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Unit 9: Methods of Redemption-II

Notes

Notes It is said that the debentures are redeemed out of the profits and of course, new
shares or debentures may also be issued for carrying out the redemption.

9.1 Redemption by Purchase of Debentures in the Open Market

If the Articles of Association of a company empowers the directors, they can purchase the
company’s own debentures from the open market. Such an act of purchase of debentures can be
for the following any one of the objectives:
1. Immediate cancellation of these debentures.

2. When debentures are purchased for investment, these are called own debentures and
appear in the assets side until they are cancelled.
A company purchased its own debentures from open market not only for cancellation but
also for the following savings:
(i) When debentures are purchased from the open market at a discount, it enables the
company to save the money equal to the amount of discount, which could have been
required to be paid by the company in case the debentures are redeemed in general.

(ii) If the debentures are redeemable at premium and the company purchases its own
debenture from the open market, it saves that amount equal to the premium which
would have been payable on debentures in the ordinary course of redemption.

(iii) Interest burden also reduces if own debenture are purchased from the open market.

Did u know? When debentures are purchased from the open market at a discount, it enables
the company to save the money equal to the amount of discount, which could have been
required to be paid by the company in case the debentures are redeemed in general.
Accounting treatment: When the debentures are purchased from the open market, the following
entries are required to be passed.

A. When debentures are purchased for immediate cancellation, there can be two cases:
1. If sinking fund is not maintained in the books:
(i) when debentures are purchased for immediate cancellation—
Debentures Account Dr.

To Bank Account
(ii) If there is any profit or loss on cancellation (due to difference in market price
of debentures and nominal value of debentures) of debentures, that will be
the capital reserve account because its nature is that of a capital item and its
treatment will be as below:

(a) when profit on cancellation of debentures is transferred to capital
reserve—
Profit on Redemption of Debentures Account Dr.

To Capital Reserve Account

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