Preferential Share Issue & Redemption

Submitted to- Submitted byMr-Vaibhav Batra Shubham Kumar MBA(BF) GURUKUL KANGRI UNIVERSITY HARIDWAR

Preference Share• Definition –According to section 85 of company Act, 1956,

persons holding preference share, called preference shareholder, are assured of a preferential dividend at a fixed rate during the life of the company.

They also carry a preferential right over other shareholders to be paid first in case of winding up of the company. Thus, they enjoy preferential rights in the matter of :

a. A preferential right as to the payment of dividend during the lifetime of the company

b. A preferential right as to the return of capital when the company is wound up

TYPES OF PREFERENCE SHARES

• Cumulative and Non cumulative.

• Participating and Non Participating.

• Convertible and Non Convertible.

• Redeemable and Non Redeemable.

CUMULATIVE AND NON CUMULATIVE

• Holders of Cumulative preference shares are entitled to recover the arrears of preference dividend before any dividend is paid on equity shares.

• Non- cumulative Preference shares arrears of dividend do not accumulate and hence, if dividend is to be paid to equity shareholder in any year, dividend at a fixed rate for only 1 year will have to be paid to preference shareholder before equity dividend is paid.

Participating and Non Participating

• Participating Preference shareholders are not only entitle to only fixed rate of dividend but have the right to receive any surplus profit which remains after dividend has been paid at a certain rate to equity shareholders.

• Non Participating Preference shareholders are entitle to only fixed rate of dividend.

Convertible and Non Convertible

• Holder of Convertible Preference shares enjoy the right to get preference share converted into equity shares according to the terms of issue.

• Holder of Non Convertible Preference shares do not enjoy any such right.

Redeemable and Irredeemable

• Redeemable Preference SharesOn such preference shares, the amount is refunded in accordance with

Sec. 55 of the Companies Act 2013.

• Irredeemable Preference SharesIrredeemable preference shares can not be redeemed during the life of

the company.

A company limited by shares cannot issue irredeemable preference

shares in India.

Issue of Preferential Share

This issue can be made either at par, at premium, or at discount. Entries for the issue will be made in the usual way. Taking an example of a share Rs.100 and discount and premium at 5%, following journal entries may be made in all three cases:

(a) Issue at par- Bank a/c Dr. 100 To Share capital a/c 100

(b) Issue at discount- Bank a/c Dr. 95 Discount a/c Dr. 5 To Share capital a/c 100

(c) Issue at premium- Bank a/c Dr. 105 To share capital a/c 100 To share premium a/c 5

Redemption of Preference Shares – Important Provisions

• Redemption of preference shares means repayment of

preference share capital to preference shareholders.

• The Companies Act 2013 allows the issue of redeemable

preference shares if articles of association of the company so

authorize or permit.

• No company limited by shares shall, after the commencement

of this Act, issue any preference shares which are irredeemable.

• The preference shares must be redeemed within a period

20 years from the date of issue of such shares. [Sec.

80(5A)]. To finance infrastructure projects, a company can

issue preference shares for exceeding 20 years but not

more than 30 years.

• According to rule 10 of the Companies (Shares and

Debentures) Rules 2014, the tenure of such preference

shares cannot exceed 30 years and the company shall

redeem every year at least 10% of such preference shares

Conditions of Redemption [Sec. 55]

1. Such shares must be fully paid.

• Partly paid preference shares must be made

fully paid before redemption by making final

call due and received.

• In case of calls in arrear, such shares can not

be redeemed till they are made fully paid.

If redeemable preference shares are not fully paid, then to make

them fully paid, a final call should be made and received:

Pref. Share Final Call A/c Dr.

To Pref. Share Capital A/c

Bank A/c Dr.

To Pref. Share Final Call A/c

2. Such shares can be redeemed out of

distributable profits or out of the proceeds of

a fresh issue of shares made for the purpose

of redemption.

Distributable or divisible profits:

Profits which can be distributed as dividend.(Capital

Redemption Reserve can be created by transfer from

divisible profits only)

• Examples Distributable or divisible profits:– Surplus in the Profit and Loss A/c

– General Reserve

– Dividend Equalization Reserve.

– Insurance Fund or Reserve, Workmen Compensation Fund,

Contingency Reserve, Provision for doubtful debts, Provision

for Taxation (Only in excess of the required provision or a

liability against such Reserve or Fund can be used to create

CRR.)

• Non-distributable profits: Profits which can not be distributed as dividend. (Transfer to CRR is not allowed from these accounts)

• Examples:– Securities Premium A/c– Capital Reserve – Pre-incorporation Profits– Share Forfeited A/c– Revaluation Reserve– Profit on sale of Fixed Assets/Investments– Debenture Redemption Reserve (DRR)– Investment Allowance Reserve– Development Rebate Reserve (Dev. RR)(Investment Allowance Reserve and Dev. RR are available for CRR, only

when specified in the question)

Investment Allowance Reserve

• A new section 32 AC has been inserted by the Finance Act, 2013 to provide a tax incentive by way of investment allowance to encourage huge investment in plant or machinery. This is a new policy of the government which attract the attention of businessman in respect of investment in new plant and machinery. The deduction under section 32 AC is investment linked.

• Under this new section 32AC, a manufacturing company is entitled to an investment allowance @ 15% of actual cost of new plant and machinery acquired and installed during the financial years 2013-14 and 2014-15, if the actual cost of new plant and machinery exceeds Rs.100 Crore.

• - See more at: http://taxguru.in/income-tax/investment-allowance-section-32ac.html#sthash.eVFR1a7A.dpuf

3. Any premium payable on redemption of such shares shall

be provided from out of the security premium account or

out of the profits.

4. When preference shares are redeemed out of the profits,

an amount equal to the face value of such shares

redeemed shall be transferred from the distributable

profits to Capital Redemption Reserve (CRR) Account.

5. The amount credited to CRR may be used by the company

only by way of issue of fully paid bonus shares.

Calculation of Capital Redemption Reserve (CRR) and Net Proceeds from Fresh Issue

• CRR required = Nominal Value of Preference Shares to be redeemed – Net Proceeds from Fresh Issue of Shares

• Net Proceeds from Fresh Issue of Shares = Nominal Value of Shares issued (Premium on such issue, if any, is to be ignored)If new shares issued are partly paid, then only the paid up nominal amount should be considered.

• Fresh Shares to be issued = Nominal Value of Preference Shares to be redeemed – Profits available for CRR.

Accounting treatment

• The journal entries passed at the time of redemption of preference shares are as under:

• At the time of fresh issue of shares: Generally, separate journal entries are passed to record application money received and issue of shares as given below:

Bank a/c Dr. (with application money received)

To share application a/c

• Share application a/c Dr. (application money received)

Share discount a/c Dr. (Discount, if any, on fresh issue)

To share capital a/c (Nominal value of shares allotted)

To securities Premium a/c (premium, if any, fresh issue)

• At the time of redemption of preference share: Preference share capital a/c Dr. (Par value of share redeemed)

Premium on redemption of pre.share a/c Dr. (premium, if any ,on redemption)

To Preference shareholders a/c (total amount payable)

At the time of raising funds for redemption:

• Sometimes, to make payment to preference shareholders liquid resources are provided by sale of investments or by raising a loan.

The journal entries for sale of investments (including profit/loss on sale on investment) and raising of loan are passed as usual. These entries are as under:

Bank A/c Dr. (with amount realised)

Loss on sale A/c Dr. (with excess, if any)

To Assets/Investment A/c (with cost of investment or assets)

To profit on sale A/c

• Bank A/c Dr. (with the amount of loan raised for

To Loan A/c redemption of preference shares)

At the time of winding off premium, if any ,on redemption of preference shares:

Securities Premium A/c Dr. Capital reserve A/c Dr. (if realised in cash)

Profit and loss A/c Dr. To Premium on redemption of preference Share A/c

At the time of transfer to capital redemption reserve: Dividend Equalisation Reserve A/c Dr. General reserve A/c Dr. Profit and Loss A/c Dr. To capital redemption reserve A/c

• At the time of making payment to preference shareholders:

Preference Shareholders A/c Dr. To Bank A/c

• Illustration 1: Calculate the proceeds of fresh issue of 10,000 Shares of Rs. 10 each made for the purpose of redemption of 2,000 Preference shares of Rs 100 each redeemable at a premium of 5%,

If fresh issue is made:- a) at par , b) at 10% premium , and c) at 10% discount. Also calculate the minimum transfer to capital redemption reserve to comply with the provisions of sec. 80 of comp act 1956.

Calculation of proceeds of fresh issue of shares:

When issue at par:Proceeds = Par value of shares = 10,000 * Rs.10 = Rs. 1,00,000 When issued at 10% premium :Proceeds = Par value of shares = 10,000 * Rs 10 = Rs. 1,00,000 When issued at 10% discount :Proceeds = Discount value of s hares = 10,000 * Rs.9 = Rs. 90,000

• Calculation of minimum transfer to capital redemption reserve:

Nominal value of shares redeemed = 2,000 *Rs.100= Rs.2,00,000 Transfer to CRR = Nominal value of __ Proceeds of fresh issue shares redeemed of shares When issued at par:

Transfer to CRR = 2,00,000 - 1,00,000 = Rs. 1,00,000

When issued at premium:Transfer to CCR = 2,00,000 - 1,00,000 = Rs. 1,00,000

When issued at discount: Transfer to CRR = 2,00,000 – 90,000 = 1,10,000

Redemption of Preference Shares by Conversion

• Preference shares may be redeemed by

conversion into equity shares. Such preference

shares are Convertible Preference Shares.

• When Preference shares are redeemed by

conversion, there is no need to create Capital

Redemption Reserve.

Journal Entries for Redemption by Conversion

For making due redemption: Pref. Share Capital A/c Dr.*Prem. On Redemption of Pref. Shares A/c Dr. To Preference Shareholders A/c

* If preference shares are redeemed at premium

For issue of equity shares at par:

Preference Shareholders A/c Dr. To Equity Share Capital A/c

For issue of equity shares at premium:

• Preference Shareholders A/c Dr.• To Equity Share Capital A/c• To Securities Premium A/c

THANK YOU