How often do we apply for those or services to various companies advised by friends? Why do we buy products that are most actively advertised? It is not just that manufacturers spend a ton of finances to increase their own reputation, bother with its assessment, and resell it to other owners, deliberately overstating it? We will talk about goodwill and the features of its accounting in the article below.
Goodwill as an integral part of a successful business
Goodwill - what is it? Literally, “business reputation”. But we are not talking about that now. What is necessary for an entrepreneur to operate his own business? What is needed so that it is in demand and profitable? Undoubtedly, a positive assessment from third-party organizations. Currently, this aspect of business is increasingly affecting the minds and behavior of the population. Since, as statistics show in recent years, our legal entities are trying to justify it in court.
Therefore, if some information defaming the good name of a business entity has become public, it has the full civil right to challenge the lawfulness of what happened in the manner prescribed by law. Business reputation, although it is a concept rather abstract, but, nevertheless, represents a rather valuable intangible asset of the enterprise.
Goodwill
Entrepreneurs make a huge amount of investment in brand development and its advertising. Goodwill, or, as it is also called, goodwill (not to be confused with the goodwill filter), is very expensive for business entities, and therefore it is valued at the appropriate level.
So, what is this concept? Consider the issue in stages:
- it should always be based on a strong team of good advertisers and a well-developed brand promotion strategy;
- Further, top-level work is needed to promote the company;
- as a result, the company is obliged to be distinguished by its good corporate culture and established relationships with counterparties.
In other words, goodwill is a general assessment of business activity, which as a result - at the expense of its reputation - allows you to increase your working capital, since people want to consume this particular product and no other. It is interesting that many business entities tend to exaggerate their own significance, and this is quite fruitful for them - the value of the company increases markedly.
Goodwill Interpretations in Economic Theory
With the passage of time and the dynamics of business changes, the interpretation of this concept changed depending on external circumstances. For example, have you heard from your parents, and even more so from your grandparents who lived, say, under Stalin, about a term such as goodwill? What is it, in the Soviet Union no one knew. This concept simply did not exist. In the theoretical aspect, the term "business reputation" was meant, but it had rather a certain psychological definition. It could be described as the aggregate opinion of consumers about a particular company, but at the same time there was not even talk of goodwill as a valuable intangible asset. This is understandable - in the planned economy of that time, the need to expand this concept simply did not exist.
The term “goodwill” came to us from the United States, and there even a hundred years ago it meant a certain established value of business contacts, which subsequently could lead to an increase in profit by several points. In other words, in America this intangible asset has always had a value expression.
How does it differ from other assets
What is goodwill according to accounting standards? This is a special intangible asset that has a number of specific features that distinguish it from others:
- Under no circumstances can goodwill exist independently from a specifically affiliated company;
- it is immaterial, which means that its absence as such may not be noticed;
- goodwill has no initial introductory or operational value, and in some sample accounts it is valued at a symbolic amount of several dollars;
- if the value of other intangible assets in value terms is distributed according to the volume of output, then the amount of goodwill can be repaid at any time, and at the same time it will not disappear.
Goodwill as an economic category
Goodwill - what is it? This is a complex concept that can be classified according to several criteria. For example, by how it can affect the financial statements of a business entity:
- positive - when we use it, we also get good income;
- negative - accordingly, it not only does not bring profit, but also underestimates the estimated value of the enterprise as such.
Or in the form of existence, goodwill happens:
- created - developed over the years, through a competent marketing policy;
- accounting - is acquired for a certain value in cash and is included in the financial statements.
It can also be classified according to the documentary method of reflection in these characteristics of the company:
- market - when not only the purchase price, but also the profit received is involved in the procedure for assessing its value;
- normative - when determining its value, the auction value in the market is also taken into account.
Profitable Valuation Methods
Often the valuation method of goodwill is to determine the profit that it can bring to the enterprise. So, there are two income methods for determining its value.
For example, you can evaluate goodwill as the residual value between the difference in the total expressed value of the assets of the enterprise and its full price. It is clear that there will be no problems with the first deductible - all you need to do is summarize all the indicators. As for the value of the business itself, it should be approached comprehensively: either apply a comparative analysis, or be based on profitability indicators.
Or business reputation can be determined on the basis of existing excess profits. In this case, the main thing is to determine the planned profitability without using goodwill in the business, and then to calculate how much it can bring.
Other goodwill valuation methodology
Business reputation can be estimated based on data on the operating activities of a business entity. So, for example, the cost of goodwill is calculated based on the volume of sales:
(Received net income from operating activities - level of profitability by industry * Total cost of goods that were sold) / Indicator of capitalization of other intangible assets.
You can also attract cost to assess your business reputation. Such a calculation of goodwill is somewhat similar to the method of calculating excess profits, but now we are assessing not the dynamics of changes in the latter, but how the application of the concept considered by us affects the total cost.
And the last, least frequently used, is qualimetric. In this methodology, we evaluate the overall utility of the business entity and compare it with the amount of direct goodwill.
Features of goodwill in different countries
So, as we have already found out, the term “goodwill” itself did not exist in Soviet Russia, but nevertheless, if you recall the tsarist times, the authority of this concept was still present, albeit behind the scenes. Imagine how the local traders would cope without having a good business reputation among neighbors and residents of the surrounding areas. And in our time, despite the active application of this concept in business, there are no legislatively regulated documents defining the status of goodwill. But nevertheless, professional assessors of business reputation are gaining wide popularity in Russia, who will not only select the best way to calculate its value, but also conduct all the necessary calculations.
But in the United States, on the contrary, goodwill is not only actively taken into account in the development of its own business, but also regulated by law by the Ministry of Finance and the Internal Revenue Service.
The need for goodwill valuation
Determining the value of goodwill often has good reasons, because this procedure is quite expensive and complicated. As a rule, it is carried out if the business is planned to be sold or bought in the near future.
Undoubtedly, the value of tangible assets of an enterprise is a very important factor of influence, but it is no less important what reputation a manufacturer has earned over the years of its activity, how much consumers trust him, and how popular his product is. After all, as mentioned above, it is these factors that can significantly increase the value of a business.
Goodwill is also valued at mergers or acquisitions, as it is also important to understand what matters. Indeed, if in a non-material aspect the transaction is not profitable enough for one of the parties, then why conclude it?
How to prepare for a business reputation assessment
What is goodwill? This is primarily an intangible asset, therefore, it must be appraised accordingly. So, for the procedure for determining the value of business reputation, the following documents are required:
- full financial statements in the context of the last three years;
- if any, audit reports;
- full inventory of material assets held by the company;
- other decrypted and explained information about the property of a business entity;
- information on receivables by contracts;
- if there are subsidiaries, then their full financial statements.
Every year, the service sector is becoming wider and wider: we are offered legal and accounting consultations, and there are so many hairdressers and beauty salons that you can stumble upon them literally at every step! But this does not mean at all that each of these institutions brings unprecedented profits to its owner. First you need to earn a decent reputation, gain an impressive customer base. This is all the goodwill of the enterprise.
Who especially needs goodwill
Since there are not so many tangible assets on the balance of such business entities, and in order to establish a decent price on a property in the form of a cafe or a nail salon, it is necessary to offer the buyer a brand of the proper level. It is business reputation in this case that will take almost half of the value of the enterprise.
Goodwill Accounting in the Russian Federation
Given the fact that many enterprises are successfully transitioning to International Financial Reporting Standards (IFRS), we will consider business reputation accounting in this aspect.
According to postulate number 38, goodwill can be reflected only when buying or selling an enterprise, but not otherwise. Since it is incorrect to evaluate an asset, which in fact is practically not such, and rewarding it with any nominal value based on subjective considerations is very wrong.
Moreover, in accordance with standard No. 22, after a purchase and sale transaction, the recorded goodwill should be allocated to certain non-current assets. Since the value itself is paid for, it follows that it needs to be supported by something material. Often, the latter are fixed assets with a certain level of wear.
What to do if goodwill is negative
Goodwill - what is it? This is an intangible asset that is not accepted to identify and acquire separately from the business entity.
Sometimes situations arise when funds are paid for a company, which in fact is less than the estimated value of all business assets suggests. In this case, it follows that goodwill played a decisive role here, and the transaction was at a loss to the seller.
Therefore, if a positive business reputation as an intangible asset is further distributed according to the value of fixed assets available at the enterprise, then a negative one, in turn, will be reflected in the balance sheet of the business entity under account No. 192. And, alas, there is nothing to be done with it It will turn out before the conclusion of the next transaction.