Issue and Redemption of Debentures
1. Introduction to Debentures
A debenture is a financial instrument that signifies a loan made by an investor to a borrower, typically a corporate entity. Debentures are a form of debt capital raised by companies and are different from equity shares in that they do not confer ownership rights. Here are key characteristics related to debentures:
- Written Agreement: They are written documents acknowledging the debt under the company’s common seal.
- Interest Rate: They usually carry a fixed rate of interest which is paid at regular intervals until maturity.
- Maturity Date: They are repayable at a specified future date or as specified in their terms.
Key Definitions
- Bond: Similar to a debenture but traditionally issued by governments.
- Charge: A legal obligation on the assets of the company to repay the money owed to debenture holders.
2. Difference Between Shares and Debentures
- Ownership vs. Debt: Shares represent ownership in a company, while debentures represent a loan made to the company.
- Returns: Shareholders receive dividends dependent on company profits, while debenture holders receive fixed interest irrespective of profits.
- Repayment: Shares are generally not repayable during the lifetime of the company. Debentures must be repaid at maturity.
- Voting Rights: Shareholders have voting rights, whereas debenture holders generally do not.
- Security: Debentures can be secured against company assets, while shares are not secured.
3. Types of Debentures
Debentures can be categorized based on different criteria:
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By Security:
- Secured Debentures: Backed by the company’s assets.
- Unsecured Debentures: Not backed by any specific asset.
-
By Tenure:
- Redeemable: Paid back after a specified period.
- Irredeemable: No set repayment period; they exist indefinitely until the company is wound up.
-
By Convertibility:
- Convertible Debentures: Can be converted into equity shares.
- Non-convertible Debentures: Cannot be converted.
-
By Interest Rate:
- Specific Coupon Rate: Stipulated interest.
- Zero Coupon Rate: No interest; sold at a discount.
4. Issue of Debentures
4.1 Issuance Methods
Debentures can be issued at:
- Par: Face value equals the issue price.
- Discount: Sold below face value.
- Premium: Sold above face value.
4.2 Journal Entries for Issuance
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At Par:
- Bank A/c Dr.
- To Debenture Application & Allotment A/c
- To 12% Debentures A/c
-
At Discount:
- Bank A/c Dr.
- Discount on Issue of Debentures A/c Dr.
- To 12% Debentures A/c
-
At Premium:
- Bank A/c Dr.
- To Debenture Application & Allotment A/c
- To 12% Debentures A/c
- To Securities Premium Reserve A/c
5. Redemption of Debentures
Redemption refers to the repayment of the debenture's face value to the holder. Methods include:
- At Par: The amount paid is equal to the nominal amount.
- At Premium: The total amount paid exceeds the face value.
- By Instalments: Across different time frames as specified in the terms.
- Market Purchase: Purchasing debentures in the market for cancellation.
5.1 Journal Entries for Redemption
-
At Par:
- Debenture A/c Dr.
- To Debentureholders A/c
- Debentureholders A/c Dr.
- To Bank A/c
-
At Premium:
- Debenture A/c Dr.
- Premium on Redemption of Debentures A/c Dr.
- To Debentureholders A/c
6. Collateral Security
Debentures issued as collateral security provide additional assurance to lenders. Such issuance need not impact balance sheet entries; it can often just be a note indicating they exist as such without creating a liability.
7. Sinking Fund
A sinking fund is established for the purpose of redeeming debentures. Companies must contribute periodically to this fund, which is kept aside to ensure the debentures can be redeemed as they come due.
8. Conclusion
The issue and redemption of debentures are crucial aspects of a company's financing activities. Understanding different types of debentures, their accounting treatments, and procedures ensures proper financial management and compliance with regulations.