Enterprise goodwill is the expectation that a business has in the continued patronage by its customers, regardless of the individuals involved. Personal goodwill is the expectation of continued patronage because of an individual’s continued participation in the business.
Personal goodwill is not an asset owned by a business, but it may be acquired through contractual arrangements including employment contracts and agreements not to compete with the business after employment.
As post-employment restrictive covenants become more difficult to enforce, the equity value of small, service-oriented businesses will be lowered.
Whether the closely held business is the owner of the goodwill that produces its revenue is a critical issue when valuing the entity.
Lawyers who are prohibited by the rules of professional ethics from any restriction on competition. A real estate management company where the principals each work their own book of business. A design-build firm in which a single principle generates the vast majority of the business. An outside sales organization in which the owners divide profits based on origination.
All of these examples raise the thorny issue of who owns the goodwill that is responsible for the future earnings capacity of the business. Does the reputation of the business belong to the business, or to the individuals? As one commentator put, does the goodwill of the business go home for dinner every night?
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The issue of who owns the goodwill — the enterprise or the individuals— is likely to become even more important as the general sentiment is turning away from enforcing agreement not to compete and various states and federal agencies are taking steps restrict the imposition of agreements that restrict competition after employment. Continue reading