed profits for goodwill purpose of the past five years are as follows:

                                                                                       Rs.

Year ending on 31st March 2013                                1,30,000

Year ending on 31st March 2014                                1,20,000

Year ending on 31st March 2015                                1,50,000

Year ending on 31st March 2016                                1,10,000

Year ending on 31st March 2017                                2,00,000

Calculate the value of Goodwill.

Solution  5         

Based on 4 Years of Profit

Total Profit = Rs. 1,20,000 + Rs. 1,50,000 + Rs. 1,10,000 + Rs. 2,00,000

Total Profit =  Rs. 5,80,000

Four years average profit is more than 5 years average profit. Therefore the value of goodwill will be

Goodwill = Average Profit × Number of year purchases

Goodwill = 1,45,000 × 3

Goodwill = 4,35,000

Question 6.       A, B and C are partners sharing profits and losses equally. They agree to admit D for equal share. For this purpose goodwill is to be valued at 3 year's purchase of average profits of last 5 years which were as follows:

                                                                                             Rs.

Year ending on 31^st March 2013                                    60,000 (Profit)

Year ending on 31^st March 2014                                 1,50,000 (Profit)

Year ending on 31^st March 2015                                     20,000 (Loss)

Year ending on 31^st March 2016                                 2,00,000 (Profit)

Year ending on 31^st March 2017                                 1,85,000 (Profit)

On 1st October, 2016 a computer costing Rs. 40,000 was purchased and debited to office expenses account on which depreciation is to be charged @25% p.a. Calculate the value of goodwill.

Solution  6 

Question 7.    The profits earned by a firm during the last four years were as follows:

Year ended 31^st March              Profits (Rs.)

2013                                              80,000

2014                                              1,00,000

2015                                              1,10,000

2016                                              1,50,000

Calculate the value of goodwill on the basis of three year’s purchase of weighted average profits. Weights to be used are 1,2,3, and 4 respectively to the profits for 2018, 2019, 2020 and 2021.

Solution  7

Question 8. Following information is available about the business of a firm :
(i) Profits : In 2019, Rs. 40,000; In 2020, Rs. 50,000; In 2021, Rs. 60,000
(ii) Non- recurring income of Rs.1,000 is included in the profits of 2014, (iii) Profits of 2019 have been reduced by Rs. 6,000 because goods were destroyed by fire, (iv) Goods have not been insured but it is thought to insure them in future. The insurance premium is estimated at Rs. 400 per year, (v) Reasonable remuneration of the proprietor of business is Rs. 6,000 per year, but it has not been taken into account for calculation of above mentioned profits. (vi) Profits of 2021 include Rs. 5,000 income on investment.
Goodwill is agreed to be valued at two year's purchase of the weighted average profits of the past three years. The appropriate weights to be used are : 2019 :-1; 2020: -2; 2021: -3.

Solution  8.

Question 9.       Calculate the value of goodwill on the basis of three year's purchase of the weighted average profits of the last five years. Profits to be weighted 1, 2, 3, 4 and 5, the greatest weightage to be given to last year. Profits of the last five years were :

Year ended                                                   Rs.                       

31st March, 2015 :              Profit             80,000                 (after considering abnormal loss of Rs. 41,500)

31st March, 2016 :              Profit             1,05,000             (after considering abnormal gain of Rs. 40,000)

31st March, 2017 :              Loss               20,000                

31st March, 2018 :              Profit             1,80,000            

31st March, 2019 :              Profit             2,00,000            

Books of Accounts of the firm revealed that:

(i) Closing Stock as on 31^st March, 2015 was overvalued by Rs. 40,000.

(ii) Repairs to Machinery Rs. 60,000 were wrongly debited to Machinery Account on 1st July, 2017. Depreciation was charged on Machinery 20% p.a. on diminishing balance method.

Solution  9.

Question 10.   A firm earned profits of Rs. 80,000, Rs. 1,00,000, Rs. 1,20,000 and Rs. 1,20,000 and Rs. 1,80,000 during 2010-11, 2011-12, 2012-13 and 2013-14 respectively. The firm has capital investment of Rs. 5,00,000. A fair rate of return on investment is 15% p.a. Calculate goodwill of the firm based on three years' purchase of average super profits of last four years.

Solution  10.        

Total Profit = Rs. 80,000 + Rs. 1,00,000 + Rs. 1,20,000 + Rs. 1,80,000

Total Profit = Rs. 4,80,000

Super Profit = Actual Average Profit – Normal Profit

Super Profit = Rs. 1,20,000 – Rs. 75,000

Super Profit = Rs. 45,000

Goodwill = Super Profit × Number of year Purchases

Goodwill = Rs. 45,000 × 3

Goodwill = Rs. 1,35,000

Question 11.     Capital invested in a firm is Rs. 3,00,000. Normal rate of return is 10%. Average profits of the firm are Rs. 41,000 (after an abnormal loss of Rs. 2,000). Calculate goodwill at five times the super profits.

Solution  11      

Calculation of Actual Average Profit:-

Actual Average Profit = Average Profit + Abnormal Loss

Actual Average Profit = Rs. 41,000 + Rs. 2,000

Actual Average Profit = Rs. 43,000

Super Profit = Actual Average Profit – Normal Profit

Super Profit = Rs. 43,000 – Rs. 30,000

Super Profit = Rs. 13,000

Goodwill = Super Profit × Number of year Purchases

Goodwill = Rs. 13,000 × 5

Goodwill = Rs. 65,000

Question 12.   The capital of the firm of Anuj and Benu is Rs.10,00,000 and the market rate of interest is 15%. Annual salary to the partners is Rs. 60,000 each. The profit for the three years were Rs. 2,80,000, Rs. 3,80,000 and Rs. 4,20,000. Goodwill of the firm is to be valued on the basis of two years purchase of last three years average super profits. Calculate the goodwill of the firm.

Solution  12       

Calculation of Actual Average Profit:-

Actual Average Profit = Average Profit – Remuneration to Partners

Actual Average Profit = Rs. 1,00,000 - Rs. 10,000

Actual Average Profit = Rs. 90,000

Super Profit = Actual Average Profit – Normal Profit

Super Profit = Rs. 90,000 – Rs. 75,000

Super Profit = Rs. 15,000

Goodwill = Super Profit × Number of year Purchases

Goodwill = Rs. 15,000 × 2

Goodwill = Rs. 30,000

Question 13.      Find out the capital employed from the following information:

Normal rate of return: 12%

Profits:

2017-18                                                                                               Rs.            80,000

2018-19                                                                                                Rs.          1,30,000

2019-20                                                                                                Rs.          1,56,000

Goodwill valued at 3 years purchase of Super Profits                       Rs.          1,50,000

Solution  13       

Goodwill = Super Profit × Number of year’s Purchases

Rs. 1,50,000 = Super Profit × 3

Super Profit = Rs. 1,50,000 ÷ 3

Super Profit = Rs. 50,000

Total Profit = Rs. 80,000 + Rs. 1,30,000 + Rs. 1,56,000

Total Profit = Rs. 3,66,000

Question 14.    A and B are partners. They admit C for th share in profits. For this purpose goodwill is to be valued at three year's purchase of super profits.

Following information is provided to you

                                                                                                                                                                                                 Rs.

A's Capital                                                                                                                                                                           5,00,000

B's Capital                                                                                                                                                                           4,00,000

General Reserve                                                                                                                                                                  1,50,000

Profit & Loss A/c (Cr.)                                                                                                                                                            30,000

Sundry Assets                                                                                                                                                                      12,00,000

The normal rate of return is 15% p.a. Average Profits are Rs. 2,00,000 per year. You are required to calculate C's share of goodwill.

Solution  14       

Calculation of Capital Employed

Capital Employed = Rs. 5,00,000 + Rs. 4,00,000 + Rs. 1,50,000 + Rs. 30,000

Capital Employed = Rs. 10,80,000

Super Profit = Actual Average Profit – Normal Profit

Super Profit = Rs. 2,00,000 – Rs. 1,62,000

Super Profit = Rs. 38,000

Goodwill = Super Profit × Number of year Purchases

Goodwill = Rs. 38,000 × 3

Goodwill = Rs. 1,14,000

C’s Share of Goodwill = Rs. 1,14,000 × ¹/₄

C’s Share of Goodwill = Rs. 28,500

Question 15.   On 1st April, 2014, a firm had assets of Rs. 1,00,000 excluding stock of Rs. 20,000. Partners’ capital Accounts showed a balance of Rs. 60,000. The current liabilities were Rs. 10,000 and the balance constituted the reserve. If the normal rate of return is 8%, the ‘Goodwill’ of the firm is valued at Rs. 60,000 at four year purchase of super profit, find the average profit of the firm.

Solution  15       

Goodwill = Super Profit × Number of year Purchases

Rs. 60,000 = Super Profit × 4

Super Profit = Average Profit – Normal Profit

Rs. 15,000 = Average Profit – Rs. 8,800

Average Profit = Rs. 15,000 + Rs. 8,800

Average Profit = Rs. 23,800

Working Note:-

Calculation of Capital Employed:-

Capital Employed = Total Assets – Current liabilities

Capital Employed = Rs. 1,20,000 – Rs. 10,000

Capital Employed = Rs. 1,10,000

Question 16.   On April 1st 2020, an existing firm had assets of Rs. 5,00,000 including cash of Rs. 20,000. The firm had a General Reserve of Rs. 90,000, partner's capital accounts showed a balance of Rs. 3,80,000 and creditors amounted to Rs. 30,000. If the normal rate of return is 20% and the goodwill of the firm is valued at Rs. 64,000 at 4 year's purchase of super profit, find the average profits of the firm.

Solution  16       

Goodwill = Super Profit × Number of year Purchases

Rs. 64,000 = Super Profit × 4

Super Profit = Average Profit – Normal Profit

Rs. 16,000 = Average Profit – Rs. 94,000

Average Profit = Rs. 16,000 + Rs. 94,000

Average Profit = Rs. 1,10,000

Working Note:-

Calculation of Capital Employed:-

Capital Employed = Total Assets – Creditors

Capital Employed = Rs. 5,00,000 – Rs. 30,000

Capital Employed = Rs. 4,70,000

Question 17.      The average profit of a firm is Rs. 48,000. The total assets of the firm are Rs. 8,00,000. Value of liabilities is Rs. 5,00,000. Average rate of return in the same business is 12%.

Calculate goodwill from capitalization of average profits method.

Solution  17.

Capital Employed = Assets – Liabilities

Capital Employed = Rs. 8,00,000 – Rs. 5,00,000

Capital Employed = Rs. 3,00,000

Goodwill = Capitalised Value of Average Profits – Capital Employed

Goodwill = Rs. 4,00,000 – Rs. 3,00,000

Goodwill = Rs. 1,00,000

Question 18.      Anupma, Purnima and Ruchika are partners in a business. Balances in their Capital and Current Accounts as on 31st March, 2019 were :

                      Capital Account       Current Account

Anupma               6,00,000               60,000 (Dr.)

Purnima               5,00,000               30,000 (Dr.)

Ruchika               5,00,000               10,000 (Cr.)

The firm earned an average profit of Rs. 2,40,000. If the normal rate of return is 12%, find the value of goodwill by Capitalization of Average Profit Method.

Solution  18

Capital Employed = Assets – Liabilities

Capital Employed = Rs. 6,00,000 + Rs. 5,00,000 + Rs. 5,00,000 – Rs. 60,000 – Rs. 30,000 + Rs. 10,000

Capital Employed = Rs. 15,20,000

Goodwill = Capitalised Value of Average Profits – Capital Employed

Goodwill = Rs. 20,00,000 – Rs. 15,20,000

Goodwill = Rs. 4,80,000

Question 19.      Calculate the value of goodwill according to capitalization of Super Profits Method in the previous Question . 17.

Solution  19        Capital Employed = Assets – Liabilities

Capital Employed = Rs. 8,00,000 – Rs. 5,00,000

Capital Employed = Rs. 3,00,000

Normal Profit = Rs. 3,00,000 × 12%

Normal Profit = Rs. 36,000

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 48,000 – Rs. 36,000

Super Profit = Rs. 12,000

Question 20.    The following information relates to a partnership firm :

(a) Profits/Losses for the last six years :

1^st year                   Rs. 20,000 Profit               4^th year       Rs. 60,000 Profit

2^nd year                  Rs. 60,000 Profit               5^th year       Rs. 50,000 Profit

3^rd year                   Rs. 10,000 Loss                 6^th year       Rs. 72,000 Profit

(b) Average Capital Employed is Rs. 2,00,000.

(c) Rate of normal profit is 15%.

Find out the value of goodwill on the basis of:

(i)                  Four year's purchase of average profits.

(ii)                Four year's purchase of super profits.

(iii)               Capitalization of super profits.

Solution  20       

Total Profit = Rs. 20,000 + Rs. 60,000 – Rs. 10,000 + Rs. 60,000 + Rs. 50,000 + Rs. 72,000

Total Profit = Rs. 2,52,000

(i) Four year's purchase of average profits:

Value of goodwill at 4 year’s purchase of average profits = Rs. 42,000 × 4 = Rs 1,68,000

(ii) Four year’s purchases of super profits:

Normal Profit = Rs. 2,00,000 × 15%

Normal Profit = Rs. 30,000

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 42,000 – Rs. 30,000

Super Profit = Rs. 12,000

Value of Goodwill at 4 year’s Purchases of Super profit = Rs. 12,000 × 4 = Rs. 48,000

Question 21.      A and B are partners sharing profits and losses in the ratio of 3 : 1. It was decided that with effect from 1st April, 2021 the profit sharing ratio will be 5 : 3. Goodwill is to be valued at 2 year's purchase of average of 3 year's profits. The profits for the years ending 31st March 2019, 2020 and 2021 were Rs. 36,000, Rs. 32,000 and Rs. 40,000 respectively.
Pass the necessary journal entry for the treatment of goodwill.

Solution  21        Total Profit = Rs. 36,000 + Rs. 32,000 + Rs. 40,000
Total Profit = Rs. 1,08,000

Question 22.   P, Q  and R are partners sharing profits equally. They decided that in future R will get 1/7 share in profits. On the day of change, firm's Goodwill is valued at Rs. 42,000. Give Journal Entries arising on account of change in profit sharing ratio

Solution  22        Calculation of Sacrificing and Gaining Ratio:-

Question 23.   A. B and C were partners sharing profits and losses in the ratio of 7:3:2 From 1st April 2021, they decided to share profits and losses in the ratio of 8:4:3 Goodwill is to be valued at the average of three year's profits preceding the date of change in profit sharing ratio. The profits for the years ending 31st March 2018, 2019, 2020 and 2021 were Rs. 52,000, Rs. 48,000, Rs. 60,000 and Rs. 90,000 respectively. Give the necessary journal entry.

Solution  23    Total Profit = Rs. 48,000 + Rs. 60,000 + Rs. 90,000

Total Profit = Rs. 1,98,000

Question 24.   A and B are partners in a firm sharing profits in the ratio of 3: 2. They decided to share profits in the ratio of 3 : 4 w.e.f., April 1, 2021. On that date there was a credit balance of Rs. 70,000 in their Profit and Loss Account. Pass the necessary journal entry assuming that partners decide to distribute the profits

Solution  24

Question 25.   A, B and C are partners sharing profits and losses in the ratio of 1: 2: 3. From April 1, 2016, they decided to share the profit in the ratio of 2:3:4. On that date, Profit and Loss Account disclosed a debit balance of Rs. 90,000. Record the necessary journal entry for the distribution of the balance in the Profit and loss Account.

Solution  25.

Question 26. A and B sharing profits and losses in the ratio of 2:3, decide to share future profit and losses equally with effect from 1st April, 2021. An extract of their Balance Sheet as at 31st March, 2021 is as follows:

Liabilities                                     Rs.                         Assets                        Rs.
Workmen Compensation Reserve 40,000
Show the accounting treatment under the following alternative cases :
Case (i) If there is no other information.
Case (ii) If a claim on account of workmen's compensation is estimated at Rs. 25,000.
Case (iii) If a claim on account of workmen's compensation is estimated at Rs. 40,000.
Case (iv) If a claim on account of workmen's compensation is estimated at Rs.50,000.

Solution  26

Question 27.      P, Q  and R were partners in a firm sharing profits in the ratio of 1:1:2. On 31st March, 2018, their balance sheet showed a debit balance of Rs. 9,000 in the profit and loss account and a Workmen Compensation Reserve of Rs. 64,000. From 1st April, 2018 they decided to share profits in the ratio of 2:2:1. For this purpose it was agreed that:

(a) Goodwill of the firm was valued at Rs. 4,00,000.

(b) A claim on account of workmen compensation of Rs. 30,000 was admitted.

Pass necessary journal entries on reconstitution of the firm.

Solution  27

Question 28.      A, B and C sharing profits and losses in the ratio of 4:3:2, decide to share profit and losses in the ratio of 2:3:4 with effect from 1st April, 2021. Following is an extract of their Balance Sheet as at 31st March, 2021:

Show the accounting treatment under the following alternative cases :

Case (i) If there is no other information.

Case (ii) If the market value of Investments is Rs. 6,00,000.

Case (iii) If the market value of Investments is Rs. 5,91,000.

Case (iv) If the market value of Investments is Rs. 5,28,000.

Case (v) If the market value of Investments is Rs. 6,60,000. 

Solution  28

Question 29.     Samiksha, Ash and Divya were partners in a firm sharing profits and losses in the ratio of 5:3:2. With effect from 1^st April, 2019, they agreed to share future profits and losses in the ratio of 2:5:3. Their Balance sheet showed a debit balance of Rs. 50,000 in the profit and loss account and a balance of Rs. 40,000 in the investment fluctuation reserve. For this purpose, it was agreed that:

(i) Goodwill of the firm be valued at Rs. 3,00,000.
(ii) Investments of book value of Rs. 5,00,000 be valued at Rs. 4,80,000.

Pass the necessary journal entries to record the above transactions in the books of the firm.

Solution  29

Question 30.      A, B and C are partners sharing profits equally. From 1st April, 2017, they decided to share profits in the ratio of 3:4:5. On that date, Profit and Loss Account showed a credit balance of Rs.90,000. Partners do not want to distribute the Profit and Loss Account balance but prefer to record the change by an adjustment entry. You are required to give the adjusting entry.

[Ans. Debit C and Credit A by Rs. 7,500.]

Solution  30.

Question 31.    X, Y and Z were sharing profits and losses in the ratio of 5: 3:2. They decided to share future profits and losses in the ratio of 2 : 3 : 5 with effect from 1.4.2017. They decided to record the effect of the following, without effecting their book values:-

(i) Profit and Loss Account                      Rs. 24,000

(ii) Advertisement Suspense Account     Rs. 12,000

Pass the necessary adjusting entry.

Solution  31

Question 32. (A)     A, B, C and D are partners in a firm sharing profits and losses in the ratio of 2:2:1:1 They decided to share future profits and losses in the ratio of 3:2:2:3. For This purpose goodwill of the firm valued at Rs. 1,50,000. There was also a reserve of Rs. 60,000 in the books of the firm.

Find out sacrifice ratio and gaining ratio and pass necessary journal entry assuming that reserve is not to be distributed.

Solution  32 (A)

Question 32. (B)     Arun and Varun were in partnership sharing profits in the ratio of 2 : 3. With effect from 1st May 2016 they agreed to share in the ratio of 1: 2. For this purpose the goodwill of the firm is to be valued at two year's purchase of the average profits of last three years, which were Rs. 1,50,000, Rs. 1,40,000 and Rs. 52,20,000 respectively. Reserves appear in the books at Rs. 1,10,000. Partners do not want distribute the reserves. You are required to give effect to the change by passing a single journal entry.

[Ans. Debit Varun and Credit Arun by Rs. 30,000.]

Solution  32 (B)

Varun = 3/5-2/3 = (9 - 10)/15 = 1/15 (Gain)
Arun will Sacrifice for Varun = Rs. 4,50,000 × 1/15 = Rs. 30,000

Question 33.      X,Y and Z are partners sharing profits and losses in the ratio of 7:5:4. Their balance sheet as at 31st March 2021 stood as follows:

Partners decided that with effect from 1st April 2021, they will share profits and losses in the ratio of 3 : 2 : 1. For this purpose goodwill of the firm was valued at Rs. 1,50,000. The partners do not want to distribute the general reserve and profits.
Pass a single journal entry to record the change and prepare a revised balance sheet.

Solution  33   

Question 34.      A, B & C were partners in a firm sharing profits & losses in the ratio of 2:2:1. On March 31. 2018, their Balance Sheet was as follows:

From April 1, 2018, they decided to share future profits in the ratio of 1:2:3. For this purpose the following were agreed upon :

(i)                  Goodwill of the firm was valued at Rs. 4,50,000.

(ii)                Land & Building will be appreciated by 20%.

(iii)               Capitals of the partners will be in proportion to their new profit sharing ratio.

For this purpose Current Accounts will be opened.

Pass necessary Journal entries for the above transactions in the books of the firm.

Solution  34

Question 35.      A, B and C are partners in a firm sharing profits in the ratio of 3:2:1. Their Balance Sheet as at 31st March, 2017 is as under:

From 1st April, 2017, the partners agreed to share future profits in the ratio on 4:3 :3 and make the following adjustments :

(i) Premises will be appreciated by 10% and stock by Rs. 10,000.

(ii) A provision for doubtful debts is to be made on debtors @4%

(iii)Sundry Creditors be reduced by Rs. 15,000

(iv)Machinery will be depreciated by 5%.

(v) Goodwill of the firm is valued at Rs. 48,000.

Prepare Revaluation Account, Partner's Capital Accounts and Balance Sheet of the reconstituted firm.

Solution  35

Question 36.      S, T, U and V were partners in a firm sharing profits in the ratio of 4:3:2:1. On 1-4-2016 their Balance Sheet was as follows:

From the above date partners decided to share the future profits in 3:1:2:4 ratio. For this purpose, the goodwill of the firm was valued at Rs. 90,000. The partners also agreed for the following:

(i) The claim for workmen compensation has been estimated at Rs.70,000.

(ii) To adjust the capitals of the partners according to new profit sharing ratio by opening partners current accounts.

Prepare Revolution Account, Partners' Capital Accounts and the Balance Sheet of the reconstituted firm.

Solution  36

Question 37.      P, Q  and R were partners sharing profits in the ratio of 1:3:2. Following was their Balance Sheet as at 31st March, 2018 :

On 1st April, 2018 they decided to share future profits in the ratio of 4:6:5. It was agreed that:

(i)                  Claim for Workmen Compensation has been estimated at Rs. 1,00,000

(ii)                A motorcycle valued at Rs. 30,000 was unrecorded and is now to be now to be recorded in the books.

(iii)               Outstanding expenses were not payable anymore.

(iv)              Value of stock be increased to Rs. 2,90,000.

(v)                A provision for doubtful debts be created @ 5% on Sundry Debtors

(vi)              Goodwill is valued at Rs. 1,00,000.

(vii)             The work of reconstitution was assigned to firm's auditors. They were paid Rs. 20,000 for this work.

Pass journal entries and prepare Revaluation Account.

Solution  37

Question 38.      A, B and C are partners sharing profits and losses in the ratio of 2 : 2:1 From 1st April, 2019 they decided to share future profits and losses equally.

Following balances appeared in their books:

Profit and Loss A/c (Cr.)                                                20,000

Advertisement Suspense A/c (Dr.)                               15,000

Workmen Compensation Reserve                                 60,000

It was agreed that :

(i)                  Goodwill should be valued at two year's purchase of super profits. Firm's average profits. Firm's average profits are Rs. 75,000. Capital invested in the business is Rs. 6,00,000 and normal rate of return is 10%.

(ii)                Furniture (book value of Rs. 50,000) be reduced to Rs. 30,000.

(iii)               Computers (book value of Rs. 40,000) be reduced by Rs. 10,000.

(iv)              Claim on account of Workmen's Compensation amounted to Rs. 50,000.

(v)                Investments (book value of Rs. 30,000) were revalued at Rs. 25,000.

Pass necessary journal entries for the above.

Solution  38        

Question 39.      Aman, Bobby and Chandani were partners in a firm sharing profits and losses in the ratio of 5:4:1. From 1st April, 2018 they decided to share profits equally. The revaluation of assets and re-assessment of liabilities resulted in a loss of Rs. 5,000. The goodwill of the firm on its reconstitution was valued at Rs. 1,20,000. The firm had a balance of Rs. 20,000 in General Reserve.

Showing your working clearly pass necessary journal entries on the reconstitution of the firm.

Solution  39

Question 40 (new). Asha, Rina and Chahat were partners in a firm sharing profits and losses in the ratio of 2:2:1. Their Balance Sheet as at 31^st March, 2019 was as follows:

Asha, Rina and Chahat decided to share future profits equally with effect from 1^st April, 2019. For this, it was agreed that:
(i) Goodwill of the firm be valued at Rs. 1,50,000.
(ii) Bad debts amounted to Rs. 40,000. A provision for doubtful debts was to be made @ 5% on debtors.
Pass the necessary journal entries to record the above transactions in the books of the firm.

Solution  40  (new).  Working Note:-

Calculation of Sacrificing Ratio:-

Sacrifice Ratio= Old Ratio - New Ratio

Question 40.     X and Y are partners sharing profits and losses in the ratio of 4: 3. Their Balance Sheet as at 31 st March, 2021 stood as follows:

They decided that with effect from 1st April, 2016, they will share profits and losses in the ratio of 2:1. For this purpose they decided that :

(1)    Fixed assets are to be depreciated by 10%.

(2)    A provision of 6% be made on debtors for doubtful debts.

(3)    Stock be valued at Rs.1,90.000.

(4)    An amount of Rs. 3,700 included in creditors is not likely to be claimed.

Partners decided to record the revised values in the books. However, they do not want to disturb the reserves. You are required to prepare journal entries, capital accounts of the partners and the revised balance sheet.

Solution  40   

Question 41.      P, Q and R are in partnership sharing profits and losses in the ratio of 5:4:3. On 31st March 2019, their balance sheet was as follows:

It was decided that with effect from 1st April 2019, the profit sharing ratio will be 4:3:2. For this purpose the following revaluations were made :

(i)                  Furniture be taken at 80% of its value.

(ii)                Stock be appreciated by 20%.

(iii)               Plant & Machinery be valued at Rs. 4,00,000.

(iv)              Create provision for doubtful debts for Rs. 10,000 on debtors

(v)                Outstanding expenses be increased by Rs. 3,000.

Partners agreed that altered values are not to be recorded in the books and they also do not want to distribute the general reserve.

You are required to post a single journal entry to give effect to the above. Also prepare the revised Balance Sheet.

Solution  41

Question 42. (new). They decided that with effect from 1st April, 2021, they will share profits and losses in the ratio of 2:1. For this purpose they decided that :

(1) Fixed assets are to be depreciated by 10%.
(2) A provision of 6% be made on debtors for doubtful debts.
(3) Stock be valued at Rs.1,90.000.
(4) An amount of Rs. 3,700 included in creditors is not likely to be claimed.
Partners decided to record the revised values in the books. However, they do not want to disturb the reserves. You are required to prepare journal entries, capital accounts of the partners and the revised balance sheet. 

Solution  42 (new). 

Question 42.     X and Y are partners sharing profits and losses in the ratio of 4: 3. Their Balance Sheet as at 31 st March, 2021 stood as follows:

The partners decided that with effect from 1st April 2016, they will share and losses in the ratio of 4:2:1. For this purpose goodwill is to be valued at 2 year’s purchase of the average profits of the last four years, which were:

Year ending 31st March 2013                      20,000 (Loss)

Year ending 31st March 2014                      48,000 (Profit)

Year ending 31st March 2015                      60,000 (Profit)

Year ending 31st March 2016                      80,000 (Profit)

They further agreed that:

(i)                  Provision for doubtful debts be increased by Rs. 2,000.

(ii)                Stock be appreciated by 20% and fixed assets be depreciated by 10%.

(iii)               Creditors be taken at Rs. 49,000.

Partners do not desire to record the revised values of assets and liabilities in the books. They also desire to leave the reserve and surplus undisturbed.

You are required to give effect to the change in profit sharing ratio by passing a single journal entry. Also prepare the revised balance sheet.

Solution  42

Question 43.   Amit, Archit and Akshat are partners in a firm in the ratio of 3:2:1. On 1^st April, 2019 they decided to share the profits in future in the ratio of 7:5:4. On this date General Reserve is Rs. 38,000 and profit on revaluation of assets and liabilities being Rs. 34,000. It was decided that adjustment should be made without altering the figures in the Balance Sheet. Make adjustment by one single journal entry.

Solution  43 

Question 44.      L, M and N are partners sharing profits and losses in equal proportion. On 31st March 2021, their balance sheet was as follows:

The partners decided that with effect from 1st April 2016, they will share and losses in the ratio of 4:2:1. For this purpose goodwill is to be valued at 2 year’s purchase of the average profits of the last four years, which were:

Year ending 31st March 2018                      20,000 (Loss)
Year ending 31st March 2019                      48,000 (Profit)
Year ending 31st March 2020                      60,000 (Profit)
Year ending 31st March 2021                      80,000 (Profit)

They further agreed that:
(i)                  Provision for doubtful debts be increased by Rs. 2,000.
(ii)                Stock be appreciated by 20% and fixed assets be depreciated by 10%.
(iii)               Creditors be taken at Rs. 49,000.

Partners do not desire to record the revised values of assets and liabilities in the books. They also desire to leave the reserve and surplus undisturbed.
You are required to give effect to the change in profit sharing ratio by passing a single journal entry. Also prepare the revised balance sheet

Solution  44

Question 45.   The average profit earned by a firm is Rs. 75,000 which includes undervaluation of stock of Rs.5,000 on an average basis. The capital Invested in the business is Rs. 7,00,000 and the normal rate of return is 7%. Calculate goodwill of the firm on the basis of 5 times the super profit.

Solution  45

Normal Profit = Capita Employed × Normal Rate of Return

Normal Profit = Rs. 7,00,000 × ⁷/₁₀₀

Normal Profit = Rs. 49,000

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 80,000 – Rs. 49,000

Super Profit = Rs. 31,000

Goodwill = Super Profit × Number of Year’s Purchase

Goodwill = Rs. 31,000 × 5

Goodwill = Rs. 1,55,000

Working Note:-

Adjustment Profit = Average Profit earned by the firm + Under Valuation of Stock

Adjustment Profit = Rs. 75,000 + Rs. 5,000

Adjustment Profit = Rs. 80,000

Question 46.   Calculate the value of goodwill as on 1st April, 2015, on the basis of 2 year's purchase of the average profits of the last five years. The profits and losses for the years ending 31st March were: 2010 Rs. 80,000; 2011 Rs. 1,00,000; 2012 Loss Rs. 30,000; 2013 Rs. 1,70,000; 2014 Rs. 1,60,000 and 2015 Rs. 1,80,000. You are informed that the profits of the year ending 31st March 2014 included profit on sale of a fixed asset amounting to Rs. 50,000 and the profits for the year 2015 were effected by a loss due to fire amounting to Rs. 20,000.

Solution  46

Question 47.   Calculate the value of goodwill at 2 year's purchase of the average profits of the last 3 years. The profit for the first year was Rs. 50,000, for second year twice the profit of first year and for the third year one and half times the profit of the second year.

Solution  47       

Question 48 (new). Calculate the value of goodwill as on 1st April, 2021, on the basis of 1/2X2 year's purchase of the average profits of the last five years. The profits and losses for the years ending 31st March were: 2016 Rs. 80,000; 2017 Rs. 1,00,000; 2018 Loss Rs. 30,000; 2019 Rs. 1,70,000; 2020 Rs. 1,60,000 and 2021 Rs. 1,80,000. You are informed that the profits of the year ending 31st March 2020 included profit on sale of a fixed asset amounting to Rs. 50,000 and the profits for the year 2021 were effected by a loss due to fire amounting to Rs. 20,000.

Solution  48 (new).

Average Profit = (Total Profit)/(Number of Purchases )
Total Profit = Rs. 1,00,000 – Rs. 30,000 + Rs. 1,70,000 + Rs. 1,10,000 + Rs. 2,00,000
Total Profit = Rs. 5,50,000

Average Profit = (Rs. 5,50,000)/(5 )
Average Profit = Rs. 1,10,000
Goodwill = Rs. 1,10,000 × 2.5 = Rs. 2,75,000

Question 48.   A firm earns a profit of Rs. 37,000 per year. In the same business a 10% return is generally expected. The total assets of the firm are Rs. 4,00,000. The value of the liabilities is Rs. 90,000. Find out the value of goodwill.

Solution  48        

Working Note:-

Capital Employed = Assets – Liabilities

Capital Employed = Rs. 4,00,000 – Rs. 90,000

Capital Employed = Rs. 3,10,000

Question 49.   An existing firm had assets of Rs. 4,00,000 including cash of Rs. 15,000. The partner's capital accounts showed a balance of Rs. 3,00,000 and reserves constituted the rest. If the normal rate of return is 12% and the goodwill of the firm is valued at Rs. 50,000 at 2year's purchase of super profits, find the average profits of the firm.

Solution  49       

Goodwill = Super Profit × Number of year purchases

50,000 = Super Profit × 2.5        

Super Profit = Average Profit – Normal Profit

Rs. 25,000 = Average Profit – Rs. 38,000

Average Profit = Rs. 25,000 + Rs. 38,000

Average Profit = Rs. 63,000

Question 50.   An existing firm had assets of Rs. 4,00,000 including cash of Rs. 15,000. Its creditors amounted to Rs. 20,000 on that date. The partner's capital accounts showed a balance of Rs. 3,00,000 and reserves amounted to Rs. 80,000. If the normal rate of return is 10% and the goodwill of the firm is valued at Rs. 75,000 at 3 year's purchase of super profits, find the average profits of the firm.

Solution  50       

Goodwill = Super Profit × Number of year purchases

75,000 = Super Profit × 3

Normal Profit = Rs. 48,000

Super Profit = Average Profit – Normal Profit

Rs. 20,000 = Average Profit – Rs. 48,000

Average Profit = Rs. 48,000 + Rs. 20,000

Average Profit = Rs. 68,000

Question 51.      A partnership firm earned net profits during the last three years as follows:

Years                                     Net Profit

2007-2008                            1,90,000

2008-2009                            2,20,000

2009-2010                            2,50,000

The capital employed in the fire throughout the above mentioned period has been Rs. 4,00,000.   Having regard to the risk involved, 15% is considered to be a fair return on the capital. The remuneration of all the partners during this period is estimated to be Rs.1,00,000 per annum

Calculate the value of goodwill on the basis of (i) two year's purchase of super profits earned on average basis during the above mentioned three years and (ii) by capitalisation of average profits method.

Solution  51       

(i) Value of Goodwill on the basis of two year’s purchase of Super profits:

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 1,20,000 – Rs. 60,000

Super Profit = Rs. 60,000

Goodwill = Super Profit × Number of year purchases

Goodwill = Rs. 60,000 × 2

Goodwill = Rs. 1,20,000

Goodwill = Capitalised Value of Average Profit – Net Assets

Goodwill = Rs. 8,00,000 – Rs. 4,00,000

Goodwill = Rs. 4,00,000

Question 52.      Average profit of the firm is Rs. 3,00,000. Total assets of the firm are Rs. 24,00,000 whereas Partner’s Capital is Rs. 20,00,000. If normal rate of return in a similar business is 12%  of the capital employed, what is the value of goodwill by Capitalisation of Super Profit?

Solution  52       

Normal Profit = Rs. 20,00,000 × 12% = Rs. 2,40,000

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 3,00,000 – Rs. 2,40,000

Super Profit = Rs. 60,000

Question 53 (new).  Yash and Karan were partners in an interior designer firm. Their fixed capitals were Rs. 6,00,000 and Rs. 4,00,000 respectively. There were credit balances in their current accounts of Rs. 4,00,000 and Rs. 5,00,000 respectively. The firm had a balance of Rs. 1,00,000 in General Reserve. The firm did not have any liability. They admitted Radhika into partnership for 1/4^th share in the profits of the firm. The average profits of the firm for the last five years were Rs. 5,00,000. Calculate the value of goodwill of the by capitalization of average profit method. The normal rate of return in the business is 10%.

Solution 53 (new). Calculation of Goodwill:-

 Average profit of the firm = Rs. 5,00,000

Capitalised value of business = Rs. 50,00,000

Net Assets = All Assets – Outside liabilities

Net Assets = Rs. 6,00,000 + Rs. 4,00,000 + Rs. 4,00,000 + Rs. 5,00,000 + Rs. 1,00,000

Net Assets = Rs. 20,00,000

Capitalisation of average profit method:-

Goodwill = Capitalised value of business – Net Assets

Goodwill = Rs. 50,00,000 – Rs. 20,00,000

Goodwill = Rs. 30,00,000

Question 53.   The following information relates to a partnership firm:

(a) Sundry Assets of the firm Rs. 6,80,000. Outside Liabilities Rs. 60,000.

(b) Profits and losses for the past years: Profit 2013 Rs. 50,000; Loss 2014 Rs. 10,000; Profit 2015 Rs.1,64,000 and Profit 2016 Rs.1,80,000.

(c) The normal rate of return in a similar type of business is 12%.

Calculate the value of goodwill on the basis of:

(1)    Three year's purchase of average profits.

(2)    Three year's purchase of super profits.

(3)    Capitalisation of average profits, and

(4)    Capitalisation of super profits.

Solution  53

(i) Three year’s purchase of average profit:-

Goodwill = Average Profit × Number of year purchases

Goodwill = Rs. 96,000 × 3

Goodwill = Rs. 2,88,000

(ii) Three year’s purchase of super profit:-

Normal Profit = Rs. 6,20,000 × 12% = Rs. 74,400

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 96,000 – Rs. 74,400

Super Profit = Rs. 21,600

Goodwill = Super Profit × Number of year purchases

Goodwill = Rs. 21,600 × 3

Goodwill = Rs. 64,800

Question 54 (new). A partnership firm earned net profits during the last three years as follows:
Years                                     Net Profit
2018-2019                            1,90,000
2019-2020                            2,20,000
2020-2021                            2,50,000

The capital employed in the fire throughout the above mentioned period has been Rs. 4,00,000.  Having regard to the risk involved, 15% is considered to be a fair return on the capital. The remuneration of all the partners during this period is estimated to be Rs.1,00,000 per annum

Calculate the value of goodwill on the basis of (i) two year's purchase of super profits earned on average basis during the above mentioned three years and
(ii) by capitalisation of average profits method.

Solution  54 (new). (i) Value of Goodwill on the basis of two year’s purchase of Super profits:

Average Profit = Total / number of purchases 
Total Profit = Rs. 1,90,000 + Rs. 2,20,000 + Rs. 2,50,000
Total Profit = Rs. 6,60,000
Average Profit = Rs.  6,60,000 / 3
Average Profit = Rs. 2,20,000

Average Profit for Goodwill = Average Profit – Partners Remuneration
Average Profit for Goodwill = Rs. 2,20,000 – Rs. 1,00,000
Average Profit for Goodwill = Rs. 1,20,000

Normal Profit = Capital Employed × Noramal Rate of Return / 100
Normal Profit = Rs. 4,00,000 × 15 / 100
Normal Profit = Rs. 60,000 

Super Profit = Average Profit – Normal Profit
Super Profit = Rs. 1,20,000 – Rs. 60,000
Super Profit = Rs. 60,000

Goodwill = Super Profit × Number of year purchases
Goodwill = Rs. 60,000 × 2
Goodwill = Rs. 1,20,000

(ii) Value of Goodwill by Capitalisation of Average Profit method:-
Capitalised Value of Average Profit = Average Profit × 100 / Noramal Rate of Return
Capitalised Value of Average Profit = Rs. 1,20,000 × 100 / 15
Capitalised Value of Average Profit = Rs. 8,00,000

Goodwill = Capitalised Value of Average Profit – Net Assets
Goodwill = Rs. 8,00,000 – Rs. 4,00,000
Goodwill = Rs. 4,00,000

Question 54.   X, Y and Z are partners sharing profits in the ratio of 5 : 4 : 1. It is now agreed that they will share future profits in the ratio of 3:3:4. Goodwill is valued at Rs. 1,00,000. You are required to pass a single journal entry for the treatment of goodwill.

Solution  54

Question 55.   Charu and Dinesh have been sharing profits in the ratio of 3 : 1. The net profits for the past four years have been Rs. 60,000; Rs. 50,000; Rs. 90,000 and Rs. 1,20,000 respectively. It is now agreed that in future Dinesh is to have 2/5th share in profits and for that purpose goodwill is to be valued on the basis of  ⁵/₂ year's purchase of average profits of the past four years. Give journal entry for the treatment of goodwill.

Solution  55

Question 56 (new). The following information relates to a partnership firm:
(a) Sundry Assets of the firm Rs. 6,80,000. Outside Liabilities Rs. 60,000.
(b) Profits and losses for the past years: Profit 2018 Rs. 50,000; Loss 2019 Rs. 10,000; Profit 2020 Rs.1,64,000 and Profit 2021 Rs.1,80,000.
(c) The normal rate of return in a similar type of business is 12%.

Calculate the value of goodwill on the basis of:
(1) Three year's purchase of average profits.
(2) Three year's purchase of super profits.
(3) Capitalisation of average profits, and
(4) Capitalisation of super profits.

Solution  56 (new).

(i) Three year’s purchase of average profit:-
Goodwill = Average Profit × Number of year purchases
Goodwill = Rs. 96,000 × 3
Goodwill = Rs. 2,88,000

(ii) Three year’s purchase of super profit:-
Normal Profit = Rs. 6,20,000 × 12% = Rs. 74,400

Super Profit = Average Profit – Normal Profit
Super Profit = Rs. 96,000 – Rs. 74,400
Super Profit = Rs. 21,600

Goodwill = Super Profit × Number of year purchases
Goodwill = Rs. 21,600 × 3
Goodwill = Rs. 64,800

Capitalised value of Average Profit = Rs. 8,00,000

Capital Employed = Assets – Liabilities

Capital Employed = Rs. 6,80,000 – Rs. 60,000

Capital Employed = Rs. 6,20,000

Goodwill = Capitalised value of Average Profit – Capital Employed

Goodwill = Rs. 8,00,000 – Rs. 6,20,000

Goodwill = Rs. 1,80,000

Question 56.   A, B and C are partners sharing profits in the ratio of 5 :3: 2.It is now agreed that they will share profits in the ratio of 5: 4: 3. Goodwill is valued at Rs. 1,20,000. Pass a single journal entry for the treatment of goodwill.

Solution  56

Question 57.      P, Q  and R are partners sharing profits and losses in the ratio of 5: 3: 2 From 1^st April, 2016, they decide to share profits and losses in equal, proportions. The partnership deed provides that in the event of any change in profit sharing ratio, the goodwill should be valued at three year's purchase of the average of five year’s profits. The profits and losses of the preceding five years ending 31st March are:

Profits: 2012: Rs. 60,000, 2013 : Rs. 1,50,000, 2014: Rs.1,70,000, 2015: Rs. 1,90,000

Loss : 2016: Rs. 70,000.

Give the necessary journal entry to record the above change.

Solution  57

Question 58.   A and B have been carrying on business in partnership with fixed capitals of Rs. 2,40,000 and Rs.1,20,000 respectively and sharing profits in the same proportion. They decided that with effect from April 1, 2016 they would share profits and losses in the ratio of 3: 2. For this purpose goodwill is to be valued at three year’s purchase of the average of preceding three year's profits. The profits for the years ending 31^st  March were 2013: Rs. 75,000; 2014: Rs. 60,000; 2015 Rs. 80,000 and 2016 Rs. 1,30,000. Give the necessary journal entry.

Solution  58    

Question 59.      A. B and C were partners in a firm sharing profits in the ratio of 1:3:2. They decided that with effect from 1st April, 2016, they will share profits in the ratio of 4: 6:5. For this purpose the goodwill of the firm is valued at the total of preceding three year's profits. The profits were:

Rs.

2011-12                                                                                                40,000

2012-13                                                                                                10,000 (Loss)

2013-14                                                                                                80,000 (Loss)

2014-15                                                                                                1,20,000

2015-16                                                                                                1,40,000

Reserves and Profits appeared in the balance sheet at Rs. 40,000 and Rs. 30,000 respectively. Partners do not want to distribute the reserves and profits appearing in the balance sheet. Pass a single journal entry to record the change.

Solution  59

Question 60 (new). P, Q and R are partners sharing profits and losses in the ratio of 5: 3: 2 From 1^st April, 2021, they decide to share profits and losses in equal, proportions. The partnership deed provides that in the event of any change in profit sharing ratio, the goodwill should be valued at three year's purchase of the average of five year’s profits. The profits and losses of the preceding five years ending 31st March are: 
Profits: 2017: Rs. 60,000, 2018 : Rs. 1,50,000, 2019: Rs.1,70,000, 2020: Rs. 1,90,000 
Loss : 2021: Rs. 70,000. 
Give the necessary journal entry to record the above change

Solution  60 (new). 

Total Profit = Rs. 60,000 + Rs. 1,50,000 + Rs. 1,70,000 + Rs. 1,90,000 – Rs. 70,000

Total Profit = Rs. 5,00,000

Question 60.      X, Y and Z are partners sharing profits and losses in the ratio of 5: 3 : 2. Their position as at 31st March 2019 was as follows:

It was decided that with effect from 1st April 2019, profit and loss sharing ratio will be 3:3:1. They agreed on the following terms:

(i) Goodwill of the firm be valued at two year's purchase of the average super profits of last three years. Average profits of the last three years are Rs. 1,08,000, while the normal profits may be taken at Rs. 66,000.

(ii) Provision on debtors be reduced by Rs. 2,000.

(iii) Value of stock be increased by 10% and machinery be valued at Rs.1,00,000.

(iv) An item of Rs. 3,000 included in sundry creditors is not likely to be claimed.

Partners do not want to record the altered values of assets and liabilities in the books. Pass an entry to give effect to the above and prepare the revised balance sheet.

Solution  60

Super Profit = Average Profit – Normal Profit

Super Profit = Rs. 1,08,000 – Rs. 66,000

Super Profit = Rs. 42,000

Goodwill = Super Profit × Number of year purchases

Goodwill = Rs. 42,000 × 2

Goodwill = Rs. 84,000

Distributable Profit = Goodwill – Loss on Revaluation

Distributable Profit = Rs. 84,000 – Rs. 21,000

Distributable Profit = Rs. 63,000

Question 61 (new).  A and B have been carrying on business in partnership with fixed capitals of Rs. 2,40,000 and Rs.1,20,000 respectively and sharing profits in the same proportion. They decided that with effect from April 1, 2021 they would share profits and losses in the ratio of 3: 2. For this purpose goodwill is to be valued at three year’s purchase of the average of preceding three year's profits. The profits for the years ending 31^st March were 2018: Rs. 75,000; 2019: Rs. 60,000; 2020 Rs. 80,000 and 2021 Rs. 1,30,000. Give the necessary journal entry. 

Solution  61 (new).  

Question 61.      The following is the balance sheet of a firm as at 31st March, 2019:

On 1st April, 2019, the assets and liabilities were revalued as under:                                                    Rs.

Building                                                                                                                                                8,00,000

Plant and Machinery                                                                                                                              3,20,000

Stock                                                                                                                                                     2,60,000

Creditors                                                                                                                                                    84,000

A provision of 5% was required on debtors. Goodwill of the firm is valued at Rs. 1,70,000. Partners agreed that from 1st April, 2019 they will share profits in the ratio of 4:3:2:1 instead of their former ratio of 5 : 4:2:1. They do not want to record the revised values of assets and liabilities in the books. They also do not want to disturb the reserves and Profit & Loss A/C. Pass a single journal entry to give effect to the above.

Solution  61        

Question 62 (new).  A. B and C were partners in a firm sharing profits in the ratio of 1:3:2. They decided that with effect from 1st April, 2021, they will share profits in the ratio of 4: 6:5. For this purpose the goodwill of the firm is valued at the total of preceding three year's profits. The profits were:

Rs.

 2016-17                                                                                40,000

 2017-18                                                                                10,000 (Loss)

 2018-19                                                                                80,000 (Loss)

 2019-20                                                                                1,20,000

 2020-21                                                                                1,40,000

Reserves and Profits appeared in the balance sheet at Rs. 40,000 and Rs. 30,000 respectively. Partners do not want to distribute the reserves and profits appearing in the balance sheet. Pass a single journal entry to record the change.

Solution  62 (new). 

Goodwill = (Rs. 80,000) + Rs. 1,20,000 + Rs. 1,40,000 = Rs. 1,80,000

Total Distributable Amount = Goodwill + Reserve + Profit

Total Distributable Amount = Rs. 1,80,000 + Rs. 40,000 + Rs. 30,000

Total Distributable Amount = Rs. 2,50,000

Question 62.      Hari, Kunal and Uma are partners in a firm sharing profits and losses in the ratio of 5:3:2. From 1st April, 2018 they decided to share future profits and losses in the ratio of 2 : 5 : 3. Their Balance Sheet showed a balance of Rs. 75,000 in the Profit and Loss Account and a balance of Rs. 15,000 in Investment Fluctuation Fund. For this purpose, it was agreed that:

(i) Goodwill of the firm was valued at Rs. 3,00,000.

(ii) That investments (having a book value of Rs. 50,000) were valued at Rs.35,000.

(iii) That stock having a book value of Rs. 50,000 be depreciated by 10%

Pass the necessary journal entries for the above in the books of the firm.

Solution  62

Question 63 (new).  L, M and N were partners in a firm sharing profits in the ratio of 2:3:5. From 1^st April, 2018 they decided to share the profits in the ratio of 1:2:2. On this date, the Balance Sheet showed a credit balance of Rs. 1,17,000 in General Reserve and a debit balance of Rs. 35,000 in Profit and Loss account. The goodwill of the firm was valued at Rs. 5,00,000. The revaluation of assets and reassessment of liabilities resulted into a gain of Rs. 30,000.

Pass necessary journal entries for the above transactions on the reconstitution of the firm.  

Solution  63 (new). 

Question 64 (new). Dinesh, Ramesh and Suresh are partners in a firm sharing profits and losses in the ratio of 3:3:2. From 1^st April, 2018 they decided to share the future profits equally. On this date, the General Reserve showed a balance of Rs. 1,60,000; Revaluation of fixed assets resulted into a gain of Rs. 1,02,000 and stock resulted into a loss of Rs. 22,000. On this date the goodwill of the firm was valued at Rs. 3,60,000. 
Pass necessary journal entries for the above transactions on reconstitution of the firm.

Solution  64 (new).