WHAT IS GOODWILL? By Kwaku Obeng Mireku (Chauser) Estate and
valuation surveyors would need to be extra cautious when practically
answering the questions, ‘what is goodwill’ and ‘what is premium’
in Kumasi’s commercial property market. The concept of goodwill
and premium as taught in textbooks and lecture halls apply in reverse
order. In fact, the practice is in defiance with theory. The International
Financial Reporting Standards (IFRS) define goodwill as future economic
benefits arising from assets that are not capable of being individually
identified and separately recognized. However, goodwill is capital.
Johnson et al (2000) define the goodwill of a business as the probability
of a business being carried on at a certain level of profit. “In effect
it is the value of the business itself as a capital asset, distinct
from (a) the premises, (b) the trade in stock and other chattels, and
(c) the profits and income from the business. Where a trader has been
in business in a certain premises for a number of years he will have
acquired a circle of regular customers on whose patronage he can rely;
he will also be able to count on a fairly steady volume of casual custom…”
It is this probability of profits being maintained, or even increased,
in the future which constitutes the “goodwill” of a business”.
Goodwill is often not readily available for consumption. Goodwill is
of two kinds - ‘Cat’ and ‘dog’ – goodwill. The September,
2008 edition of the RICS’ Commercial Property Journal is a good start
to learn more about ‘Cat’ and ‘Dog’ goodwill (www.rics.org).
However, valuation surveyors have used the expressions ‘cat goodwill’
and ‘dog goodwill’ to mean different aspects of the concept. The
cat goodwill tends to stay at the premises when the owner moves away
whiles the dog goodwill goes wherever the owner goes. The cat represents
goodwill inherent in the value of the property, and the dog represents
goodwill that can be transferred elsewhere with the business. But some scholars
have questioned whether the ‘cat’ is goodwill at all. Where real
property is valued by the profits method, the ‘cat goodwill’ is
an inherent part of the property value. The RICS’s definition refers
to this as trading potential to avoid conflict with the IFRS definition
of goodwill. The ‘dog goodwill’ might then be capable of subdivision
if some of these transferable earnings relate to separately identifiable
intangible assets like brands and patents. Goodwill often crops up in
valuing businesses as a going concern and in compensation valuation.
To demand goodwill from prospective tenants, landlords err. Unfortunately
this is happening in the commercial property market of Kumasi. To understand
why this is so consider what premium is? Assume you
have registered DataEstate as a real estate professional services firm.
You need an office space in a perfect location to attract wealthy clients.
Your investigations in an area you have chosen indicate that full rental
values are going for GH300.00 yearly. As a professional in the property
market, you forecast rental growth to remain at about 7% per anum. You
are not certain whether DataEstate can generate enough revenue to pay
salaries, electricity, water and telephone bills in addition to rent.
You have enough start-up capital to pay rent in advance for about ten
years, and your prospective landowner is glad with that but the landowner
still would want to be receiving some rent yearly. The landowner
has agreed to take a calculated lump sum now so that you paying GH¢15.00
reduced annual rent for the next 5 years after which rent may revert
to full rental value. In such an instance, the lump sum you paid in
order to be paying GH¢15.00 reduced rent, instead of the
GH¢300.00 full rental value, for the next 5 years is what valuation
surveyors consider premium. Premium is an amount paid at the commencement
of a lease in consideration that the rent reserved is fixed at a figure
less than the full rental value of the premises. Premium is used in
markets where demand outstrips supply - more people chase the same property. Why should
you be interested in what is Goodwill or Premium? I believe you should
because you might not understand the reverse usage of these concepts
in Kumasi. I have recorded rental market transaction with premiums ranging
between GH¢20,000.00 and GH¢40,000.00 for ten (10) years in the Central
Business District of Kumasi. These premiums have allowed for reduced
rents ranging between GH¢15.00 and GH¢32.00 with varying reviews.
In actual sense, the full rental values should have been much more than
rents passing. The practice has been that commercial landlords in Kumasi
usually take premium for ten years so that tenants pay yearly or monthly
reduced rents. Paradoxically,
they do not consider such considerations received for reduced periodic
rents as ‘premium’; they think those considerations are ‘goodwill’.
However, their actions are intentional. A tenant can demand premium
in respect of an unexpired term of a lease but not goodwill. Therefore,
to avoid tenants who become disinterested in premises they occupy demand
unexpired premiums, landlords term the premium collect as premium. Approached
a commercial landlord in Adum with the pretence renting a shop and what
you hear is not far from: ‘Goodwill for ten years, we can negotiate
the rent’. Thin about this. Author: Kwaku Obeng Mireku BSc. Land Economy 0248 82 49 03 |
