Financial Accounting Assignment

[Sem V]

Topic:
REDEMPTION OF
DEBENTURES

A.Kazi
Roll no 68
T.Y. B. Com A
2013-14

Redemption of Debentures. T.Y. B.Com A. Roll No 68

INDEX
Sno

Topic

Pg

1.

Definition

2.

Types of Debentures

3.

Redemption of Debentures

3.i.

Redemption from Capital

3.ii.

Redemption from profits

3.iii.

Redemptions by Conversion

3.iv.

Redemption of debentures by purchasing own

4.

Illustration

5.

Bibliography

debentures in the open market.

Redemption of Debentures. T.Y. B.Com A. Roll No 68

DEFINITION
As per section 2 (12) of Indian Companies Act 1956, Debenture includes debenture stock, bond
and any other securities of the company whether constituting a charge on the companys assets or
not.
A Debenture is a unit of loan amount. When a company intends to raise the loan amount from the
public it issues debentures. A person holding debenture or debentures is called a debenture holder.
A debenture is a document issued under the seal of the company. It is an acknowledgment of the
loan received by the company equal to the nominal value of the debenture. It bears the date of
redemption and rate and mode of payment of interest. A debenture holder is the creditor of the
company.
TYPES OF DEBENTURES
Debenture can be classified as under :
1. From security point of view
Secured debentures : These are the debentures that are secured by a charge on the
assets of the company. These are also called mortgage debentures. The holders of secured
debentures have the right to recover their principal amount with the unpaid amount of
interest on such debentures out of the assets mortgaged by the company. In India,
debentures must be secured.
Unsecured debentures: Debentures which do not carry any security with regard to
the principal amount or unpaid interest are called unsecured debentures. These are called
simple debentures.
2. On the basis of redemption
Redeemable debentures : These are the debentures which are issued for a fixed
period. The principal amount of such debentures is paid off to the debenture holders on the
expiry of such period. These can be redeemed by annual drawings or by purchasing from
the open market.
Non-redeemable debentures : These are the debentures which are not redeemed in
the lifetime of the company. Such debentures are paid back only when the company goes
into liquidation.
Redemption of Debentures. T.Y. B.Com A. Roll No 68

3. On the basis of Records

Registered debentures : These are the debentures that are registered with the
company. The amount of such debentures is payable only to those debenture holders whose
name appears in the register of the company.
Bearer debentures : These are the debentures which are not recorded in a register
of the company. Such debentures are transferrable merely by delivery. Holder of these
debentures is entitled to get the interest.
4. On the basis of convertibility
Convertible debentures : These are the debentures that can be converted into shares
of the company on the expiry of predecided period. The term and conditions of
conversion are generally announced at the time of issue of debentures.
Non-convertible debentures : The debenture holders of such debentures cannot
convert their debentures into shares of the company.
5. On the basis of priority
First debentures : These debentures are redeemed before other debentures.
Second debentures : These debentures are redeemed after the redemption of first
debentures
REDEMPTION OF DEBENTURES
Redeemable debentures are those which are issued for a fixed period and are redeemable
afterwards. The period, and possible redemption date are mentioned on the Debenture certificate.
Debentures can be either redeemed at Par, Premium or Discount.
There are no legal restrictions regarding the sources used by the company for the redemption of
debentures. The different terms and conditions laid at the time of issue of debentures restrict the
company's freedom about the sources to be used by it for the redemption of debentures. The main
sources for the redemption of the debentures which the company may use are as follows:

Redemption out of fresh capital: A company can issue the new shares or debentures

and the amount received on their issue can be used for the redemption of the debentures. In
this case a new liability is created to write off the old liability.
Redemption of Debentures. T.Y. B.Com A. Roll No 68

Redemption by conversion: In this instead of issuing shares or debentures for cash

and using their proceeds for the purpose of redemption, the company issues the new shares or
debentures towards payment of sum due to existing debenture holders. It is the conversion
into new shares or debentures.

Redemption out of sale proceeds: A company can sell some of its fixed assets and
use the sale proceeds of such assets for the redemption of debentures.

Redemption out of existing capital: A company can redeem its debentures by using
its funds without creating reserve for its purpose. This process result in the reduction of the
value of the assets by the amount paid for the redemption of debentures. It adversely affects
the working capital of the company.

Redemption out of profits: A company uses a part of its existing profits for the
purpose of redemption of debentures. When the redemption of debentures is made out of
profits, the amount used for this purpose is appropriated out of P & L Appropriation A/c to
Debentures Redemption Reserve A/c.
On the basis of the sources the following methods are available for the redemption of debentures:
1.
2.
3.
4.

Redemption out of Capital

Redemption out of Profits
Redemption by conversion
Redemption of debentures by purchasing own debentures in the open market.

Redemption of Debentures. T.Y. B.Com A. Roll No 68

1. Redemption from Capital

It means we directly repay the debentures out of capital. On redemption, the Debentureholders are
paid in cash. This will effect on our capital ,if no amount is set aside from profits for such
redemption and it will reduce by same amount. There is no need to transfer of profit to redemption
reserves in this method. The following entries must be passed
Amount Payable on Redemption:
Par

Premium
Debentures a/c

Debentures a/c

dr

To Debenture holders a/c

Discount
dr

Debentures a\c

dr

Premium on Redemption of

To Debenture holders a/c

Debentures a/c

To Profit on redemption

dr

To Debenture holders a/c

of debentures a/c

Payment:
Debenture holders a/c

dr.

To Bank a/c
2. Redemption from Profits
In this case, the debentures are said to be paid out of accumulated surplus of the company. This
maybe done by creating
Debenture redemption reserve
Sinking Fund Reserve
Debenture Redemption Reserve
When the amount required for the redemption of debentures is arranged from the
profits by transferring the amount from the Profit & Loss Appropriation A/c to the newly opened
Debentures Redemption Reserve A/c (DRR A/c), the redemption of debentures is said to be done
Redemption of Debentures. T.Y. B.Com A. Roll No 68

out of profits.
According to Section 117C of the Companies Act, 1956 it is an obligation for the company
to create Debenture Redemption Reserve A/c. This section lays that every Company must create a
DRR A/c and credit the adequate amount every year out of profits until such debentures are
redeemed. The adequate amount as per the guidelines given by SEBI is equivalent to 50% of the
amount of debentures issue before the debenture redemption begins. Thus, at least 50% of
redemption of debentures of non convertible debentures has to be out of profits.
Sinking Fund Reserve
When the amount prescribed by the MCA is invested or deposited, a Sinking Fund
or Debenture Redemption Fund is created. Out of the fund, the company purchases investments or
makes a deposit in prescribed instruments. The sinking fund may be non cumulative or cumilative.
In case of Cumulative Sinking Fund, the Income from investments is added back to the fund and
re-invested, otherwise it is credited to P&L account. the investments are sold on the date of
redemption and the entries passed are as follows.
First Year
Annual Installment
Profit & loss a/c

Investment made
dr

Sinking Fund Investments a/c

To Sinking Fund a/c

dr.

To Bank a/c

Second Year Onwards

Interest recd on Investment
Bank a/c

dr

To Sinking Fund a/c

Annual Installments
Profit & loss a/c

dr

To Sinking Fund a/c

Investment Made
Sinking Fund Investments a/c dr.
To Bank a/c

Year of Redemption
Interest recd on Investment

Redemption of Debentures. T.Y. B.Com A. Roll No 68

Annual Installments

Bank a/c

dr

Profit & loss a/c

To Sinking Fund a/c

dr

To Sinking Fund a/c

3. Redemption by Conversion
Sometimes at the time of issue of debentures accompany gives the convertible debenture holders a
privilege that they can get their debentures converted into shares or new debentures after the expiry
of the specified period. The debenture will be redeemed by conversion only if they were issued as
such. Whenever debentures are redeemed by conversion the debentureholders have to apply it.
The following entries must be passed.
Amount due to debenture holder
Debentures A/c

dr

To Debenture Holders a/c

Conversion by New Issue
At Par
Debentureholders a/c

At Premium
dr

To Equity Share Capital

Debentureholders a/c

At Discount
dr

Debentureholders a/c

dr

To Equity Share Capital Discount on Issue

To Preference Share Capital

To Preference Share Capital

To Equity Share Capital

To Debentures a/c (new)

To Debentures a/c (new)

To Preference Share Capital

To Securities Premium a/c

To Debentures a/c (new)

Transfer to General Reserve

Profit & Loss A/c

Dr.

To General Reserve
Adjustment to Security Premium
Security Premium a/c

dr.

To Premium on Redemption a/c

Redemption of Debentures. T.Y. B.Com A. Roll No 68

4. Redemption of debentures by purchasing own debentures in the open market.

In this method, directors go to debenture market and for redemption of debentures, they have
bought own debentures. For this, following entry will be passed.
Own Debenture or investment in own debentures account

dr.

To Bank account
Investment in own debentures account or simply own debentures account will be shown on the
assets side of the balance sheet. Debentures will continue to be shown on the liabilities side of the
balance sheet. Here, it is assumed that the debentures are purchased immediately after the payment
of interest.
As and when the company wants to cancel investment in own debentures, the following entry is
passed.
Debentures account

Dr.

Loss on redemption of debentures account

Dr.

To Own debentures a/c

To Profit on redemption of debentures a/c.

Redemption of Debentures. T.Y. B.Com A. Roll No 68

ILLUSTRATION
Draconis Ltd has issued 5000 12% debentures of rs 100 each redeemable on 31.12.2013. The
company offered 3 options to debentureholders,
14% Preference share of rs 10 at rs 12 which were accepted for 1500 debentures
15% debentures of rs 100 at par which were accepted for 1500 debentures
Redemption in cash which were accepted for 200 debentures
Pass Journal Entries.
Solution:
Draconis Ltd
Journal
Sno
1
2.i.

2.ii.
2.iii.

Particulars

Dr. Rs

12% debentures a/c

To 12% debentureholders a/c (5000x100)

dr.

12% debentures a/c

To 14% Preference Share Capital (12,500 x 10)
To Securities Premium a/c (12,500x2)

dr.

12% debentures a/c

To 15% debentureholders a/c (1500x100)

dr.

12% debentures a/c

To bank a/c (2000x100)

dr.

Cr. Rs

5,00,000
5,00,000
1,50,000
1,25,000
25,000
1,50,000
1,50,000
2,00,000
2,00,000

Working Note:
Number of Preference share issued = 1,50,000 = 12,500
12

Redemption of Debentures. T.Y. B.Com A. Roll No 68

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Bibliography
Theory
www.xamidea.in

Financial Accounting - By Ainapure

Illustration
Financial Accounting by Ainapure - Page 198.
Illustration 8.

Redemption of Debentures. T.Y. B.Com A. Roll No 68

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