Capital employed is considered while calculating goodwill through.........................

Capitalization of average profit method

The correct answer is option 4- Capitalization of average profit method.

* Average profit method = Average profit x no of years purchase.
This method simply takes the average of past profits for a chosen period and multiplies it by a number of years' purchase to arrive at the goodwill value. It doesn't consider the capital employed in the business.

* Weighted average profit method = Weighted average profit x no of years purchase
This method calculates an average profit but assigns weights to profits from different years. Typically, more recent years are given higher weightage. The weighted average profit is then multiplied by a number of years' purchase to determine goodwill.

* Capitalisation of Average Profits = Capitalized value of the average profits - Net assets (Capital employed).

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. This involves the following steps:
(i) Ascertain the average profits based on the past few years’ performance.
(ii) Capitalize the average profits on the basis of the normal rate of return to ascertain the capitalised value of average profits as follows: Average Profits × 100/Normal Rate of Return
(iii) Ascertain the actual firm’s capital (net assets) by deducting outside liabilities from the total assets (excluding goodwill and fictitious assets).
Firms’ Capital = Total Assets (excluding goodwill) – Outside Liabilities. Where outside Liabilities include both long term and short term Liabilities.
(iv) Compute the value of goodwill by deducting net assets from the capitalised value of average profits, i.e. (ii) – (iii).