Kumar, Gupta and Kavita were partners in a firm sharing profits and losses equally. The firm was engaged in the storage and distribution of canned juice and its godowns were located at three different places in the city. Each godown was being managed individually by Kumar, Gupta and Kavita. Because of increase in business activities at the godown managed by Gupta, he had devote more time. Gupta demanded that his share in the profits of the firm be increased, to which Kumar and Kavita agreed. The new profit sharing ratio was agreed to be 1: 2: 1. For this purpose the goodwill of the firm was valued at two years purchase of the average profits of last five years. The profits of the last five years were as follows:

 Year Profit (Rs) I 4,00,000 II 4,80,000 III 7,33,000 IV 33,000 V 2,20,000

You are required to:
(i) Calculate the goodwill of the firm.
(ii) Pass necessary Journal Entry for the treatment of goodwill on change in profit sharing ratio of Kumar, Gupta and Kavita,

Working Notes
Calculation of Goodwill of the firm:
Average Profit = (4,00,000+4,80,000+7,33,000+2,20,000-33,000)/5 = 3,60,000
Good will on the basis of 2 years purchase = 3,60,000*2 = 7,20,000.

Calculation of Gaining Ratio
Old Ratio = 1: 1: 1
New Ratio = 1: 2: 1
Gaining Ratio = New Ratio – Old Ratio
Kumar’s: 1/4 – 1/3 = (3-4)/120=01/12 (sacrifice)
Gupta’s: 2/4-1/3 = (6-4)/12 = 2/12 (Gain)
Kavita’s = ¼ - 1/3 = (3-4)/12 = 1/12 (Sacrifice)
Amount of goodwill to be adjusted = 7,20,000*1/12 = 60,000.