Accounting treatment for debenture (II)

Over-Subscription of debentures

Example:

X Limited Issued 10,000, 12% debentures of Rs 100 each payable Rs 40 on application and Rs 60 on an allotment. The public applied for 14,000 debentures. Applications for 9,000 debentures were accepted in full; applications for 2,000 debentures were allotted 1,000 debentures and the remaining applications, were rejected. All money was duly received. Journalize the transactions.

Solution:

Under-Subscription

Under-subscription is a situation in which the total number of debentures issued is not fully subscribed. It occurs when the number of debentures applied for is less than the number of debentures offered. In this case, all the debenture applications received are either acceptable fully or rejected fully. The entries are made on the basis of the actual number of debenture applied.

Example:

MM Co. Ltd has issued 5,000, 5% debentures for Rs. 100 each at par. The amount payable per debenture is as under.

On application Rs. 40

On allotment Rs. 60

The company received applications for 4,000 debentures and allotment fully. All money was duly received.

Solution:

Issue of Debentures for Non-cash Considerations

The issue of debentures for the considerations other than cash is called the issue of debenture for non-cash considerations. The company may issue debentures for discharging the amount due on the purchase of assets, purchase of a business and as collateral securities.

Example:

G.S.Rai Company purchase assets of the book value of Rs 99,000 from another firm. It was agreed that purchase consideration is paid by issuing 11% debentures of Rs 100 each. Assume debentures have been issued.

1. At the par, 2. At a discount of 10%, and 3. At a premium of 10%. Record necessary journal entries.

Solution:

Issue of Debenture as Collateral Security

The issue of debentures to a bank/money lender for the sanction of a loan as a collateral security is called collateral debentures. On repayment of the loan, the collateral security is automatically released but in a case of failure of repayment, the lender automatically becomes a debenture.

First Method

No entry is made in the books of accounts since no liability is created by such issue. However, on the liability side of the balance sheet, below the item of a loan, a note to the effect that it has been secured by an issue of debentures as a collateral security is appended.

Example:

X Company has issued 9%, 10,000 debentures of Rs. 100 each for a loan of Rs. 10, 00,000 taken from a bank. This fact may be shown in the balance sheet as under:

Solution:

Second Method

The issue of debentures as a collateral security may be recorded by means of journal entry as follows:

Company Accounts and Analysis of Financial Statements Journal Entries:-

i. Issue of 10,000, 9% debentures of Rs 100 each as collateral security for bank loan of Rs 10,00,000.

Debenture Suspense A/c Dr. 10,00,000

To 9% Debentures A/c 10,00,000

ii.For cancellation of 9% debentures as collateral security for repayment of bank loan. Debenture Suspense account will appear as a deduction from the debentures on the liability side of the balance sheet. When loan is repaid the above entry will be cancelled by a reverse entry :

9% Debentures A/c Dr. 10,00,000

To Debenture Suspense A/c 10,00,000

Solution:

Issue of Redeemable Debentures

The debentures, which are issued with a maturity date are known as redeemable debentures. The repayment of the principal amount of debentures to the debenture holder is made on the maturity of the debentures. The redeemable debentures may be issued under different conditions for which the following journal entries are passed. Account treatment of issue of debenture of issue of redeemable debentures under different condition

Redemption of Debentures

Redeemable debentures are issued with a maturity period. After the maturity of the period, the principal amount of the debenture is repaid to the debenture holders. The repayment is made as per the terms laid in the prospectus at the time of issue of debentures. The methods of redemption of debentures are as follow:

Modes of Redemption of Debentures

1. Redemption in instalments
2. Redemption of a fixed sum of debentures
3. Redemption by a purchase of debentures in the open market.
4. Redemption by conversion
5. Redemption in lump sum after the expiry of maturity period
6. Creating a sinking fund or debenture redemption reserve account
7. Taking an insurance policy

Redemption of debentures on Lump-Sum Basis

Under this method, all the principal amount of debenture is repaid at once on a lump-sum basis. The company may redeem the debentures after the maturity period is over or even before the expiry of the specified period of time by serving a notice to the debenture holders. The accounting treatment made for such redemption of debentures is shown as under.

1. X Ltd. issued 5,000, 9% debentures of Rs 100 each at par and redeemable at par at the end of 5 years out of capital.

2. X Ltd. issued 1,000, 12% debentures of Rs 100 each at par. These debentures are redeemable at 10% premium at the end of 4 years

3. X Ltd. issued 12% debentures of the total face value of Rs 1,00,000 at premium of 5% to be redeemed at par at the end of 4 years

4. X Ltd. issued Rs 1,00,000, 12% debentures at a discount of 5% but redeemable at a premium of 5% at the end of 5 years

Redemption of Debentures by annual Drawing/Instalments

When the principal amount of debentures is repaid by the annual drawing of debentures in equal instalments over the maturity period, such a process is called redemption of debentures by annual drawing. The company may redeem the principal annually on equal installment.

Purchase of One’s Own Debentures from Open Market

Under this method, the company purchases its own debentures from the open market. The buying of debentures is generally made prior to the expiry of such debenture. The buying of debentures is also called the redemption of debentures. The debentures purchased from the open market can be cancelled immediately after the purchase. The company may also retain such debentures for some time as an investment and cancel them later.

Example:

X Ltd. purchased its own debentures of Rs. 100 each of the face value of Rs. 20,000 from the open market for cancellation at Rs. 92. Record necessary journal entries.

Solution:

Conversion of Debentures

Convertible debentures are redeemed by converting them into new debentures or into shares. Holders of convertible debentures enjoy the option of having their debentures converted either into shares of new debentures according to the term and condition of the issue. The new debentures or shares can be issued either at par or at a premium or at a discount. The accounting treatment for conversion is given below:

Example:

Arjun Plastics Limited redeemed 1,000, 15% debentures of Rs. 100 each by converting them into equity shares of Rs. 10 each at a premium of Rs. 2.50 per share. The company also redeemed 500 debentures by utilizing Rs. 50,000 out of profit. Give the necessary journal entries.

Solution:

WRITING OFF DISCOUNT OF ISSUE OD DEBENTURES

Discount on issue of debentures is a capital loss. A separate account entitled loss on issue of debentures account may also be opened to show discount on issue and provision set aside for premium payable on redemption. The loss is written off as per the decision of the Board of Directors. The discount on issue of debentures is shown on the balance sheet of redeemable debentures.

1. Annual instalment basis
2. Outstanding debentures amount basis

1. Annual instalment basis (When the Total Amount of Debentures is Redeemable at the End of the Maturity Period

The total principal amount of debenture may be redeemed at the end of the maturity period in a single installment. Each year an equal amount of discount is written off under this method. The amount of annual discount to be written off is determined by using the following formula:

The accounting treatment for writing off discount in issue if debentures are as follows:

Profit and loss A/c Dr xxx

To Discount on issue of debentures a/c xxx

(Being a portion of loss on issue of debentures `is written)

2. Debentures Outstanding Amount Basis (Ratio)

When the debentures are redeemable by annual drawings, the loss/discount on issue of such redeemable debentures are written off on the basis of the debentures outstanding ratio.

Example:

Atlantic Co.Ltd. issued 2,000, 10% debentures of Rs. 100 each at Rs. 90 per debenture. Those debentures were redeemed at 10% premium on an equal amount of annual drawing basis over the period of 4 years.

Solution:

.

References:

Koirala, Madhav et.al., Principles of Accounting -XII, Buddha Prakashan, Kathmandu

Shrestha, Dasharatha et.al., Accountancy -XII, M.K. Prakashan, Kathmandu

Bajracharya, Puskar, Principle of Accounting-XII, Asia Publication Pvt. Ltd., Kathmandu