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Course Title: Advanced Accounting – II
Course code: AIS-3101

Chapter : 3
Valuation of Goodwill and Shares
Moderator:
Assistant prof.MD Kamal Uddin
Department of Accounting & Information Systems
Islamic University,Kushtia,Bangladesh

Presented by Group- A
3rd year 1st Semester
Department of Accounting & Information Systems
Islamic University,Kushtia,Bangladesh
 BBA 3rd Year 1st Semester
Department of Accounting & Information Systems
Course-Advanced Accounting-2 (AIS-3101)

SL NAME ID
01 Md Mohaiminul Islam 1904007
02 Alok Mazumdar (Group Leader) 1904010
03 Md.Hasibur Rahman Kiron 1904013
04 Mostofa Wasif 1904018
05 Syed Abrar Hossain 1904025
06 Md. Mizanur Rahman 1904030
07 Mithun Kumar 1904034
08 Md Al-Amin Hossen 1904045
09 Md. Hasib Aktar Shuvo 1904050
10 Jannatul Fardoush 1904063
11 Rikta Khatun 1904067
12 Zuthy Khatun 1904068
13 Al Shafayet 1804078
 Contents
1.what do you mean by Intangible Assets?
2.Types intangible assets?
3.what is Goodwill
4.How many ways of a business Goodwill arise?
5. Necessity of Valuation of Goodwill .
6.General Factors affecting the Value of Goodwill .
7.Determinants of Goodwill .
8.Methods of Valuation of Goodwill
9.Mathmetical problem of goodwill.
10.Need for Valuation of Shares:
11.Affecting Factors of valuation of shares
12.Methods of Valuation of shares
13. Assumptions of Valuation of Shares in the case of
Fully Paid up and Partly Paid up Share.
 .what do you mean by Intangible Assets?

According to IFRS, Intangible Assets are

identifiable, non-monetary assets without
physical substance. Like all assets,
intangible assets are those that are
expected to generate economic returns for
the company in the Future.

Example of Intangible Assets-

Intellectual property, patents,
copyright, trademarks, trade names,
patented technology, computer
software, databases and trade
secrets, franchise agreements,
licensing, royalty, import quotas,
marketing rights.
 *Identifiable Intangible Assets: Those
assets that can be separated from other
assets and can even be sold by the
company. These are such assets like
intellectual property, patents, copyright,
trademarks, trade names, and Computer
software.

*Unidentifiable Intangible Assets: Those

assets that cannot be physically
separated from the company. Example-
Goodwill.
 What is Goodwill

Goodwill is extra/excess earning capacity

of business. Here excess earning means
the earnings over the normal earnings of
business.

How many ways of a business Goodwill

arise?

I. It may be inherent to the business that generated internally; or,

II. It may be acquired while purchasing any concern. Purchased
goodwill can be defined as being the excess of fair value of the
purchase consideration over the fair value of the separable net
assets acquired.
Necessity of Valuation of
Googwill
In the case of Partnership Firm:
1.When there is a change in the profit sharing
ratio among the partners;
2. When a new partner is admitted;
3. When a partner retires or dies; and
4. When the firm sells its business to a
company or is amalgamated with another firm.

In the case of Joint Stock Company:

When the company has previously written
off goodwill and wants to write it back in order
to wipe off the debit balance in the ‘Profit and
Loss Account’.
When the business of the company is to be
sold to another company, or when the
company is to be amalgamated with another
company.
When the shares of the company have to be
valued either for state duty purposes, or for
the purposes of acquisition of control over the
company.
 General Factors affecting the Value of Goodwill .
i. Personal skill in Management (a firms of Architects, Solicitors,
CA, CMA);
ii. Nature of Business (difficult to enter an industry where an
existing firms enjoy a measure of goodwill by mere facts of
existence. Example Tea Garden);

iii. Favorable Location or Site;

iv. Access to Supplies (transport facility or availability of suppliers
in case of shortage of raw material);

v. Patent and Trade Marks Protection;

vi. Exceptional Contracts (exceptionally favorable contracts for

supply of goods to customers will also boost the value of goodwill)
;

vii. Capital Requirements and Arrangement of Capital.

7.Determinants of Goodwill .
 Goodwill is based on the following three
determinants:
 1. Future Maintainable Profit (FMP)
 2. Capital Employed
 3. Normal Rate of Return (NRR)

Average Profit Method

Simple Average Weighted Average

Σ Profit Σ Weighted Profit

No. of Years Σ Weight
Capital Employed
Capital employed means the value of assets (Realizable Value) excluding
outside liabilities (settlement/Payable Value).

 Capital employed is calculated in two ways:

 i. On the basis of Assets
 ii. On the basis of
 On the basis of Assets:
 Present value of All Assets xxx
 Less: Fictitious Assets xxx
 Goodwill xxx
 Non-Trading Investments xxx xxx
 Less: Outside Liabilities xxx
 Capital Employed = xxx
Capital Employed
On the basis of Liabilities:

 Share Capital xxx

 Add: Reserve & Surplus xxx
 Profit & Loss A/C Cr. Balance xxx
 Any Undistributed Profit xxx
 Any Appreciation of Assets xxx xxx

Less: Dr. Balance of P/L A/C xxx

 Fictitious Assets xxx
 Goodwill (Not, if Goodwill at cost) xxx
 Non-Trading Investment xxx
 Decrease of Value of any Assets xxx xxx
 Capital Employed = xxx
Average Capital Employed

 Average Capital Employed

 This means the average or mean of beginning capital
employed and ending capital employed of the year of any
company.
 Average Capital Employed = End of the year Capital Employed + Beginning of the year Capital Employed
 2

 Alternative method:
 Average Capital Employed = Opening Capital Employed +
Half of the current year profit (After Tax)
 Or,
 Average Capital Employed = Ending Capital Employed -
Half of the current year profit (After Tax)
 (Maximum time used this method)
Normal Rate of Return (NRR)

 NRR means the expected rate of yield or return which the investor expects to
get from the investment.
If NRR is not given, then there are two methods to calculate NRR.
These are as follows

1) Dividend Yield Method Earning Yield Method

NRR =Average Dividend per Share
Market Price per Share
X 100 NRR= Average Earning per Share X 100
Market Price per Share

Where, DPS (Dividend Per Share) = Paid up

value of share X % of Dividend paid/
declared
 8.Methods of Valuation of Goodwill

There are four methods of valuation of goodwill. The methods

are:
1. Average Profit Method
2. Super Profit Method
3. Annuity Method
4. Capitalization Method

Average Profit Method Super Profit Method

Goodwill = Super Profit X No. of Year
Goodwill = FMP X No. of Year Purchase Purchase
Methods of Valuation of
Goodwill
Annuity Method (Discounted Basis)
Goodwill = Super Profit X PVAF (Present Value of Annuity Factor)
Or,

Where,
 P=Present Value of Goodwill
 A= Super Profit
R= NRR
n= Number of Year Purchase
4. Capitalization Method
Goodwill = Normal Capital Employed – Average Capital Employed
Normal Capital Employed =
 FMP /NRR (%)

Capitalization of Super Profit Method

Goodwill =Super Profit/NRR (%)
Needs for Valuation of Shares
 a. For formulating an amalgamation scheme.
 b. For purchase or sale of controlling shares (stock exchange
quotations are valid only for regular lots).
 c. For the valuation of the assets of a finance or an investment
trust company.
 d. For security purposes, e.g., where loans are raised on the
security of shares of a company.
 e. Where a company is reconstructed under section 494 of the
Act and there are dissentient shareholders.
 f. Where a company acquires the shares in a company under
section 395—that is when 9/10ths of shareholders in a
company agree to transfer shares to another company and the
transferee company decides to acquire the shares of
dissentient shareholders also.
Affecting Factors of valuation of shares

a) Restrictions on transfer of shares — the normal rate of return will be

increased, say, by ½%.

b) Disabilities attaching to the share will also cause the normal rate of return
to go up — for instance, if the share is partly paid, the investors will expect a
high yield from it (say, by ½% higher) than in case of fully paid shares.

c) Dividend performance — investors are satisfied with a comparatively low

yield in case the company declares a uniform dividend from year to year and
does not make a default. The normal rate of returns higher when the
dividends have been fluctuating.

d) Financial prudence is also a factor. A company which distributes only a

part of profits will attract investors without having to offer high yield.

e) Net asset backing is important from the point of view of safety. If tangible
assets per share, after deduction of all liabilities, are twice or thrice the paid
up value of the share, investors will be satisfied with a lower rate of return
than if the net tangible assets are only a little more than the paid up capital.
Methods of Valuation of shares
 The following are the methods for valuation of
shares:-
1. Net Asset Method (Intrinsic value)

2. PE Model

3. Yield Method
a. Dividend Yield Method
b. Earnings Yield Method

4. Fair Value method

1. Net Asset Method:
 The following points may be kept in mind:
 (1) The value of goodwill will be ascertained.
 (2) Fixed assets of the company, disclosed or undisclosed in
Balance Sheet, are taken at their realizable values.
 (3) Floating assets (cash/accounts receivable/inventory/
outstanding shares/W-I-P) are to be taken at market/realizable
value.
 (4) Goodwill and Non-trade Investment are to be taken at
realizable value.
 (5) Remember to exclude fictitious assets, such as Preliminary
Expenses, Accumulated Losses etc.
 (6) Provision for depreciation, bad debts provision etc. must be
considered.
 (7) Find out the external liabilities of the company payable to
outsiders including contingent liabilities.
Thus the value of net asset is:
Net Assets (Intrinsic value of asset) = Total of Realizable Value of
Assets – Total of External Liabilities

Total Value of Equity shares = Net Assets – Preference share capital +

Pref. Dividend (Declared, not paid)
Value of one Equity share = Valued of Net Assets Attributable to EquitShareholders
Number of Equity shares

Calculation of Net Assets Attributable to Equity Shareholders:

On the basis of Assets:
A. Assets (@Realizable Value) XXX
B. Less: Outside Liabilities (@Settlement Value XXX
C. Net Assets/Net Worth of Shareholders XXX
D. Less: Preference Share Capital XXX
Preference Dividend (Declared but not paid)XXX XXX
E. Net Assets Attributable to Equity Shareholders XXX
On the basis of liabilities:
A. Share Capital:
 Equity Share Capital XXX
 Preference Share Capital XXX XXX
B. Add: Appropriations:
 General Reserve XXX
 Profit & Loss A/c XXX
 Share Premium XXX
 Any undistributed funds XXX
 Appreciation of Assets XXX XXX
 XXX
C. Less: Decrease or Depreciation of Assets XXX
D. Net Worth of Shareholders XXX
E. Less: Claim of Preference Shareholders:
 Preference Share Capital XXX
 Preference Dividend (Not Paid) XXX XXX
F. Net worth attributable to Equity Shareholders XXX
On the basis of Capital Employed after the valuation
of Goodwill:

 A. Closing / Terminal Capital Employed XXX

 B. Add: Goodwill XXX
 C. Add: Non-Trade Investment XXX
 D. Net Worth of Shareholders XXX
 E. Less: Claim of Preference Shareholders:
 Preference Share Capital XXX
 Preference Dividend (Not Paid) XXX XXX
 F. Net worth attributable to Equity Shareholders XXX
 Assumptions of Valuation of Shares in the case of Fully Paid up and
Partly Paid up Share
There are two assumptions of Valuation of Shares. These are as follows:
1. Notion Called on Shares
2. No Notion Called on Shares

Key Points Assumption-1 Assumption-2

(Notion Called on Equity Share) (No Notion Called on Equity Share

1. Application of Assumption
It is already mention in question to If shares are of different Face
solve by Notional Call Method. Value, or different nominal
Assuming Liquidation or winding up
of company value.
Company will make call on partly
paid shares in near future

2. Calculation of Net Assets Net Worth of Shareholders XXX No Need to add Notional
(Assets-Outside Liabilities) Add:
of ESH Notional Calls on Share Value XXX Calls on Share Value to
Total Net Worth of Shareholders XXX compute the net assets
Less: Claim of Preference Shareholder
XXX attributable to ESH.
Net Worth/Net Assets to ESH XXX
 PE (Price Earning)
 PE = Price/Earning, or, MPS/EPS
 Value of Share (MPS) = EPS x P/E ratio

Method # 3. Yield Method

Under this method the valuation of shares is obtained by comparing the
expected rate of return with normal rate of return

A. Dividend yield Method:

NRR = (DPS/MPS)
Value per share (MPS) = (DPS/NRR)
Calculation of Profit Available for Dividend to Equity
Shareholder:
Average Annual Profit (After Tax) XXX
Less) Transfer to General Reserve from profit (% given) XXX
Less) Transfers to Debenture Redemption Fund XXX
Less) Preference Dividend XXX XXX
Profit available for dividend to ESH XXX

Expected Rate of Dividend = (Profit available for dividend / Total Paid up Equity Share Capital)
X 100
Dividend Per Share = Paid up value X Rate of Dividend

Value of equity share = (DPS/NRR)

B. Earning yield Method

Earning yield Method:
NRR = (EPS/MPS)
Value per share (MPS) = (EPS/NRR)

Fair Value Method:

There are some accountants who do not prefer to use Intrinsic Value or Yield
Value for ascertaining the correct value of shares.

Fair Value = (Intrinsic Value + Yield Value)/2