redemption of debentures

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Redemption of Debentures

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Redemption of debenture

Redeemable debenture will be redeemed on or before a specified date which is stated clearly in the terms of the issue of debentures

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In order to provide the funds to finance the redemption of debentures, the company may use the money from the following resources:

(I) The balance of existing cash and bank account(II) The money received from the fresh issue of shares (III)or debentures for the purpose of the redemption

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Debenture Redemption Reserve

If the company is unable to redeem its debentures by issuing new shares to raise necessary funds, the company should create Debenture Redemption Reserve account for redeeming the debenturesEqual to the cash used in redemption might be voluntarily transferred to a debenture redemption reserve fund from profit and loss account as a matter of financial prudenceThe debenture redemption reserve is then identified as not being available for dividend distributionThe voluntary appropriation of profit to “Debenture Redemption Reserve” ensures that the resources of the company are not disadvantageously reduced

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Premium on Redemption of Debentures

An amount equals “Premium on Redemption” will be transferred from Share Premium account to Debenture Redemption accountIf it is not covered by Share Premium account, the balance will be transferred from Profit and Loss account

Redeemed price

of debentures- Par value

of Debentures = Premium on

Redemption

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Discount on Redemption of Debentures

Redeemed price

of debentures- = Discount on

Redemption

An amount equals “Discount on Redemption” will be transferred from to Debenture Redemption account to Reserve or Profit and loss account

Par value

of Debentures

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Redemption of Debentures without a Sinking Fund

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Out of distributable profits Out of the proceeds of new issue

1. Declaration of redemption Dr. Debentures Cr. Debenture Redemption

1. Declaration of redemption Dr. Debentures Cr. Debenture Redemption

2. Transfer of distributable profit to debenture redemption

reserve Dr. Profit and Loss

Appropriation Cr. Debenture Redemption

Reserve

2. (a) New shares issued at premium Dr. Bank Cr. Share Capital Cr. Share Premium

(b) Transfer to redemption reserve Dr. Profit and Loss Appropriation Cr. Debenture Redemption Reserve

Summary of Procedures

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Out of distributable profit/proceeds of new issue

3. Redemption at a premium a) if the debentures were originally issued at a premium Dr. Share/Debenture Premium Cr. Debenture Redemption

b) if the debentures were not issued at a premium Dr. Profit and Loss Appropriation Cr. Debenture Redemption

c) if the current balance of premium or the premium received on debentures originally issued is less than the premium on redemption Dr. Share/Debenture Premium Dr. Profit and Loss Appropriation Cr. Debenture Redemption

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Out of distributable profit/proceeds of new issue

4. Redemption at a discount Dr. Debenture Redemption Cr. Debenture Redemption Reserve / General Reserve

5. Redemption of debentures Dr. Debenture Redemption Cr. Bank

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Example 1

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Example 1 $1,000 debentures were redeemed at parA new issue of $1,000 ordinary shares at par

Dr. Cr.

1. Bank 1000 Ordinary Shares 1000

Being issue of ordinary shares

2. Debentures 1000 Debenture Redemption 1000

Being declaration of redemption

3. Debenture Redemption 1000 Bank 1000

Being redemption of debentures

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Example 2 $1,000 debentures were redeemed at parwith no new issue of shares

Dr. Cr.

1. Debentures 1000 Debenture Redemption 1000

Being declaration of redemption

2. Profit and Loss Appropriation 1000 Debenture Redemption Reserve 1000

Being transfer to debenture redemption reserve



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Example 3 $1,000 debentures were redeemed at parRedemption was partly provided for out of the proceeds of a new issue of 800 ordinary shares at par

Dr. Cr.

1. Bank 800 Ordinary Shares 800


3. Debentures 1000 Debenture Redemption 1000Being declaration of redemption





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Example 4$1,000 debentures were redeemed at a premium of 20%with no new issue of shares

Dr. Cr.

1. Debentures 800 Debenture Redemption 800Being declaration of redemption



4. Debenture Redemption 1200 Bank 1200 Being redemption of debentures

3. Profit and Loss Appropriation 200 Debenture Redemption 200

Being premium on redemption

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Example 5

Case 1

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Example 5$1,000 debentures, issued at a premium of 5%Redeemed at a premium of 20%

Case 1: 1,200 $1 ordinary shares at par

Case 1 $

Balance before new issuePremium on new issue Balance after new issueLess: Amount transferred to the

redemption account(should be the lower of the balance after the new issue

or the original premium on the issue)

Balance after redemption

10-

10

10-

1000*5%=50

These balances may not be the same, as some

funds may have been used up in the bonus issue

and redemption

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Dr. Cr.

Bank 1200

Ordinary Share 1200


Debentures 1000

Debenture Redemption 1000Being redemption of debentures

Share Premium 10

Profit and loss 190

Debenture Redemption (1000*20%) 200Being premium on redemption

Debenture Redemption 1200

Bank (1000*1.2) 1200Being amount paid on redemption

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Example 5

Case 2

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Case 2: 1,000 $1 ordinary shares at a 10% premium

Case 2$

Balance before new issue Premium on new issue Balance after new issueLess: Amount transferred to the




50100150

50100

1000*5%=50

1000*0.1



and redemption

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Dr. Cr.

Bank 1100

Ordinary Share 1000

Share Premium (1000*0.1) 100Being issue of ordinary shares

Debentures 1000


Share Premium 50

Profit & Loss Appropriation 150


Being premium on redemption


Bank 1200Being amount paid on redemption

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Example 5

Case 3

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Case 3: 800 $1 ordinary shares at a 20% premium

Case 3$

Balance before new issue Premium on new issue Balance after new issueLess: Amount transferred to the




5060

210

50

1601000*5%=50

800*0.2



and redemption

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Dr. Cr.

Bank 960

Ordinary Share 800

Share Premium 160Being issue of ordinary shares

Debentures 1000


Profit & Loss Appropriation (1000-800*1.2) 40

Debenture Redemption Res. 40Being part of redemption not covered by new issueShare Premium 50

Profit & Loss Appropriation 150

Debenture Redemption 200Being premium on redemptionDebenture Redemption 1200

Bank 1200Being amount paid on redemption

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Redemption of Debenture by a Sinking Fund

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Descriptions Book-keeping Entries

Set aside an annual appropriation to the Sinking Fund.

The same amount out of cash or bank will be invested in a specific investment under ‘Sinking Fund Investment Account’ to provide sufficient funds for the debenture redemption.

Dr. Profit and Loss Account

Cr. Sinking Fund

Dr. Sinking Fund Cash/Bank

Cr. Cash/Bank

Dr. Sinking Fund Investment

Cr. Sinking Fund Cash/Bank

Any interest or dividend income received from Sinking Fund Investment


Cr. Sinking Fund

Re-investment of income received (except in the last few months before the redemption)


Cr. Sinking Fund Cash

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Disposal of Sinking Fund Investment

Profit on disposal of Sinking Fund Investment or

Loss on disposal of Sinking Fund Investment


Cr. Sinking Fund Investment


Cr. Sinking Fund

Dr. Sinking Fund

Cr. Sinking Fund Investment

Transfer the amount of Debentures to be redeemed to Debenture Redemption Account

Dr. Debentures

Cr. Debenture Redemption

Payment on Debenture Redemption Dr. Debenture Redemption

Cr. Sinking Fund Cash/Bank

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Premium on Redemption

“Profit on Redemption” will be transferred from Redemption Account to “Sinking Fund Account”

OR

Discount on Redemption

“Loss on Redemption” will be transferred from Redemption Account to “Sinking Fund Account”

Dr. Debenture Redemption

Cr. Sinking Fund

.

Dr. Sinking Fund

Cr. Debenture Redemption

Transfer of the nominal value of the debentures redeemed at every redemption and the balance of the sinking fund at the final redemption to the general reserve

Dr. Sinking Fund

Cr. Debenture Redemption Reserve

OR

General Capital Reserve

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Example

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Pacific Ltd. Issued $1,000,000 12% debentures at par on 1 January 1987. These wereredeemable at a premium of 10% on 31 December 1997. A sinking fund account wasCreated by the annual appropriation of profits. Investments were made to provideCash to redeem the debentures. All investment income must be reinvested, except forThe final year of redemption.The following balances were extracted from the books at 1 January 1997:

12% Debentures 1,000,000Sinking Fund 800,000Sinking Fund Investment 800,000Sinking Fund Cash 100,000

During 1997, the following transactions took place:Jan 1 Investment income of $10,000 was receivedJan 30 Six month’s interest was paid on the debenturesJuly 1 Investment costing $400,000 was sold for $450,000 to provide funds for the

redemption of some debentures. The company redeemed $400,000 debentures at a discount of 5%

Dec 1 All remaining investments were sold for $600,000Dec 31 The remaining debentures were redeemed at a premium of 10% and the

outstanding interest was paid.

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Sinking Fund Cash

Jan 1 Bal b/f 100,000Jan 1 Sinking Fund 10,000

July 1 Sinking Fund Invest- ment 450,000

July 1 Debenture Redemption 380,000 (400000*0.95)

Dec 31 Debenture Redemption 660,000 (1600000*1.1)

12% Debentures

July 1 Debenture Redempt. ion 400,000

Dec 31 Debenture Redempt- ion 600,000

Jan. 1 Bal b/f 1,000,000

1,000,000 1,000,000

Dec 1 Sinking Fund Invest- ment 600,000

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Sinking Fund

July 1 General Reserve 400,000 (par value)

Dec 31 Debenture Redemption 60,000 (discount)

Dec 31 General Reserve 620,000

Jan 1 Bal. B/f 800,000Jan 1 Sinking Fund Cash 10,000July 1 Sinking Fund Investment 50,000 (profit)July 1 Debenture Redemption 20,000 ( premium)Dec 1 Sinking Fund Investment 200,000

1,080,000 1,080,000

Sinking Fund Investment

July 1 Bal b/f 800000

July 1 Sinking Fund: profit on

sales (450000-400000) 50000

Dec 1 Sinking fund: profit on

sales (660000-400000) 200000

July 1 Sinking fund cash 450000

Dec 1 Sinking fund cash 600000

11050000 11050000

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Debenture Redemption

July 1 Sinking fund cash 380000

July 1 Sinking fund: profit 20000

July 1 12% Debenture 400000

400000 400000

Dec 31 Sinking fund cash 660000 Dec 31 12% Debenture 600000

Dec 31 Sinking fund: discount 60000

660000 660000

Debenture interest

June 30 Bank 60000

(1000000*12%*1/2)

Dec 31 Bank 36000

(600000*12%*1/2)

Dec 31 Profit and loss 96000

96000 96000

redemption of debentures

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