Valuation Of Goodwill: Sapient Services

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Goodwill earned by the firm during its tenure is generally used to assess a firm's reputation. Many people have defined goodwill, but no one has provided a crystal clear definition. In the business world, "goodwill" is commonly used to assess the worth of a company. It is an intangible, priceless asset. "Goodwill" is given to a company that has built a good reputation over time. People have begun to place their trust in the firm's products or services. 

It is a widely held belief that if a company is profitable, it is highly valued and thus attracts goodwill. We can now say that the reputation of a firm combined with its growing profitability represents " Valuation of Goodwill ". However, when a company is sold, its goodwill can be realised and quantified in financial terms.

Goodwill can be basically defined as:

The capacity of a business to earn profits in the future is essentially what the term "Goodwill" meant. "Goodwill" is the present value of a company's expected excess earnings. A company's established reputation is regarded as a quantifiable asset that is calculated as part of its value when it is sold.

Need for Valuation of GoodWill

In general, goodwill can be valued when a company's business is sold. However, in many cases, goodwill is valued in order to calculate the firm's value. In the case of a sole proprietorship, it will be valued at the time of business disposal; in the case of a firm, it may be calculated at the time of addition, resignation, and disposal of the firm. In the case of corporations, the need for valuation of goodwill arises in the following circumstances: 

  1.  company amalgamation
  2.  takeover of one company by another or sale of one company's business
  3. If a company wishes to write off or reduce a debit balance in its profit and loss account; or if a company wishes to exercise control over another company.
  4. In the case of the valuation of shares of an unlisted company
  5. The conversion of shares from one class to another.
  6. In the case of the valuation of shares of an unlisted company.
  7. The conversion of shares through one class to another.

Main Components of Valuation of Goodwill


The most important factor in Valuation of goodwill is profitability. The primary focus is on the company's future profits. Whether the company will be able to increase its profit in the future. Since previous profits serve as a foundation for future profits. "Future Maintenance Profit" refers to the process of determining whether a company's profits will be maintained in the future. When estimating the "Future Maintenance Profit," the following factors must be considered:

  1. All regular business expenses should be included.
  2. Any increase in the value of fixed assets should be excluded.
  3. Any increase in the value of fixed assets should be excluded.
  4. Tax provisions should be included.
  5. Income from non-trading assets should not be considered.
  6. Transferring to the General Reserve should be avoided.
  7. Preference Dividend Shareholders should be barred.
  8. Non-recurring expenses should be included
  9. Previous year's average profits should be considered.

Normal Rate of Return

Every person making investments in his/her/its funds in companies needs a fair return; this is regarded as "Rate of Earnings". The rate of return is determined by the nature of the industry as well as other factors such as bank rate, risk, management style, and so on. It consists of the following elements:

Return at Zero Risk Level - In this case, the risk to the investor is nil or zero because the company in which it has invested has no risk in its operations. However, the return will be less than expected like investments in government securities, bonds, NSCs etc.

Business risk premium - It refers to a risky investment. When a company faces more risk in its business transactions, the rate of return or earning is higher. Profit will vary in proportion to the industry's risk. The higher the risk, the higher the premium.

Financial risk premium - It refers to risk associated with the Capital Structure. A company with a higher debt/equity ratio is considered riskier. Other factors that influence the rate of return include:

  1. The interest rate at the bank
  2. Investment period
  3. Risk ( due to nature of business as well as capital structure)
  4. Economic and political scenarios.

Capital Employed

The amount of profits earned in relation to the capital used is an important factor in determining the value of goodwill. Fixed Assets + Net Working Capital are represented by Capital Employed. This includes the Equity Holders fund as well as long-term borrowings. The following items must be considered when calculating Capital Employed:

  1. All fixed assets, less depreciation, have been written off.
  2. Trade Investments
  3. Current assets only

About Sapient Services

Sapient Services, which began operations in April 1988, succeeded M/s Malhotra Associates. Initially, the company focused on damage assessment, valuation of plant and machinery, Chartered Engineer certification, third-party inspection, and risk assessment. 

Sapient Services Pvt. Ltd., along with chartered engineers, insurance surveyors, loss adjusters, risk inspectors, and assessors, is a government-registered valuer with high professional standards. It provides Valuation of Goodwill and  Chartered Engineering in Mumbai that is superior to that provided by other companies.

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