Redemption of Debentures Meaning: Features & More

Redemption of Debentures meaning is the repayment of the number of debentures to the debenture holders of the company. It is the discharge of the liability on account of debentures that is known as the redemption of debentures.

Generally, they are redeemed on the expiry date on which they were originally issued. However, the company can redeem the debentures before the expiry of the fixed period either by instalments or by purchasing them in the open market if authorized by its articles of association and terms of its issue.

What is the Redemption of Debentures Meaning?

The redemption of debentures refers to the repayment of debentures by the company to the debenture holders. The company pays back the amount raised by way of issuing debentures. Debentures refer to long-term debt instruments that are issued by a government or company intending to meet its financial requirements.

The redemption of debenture is a major transaction for the company as it involves a significant amount of money. The company creates a Debenture Redemption Reserve (DRR). The only use of this reserve is for the redemption of debentures. Thus, the companies have made adequate provisions out of gains and accrued capital to redeem the debentures.

What are the characteristics of redemption of debentures?

The redemption of debentures meaning is the discharge of the liability on account of debentures. The following are the characteristics of redemption of debenture: -

1. The company pays back the amount raised by way of issuing debentures.

2. The company has to fix the maturity period for the debentures. As a result, the debenture holders are repaid their amount of investment at a price either equal to or above their face value at maturity.

3. Companies shall create a debenture redemption reserve (DRR) out of profits available for dividend payments.

4. Before the debentures are beginning to be redeemed, the company shall establish a debenture redemption reserve equal to at least 50% of the amount raised through the issuance of the debenture.

5. The debenture redemption reserve funds should not be used for any other purposes than the redemption of debenture by the company.

What is the value of the Debenture at the time of Redemption?

The redemption of debentures meaning in terms of value at the time of redemption, the company can redeem them at a value that it decides at the time of issue. The three types of values at which the company can redeem the debentures are as follows:

1. At Par: The redemption value is equal to the face value of debentures

2. At Premium: The redemption value is higher than the face value of debentures. For instance, Rs. 110 per debenture if the face value is Rs. 100

3. At Discount: The redemption value is lower than the face value of debentures. For instance, When the face value is Rs. 100 redeemed at Rs. 90 or 80 per debenture.

What are the Ways for the redemption of debentures?

The redemption of debentures meaning by paying its principal back to its holder. Following is the Redemption of Debentures Methods are: -

1. Redemption by payment in a Lump sum -

This is a simple method where a company make one single payment to the debenture holders at the time of maturity. The amount and data will be according to the terms of the issue. A lump sum redemption happens when debenture holders receive their invested amount on a specific date. the lump sum amount is the total principal amount whose redemption occurs without a discount or premium.

In this method, the holders are paid their invested amount in a single time payment under the redemption method. The redemption of debentures meaning that the payment will according to the agreement at the time of issue of debentures. These types of debentures are redeemed at par or a premium.

2. Redemption of debentures in instalments-

In this type of method, the amount is to be paid in accordance with the agreement at the time of issuance. By redemption of debentures through the such method, the company is relieved of the burden of raising ad hoc amounts at maturity. A portion of debentures is redeemed every year. This is also known as the drawing of lots or instalments.

3. Redemption of debentures by purchasing from the open market

In this method of redemption of debentures meaning; the company can redeem its shares at a discounted price, which would have a positive impact on its bottom line. The company can follow two options after purchasing the debentures on the stock market:

• The company can either purchase the debentures for cancellation.
• The debentures are kept by the company as an investment in its debentures.

The company can redeem its debentures by purchasing them in the open market if its articles of association authorize it to do so.

4. Redemption by conversion of debentures into shares or new debentures

This is the most common method which involves the conversion of debentures into equity or preference shares or even into new shares. The redemption of debentures meaning in this method; the articles of association must have an option for conversion

You can also download the Redemption of Debentures PDF.

What are the cases of the Issue of Debentures with terms of redemption?

The redemption of debentures journal entries in six cases of Issue of Debentures with terms of redemption are as follows:-

Journal entries in case of issue at par and are redeemable at par

In this case, the amount payable at the time of redemption is equal to its face value.

The following two entries would be passed:

1. Bank A/c … Dr

To Debentures Application and Allotment A/c

2. Debentures Application and Allotment A/c… Dr

To (Interest rate) % Debentures A/c

What is the difference between Redemption of Debentures out of capital and out of profits?

The redemption of debentures meaning out of capital and out of profits.

Redemption of debentures out of capital:

In a situation where the debentures are redeemed out of capital and no profits are utilised for the redemption of the debentures, such redemption is termed as Redemption out of Capital. In this case, no profits are required to be transferred to the Reserve created for redemption of debenture known as Debenture Redemption Reserve (DRR).

Redemption of debentures out of profits:

When debentures are redeemed out of profits then no capital is utilised for redemption. The profits are transferred to DRR from the Profit and Loss Appropriation Account before redeeming the debentures. The creation of DRR is mandatory as per the guidelines laid down by SEBI.

What is the difference between a debenture and a bond?

The differences between debenture and bond are given as follows: -

1. Debentures are issued during the running of a business whereas bonds are generally issued during the inception of a business.

2. Debentures are backed up by the promise made by the issuing company whereas bond is backed up by collateral or security or a physical asset.

3. In the case of debentures, the principal amount is repaid after the revenue comes from the particular project whereas, in the case of a bond, the principal amount is repaid after the maturity period.

4. There is a higher rate of interest in debentures as compared to bonds.

Closure Now...

The redemption of debentures meaning to the repayment of debentures by the company to the debenture holders. The company pays back the amount raised by way of issuing debentures. It is the discharge of the liability on account of debentures that is the redemption of debentures. 

We have discussed the characteristic of redemption of debentures and the methods of redemption of debentures. The journal entries regarding the redemption of debentures. You can also refer to the Redemption of Debentures available on the web.