Chapter issue-and-redemption-of-debentures: Issue and Redemption of Debentures | Summary

Debentures are classified on five bases. From the security standpoint: Secured debentures carry a fixed or floating charge on assets, while Unsecured (Naked) debentures carry no specific charge. From the tenure standpoint: Redeemable debentures are repaid on a specified date; Irredeemable (Perpetual) debentures have no fixed repayment date and are repaid only on winding up. From convertibility: Convertible debentures (fully or partly) can be converted into equity or other securities; Non-convertible debentures cannot.

From coupon rate standpoint: Specific coupon rate debentures carry a stated fixed or floating interest rate; Zero coupon rate debentures carry no interest but are issued at a deep discount, the difference between nominal value and issue price serving as implicit interest. From registration standpoint: Registered debentures require a transfer deed for transfer; Bearer debentures are transferred by mere delivery, and interest is paid to whoever presents the attached coupon.

The procedure for issuing debentures mirrors the share issue procedure. Investors apply based on the prospectus. The company may collect the entire amount on application or in instalments (application, allotment, calls). Debentures issued at a price equal to face value are issued at par; if above face value, at premium; if below face value, at discount.

For issue at a discount, the Discount on Issue of Debentures account is debited. This discount is a capital loss and must be written off — from Securities Premium Reserve if available, and the remainder from Statement of Profit and Loss. The Companies Act, 2013 places no restriction on issuing debentures at a discount. For issue at a premium, the premium amount is credited to Securities Premium Reserve and appears on the liabilities side of the balance sheet under Reserves and Surplus.

When applications received exceed debentures offered, the issue is over-subscribed. A company cannot allot more debentures than offered. Excess application money from partially allotted applications may be retained and adjusted against allotment money due. Application money received for applications that are fully rejected must be refunded to the applicants.

When a company purchases assets from vendors and pays by issuing debentures instead of cash, it is called an issue for consideration other than cash. The journal entry first records the asset purchase (Sundry Assets A/c Dr. / To Vendors), and then the debenture issue (Vendors Dr. / To Debentures A/c). Debentures may be issued at par, premium, or discount in such cases. If assets and liabilities of an entire business are taken over, purchase consideration equals net assets (Assets minus Liabilities). If debentures issued exceed net assets, the difference is debited to Goodwill; if less, it is credited to Capital Reserve.

Collateral security is a secondary or additional security offered alongside primary security when taking a loan. If the primary security's realisable value is insufficient to cover the loan, the lender can invoke the collateral security. Debentures issued as collateral security can be recorded in two ways. Under the First Method, no journal entry is made; the balance sheet only carries a note stating the debentures have been issued as collateral. Under the Second Method, a journal entry is passed: Debenture Suspense A/c Dr. / To Debentures A/c. The Debenture Suspense account appears as a deduction from debentures in the notes to accounts. On repayment of the loan, a reverse entry cancels the debentures.

When issuing debentures, companies specify redemption terms. Six common combinations exist: (1) Issued at par, redeemable at par; (2) Issued at discount, redeemable at par; (3) Issued at premium, redeemable at par; (4) Issued at par, redeemable at premium; (5) Issued at discount, redeemable at premium; (6) Issued at premium, redeemable at premium.

When debentures are redeemable at a premium, the premium on redemption is debited to Loss on Issue of Debentures A/c at the time of allotment and credited to Premium on Redemption of Debentures A/c — a liability shown under Non-current Liabilities (Long-term Borrowings) until redeemed. When both a discount on issue and a premium on redemption exist, both amounts are combined in the Loss on Issue of Debentures A/c.

Debenture interest is a fixed obligation calculated on the nominal (face) value of debentures, typically paid half-yearly. It is a charge on profits and must be paid regardless of whether the company makes a profit. Under the Income Tax Act, 1961, TDS must be deducted at the prescribed rate on interest payments exceeding the prescribed limit and deposited with the tax authorities. The debenture interest account is ultimately transferred to Statement of Profit and Loss.

Discount or loss on issue of debentures is a capital loss and is written off in the year debentures are issued. Under Section 52(2) of the Companies Act, 2013, it can be written off from Securities Premium Reserve to the extent of the balance available. Any remaining amount is written off from the Statement of Profit and Loss. The journal entry is: Securities Premium Reserve A/c Dr. (to extent available) + Statement of Profit and Loss Dr. / To Discount/Loss on Issue of Debentures A/c.

Redemption of debentures means extinguishing the liability by repaying the amount to debentureholders in accordance with the terms of issue. There are four methods: (1) Payment in lump sum — the entire amount is paid at maturity; (2) Payment in instalments — debentures are redeemed in tranches, with specific debentures selected by draw of lots; (3) Purchase in the open market — the company buys its own debentures for cancellation, advantageously when available at a discount, with any profit transferred to Capital Reserve; (4) Conversion — debentures are converted into equity shares or new debentures. In conversion, only the actual proceeds realised at the time of original issue determine the number of new shares issued. This method applies only to convertible debentures.

Two additional factors govern redemption: (a) Time — debentures are normally redeemed on due date but may be redeemed earlier if the Articles allow; (b) Source — redemption may be out of capital or out of profits. Listed companies, banking companies, financial institutions, and certain unlisted companies are exempt from creating Debenture Redemption Reserve (DRR) and may redeem out of capital. Other unlisted companies must maintain DRR at 10% of outstanding debentures. All companies must invest or deposit at least 15% of the value of debentures maturing in the following year on or before April 30 of the current year (Debenture Redemption Investment).

This chapter establishes that debentures are a critical instrument of long-term debt financing, distinct from shares in terms of ownership, return, security, repayment, and convertibility. The accounting treatment covers six scenarios of issue and redemption combinations, collateral security, consideration other than cash, interest with TDS, and writing off discount/loss. Redemption can occur through lump sum payment, instalments, open market purchase, or conversion into shares or new debentures, each with specific journal entry requirements.

From an exam perspective, this chapter is highly numerical and carries significant marks in CBSE board examinations. Students must master journal entries for all six issue-redemption combinations, the two methods of recording collateral security, the treatment of DRR and DRI for listed versus unlisted companies, profit on open-market purchase being transferred to Capital Reserve, and the proper presentation of all these items in the balance sheet and notes to accounts.