Goodwill is often misunderstood, especially when it doesn’t appear on your financial statements.
Understanding what goodwill is and how it is created can help you build a business with value beyond its tangible assets.
A client had a family member ask why there was no goodwill on her balance sheet – that surely her business would have higher value if she were to include it. When she asked me about it, I realized that for many people outside of the accounting world, the idea of goodwill, where it comes from, and how to include it on your financial reports, is not very clear.
Definition of Goodwill
Goodwill in accounting arises when a buyer acquires an existing business and that business has built goodwill and placed it on their balance sheet as an intangible asset. Intangible assets such as goodwill cannot be seen or touched. Goodwill includes a company’s brand name, a solid customer base, good customer and employee relations, and patents or proprietary technology. The goodwill is the excess of the “purchase consideration” (the money paid to purchase the asset or business) over the total value of the assets and liabilities. You’ll only see goodwill on your balance sheet if you purchase it by acquiring an existing business. Goodwill is recorded when a business is purchased for more than the fair value of its identifiable assets minus its liabilities.
Why Goodwill Matters
Building goodwill increases the value of your business and makes it more attractive to future buyers. It also creates stability, reduces reliance on the owner, and strengthens your competitive position—benefits that matter long before a sale occurs. While you can intentionally develop these intangible strengths, their true value is not measurable until the business is sold. Not all goodwill adds value to a business. Personal goodwill , for example, is tied to the owner’s skills, reputation, and ability to generate income, rather than to the business itself, and it generally does not transfer to a new owner.
For example, my consulting practice is built on personal goodwill and has little value beyond me. In contrast, my client mentioned above has built a business with transferable value; while she also has personal goodwill, it will not appear on the balance sheet when she sells.
How Goodwill Is Created
Goodwill is created by running a successful business. It includes customer loyalty, brand reputation, and other intangible advantages such as strong management, innovation, and market presence. Goodwill reflects the cumulative value of factors like customer relationships, years in business, and competitive positioning—assets that are not easily quantified but contribute to a company’s overall success.
When Goodwill Appears on the Balance Sheet
Goodwill appears on the balance sheet only when it is purchased through acquiring a business. Even if you’ve built a successful company with loyal customers and strong operations, that goodwill won’t appear in your financial statements until the business is sold. For example, my client mentioned above owns a service-based business with few tangible assets, but her business has significant goodwill value due to its reputation, client base, and experienced staff. These intangible strengths become recognized as goodwill only at the point of sale (her business is not for sale).
Whether goodwill appears on your balance sheet or not, building it is essential to the value of your business and your financial future. It is good practice to create a business plan that will develop goodwill—a business that has value beyond the value of your tangible business assets—to create a company that someone else can benefit from owning.