What are the Types of Business Goodwill?

All business value is comprised of two basic elements; Intangible Assets and Tangible Assets.

Intangible Assets (Usually “Goodwill”)   Goodwill is the primary component of the purchase price that remains after deducting all other assessable components from the total purchase price. Before simply adopting a final value for goodwill, it is necessary to understand the different types of goodwill.

Personal

Personal goodwill exists in businesses where owners have personal followings of customers or clients. This would include businesses such as hairdressers, mechanical repairers, restaurants and professional practices. The risk with these businesses is that when sold, the customers leave. Values assigned to personal goodwill should be considered carefully unless the vendor is willing to provide guarantees that the purchaser will retain the customers. This might be by the vendor remaining for a period to assist in the transition or providing a restrictive covenant. A further way of protecting purchaser  rights is to have a claw back clause where the purchase price is subject to adjustment in the event that certain threshold revenue levels are not met.

Commercial

Commercial goodwill attaches to the business, independent of the owner. Such businesses may include retailers, wholesalers, and manufacturers. A McDonalds franchise is an example of a business with largely Commercial (Corporate) goodwill. The nature of the business, – through its marketing strategies, its reputation, or the products that the business sells – has a loyal customer base. Accordingly, it does not matter who owns the business.

Location

The success of a business could also be determined by its location, this could be because of its visibility and or its accessibility to customers, period of time in its location, requirement to be in a special purpose building. These could include convenience stores, motels, or childcare centres. Factors that affect location goodwill might include:

• Length of time left in the current lease;
• An identifiable deterioration of the commercial value of the location, e.g. Interruption by major road works, permanent diversion of flows;
• Changes in regulations, requiring an upgrade of the premises; and
• Difficulties from the landlord in effecting the transfer of lease.

 “Transferability” of Goodwill largely affects value. The easier it is to transfer the “Goodwill” from the Seller to the Buyer, the higher the value of the business. The easiest form of Goodwill to transfer from Seller to Buyer is “Commercial Goodwill”, the next simplest form of goodwill to transfer is “Locational”, and the most difficult form to transfer is “Personal” Goodwill. So, businesses in which the goodwill is largely “commercial” will attract the highest prices, and businesses which are largely “Personal” goodwill will attract lower values. The lesson here for business owners is to try and manage the business operation is such a way that the business operates on “Commercial” Goodwill, and not personal relationships or management.

Tangible Assets    The Tangible Assets of a business are those assets which are able to be seen, witnessed, touched, held – physical assets. Tangible Assets include items such as Plant & Equipment, Stock, debtors, Work in Progress, etc.   What are the primary Assets in your business? Can you change the nature of the “goodwill” in your business to be commercial and not “personal”?   Benchmark Business Sales and Valuations