REDEMPTION OF PREFERENCE SHARES

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Daniela Black
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1 REDEMPTION OF PREFERENCE SHARES a) Redemption of preference shares means paying back (or repayment to) preference shareholders their money. Section 80 of the Companies Act permits a company, limited by shares, to issue redeemable preference shares if it is so authorised by its articles of association. b) Preference shares may be redeemed either on a specific date which is the maturity date printed on the preference shares certificate or these shares may be redeemed earlier at the option of the company. c) However the redemption period cannot exceed 20 years from the date of issue of such shares as provided in Sub-section 5A of Section 80. d) The company thus enjoys the flexibility in redemption of the preference shares within the maximum specified period of 20 years. e) The Companies Act has abolished the category of irredeemable preference shares with effect from as a result of the Companies (Amendment) Act (80A) f) Redemption of preference shares involves repayment of capital before paying creditors of the company. It may affect the interest of creditors. g) In addition to that the working capital of the company will be depleted as a result of outflow of cash due to redemption. h) Amount of the capital redemption reserve account will not be available for distribution of dividend. i) Preferred stock/ preferred shares or preference shares j) (w.e.f 1/3/97, no preference chares can be issued which are not redeemed within 20 years) k) Convert partly paid shares into fully paid shares: l) Source for redemption should be out of undistributed profit/ distributable profit(otherwise available for dividend,) or out of PROCEEDS of fresh issue of shares or both m) Premium on redemption of pref shares should be should be provided out of securities premium or capital reserve in cash (i.e profit on revaluation not to be considered) or profit and loss account or general reserve account. n) The amount of capital redemption reserve But only for bonus shares issue o) CRR- If the shares are redeemed out of undistributed profit, the nominal value of share capital, so redeemed should be transferred to Capital Redemption Reserve Account. p) The redemption of preference shares under this section by a company shall not be taken as reducing the amount of its authorized share capital PROCESS FOR REDEMPTION: Make PS fully paid and pass entry for Sale of Asset/bank Loan Make due entry for Preference Shares Make New Issue entry if required and arrange for cash if required Create CRR W/o Premium on shares Issue Bonus Shares Make Payment of Pref Shares

2 NUMERICAL QUESTIONS 1. From the following information, calculate the amount that should be transferred to capital redemption reserve account in each of the following cases : Preference Shares to be Redeemed Fresh Issue of Share Capital for the Purpose of Redemption (i) 12,00,000 at par at par (ii) 12,00,000 at premium of 5% at par (iii) 12,00,000 at par at premium of 10% (iv) 12,00,000 at premium of 10% at discount of 10% (v) 12,00,000 at par at discount of 5% 2. From the following information, determine the amount of fresh issue of shares for the purpose of redemption of preference shares. Preference Shares to be Available Amount of Reserves Redeemed and Surplus (i) 12,00,000 at par Securities Premium Account 4,00,000 General Reserve Account 8,00,000 (ii) 12,00,000 at a premium Profit and Loss Account of 10% Securities Premium Account 80,000 (iii) 12,00,000 at a premium of Securities Premium Account 40,000 10% Profit and Loss Account 6,00,000 General Reserve 3,00,000 Capital Reserve 60,000 Dividend Equalisation Reserve50, The balance sheet of Vivek Ltd. as at 31 March is as follows : Liabilities Assets Share Capital : Fixed Assets : Issued and Fully Paid : Land and Building 20,00,000 50,000, 9% Preference Shares Plant 5,00,000 of 20 each fully paid Fixtures and Fittings 90,000 Equity Shares of Motor Vans 40, each fully paid 18,00,000 Current Assets : Reserves and Surplus : Stock 6,60,000 Securities Premium Debtors 2,40,000 2

3 Account 2,00,000 Investments 6,00,000 General Reserve 4,00,000 Bank 3,60,000 Profit and Loss Account 5,00,000 Current Liabilities 6,00,000 45,00,000 45,00,000 The company exercises its option to redeem all the preference shares at a premium of 5% on 1 April. To finance the redemption all the investments were sold realising 5,60,000. A fresh issue of 10,000 ordinary shares of 20 was made at 24 per share payable in full on 1 April. These were duly subscribed for and the full amount was received on that date. The directors wish that only minimum reduction be made in the revenue reserves. You are required to draft journal entries, including those relating to cash, to record the above transactions and to set out the balance sheet of the company as it would then appear. 4. Following is the Balance Sheet of NUPUR Textiles Ltd. as on 30the June 2005 : - Authorised Share Capital : 40,000 10% Redeemable Fixed Assets 10,80,000 4, Preference shares of 10 each Equity Shares of 10 Each 4,00,000 14,00,000 Paid up Capital : 30,000 10% Redeemable Preference Shares of 10 each 50,000 Equity Shares 10 each Profit & Loss A/c Accounts Payable 3,00,000 5,00,000 4,50,000 2, ,00,000 15,00,000 On 5 th July 2005 the preference shares were redeemed at a premium of 2 per share. The company could not yet trace the holders of 2,000 Preference Shares. On 1 st August, 2005 a bonus issue of two fully paid equity shares for five shares was made. Show the journal entries and the revised Balance Sheet. 5. In the following case, give journal entries necessary to record the redemption of preference shares : (i) A company redeems 9,500, 10% preference shares of 100 each at par, out of profits otherwise available for dividend,9,500 10% preference shares of 100 each at a premium of 10% out of profits otherwise available for dividend. (ii) A company issues 75,000 equity shares of 10 each at par in order to utilize the proceeds to redeem 7,500 10% preference shares of 100 each at a premium of 10%. The new issue is fully subscribed and paid for. 3

4 (iii) A company issue 75,000 equity shares of 10 each at par in order to utilize the proceeds to redeem 7,500, 10% preference shares of 100 each at a premium of 10%. The new issue is fully subscribed and paid for. (iv) A company issues 75,000 equity shares of 10 each at a premium of 20% in order to utilize the proceeds to redeem 7,500, 10% preference shares of 100 each at a premium of 10%. The new issue is fully subscribed and paid for. (v) A company decides to redeem 7,50,000, 10% preference shares at a premium of 10%. 30,000 equity shares of 10 each are issued for cash at a premium of 5% for the purpose of redemption, the balance at the credit of its profit and loss account being 15,00, Comment on the following : (i) Shagun Ltd. which has been suffering losses, has to redeem 50,000, 12% preference shares of 25 each. It issues 14% debentures for 12,50,000 and carries out the redemption. The company creates capital redemption reserve account by increasing the loss in its profit and loss account. (ii) Deepti Ltd. company had issued in 1991, 10,000, 12% preference shares of 100 each, 80 paid up. The shareholders in general meeting pass a resolution stating that the company need not make any call on these shares and these shares be redeemed forthwith out of the profits. (iii) Redemption of 5,000 preference shares of 100 each was carried out by utilisation of general reserves and by the issue of 2,000 equity shares of 100 each at 125. The company credited to capital redemption reserve account 2,00,000. (iv) Redemption of preference shares was carried out by the issue of 5,000 equity shares of The company credited the capital redemption reserve account by 5,00,000 by debiting profit and loss appropriation account. 7. Nikita Ltd. has the following balance sheet as on : Liabilities 10,000 Ordinary Shares of 100 each 5,000 Preference Shares of 100 each Capital Reserve Share Premium Account General Reserve Profit and Loss Account Current Liabilities 5,00,000 2,00,000 Assets Fixed Assets Current Assets 22,00,000 8,00,000 30,00,000 30,00,000 4

5 The Preference shares are to be redeemed at 10% premium. Fresh issue of equity shares to be made to the extent it is required under the Companies Act for the purpose of this redemption. The shortfall in funds after utilizing the proceeds of fresh issue is to be made by taking a bank loan. Show journal entries (CRR-3,00,000 and New Issue-2,00,000,Loan ). 8. Determine the amount of fresh issue of shares from the following information relating to Shagoon Leather Works Ltd. : (i) Redeemable preference shares- 2,00,000; (ii) Premium on redemption 10%; (iii) Divisible profits available 60,000; (iv) Balance in general reserve 40,000; (v) Share Premium Accounts 15,000; (vi) Fresh issue to be made at a discount of 10 %.(1,16,667) 9. The ledger accounts of M.N. Ltd. show the following balances : 14% Preference Share Capital 3,00,000 General Reserve 80,000 Securities Premium 20,000 Profit and Loss Account 38,600 Investment Allowance Reserve 50,000 The company redeems preference shares at a premium of 10% by issue of equity shares of 10 each at a premium of 20%. Fresh issue of shares is made in lots of 100 shares for such amount as is necessary after utilising the available sources to the maximum extent. Calculate (i) Number of fresh shares issued. (ii) Amount transferred to Capital Redemption Reserve. (iii) Journal entry for transfer 5

Redemption of Preference Shares. Fundamentals Of Accounting

Redemption of Preference Shares. Fundamentals Of Accounting Redemption of Fundamentals Of Accounting Learning Objectives After studying this unit, you will be able to: Understand the meaning of redemption and the purpose of issuing redeemable preference shares,