VALUE OF GOODWILL

Otago Daily Times, Issue 26289, 22 October 1946, Page 6

VALUE OF GOODWILL

HOTEL TRANSACTIONS RELATION TO EARNING CAPACITY “ It is evident that a surprising number of hotels have changed hands in Otago since the Land Sales Act came into operation,” said the Land Sales Court in a judgment issued yesterday in an appeal from a decision of the Otago Land Sales Committee. “It is also evident that many hotels have been sold more than once, and on the second or subsequent occasions at greatly increased prices, during the past two or three years. “ Commenting upon this situation the chairman of the Otago Land Sales Committee has said: ‘ We ca,n see that there has been a very large increase in hotel goodwills and this has induced an orgy of speculation or trafficking in hotels, which we feel is contrary to the provisions of the Act.’ In general terms the court is in complete agreement with this comment, and on the present situation of the hotel trade in Otago. Value of Licence Included "In view of the large sums which are undoubtedly paid for hotel goodwills,” the judgment says, “it is desirable at this stage to consider the nature of goodwill and the factors which determine its value. .In the comprehensive sense in which we have used the word, it includes the value of the licence, as well as what is perhaps more accurately termed the goodwill of the business. It is apprehended that most, if not all, of the goodwill of a hotel is what has been termed ‘local goodwill,’ in that it attaches to the premises where the business is carried on and so passes on sale of the premises to a purchaser. Some part of the business goodwill may, however, be ‘personal,’ depending on the efficiency or popularity of the licensee, and it is only to a minor degree (if at all) that a purchaser can be assured of retaining the benefit of the vendor’s personal goodwill. While a licence has substantial value in itself, the measure of its value, as of business goodwill, depends ultimately upon the profit earning capacity of the hotel.

“Why, it may be asked, is goodwill paid at all? It is conceived that it is paid for the assurance, or for the reasonable expectation, of being able to earn more from a business than interest upon capital and a reasonable return for personal services. It is only when there is a surplus of profit, after allowing for interest and personal services, that a business can properly be said to have a goodwill; and it is to such surplus profit or the reasonable anticipation of surplus profit that one must have regard in the assessment of goodwill. Methods of Assessment “There appear to be two separate and distinct methods of ascertaining the value of a goodwill. The first is to value the goodwill itself, without reference to the' tangible assets comprised in the business. The second is to value the business as a whole, deduct the value of the tangible assets and so arrive at the value of the goodwill. This method involves first the valuation of the property as a whole and we propose to 1 add only that we are satisfied that no valuation of a business can be sound which cannot be justified by reference to profitearning capacity.” As an illustration of the method by which the court arrived at its valuation in one of the cases decided, the following figures may be quoted:— £ Estimated income .. .. 10,000 Gross profit at 45 per cent. 4,500 Estimated outgoings .. .. 2,158 Total net profit .. .. 2,342 Less value of services .. 1,000 Depreciation on buildings 92 1,250 £1250 capitalised at 8 per cent 15,625 Less stock and furniture .. 2,200 Capital value of hotel £13,425