Mankon Partners: Admission of a Third Partner and Goodwill
Mankon Partners is a small trading partnership. A and B have capital accounts of 4,000,000 FCFA and 3,000,000 FCFA respectively and share profits in the ratio 3:2. Their current accounts show A credit 600,000 FCFA and B debit 150,000 FCFA. On 1 January 20X5 they admit C, who brings 2,500,000 FCFA cash as capital. The new profit-sharing ratio is A:B:C = 5:3:2. Before admission, inventory is revalued downwards by 120,000 FCFA and equipment upwards by 300,000 FCFA. Goodwill is agreed at 1,200,000 FCFA, but the partners do not want a goodwill account to remain in the books; it is to be raised and written off immediately. C is surprised that his capital account will not show 2,500,000 FCFA after the admission and asks for an explanation. The partners also want to know how the revaluation and goodwill adjustments affect their capital accounts.
1. Prepare the revaluation account and the partners' capital accounts to record the admission of C. Show the goodwill adjustment clearly.
Read the worked answer
Revaluation account
| Dr | FCFA | Cr | FCFA |
|---|---|---|---|
| Inventory decrease | 120,000 | Equipment increase | 300,000 |
| Profit on revaluation: A 108,000; B 72,000 | 180,000 | ||
| Total | 300,000 | Total | 300,000 |
Revaluation profit shared old ratio 3:2: A 108,000; B 72,000.
Goodwill adjustment Raise goodwill 1,200,000 in old ratio: A 720,000; B 480,000. Write off in new ratio 5:3:2: A 600,000; B 360,000; C 240,000.
Capital accounts
| Item | A | B | C |
|---|---|---|---|
| Opening balance | 4,000,000 | 3,000,000 | - |
| Revaluation profit | 108,000 | 72,000 | - |
| Goodwill raised | 720,000 | 480,000 | - |
| Goodwill written off | (600,000) | (360,000) | (240,000) |
| Cash introduced | - | - | 2,500,000 |
| Closing capital | 4,228,000 | 3,192,000 | 2,260,000 |
Current accounts are unchanged by the admission: A credit 600,000; B debit 150,000.
2. Explain why C's capital account is 2,260,000 rather than 2,500,000, and state whether the treatment is fair to C. Support your answer with figures.
Read the worked answer
C's capital is 2,260,000 because he is debited with his share of goodwill written off, 240,000. The old partners raised goodwill in their old ratio and then it was written off in the new ratio; this compensates A and B for giving C a share of an established business with goodwill. C pays 2,500,000 cash but effectively 240,000 of that is a transfer to the old partners through the goodwill adjustment. Whether it is fair depends on the agreement: if C is to pay for goodwill in cash, he should bring an additional 240,000; if not, the reduction in his capital is the agreed way of compensating the old partners. The figures are consistent with the partnership agreement and should be disclosed clearly to C.