Issue and Redemption of Debentures

Debenture: • A debenture is an instrument issued by a company acknowledging its debt • It is a document under the company's seal that acknowledges the company's borrowing • Debenture holders are creditors of the company (not owners) • They earn interest at a fixed rate, regardless of profits • Defined in Companies Act 2013, Section 2(30): 'debentures include debenture stock, bonds, and any other securities of a company whether constituting a charge on the assets of the company or not' Types of Debentures: • Secured / Unsecured (Naked) • Redeemable / Irredeemable • Convertible (CCD/OCCD) / Non-convertible • Bearer / Registered Differences between Debentures and Shares: | Basis | Debentures | Shares | |---|---|---| | Status | Creditors (debt holders) | Owners (equity holders) | | Return | Fixed interest (regardless of profit) | Dividend (depends on profit) | | Repayment | Redeemed (paid back) after fixed period | Not normally repaid during company life | | Voting rights | No voting rights | Equity: full voting rights | | Security | Often secured by charge on assets | Not secured | | Risk | Lower risk | Higher risk | | Priority in winding up | Paid before shareholders | Paid after all debts | | Capital/Revenue | Part of borrowed capital | Part of owned capital | | Tax | Interest is tax deductible | Dividend not tax deductible |

Debentures can be issued in three ways: 1. Issue at Par: • Issue price = Face value (par value) • E.g., ₹100 debenture issued at ₹100 • Journal Entry: Bank A/c Dr. [Amount] To Debentures A/c [Amount] 2. Issue at Premium: • Issue price > Face value • Excess = Securities Premium Reserve • E.g., ₹100 debenture issued at ₹110 (₹10 premium) • Journal Entry: Bank A/c Dr. [Issued Price × No.] To Debentures A/c [Face Value × No.] To Securities Premium Reserve A/c [Premium amount] 3. Issue at Discount: • Issue price < Face value • The discount = capital loss; recorded as 'Discount on Issue of Debentures' • E.g., ₹100 debenture issued at ₹95 (₹5 discount) • Journal Entry: Bank A/c Dr. [Issue Price × No.] Discount on Issue of Debentures A/c Dr. [Discount Amount] To Debentures A/c [Face Value × No.] • Discount on issue is written off against Securities Premium Reserve or P&L Account over the life of debentures Redemption terms also affect accounting: • Redeemable at par, premium or at discount • Loss on redemption at premium: 'Premium on Redemption of Debentures A/c' • This is provided for using the Debenture Redemption Reserve (DRR) or written off against Securities Premium

Debenture Redemption Reserve (DRR): • A reserve created out of profits specifically for redemption (repayment) of debentures • Protects debenture holders by ensuring funds are available at the time of redemption • Governed by Companies Act 2013 and MCA Rules Legal Provisions (as amended from time to time): Original requirement (earlier rules): • Companies were required to create DRR equal to 25% of the face value of outstanding debentures before redemption • Required by listed companies and certain NBFCs Amended rules (Companies (Share Capital and Debentures) Amendment Rules, 2019): • Listed companies: No DRR requirement for publicly issued debentures • Unlisted companies: DRR = 10% of outstanding debentures before redemption • All India Financial Institutions (AIFI): No DRR required • NBFCs: No DRR required Note: For CBSE Board purposes, the generally expected requirement is: • DRR = 25% of debenture value before redemption (traditional rule used in textbooks) • Always check the question for the specific DRR requirement Journal Entries for DRR: Creation of DRR: Statement of P&L A/c Dr. [Amount] To Debenture Redemption Reserve A/c [Amount] Debenture Redemption Investment (DRI): • Companies were required to invest 15% of debentures maturing during the year in specified securities before 30th April each year • This requirement is now removed/relaxed for listed companies On Redemption: Debentures A/c Dr. [Face Value] To Debenture Holders A/c [Face Value] Debenture Holders A/c Dr. [Face Value] To Bank A/c [Amount Paid] Transfer of DRR to General Reserve: Debenture Redemption Reserve A/c Dr. [DRR Amount] To General Reserve A/c [Same]

Methods of Redemption of Debentures: 1. Redemption at the end of fixed period (Lump sum redemption): • Entire debenture amount paid back at the end of the debenture period • Most common method • On the redemption date: Debentures A/c Dr. → Bank A/c Cr. 2. Redemption in instalments (Drawings method): • Debentures redeemed in parts over the life of the debenture • Each year some debentures are selected by lottery/draw and redeemed • Also called 'redemption by annual drawing of lots' • Reduces the interest burden over time 3. Redemption by purchase in open market: • Company buys its own debentures from the open market (stock exchange) • Usually done when debenture price is below par (company profits from buying at discount) • Debentures purchased can be: (a) Immediately cancelled: Debentures A/c Dr. → Bank A/c Cr. + Profit to Capital Reserve (b) Held as own debentures: 'Own Debentures A/c' (asset) — then cancelled later 4. Redemption by conversion: • Debentures are converted into shares (equity or preference) of the company • Convertible Debentures — the right to convert is stated at the time of issue • No cash outflow required • Journal Entry on conversion: Debentures A/c Dr. [Face Value of Debentures] To Share Capital A/c [Face Value of new shares] To Securities Premium A/c [If shares issued at premium] OR To Discount on Issue of Shares A/c [If shares issued at discount] 5. Redemption out of profits: • Profits are appropriated to DRR; redemption payment made from profits/accumulated reserves 6. Redemption out of capital: • Debentures redeemed using proceeds from fresh issue of shares or debentures

Given: 1,000 debentures × ₹100 = ₹1,00,000 face value Issue at 5% discount → Issue price = ₹95 Interest: 12% on face value Redemption: At par (₹100) after 5 years Journal Entries: At the time of issue: 1. On receipt of application: Bank A/c Dr. 95,000 Discount on Issue of Debentures A/c Dr. 5,000 To 12% Debentures A/c 1,00,000 (Being 1,000 debentures issued at 5% discount) 2. Each year — Interest payment: Debenture Interest A/c Dr. 12,000 To Bank A/c / Debenture Holders A/c 12,000 (Being 12% interest paid on ₹1,00,000) P&L A/c Dr. 12,000 To Debenture Interest A/c 12,000 3. Writing off Discount on Issue: Method: Straight-line over 5 years Annual write-off = ₹5,000 / 5 = ₹1,000 per year P&L A/c Dr. 1,000 To Discount on Issue of Debentures A/c 1,000 (Being 1/5 of discount written off each year) On Redemption (at end of year 5, at par): 4. Debentures transferred to Debenture Holders: 12% Debentures A/c Dr. 1,00,000 To Debenture Holders A/c 1,00,000 5. Payment to debenture holders: Debenture Holders A/c Dr. 1,00,000 To Bank A/c 1,00,000 6. Transfer of DRR to General Reserve (if created): Debenture Redemption Reserve A/c Dr. [Amount] To General Reserve A/c [Amount]