Debenture Redemption Reserve and Specified-Securities Investment
Zenith Chemicals Ltd issued 30,000 9% debentures of ₹100 each on 1 April 2022 at a discount of 5%. The debentures are redeemable at a premium of 10% in three equal annual instalments on 31 March 2025, 2026 and 2027. The company follows the financial year ending 31 March. It has been creating Debenture Redemption Reserve (DRR) only in the year of redemption, arguing that the total DRR will be adequate by then. For the year ended 31 March 2024, the profit before tax was ₹42,00,000 after charging interest but before providing for discount on issue and premium on redemption. The CFO wants to know the DRR and specified-securities investment required for FY 2023-24 and FY 2024-25, and whether the existing practice is compliant. The company has not made any investment in specified securities so far.
1. Compute the DRR and specified-securities investment required for FY 2023-24 and FY 2024-25. State the basis.
Read the worked answer
Each annual instalment is 10,000 debentures × ₹100 = ₹10,00,000 face value. Under Rule 18(7) of the Companies (Share Capital and Debentures) Rules, 2014, DRR must be at least 25% of the value of debentures maturing during the year ending on 31 March of the next year, and investment in specified securities must be at least 15% of that value.
FY 2023-24: debentures maturing on 31 March 2025 = ₹10,00,000. DRR = ₹2,50,000; investment = ₹1,50,000. FY 2024-25: debentures maturing on 31 March 2026 = ₹10,00,000. DRR = ₹2,50,000; investment = ₹1,50,000. The DRR for the first tranche is used for redemption on 31 March 2025, and a fresh DRR is created for the next tranche.
2. Advise whether creating DRR only in the redemption year is compliant.
Read the worked answer
No. DRR is required to be created every year out of profits before redemption, so that the required balance is available before the maturity year. Creating it only in the redemption year defeats the statutory purpose and may breach Rule 18(7). The company should create ₹2,50,000 in FY 2023-24 for the 31 March 2025 maturity and again in FY 2024-25 for the 31 March 2026 maturity. The DRR can be used only for redemption of debentures and cannot be used for dividend or working capital.
3. How should the 5% issue discount and 10% redemption premium be treated in the accounts?
Read the worked answer
Total issue discount = 30,000 × ₹5 = ₹1,50,000. Total redemption premium = 30,000 × ₹10 = ₹3,00,000. Under the traditional Indian GAAP treatment, the discount is a capital loss and may be written off against securities premium or charged to the statement of profit and loss over the tenure of the debentures. The redemption premium is provided over the life of the debentures by charging the statement of profit and loss and crediting a Debenture Redemption Premium Account, so that the liability is fully provided when redemption falls due. The finance cost over the tenure is therefore ₹4,50,000 in addition to coupon interest, and should be allocated systematically over the five-year period.