1. Business Purchase To be used in conjunction with PDF document entitled “Business Purchase – Student note” Brought to you by accountingrevision.com

2. Inherent vs Purchased Goodwill So far in the course we have revalued goodwill based on what a partnership believes its goodwill is worth. This is known as inherent goodwill as it will only arise if and when the business is actually sold. Inherent goodwill can not be shown on the balance sheet of a limited company (according to FRS 10) Brought to you by accountingrevision.com

3. Inherent vs Purchased Goodwill When a business is purchased as a going concern, there will usually be some goodwill paid for – this is purchased goodwill. Purchased goodwill is the difference between the fair value of the net assets of the business and the value of the business as a going concern Purchased goodwill can be reported in the balance sheet of a limited company Brought to you by accountingrevision.com

4. Business purchase step 1 Debit all of the assets to be taken over by the new business Use the agreed value (not necessarily the book value from the balance sheet) and do not take over provision for depreciation. In most cases the bank/cash account balances are not taken over Include a line in the journal for goodwill although you may not know the amount yet. Brought to you by accountingrevision.com

5. Assets are debited at their agreed values. There will always be goodwill on the purchase of an existing business – leave room for it but calculate it at the end Brought to you by accountingrevision.com

6. Business purchase step 2 Credit the liabilities that are being taken over in the purchase. Use the amounts shown in the balance sheet. Brought to you by accountingrevision.com

8. Business purchase step 3 Credit the consideration (payment made to current owners) for the purchase. In most questions this will be in the form of cash and/or shares (at a premium) and/or debentures Be careful of the dates – consideration may be made on different days Brought to you by accountingrevision.com

9. The consideration is a mix of share capital and cash. Credit capital for the par value of the shares issued and share premium for the balance. Don’t forget the cash! Brought to you by accountingrevision.com

10. Business purchase step 4 Now you can calculate the amount of goodwill being purchased (i.e. goodwill is the amount required to balance the journal entry). Brought to you by accountingrevision.com

11. The credit side of the journal entry adds to $297470 The debit side adds to $225 870. Therefore the goodwill paid for on purchase is $71 600. 71 600 Brought to you by accountingrevision.com

13. Loan from a partner Very often a business purchase question will include be for a company acquiring a partnership It is common in these questions for there to be a loan from a partner on the books. In this instance it is usual for a debenture to be issued to the partner for the loan. It is usually worded so that the partner continues to receive the same amount of interest after the takeover as before. e.g. Nelumdeniya is a partner in a firm that is being purchased. The partnership books show a loan from Nelumdeniya for $100 000 earning 9% ($9000 in interest per year). The company will issue Nelumdeniya with a 6% debenture for the loan. How much will the debenture need to be, for Nelumdeniya to receive the same amount of interest as before? Old interest rate is 9%. New interest rate is 6%. Nelumdeniya will need a debenture of (9/6 X 100 000) $150 000 to ensure he receives the same amount of interest as before. Brought to you by accountingrevision.com

14. Negative Goodwill There may be occasions where a business is sold for an amount less than the fair value of its net assets. This may be because the owner would prefer a quick sale to a protracted winding up of the business In this instance the goodwill is credited on the books of the new business It is still shown under the intangible assets but is a negative number. e.g. Hayward is running a business that shows net assets of $100 000 on his balance sheet. He accepts an offer of $80 000 from Worason Ltd to purchases the business. The entry in the books of Worasen Ltd to record the sale would be: Assets 100 000 Goodwill 20 000 Bank 80 000 The change on Worasen Ltd’s balance sheet would be: Brought to you by accountingrevision.com