What is Goodwill? - South Florida Business Broker Russell Cohen

Business Broker Russell Cohen

954-646-76511-800-BIZ-BROKER

What is Goodwill?

In the practical sense, when selling a business, goodwill is all the hard work
and effort the seller has put into the business over the years. When acquiring
a business, goodwill is the difference between the tangible assets and the
purchase price.

Goodwill value should not be confused with going-concern value. There is a
big difference. One leading business appraiser has defined going-concern value
as, “The premise that a business will continue to operate consistent with its
intended purpose as opposed to being liquidated.” In other words, the value
of a business for just being in business is the going-concern value. It has
nothing to do with whether the business is profitable, “on its last legs,” or
merely breaking even. Essentially, if the doors are open, a business is a going
concern.

Most business owners view goodwill as good service, products and reputation.
One dictionary defines Goodwill as, “A desire for the well-being of others;
the pleasant feeling or relationship between a business and its customers.”

The M&A Dictionary defines goodwill as: “An intangible fixed
asset that is carried as an asset on the balance sheet, such as a recognizable
company or product name or strong reputation. When one company pays more than
the net book value for another, the former is typically paying for goodwill.
Goodwill is often viewed as an approximation of the value of a company’s brand
names, reputation, or long-term relationships that cannot otherwise be represented
financially.”

Some Examples of Goodwill Items

  • Phantom Assets
  • Local Economy
  • Industry Ratios
  • Custom-Built Factory
  • Management
  • Loyal Customer Base
  • Supplier List
  • Reputation
  • Delivery Systems
  • Location
  • Experienced Design Staff
  • Growing Industry
  • Recession Resistant Industry
  • Low Employee Turnover
  • Skilled Employees
  • Trade Secrets
  • Licenses
  • Mailing List
  • Royalty Agreements
  • Tooling
  • Technologically Advanced Equipment
  • Advertising Campaigns
  • Advertising Materials
  • Backlog
  • Computer Databases
  • Computer Designs
  • Contracts
  • Copyrights
  • Credit Files
  • Distributorships
  • Engineering Drawings
  • Favorable Financing
  • Franchises
  • Government Programs
  • Know-How
  • Training Procedures
  • Proprietary Designs
  • Systems and Procedures
  • Trademarks
  • Employee Manual
  • Location
  • Name Recognition

What goodwill is and how it is represented on a company’s financial statements
are two different issues. For example: until recently, if a company sold for
$5 million, but only had $1 million in tangible assets, the balance of $4 million
was considered goodwill. Under previous accounting standards, this goodwill
had to be amortized by the acquirer over a 15-year period. This especially
affected public companies, since an acquisition could negatively impact earnings,
thus reducing the price of its stock. One result of this was that public companies
were reluctant to acquire firms in which goodwill was a large part of the purchase
price. On the other hand, purchasers of non-public firms received a tax break
because of the amortization.

The accounting profession recently took another look at goodwill and changed
the way goodwill is handled. The reason for this was to bring accounting into
today’s business world. For years, companies were built around hard assets
such as heavy equipment and machinery. Many of today’s industrial giants are
not really industrial at all. They are built around intangible assets such
as patents, brand names, intellectual property, etc. – basically what are considered
goodwill items. These businesses don’t have huge factories full of workers
on assembly lines.

Some new rules or standards were created by the Federal Accounting Standards
Board (FASB) and implemented on July 1, 2001. Under this change, goodwill may
not have to be written off (unless it is carried at a value in excess of its
real value). However, the standards now require that companies, both private
and public, have their intangible assets, including goodwill, valued by an
outside expert on an annual basis. The rules basically define the difference
between goodwill and other intangible assets and how they are to be treated
from an accounting and tax reporting standpoint. How they are treated can impact
the bottom line and have tax consequences. Also, completely identifying the
items that may have been combined into goodwill and establishing separate values
may increase the true intangible asset basis.

The upshot of all this is that the meaning of goodwill just got more complicated.
Here’s a simplification: prior to acquiring a company or placing your business
on the market, you should definitely consult your accounting professional.
Goodwill may still represent the hard work and effort the seller has put into
his or her business over the years — it just has to be accounted for differently
and in more detail.


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