Goodwill is a type of intangible asset that tends to increase when a company acquires the entire property of another company. Since acquisitions are designed to increase the value of both companies, the purchase price often exceeds the market value of the acquired company. This gap between market value and price is called Goodwill, and must be appropriately recorded in the accounts of the associated company. Once you have learned how to account for Goodwill, you will also be able to correctly record the acquisition.
Steps
Step 1. Write all the assets of the asset according to the assumed market value
When establishing the value of goodwill, the assets acquired must be correctly valued at the market price rather than at the book value. Important assets such as land or buildings may be overvalued or underestimated, depending on the particular market conditions. Intangible assets such as patents and trademarks may also not be accounted for if they are the result of the company's own work (as they are assimilated to R&D expenses). Receivables and payables due must be adjusted for any approximate assessments of uncertain accounts.
Step 2. Add up the value of the acquired assets
After accounting for them at the market price, it calculates the total value, obtaining the net value of the identifiable assets of the acquired company.
Step 3. Now subtract the net worth of the identifiable assets from the purchase price
Goodwill will correspond to the difference between the price paid and the total value of the company's assets. To calculate this, simply subtract the total value of the goods from the purchase price; the result will almost always be a positive value.
For example, consider a company acquiring another for 1 million euros. If the value of all identifiable assets in the acquired company amounts to € 800,000, then the goodwill will correspond to (1,000,000 - 800,000), i.e. € 200,000
Step 4. Post the acquisition on the first note
Continuing with the example above, the company will have to register in Credit for Goodwill for an amount equal to € 200,000 and the assets acquired for € 800,000, and in Dare an entry of cash for € 1 million. Goodwill is accounted for in the balance sheet item Undefined assets.
Step 5. Check the Goodwill account for any "Deterioration"
Goodwill is neither subject to depreciation nor amortization, however any deterioration is verified. Each year, its value must be compared to the estimated market value. If the recorded amount is too low, no changes are allowed; if it is too high, the account value must be appropriately reduced.
Step 6. Record any "Deterioration" on the first note
If the Goodwill account should suffer a reduction in value, a change in the general ledger must be entered. To account for it, enter the Impairment Loss in Credit and Goodwill in Debit for the corresponding amount.
