As a business broker I’m often asked about business goodwill. There appears to be a bit of confusion about the term.
It’s fairly simple. Goodwill is an intangible asset of an ongoing business. It is intangible as opposed to the tangible assets of a business which may include furniture, fixtures, equipment, inventory and real estate.
What creates goodwill? Many factors may contribute to the goodwill value of a business. Such considerations as the company’s reputation, size and loyalty of the customer base, number of years in business, market penetration and brand awareness can all create goodwill.
In addition, such things as proprietary products and also agreements giving the business exclusive rights to sell products or deliver services can definitely enhance the value of goodwill. Outstanding employees who are highly trained and motivated also lend goodwill value to a business operation.
And intellectual property can become a significant part of the goodwill value (ie: patents, trademarks, copyrights and trade secrets).
In fact, any intangible situation in a business, whether subtle or not so subtle, which gives the business some competitive advantage will add to the goodwill value of the company.
Although goodwill is an intangible asset, it can be calculated as a definite dollar figure. This is the way it’s done:
- Let’s say ABC Corporation has a business appraisal done on the business to determine the total market value of the company. The appraiser of the company will use several methods of valuation to compute a total market value of the business. (For our article on using rule of thumb guidelines to estimate the value of a business, please click here.)
- Once the total market value of the company has been determined, we can easily calculate the value of the goodwill asset. You simply subtract the value of the tangible assets of the company as outlined in the written appraisal (which may include furniture, fixtures, equipment, inventory and real estate) from the total market value of the company. The difference is goodwill.
- For example, if ABC Corporation has a total market valuation of $300,000 with tangible assets of $200,000, then the value of goodwill of the company would be worth $100,000.
Is goodwill the same as “blue sky?”
Absolutely not. At least not to this business broker with graying hair who has “seen it all” – or almost all.
Goodwill is an accepted business and accounting reality that is validated by CPA and law firms worldwide. Goodwill lends definite and quantifiable value to a business entity.
Blue sky connotes – at least to me – something that is essentially worthless.
Any questions? Or comments? All are welcome and encouraged.
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William Bruce is an Accredited Business Intermediary and currently serves as president of the American Business Brokers Association.
His practice includes consulting nationally on issues involving the valuation and transfer of business interests. He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.com.