Under which method, the goodwill is valued at agreed number of ‘years’ purchase of the average profits of the past few years?

Average Profits Method

The correct answer is option 1- Average Profits Method.

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. It is based on the assumption that a new business will not be able to earn any profits during the first few years of its operations. Hence, the person who purchases a running business must pay in the form of goodwill a sum which is equal to the profits he is likely to receive for the first few years. The goodwill, therefore, should be calculated by multiplying the past average profits by the number of years during which the anticipated profits are expected to accrue.