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Accounting: a brief introduction to goodwill

Goodwill is the term used to describe the ‘good name’ gold ‘reputation’ earned by a business while trading. If a company provides good service to its clients, they are expected to return again and again to the services of that firm. This, in turn, is expected to have a positive impact on the company’s future revenue and profits. In accounting terms, goodwill represents an asset for the business and has a real monetary value.

The main characteristics of goodwill are:

• It belongs to the category of intangible assets that includes other elements such as patents, trademarks and copyrights. Goodwill along with these others intangible they are non-physical fixed assets and are included in the balance sheet.
• It is a valuable asset.
• Contributes to obtaining excess profits. The existence of goodwill is often key for a company to make profits above the levels of similar companies in the same industry.
• Its value is subject to constant fluctuations.
• Its value is only realized when a business is sold or transferred.
• Goodwill is difficult to assign an exact value and will always involve expert judgment.

The key factors that affect goodwill are:

• The nature of the business. Goodwill associated with a service-based business is likely to be different from that of a manufacturing business.
• Favorable location. If a business is located in a good location, it will generally have a positive effect on the value of goodwill.
• Business longevity. If a business has been in business for an extended period, it may have had more time to develop a solid good reputation and more goodwill.
• Possession of licenses or technical knowledge.
• After-sales services and general customer service.
• Business risk involved.
• Future competition and new entrants in a specific business market.
• Management’s attitude towards the fulfillment of commitments

Specific circumstances in which it is necessary valuation Of goodwill:

• When there is a change in the profit-sharing relationship between existing partners.
• When a new member is admitted.
• When a partner retires.
• When a partner dies.
• When the business is sold as a going concern.
• When the company merges with another company.

Goodwill, while not something that can necessarily be displayed in black and white, is a vital component of a business’s value, and whether you’re looking to buy or sell an established business, it’s important not to underestimate its value.