John Scott, 1st Earl of Eldon defined the concept succinctly in 1810 as "the probability that the old customers will resort to the old place.
"[1] In order to calculate goodwill, the fair market value of identifiable assets and liabilities of the company acquired is deducted from the purchase price.
The journal entry in the books of company A to record the acquisition of company B would be: [2] Goodwill is a special type of intangible asset that represents that portion of the entire business value that cannot be attributed to other income producing business assets, tangible or intangible.
In a private company, goodwill has no predetermined value prior to the acquisition; its magnitude depends on the two other variables by definition.
A publicly traded company, by contrast, is subject to a constant process of market valuation, so goodwill will always be apparent.
While a business can invest to increase its reputation, by advertising or assuring that its products are of high quality, such expenses cannot be capitalized and added to goodwill, which is technically an intangible asset.
Institutional goodwill may be described as the intangible value that would continue to inure to the business without the presence of specific owner.
Professional goodwill may be described as the intangible value attributable solely to the efforts of or reputation of an owner of the business.
[10] When the business is threatened with insolvency, investors will deduct the goodwill from any calculation of residual equity because it has no resale value.
While companies will follow the rules prescribed by the Accounting Standards Boards, there is not a fundamentally correct way to deal with this mismatch under the current financial reporting framework.