Page 183 - DCOM201_ACCOUNTING_FOR_COMPANIES_I

Accounting for Companies-I

Notes 8.2.2 Redemption of Debentures by Conversion

When a company redeems its debentures by converting them into a new class of shares or
debentures, this method is called redemption of debentures by conversion. In other words, it is
an option given by a company to its debenture-holders to convert their debentures into shares
or new debentures within a prescribed time. This option will be used by the debenture-holders
only when they find it beneficial from their view point, or as agreed as per terms of issue. The
new shares or debentures can be issued by the company either at par or at a premium or at a
discount.
In the process of conversion of debentures (which were originally issued at discount) into
shares, the provisions of Section 79 of Companies Act 1956 should not be violated. Only actual
proceeds realised (Face value – Discount) from debentures at the time of issue should be treated
as the basis for determining the number of shares to be issued in exchange. Thus, the issue price
of shares must be equal to the amount actually received from the debenture-holders at the time
of issue of these debentures. If this rule is not followed it will be the violation of the provision
of Section 79. Under this rule, at the time of making the amount payable, due to the debenture-
holders in this case, the discount on issue of debentures should be credited. But this will not be
applicable where debentures (originally issued at discount) are redeemed by conversion in new
debentures. Therefore, the discount on issue of debentures will not be credited.
Accounting treatment: On the redemption of debentures by conversion into shares or debentures,
the following journal entries are made:

1. When new shares or debentures are issued at par:
Old Debentures Account Dr.
To New Shares/Debentures Account
2. When new shares/debentures are issued at discount:
Old Debentures Account Dr.

Discount on Issue of new Shares/Debentures Dr.
To New Shares/Debentures Account.
3. When new shares/debentures are issued at premium:

Old Debentures Account Dr.
To New Shares/Debentures Account
To Premium on Issue of New Shares/Debentures Account.
Illustration 3 (Conversion of Debentures into Preference Shares)
On 1st January 2005, Rajesh Limited issued 5,000; 15% Debentures of 100 each at 5% discount.
Debenture-holders have an option to convert their holdings into 12% preference shares of 100
each at a premium of 25% at any time within three years.
On 31st December 1998, one year’s interest was accrued on these debentures and remained
unpaid. Mr. Om, a holder of 250 debentures notified his intention to convert his holdings in 12%
preference shares. Pass the necessary journal entries in the books of Rajesh Limited and show
how the items would appear in the balance sheet of the company on 31st December 2005.

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