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CMA Intermediate · Corporate Accounting and Auditing

Redemption of Preference Shares, Issue and Redemption of Debentures

Preference shares can be redeemed only if fully paid, and only out of divisible profits or a fresh issue of shares. Profits used must be moved to Capital Redemption Reserve equal to the nominal value redeemed. Debentures are issued, then redeemed by lump sum, instalments, purchase, sinking fund or conversion. Solve by journalising step by step.

What this chapter covers

This chapter deals with how a company raises and repays two kinds of long-term funds: preference share capital and debentures. You learn the legal conditions for redemption, how the Capital Redemption Reserve (CRR) protects creditors, and how to pass entries and show the revised Balance Sheet.

The debenture half covers issue at par, premium or discount, issue for consideration other than cash, and the main redemption routes: lump sum, instalments, purchase in the open market, sinking fund and conversion into shares. Each route has its own entries and its own provisions.

The chapter links to share capital accounting, which comes before it in the paper, and to Schedule III presentation of equity, reserves and borrowings. Cash flow and ratio questions in other papers also depend on knowing how these transactions change the Balance Sheet. In Paper 10, the same numerical often asks for journal entries, working notes and a Balance Sheet extract.

Numerical questions here follow a fixed pattern, so a student who knows the sequence of entries can score full step marks reliably. The rules in the Companies Act, 2013 also give easy theory marks and are a common base for MCQs. Mistakes in CRR, premium on redemption or the fresh issue amount are the usual marks lost, and they are avoidable with a clear method. The chapter also builds skills you reuse in later topics on company accounts.

Redemption of Preference Shares, Issue and Redemption of Debentures: topics in the order to study them

  1. 1Redemption of Preference SharesStart with the legal conditions in Section 55: only fully paid shares, only out of divisible profits or a fresh issue, and redemption within twenty years if the articles authorise it. For infrastructure projects a longer period is allowed, subject to redemption of a prescribed percentage each year at the option of the preference shareholders.
  2. 2Capital Redemption Reserve and Premium on RedemptionNext, learn how much CRR must be created and where redemption premium can come from, since every numerical depends on these two figures.
  3. 3Journal Entries and Balance Sheet After RedemptionNow put the rules into entries and a revised Balance Sheet; this is the usual numerical format.
  4. 4Issue of DebenturesMove to debentures by first learning issue at par, premium and discount, because redemption entries build on the issue terms.
  5. 5Redemption of Debentures: Methods and ProvisionsStudy the overall methods and the provisions made for redemption before looking at specific routes.
  6. 6Redemption by Purchase in Open Market and Sinking FundThese are the most calculation-heavy routes, so take them once the basic redemption entries are comfortable.
  7. 7Conversion of Debentures into SharesFinish with conversion, which mixes debenture and share capital entries and needs both halves of the chapter.

How to prepare Redemption of Preference Shares, Issue and Redemption of Debentures

Treat this chapter as a set of entry patterns plus a few legal rules. Learn the rule first, then the entry, then practise the full numerical.

  1. Read Section 55 and write its conditions in your own words: authorised by articles, fully paid, source of funds, CRR, premium and the twenty-year limit (longer for infrastructure projects, with a prescribed percentage redeemed each year at the option of the holders).
  2. Practise the redemption workings in order: shares to redeem, fresh issue needed, profits to be used, CRR required. Write each working on the page.
  3. Pass entries in a fixed sequence: fresh issue, premium provision, redemption, CRR transfer. Then redraw the Balance Sheet extract under Schedule III heads.
  4. Learn debenture issue entries for par, premium, discount and non-cash consideration, and note where the discount or loss on issue is shown.
  5. For each redemption method, make a one-page note of entries and the source of funds, then solve at least two numericals per method.
  6. Solve sinking fund and open market purchase problems in tabular form, since these tables earn step marks and expose errors early.
  7. Finish with timed questions: 15 MCQs on rules, then a full 14-mark numerical written in exam format.

Common mistakes in Redemption of Preference Shares, Issue and Redemption of Debentures

  • Transferring the premium on redemption to CRR

    Fix: CRR equals the nominal amount of the shares redeemed out of profits (Section 55(2), second proviso, clause (c)). In your working, the amount redeemed out of profits is what remains after the fresh issue proceeds are applied. Premium is dealt with separately.

  • Redeeming partly paid shares

    Fix: Show the call money being received first, then redeem. Only fully paid shares can be redeemed.

  • Using the wrong source for premium on redemption

    Fix: Follow the facts given in the question. Securities premium or profits may be used where permitted by Section 55(2) and Section 52(2)(d).

  • Skipping workings and jumping to entries

    Fix: Write the workings in a neat note. Examiners award marks for working steps even if one figure goes wrong.

  • Treating bonus issue from CRR like any other bonus issue

    Fix: Check that the articles authorise the issue and that the general meeting has authorised it on the Board's recommendation. Check that there is no default on interest or principal of fixed deposits or debt securities, or on employee statutory dues such as provident fund, gratuity and bonus. Make any outstanding partly paid-up shares fully paid. Revaluation reserve cannot be capitalised.

  • Mixing up debenture discount and premium entries on issue and redemption

    Fix: Pass separate entries for issue and for redemption, and record the loss or premium on each date.

Last-day revision: Redemption of Preference Shares, Issue and Redemption of Debentures

  • Irredeemable preference shares cannot be issued by a company limited by shares (Section 55(1)).
  • Preference shares can be redeemed within a period not exceeding twenty years, if authorised by the articles. For infrastructure projects a period exceeding twenty years is permitted, subject to redemption of a prescribed percentage each year at the option of the preference shareholders (Section 55(2), first proviso).
  • Only fully paid shares can be redeemed.
  • Redemption is out of profits otherwise available for dividend, or the proceeds of a fresh issue made for the purpose.
  • If profits are used, transfer an amount equal to the nominal value redeemed to Capital Redemption Reserve.
  • Premium on redemption is provided for before redemption; the permitted source depends on the class of company and the date of issue.
  • CRR can be used to pay up unissued shares as fully paid bonus shares.
  • Bonus shares cannot be issued by capitalising revaluation reserves, and cannot be issued in lieu of dividend (Section 63).
  • Securities premium can be used to provide for premium payable on redemption (Section 52(2)(d)).
  • Do the workings first: redemption amount, fresh issue, profits used, CRR.
  • Debenture entries: always check the issue price, redemption price and any discount or loss on issue.
  • Show the Balance Sheet after each transaction using Schedule III headings.

Redemption of Preference Shares, Issue and Redemption of Debentures practice questions

Redemption of Preference Shares, Issue and Redemption of Debentures in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Redemption of Preference Shares, Issue and Redemption of Debentures: frequently asked questions

What is the main condition for redeeming preference shares?

The shares must be fully paid and redeemed either out of profits available for dividend or out of a fresh issue of shares made for the purpose. The articles must authorise the issue of redeemable shares. Redemption must be within twenty years of issue. For infrastructure projects a longer period is allowed, subject to redemption of a prescribed percentage each year at the option of the preference shareholders.

Why is Capital Redemption Reserve created?

When shares are redeemed out of profits, an amount equal to their nominal value is moved to CRR (Section 55(2)(c)). CRR is also created when a company buys back its own shares out of free reserves or securities premium, for a sum equal to the nominal value of the shares bought back (Section 69(1)). This keeps the capital base intact for creditors. The reduction of share capital provisions apply to CRR as if it were paid-up share capital, and CRR can be used to pay up unissued shares as fully paid bonus shares (Sections 55(4) and 63(1)(iii)).

Can securities premium be used for premium on redemption?

Section 52(2)(d) allows the securities premium account to provide for premium payable on redemption of redeemable preference shares or debentures. Section 55(2) sets conditions that depend on the class of company and the date of issue. Read the question facts before choosing.

How should I answer a redemption numerical in the exam?

Start with the workings: shares redeemed, fresh issue, profits used and CRR. Then pass journal entries in order and finish with the Balance Sheet extract. Clear steps secure marks even if one figure is wrong.