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Calculating Goodwill as Part of Business Value

Posted on in Business and Divorce

Calculating Goodwill as Part of Business ValuationA business’ value extends beyond the earnings that can be attributed to its tangible assets. Factors such as reputation amongst customers can increase its value in ways that are harder to calculate. These intangible assets are known as goodwill and are commonly included in business valuations. When a divorcing couple is assessing a business during the division of property, goodwill should be part of the valuation. However, it can be tricky to put a monetary value on goodwill, and not all forms of goodwill are treated equally in a divorce. An experienced business assessor is needed to understand the true value of goodwill.

What Creates Goodwill?

When competing businesses offer similar products or services, it is a business’ goodwill that may make a difference in a customer’s choice. Goodwill can create greater economic returns by attracting new customers and bringing old customers back. Several factors can add to a business’ goodwill, including:

  • Reputation;
  • Name recognition;
  • Customer loyalty;
  • Favorable location;
  • Skilled employees;
  • Trade secrets and patents; and
  • Personal relationships.

Valuing Goodwill

In simple terms, goodwill is the value of a business that does not come from its combined tangible assets. There are two common methods for calculating goodwill as part of a business’ value:

  1. Market Value Method: An assessor estimates how much money the owner would receive if her or she sold the business. The portion of the sale value that does not come from tangible assets is considered the business’ goodwill.
  2. Capitalization of Excess Earnings: This method attempts to differentiate between the cause of earnings. The assessor first figures out earnings attributed to tangible assets by calculating a reasonable rate of return from the assets. That number is subtracted from the total earnings to determine the excess earnings. The excess earnings are divided by a capitalization rate to calculate the value of goodwill.

Types of Goodwill

Goodwill comes from the business itself and the owner. The source of the goodwill can change the resale value of a business because personal goodwill will be lost during the sale. Many courts have not included personal goodwill as part of a business’ value for the purpose of divorce. Separating the values of enterprise and personal goodwill can be difficult. One method is considering a hypothetical sale in which the seller would be allowed to start a new business and compete in the same market. If the business has high personal goodwill, the buyer would not offer as much for the business because of the expected loss of customers to the seller’s new business.

Valuing a Business 

Assessing the correct value of a business is complicated because of the tangible and intangible assets involved. A DuPage County divorce attorney at Calabrese Associates, PC, can help you conduct an accurate valuation of your business. To schedule a consultation, call 630-393-3111.

Source:

https://quickbooks.intuit.com/r/accounting-taxes/whats-business-goodwill-and-how-do-you-account-for-it-in-your-books/

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