The correct answer is Option (4) → Capitalization Method
Under the capitalisation method the profits are capitalised at the normal rate of return (profit × 100 ÷ normal rate), and the capital employed is deducted. The normal rate of return does the work of the multiplier, so no number of years’ purchase is used.
Option (1) Simple Average Method — Uses years’ purchase. Goodwill = simple average profit × number of years’ purchase.
Option (2) Weighted Average Method — Uses years’ purchase. Goodwill = weighted average profit × number of years’ purchase.
Option (3) Super Profit method — Uses years’ purchase. Goodwill = super profit × number of years’ purchase.
NCERT (2026-27 edition):
Average Profits Method – “Under this method, the goodwill is valued at agreed number of ‘years’ purchase of the average profits of the past few years.” NCERT (2026-27 edition):
Super Profits Method – “The basic assumption in the average profits (simple or weighted) method of calculating goodwill is that if a new business is set up, it will not be able to earn any profits during the first few years of its operations. Hence, the person who purchases an existing business has to pay in the form of goodwill a sum equal to the total profits he is likely to receive for the first ‘few years’.” NCERT (2026-27 edition):
Super Profits Method – “… The goodwill under the super profit method is ascertained by multiplying the super profits by certain number of years’ purchase.” NCERT (2026-27 edition):
Capitalisation Method – “Under this method the goodwill can be calculated in two ways: (a) by capitalizing the average profits, or (b) by capitalising the super profits. (a) Capitalisation of Average Profits: Under this method, the value of goodwill is ascertained by deducting the actual firm’s capital in the business from the capitalized value of the average profits on the basis of normal rate of return.” |
