Super Profit Method for Goodwill: Normal Profit, Capital Employed, and Solved Questions

The super profit method of goodwill becomes much easier when you see the story behind the formula.

Imagine two similar firms using similar amounts of capital. One firm earns only the usual return that any ordinary business in that line could earn. The other firm earns more because it has a better reputation, loyal customers, strong management, a good location, or some other advantage.

That extra profit is the heart of this method.

The super profit method does not value goodwill from the whole profit of the firm. It values goodwill from the extra profit earned over and above normal profit.

Once this idea is clear, the formulas stop feeling random.

What Super Profit Means

Super profit is the profit earned by a firm above the normal profit expected from the capital employed in the business.

In simple words:

Super profit = Average profit - Normal profit

If the firm earns more than normal profit, the extra amount is called super profit.

If the firm earns only normal profit, there is no super profit.

If the firm earns less than normal profit, there is no goodwill under this method unless the question gives a special instruction.

This is why the method feels logical. A firm should not receive goodwill simply because it earns some profit. It receives goodwill because it earns more than what a similar business would normally earn on the same capital.

The Three Figures You Must Find First

Before you calculate goodwill, you need three figures:

Figure	Meaning
Average profit	The firm’s normal maintainable profit based on past profits
Capital employed	The capital actually used in the business
Normal rate of return	The return generally expected in a similar business

These three figures help you calculate normal profit and super profit.

The full formula ladder is:

Normal profit = Capital employed x Normal rate of return / 100

Super profit = Average profit - Normal profit

Goodwill = Super profit x Number of years' purchase

Why Capital Employed Matters

Capital employed tells us how much money is actually being used to run the business.

Normal profit cannot be calculated without capital employed because normal profit is a return on capital.

For example, if capital employed is Rs. 5,00,000 and the normal rate of return is 10%, the normal profit is:

Normal profit = Rs. 5,00,000 x 10 / 100
              = Rs. 50,000

This means a similar business using Rs. 5,00,000 capital is expected to earn Rs. 50,000.

If our firm earns Rs. 80,000, the super profit is:

Super profit = Rs. 80,000 - Rs. 50,000
             = Rs. 30,000

That Rs. 30,000 is the extra earning power.

How to Calculate Capital Employed

Sometimes the question gives capital employed directly. In that case, use it.

Sometimes the question gives assets and liabilities. Then capital employed is usually calculated as:

Capital employed = Assets used in business - Outside liabilities

If the question gives goodwill or fictitious assets inside total assets, do not include them while finding capital employed. Goodwill is what you are trying to calculate, so including it in capital employed can make the answer wrong.

What Normal Profit Really Tells You

Normal profit is not the firm’s actual profit. It is the profit the firm should normally earn on its capital.

Suppose a business has Rs. 8,00,000 capital employed and the normal rate of return is 12%.

Normal profit = Rs. 8,00,000 x 12 / 100
              = Rs. 96,000

This Rs. 96,000 is the benchmark.

Now compare actual average profit with this benchmark:

Average profit	Normal profit	Meaning
Rs. 1,40,000	Rs. 96,000	Firm earns super profit
Rs. 96,000	Rs. 96,000	No super profit
Rs. 80,000	Rs. 96,000	Firm earns less than normal profit

This comparison is the centre of the whole method.

Solved Question 1: Basic Super Profit Method

A firm earns an average profit of Rs. 1,20,000. Its capital employed is Rs. 8,00,000. The normal rate of return is 10%. Goodwill is valued at 3 years’ purchase of super profit.

Find the value of goodwill.

Step 1: Calculate Normal Profit

Normal profit = Capital employed x Normal rate of return / 100
              = Rs. 8,00,000 x 10 / 100
              = Rs. 80,000

Step 2: Calculate Super Profit

Super profit = Average profit - Normal profit
             = Rs. 1,20,000 - Rs. 80,000
             = Rs. 40,000

Step 3: Calculate Goodwill

Goodwill = Super profit x Number of years' purchase
         = Rs. 40,000 x 3
         = Rs. 1,20,000

So, goodwill is Rs. 1,20,000.

Solved Question 2: When Capital Employed Must Be Found

A firm has assets of Rs. 12,00,000. These include goodwill of Rs. 80,000 and preliminary expenses of Rs. 20,000. Outside liabilities are Rs. 3,00,000.

The average profit of the firm is Rs. 1,50,000. The normal rate of return is 12%. Goodwill is to be valued at 2 years’ purchase of super profit.

Find the value of goodwill.

Step 1: Calculate Capital Employed

Goodwill and preliminary expenses should be excluded while finding capital employed.

Business assets = Rs. 12,00,000 - Rs. 80,000 - Rs. 20,000
                = Rs. 11,00,000

Capital employed = Business assets - Outside liabilities
                 = Rs. 11,00,000 - Rs. 3,00,000
                 = Rs. 8,00,000

Step 2: Calculate Normal Profit

Normal profit = Rs. 8,00,000 x 12 / 100
              = Rs. 96,000

Step 3: Calculate Super Profit

Super profit = Rs. 1,50,000 - Rs. 96,000
             = Rs. 54,000

Step 4: Calculate Goodwill

Goodwill = Rs. 54,000 x 2
         = Rs. 1,08,000

So, goodwill is Rs. 1,08,000.

This question is not difficult, but it tests whether you can identify the correct capital employed. If you include existing goodwill or preliminary expenses, normal profit changes and the final answer becomes wrong.

Solved Question 3: When Profits Need Adjustment

The profits of a firm for the last four years were:

Year	Profit
Year 1	Rs. 90,000
Year 2	Rs. 1,10,000
Year 3	Rs. 1,40,000
Year 4	Rs. 1,60,000

The profit of Year 4 includes an abnormal gain of Rs. 20,000 that is not expected to repeat. The capital employed is Rs. 7,50,000 and the normal rate of return is 10%.

Goodwill is valued at 4 years’ purchase of super profit.

Find the value of goodwill.

Step 1: Adjust the Profit

Year 4 profit includes an abnormal gain, so remove it.

Adjusted Year 4 profit = Rs. 1,60,000 - Rs. 20,000
                       = Rs. 1,40,000

Now calculate total adjusted profit:

Total adjusted profit = Rs. 90,000 + Rs. 1,10,000 + Rs. 1,40,000 + Rs. 1,40,000
                      = Rs. 4,80,000

Step 2: Calculate Average Profit

Average profit = Rs. 4,80,000 / 4
               = Rs. 1,20,000

Step 3: Calculate Normal Profit

Normal profit = Rs. 7,50,000 x 10 / 100
              = Rs. 75,000

Step 4: Calculate Super Profit

Super profit = Rs. 1,20,000 - Rs. 75,000
             = Rs. 45,000

Step 5: Calculate Goodwill

Goodwill = Rs. 45,000 x 4
         = Rs. 1,80,000

So, goodwill is Rs. 1,80,000.

Do Not Confuse It With Capitalisation of Super Profit

The super profit method and capitalisation of super profit both use super profit, but the final step is different.

Wording in question	Final formula
”Goodwill is valued at 3 years’ purchase of super profit”	Goodwill = Super profit x 3
”Goodwill is valued by capitalisation of super profit”	Goodwill = Super profit x 100 / Normal rate of return

Read the wording carefully.

If years’ purchase is given, multiply super profit by the number of years.

If capitalisation of super profit is asked, capitalise the super profit using the normal rate of return.

A Quick Decision Path

Use this order whenever you solve a question:

Step	Question to ask
1	Are profits already adjusted, or do I need to adjust them?
2	Is capital employed given directly?
3	If not, can I find it from assets and outside liabilities?
4	What is the normal rate of return?
5	Is the final method years’ purchase or capitalisation?

This path keeps the solution under control.

Common Mistakes in the Super Profit Method

Mistake	Why it hurts the answer
Using total profit instead of average profit	Super profit becomes inflated
Forgetting to calculate normal profit	The method becomes average profit method by mistake
Including existing goodwill in capital employed	Normal profit becomes wrong
Treating outside liabilities as part of capital employed	Capital employed becomes too high
Ignoring abnormal gains or losses	Average profit stops being maintainable
Multiplying by years’ purchase when capitalisation is asked	Final goodwill becomes wrong
Using percentage as a whole number in the wrong place	Normal profit becomes ten times or hundred times wrong

How to Present the Answer Neatly

A good answer is easy to follow. Show the working in this order:

1. Average profit.
2. Capital employed, if not already given.
3. Normal profit.
4. Super profit.
5. Goodwill.

Do not hide calculations inside one long line. If the question is worth more marks, clear working notes can protect you even if one small arithmetic error appears.

A neat format can look like this:

Working Note 1: Capital Employed
Working Note 2: Normal Profit
Working Note 3: Super Profit
Value of Goodwill

This format also helps you revise because every step has a name.

Practice Set

Try these before looking at the answers.

Question 1

Average profit is Rs. 75,000. Capital employed is Rs. 5,00,000. Normal rate of return is 10%. Goodwill is valued at 3 years’ purchase of super profit.

Answer

Normal profit = Rs. 5,00,000 x 10 / 100 = Rs. 50,000
Super profit = Rs. 75,000 - Rs. 50,000 = Rs. 25,000
Goodwill = Rs. 25,000 x 3 = Rs. 75,000

Question 2

Average profit is Rs. 2,40,000. Capital employed is Rs. 15,00,000. Normal rate of return is 14%. Goodwill is valued at 2 years’ purchase of super profit.

Answer

Normal profit = Rs. 15,00,000 x 14 / 100 = Rs. 2,10,000
Super profit = Rs. 2,40,000 - Rs. 2,10,000 = Rs. 30,000
Goodwill = Rs. 30,000 x 2 = Rs. 60,000

Question 3

Assets are Rs. 9,00,000 and outside liabilities are Rs. 2,40,000. Average profit is Rs. 99,000. Normal rate of return is 12%. Goodwill is valued at 3 years’ purchase of super profit.

Answer

Capital employed = Rs. 9,00,000 - Rs. 2,40,000 = Rs. 6,60,000
Normal profit = Rs. 6,60,000 x 12 / 100 = Rs. 79,200
Super profit = Rs. 99,000 - Rs. 79,200 = Rs. 19,800
Goodwill = Rs. 19,800 x 3 = Rs. 59,400

Final Revision Checklist

Before you move to the next question, check:

• Did I calculate average profit after adjustments?
• Did I use capital employed, not total assets?
• Did I exclude goodwill and fictitious assets where required?
• Did I calculate normal profit using the normal rate of return?
• Did I subtract normal profit from average profit?
• Did I use years’ purchase only when the question asked for it?
• Did I write the final answer with Rs. and proper working notes?

If the answer to all these is yes, your solution is likely on the right path.

Frequently Asked Questions

What is the super profit method of goodwill?

The super profit method values goodwill by finding the profit earned above normal profit. First calculate normal profit on capital employed, then subtract it from average profit. The super profit is multiplied by the number of years’ purchase to find goodwill.

What is the formula for normal profit?

The formula is:

Normal profit = Capital employed x Normal rate of return / 100

Normal profit is the return that a similar business is expected to earn on the same capital.

What is the formula for super profit?

The formula is:

Super profit = Average profit - Normal profit

It shows the extra earning power of the firm.

What is the formula for goodwill under the super profit method?

The formula is:

Goodwill = Super profit x Number of years' purchase

Use this when the question says goodwill is valued at a certain number of years’ purchase of super profit.

Is capital employed the same as total assets?

No. Capital employed is usually assets used in the business minus outside liabilities. If existing goodwill or fictitious assets are included in total assets, they are generally excluded while finding capital employed.

What happens if average profit is lower than normal profit?

If average profit is lower than normal profit, there is no super profit. Under the super profit method, goodwill is usually nil unless the question gives a special instruction.

Why do we calculate normal profit in this method?

Normal profit gives the benchmark return expected from the capital employed. Goodwill is calculated only on the profit above this benchmark, because that extra profit represents the firm’s special earning strength.

What is the difference between super profit method and capitalisation of super profit?

In the super profit method, goodwill is super profit multiplied by years’ purchase. In capitalisation of super profit, goodwill is super profit multiplied by 100 and divided by the normal rate of return.