Tag: Financial Statements

Debentures can be issued for non-cash considerations. The company may have purchased assets from some vendors or acquired some other business. Then instead of paying cash, the company may issue debentures to such vendors. Such an issue for debentures can be at par, or for a discount or at a premium.

Sometimes, a company purchases a running business (assets and liabilities) and issues to vendor, debentures as consideration. It is called issue of debentures in consideration, other than cash.

In such situation following entries are recorded.

(i) For Acquisition of Assets:

Sundry assets a/c Dr. (with amount of purchase consideration)

Vendor’s a/c

(Being sundry assets purchased)

(ii) For issue of Debentures at par:

Vendor’s a/c Dr. (with amount of purchase consideration)

Debentures a/c

(Being debentures issued as consideration for assets purchased)

(iii) For issue of Debentures at discount:

Vendor A/c Dr.

Discount on Issue of Debentures A/c

To Debentures A/c

(iv) For issue of Debentures at Premium:

Vendor A/c Dr.

To Debentures A/c

To Securities Premium Reserve A/c

Formula to find out No. of Debentures Issued

No. of Debentures Issued = Amount Payable/Issue Price

Debentures are a type of long-term debt instrument used by companies to raise funds from the public or institutional investors. They are essentially a written acknowledgement of debt, under which the company promises to repay the principal along with a fixed rate of interest after a specified period. Debenture holders are creditors of the company and do not have ownership rights. Debentures can be secured or unsecured and may be convertible or non-convertible depending on the terms of issue.

These instruments offer a relatively safe investment option as they often come with fixed returns, especially when backed by company assets (secured debentures). From a company’s perspective, debentures are an effective tool for raising capital without diluting ownership. However, companies must ensure timely interest payments and redemption, as failure to do so can lead to legal action or reputational loss.

The application money is refunded in case the application is rejected and in case of partial allotment, the excess amount of application money will be used in further calls.

• At Par: At Par refers to the issuance or trading of a financial instrument—such as shares or debentures—at its face value or nominal value. For example, if a share has a face value of ₹100 and it is issued at ₹100, it is said to be issued at par. In this case, there is no premium or discount involved. This term is commonly used in accounting and finance to indicate that the security’s issue price is equal to its stated value. Issuing at par is often done to attract investors, especially when a company is newly formed or rebuilding trust.
• At Premium: At Premium refers to the issuance of shares or debentures at a price higher than their face (nominal) value. For instance, if a share with a face value of ₹100 is issued at ₹120, it is said to be issued at a premium of ₹20. The extra amount received over the face value is credited to the Securities Premium Account, which is a part of the company’s reserves. This amount cannot be used freely like other reserves and is governed by specific provisions under the Companies Act. Issuing at premium often reflects the company’s good reputation, performance, or strong investor demand.
• At Discount: At Discount refers to the issuance of shares or debentures at a price lower than their face (nominal) value. For example, if a share with a face value of ₹100 is issued at ₹90, it is said to be issued at a discount of ₹10. This means the company receives less than the nominal value of the security. Issuing securities at a discount is generally discouraged, especially in the case of equity shares, and is subject to strict legal restrictions under the Companies Act. However, it may be allowed in certain cases like sweat equity or for debentures to attract investors.

Accounting Treatment for Terms of Issue

Let us now see the journal entries for the six different scenarios of the terms of issue. These are the entries passed for the issue of the shares in these different cases.

1) Issued at Par & Redeemable at Par

2) Issued at Discount & Redeemable at Par

3) Issued at Premium & Redeemable at Par

4) Issue at Par & Redeemable at Premium

5) Issued at Discount & Redeemable at Premium

6) Issued at Premium & Redeemable at Premium

The loss or discount on the issue of debentures is typically a capital loss or a fictitious asset and, hence, has to be written-off during the debentures’ lifetime. The amount of loss or discount on issue of debentures has to be not be written-off during the year of its issue since the benefit of the debentures would accumulate to the enterprise till their restitution or redemption.

Discount on issue of debentures is a loss of capital nature. It will appear on the asset side of balance sheet till it is written off. It is desirable that it is written off as quickly as possible. Discount on issue of debentures, being a loss of capital nature, it can be written off in two ways.

First Method:

In this case, the total amount of discount on debenture is spread over the life of debentures equally. Suppose the debentures are issued at discount, to be redeemed after five years. The amount of discount will be divided by five and the amount so arrived at will be charged to profit and loss account for five years. This method is followed where debentures are redeemed at the end of a specified period.

Second Method:

In this method discount is written off every year in proportion to the amount of debentures used every year. This method is followed where debentures are redeemed every year by serving a notice and by draw of lots.

Accounting entry for writing off discount is as under:

A promoter is someone, who has been connected with the business from the start. He can also be referred to as the starter of a business or the founder. He is responsible for raising capital from various sources and entering into the first agreements for the start of a business and incorporation of a company.

SEBI’s Substantial Acquisition of Share Takeover Rules state that a Promoter is

• He is someone at the cusp of a company
• A person whose name is there in any of the filing papers of the company or according to the shareholding pattern filed by the company.

The concept of promoters is explained in the Indian Companies Act, 2013. Before 2013 there was no legal position defined in the Old Version of the Act of 1956. In the Old Act, the subscribers to the M.o.A was regarded as the promoters since they had subscribed to the company from its inception.

Role of Promoters

1. Duty to disclose secret profits

He is allowed to make profits but not secretly which will be harmful to the company. He can profit only with the consent of the company which makes this a fiduciary relationship as that of a principal-agent.

2. The duty of Disclosure of Interest

He must also declare his interest in every transaction that the company and he himself enters into. He must also request the company’s consent when he shows his interest.

3. Duty under the Indian Contract Act

As said by the courts in due course of time, there is a business relationship between a company and a promoter, therefore a contract before incorporation with a promoter shouldn’t be depended upon. Thus his liabilities come within the purview of the ICA, 1872.

4. Termination of the Promoter’s Duties

The duty of a promoter doesn’t end even after he has appointed the Board of Directors or he himself is on the board. It ends when the capital has been acquired (First Call) and the BoD have taken the control and have started managing. That is when his fiduciary relationship with the company ends.

Nominee Directors

A nominee director is an individual nominated by an institution, including banks and financial institutions, on the board of companies where such institutions have some ‘interest’. The ‘interest’ can either be in form of financial assistance such as loans or investment into shares. Such strategic investment may have a direct bearing on the profitability of a nominator and therefore, the appointment of nominee director becomes essential to facilitate monitoring of the operations and business of the investee company.

The main purpose of appointment of such person(s) is to safeguard the interest of the nominator, without conflicting with his/ her fiduciary duty as a director. Such a director has several roles and responsibilities, including adequate disclosure of interest, reporting to the nominator and protection of the interest of the company in its entirety. In case of holding such a position in widely held companies or publicly listed/traded companies,, the person should act in accordance with the operations of such entities, guided by industry specific statutory provisions in addition to the general roles and responsibilities expected of them.

Roles and Responsibilities of Nominee Director

1. Act as a ‘watchdog’

A nominee director needs to oversee the operations of the investee company and ensure the policy decisions are based on sound commercial lines, rationale and adequate safeguards and also act as liaison between the investee company and the nominator.

2. Participation and decision making

A nominee director is a non-executive director; however, he should be actively involved in decisions pertaining to financial performance of the investee company, fund-raising plans including debt-raising, investments, etc. He should make his presence felt by placing his expertise at the disposal of the Board of the investee company and actively participate in such meetings, which have a bearing on the interests of the nominator. He should also not abstain from voting on resolutions considered at the meetings of the Board of the investee company, involving the nominator, unless involving any personal interest of the nominee director.

3. Maintain Confidentiality

A nominee director should exercise adequate care and caution while dealing with unpublished price sensitive information, in case of listed entity, having come to know of the same or being in a position where he is likely to be aware of such information. The nominee director is always required to abide by the code of conduct to regulate, monitor and report trading by insiders framed by the listed entity.

4. One who safeguards the interests of the nominator

A nominee director oversees the operations of the company, to ensure that the policy decisions are based on sound commercial lines and rationality, with adequate safeguards such that the interests of the nominator are not jeopardized;

5. An Information Bridge

The nominee director also acts as liaison between the investee company and the nominator for regular flow of information. Here, it must be noted that the question of confidential information being shared by the Nominee Director would crop up.

In this regard, reference may be made to guiding judicial principles which suggest that while the Nominee Director has the right to receive information about the Company, a nominee director is not bound to share information with the nominator merely by virtue of such nomination; rather, such duty of sharing information may arise out of separate agreement entered into between the nominator and the nominee. The said principle was also appreciated in Hawkes v Cuddy.

6. Participation in decision making

The nominee director actively involves in discussions pertaining to the financial performance of the company, future plans, fund raising, etc. The objective is to apply his/her expertise on the matters placed before the board with the intent to protect the interests of the nominator.

7. Maintenance of confidentiality

Though a nominee director has allegiance towards the nominator, the nominee director is always expected to abide the code of conduct for directors & key managerial personnel. The responsibility adds up where the investee company is a listed entity, as there are compliance requirements in respect of un-published price sensitive information.

Mismanagement

The process or practice of managing ineptly, incompetently, or dishonestly.

The value of the firm’s stock fell precipitously when word leaked out that officers of the company were under investigation for gross mismanagement.

Corporate governance has been defined as “a set of systems, processes and principles, which ensure that a company is governed in the best interest of all stakeholders.” Its objective is to ensure commitment to values and ethical conduct of business, transparency in business transactions; statutory and legal compliances, adequate disclosures and effective decision making to achieve corporate objectives. Good governance is simply good business, but, the moot question is as to whether the Indian companies are really, in spirit, committed to corporate governance or it is only a superficial compliance in letter and cost. The regulators are forcing the corporate governance regulations on the Indian Companies without measuring its benefits and advantages commensurate the cost in terms of resources of money, man hour and paper consumption. Importance, necessity and quality of corporate governance that Indian Companies needs cannot be undermined. Indian Companies are very intelligent and comply with all requirements of corporate governance in full, in letter, without meaning it in most cases. Ministry of Corporate Affairs, SEBI or stock exchanges have not yet put any mechanism in place to weigh and measure the effectiveness, usefulness or benefits of compliance of corporate governance commensurate with cost spent on its compliance.

A shareholder can be a person, company, or organization that holds stocks in a given company. A shareholder must own a minimum of one share in a company’s stock or mutual fund to make them a partial owner. Shareholders typically receive declared dividends if the company does well and succeeds.

Also called a stockholder, they have the right to vote on certain matters with regard to the company and to be elected to a seat on the board of directors.

If the company is getting liquidated and its assets are sold, the shareholder may receive a portion of that money, provided that the creditors have already been paid. When such a situation arises, the advantage of being a stockholder lies in the fact that they are not obliged to shoulder the debts and financial obligations incurred by the company, which means creditors cannot compel stockholders to pay them.

Roles of a Shareholder

Being a shareholder isn’t all just about receiving profits, as it also includes other responsibilities. Let’s look at some of these responsibilities.

• Brainstorming and deciding the powers they will bestow upon the company’s directors, including appointing and removing them from office
• Deciding on how much the directors receive for their salary. The practice is very tricky because stockholders must make sure that the amount they will give will compensate for the expenses and cost of living in the city where the director lives, without compromising the company’s coffers.
• Making decisions on instances the directors have no power over, including making changes to the company’s constitution
• Checking and making approvals of the financial statements of the company

The shareholders are the owners of the company and provide financial backing in return for potential dividends over the lifetime of the company. A person or corporation can become a shareholder of a company in three ways:

• By subscribing to the memorandum of the company during incorporation
• By investing in return for new shares in the company
• By obtaining shares from an existing shareholder by purchase, by gift or by will

The Role of Stakeholders in Corporate Governance

The rights of shareholders, investors and all other stakeholders that are established by law or through mutual agreements are to be respected.

Performance-enhancing mechanisms for employee participation shall be permitted to develop.

Where stakeholders participate in the corporate governance process, the Company shall ensure them access to relevant, sufficient and reliable information on a timely and regular basis, as by law and Company’s governing documents.

Shareholders, employees and all other stakeholders shall be able to freely communicate their concerns about illegal or unethical practices to the Management Board, and their rights shall not be compromised for doing this.

The corporate governance framework the Company shall complement by an effective, efficient insolvency framework and by effective enforcement of creditor rights

According to the Companies Act, 2013, a meeting refers to a formal gathering of members, directors, or shareholders of a company, held to discuss, deliberate, and make decisions on specific matters related to the business of the company. The meeting must follow proper procedures, including notice, quorum, agenda, and other requisites to be legally valid. Meetings can include Board meetings, General meetings, Annual General Meetings (AGM), Extraordinary General Meetings (EGM), and committee meetings, each with distinct purposes and legal requirements.

Nature of Liquidation:

• Formal Process:

Liquidation is a formal legal procedure governed by the Companies Act, 2013. It must be conducted following specific rules and regulations, ensuring that all stakeholders are treated fairly. It can be voluntary (initiated by shareholders) or compulsory (ordered by a court).

• Cessation of Business:

Once liquidation starts, the company ceases its business operations, except for those necessary to complete the liquidation process. The company no longer carries out its primary business activities but focuses on settling liabilities and distributing assets.

• Appointment of Liquidator:

Liquidator is appointed to oversee the process, manage the company’s assets, and ensure debts are paid off. The liquidator acts in the interest of creditors and shareholders, ensuring the orderly liquidation of the company.

• Sale of Assets:

The company’s assets are sold or realized to generate cash, which is used to repay creditors. The liquidator handles the sale and distribution of assets, making sure the proceeds are maximized for the benefit of creditors and other stakeholders.

• Priority of Payments:

In liquidation, creditors have priority over shareholders. Secured creditors are paid first, followed by unsecured creditors. Shareholders receive any remaining balance after all debts and liabilities have been settled, often receiving little or nothing.

• Insolvency:

Liquidation is often the result of insolvency, where the company cannot meet its financial obligations. It provides a legal remedy for creditors to recover dues from the company’s assets.

• Dissolution of Company:

The final step in liquidation is the dissolution of the company, meaning it ceases to exist as a legal entity. After the liquidation process is completed and all obligations are settled, the company is officially struck off the register of companies.

• Distribution to Shareholders:

If any surplus remains after paying creditors, it is distributed among shareholders in accordance with their shareholding rights. Typically, preference shareholders are paid before equity shareholders.

Causes of Liquidation:

• Insolvency:

One of the most common causes of liquidation is insolvency, where a company is unable to pay its debts as they fall due. When liabilities exceed assets and the company cannot meet its financial obligations, it may be forced into liquidation to repay creditors through asset sales.

• Lack of Profitability:

Company that continually operates at a loss may not be able to sustain its business operations in the long term. If the company fails to generate enough profit to cover its expenses, it may opt for voluntary liquidation to avoid further financial decline.

• Statutory Requirements:

The Companies Act, 2013, allows creditors or shareholders to petition for liquidation when specific statutory conditions are met, such as non-compliance with filing requirements, failure to hold meetings, or significant operational issues.

• Court Order:

Compulsory liquidation may be initiated by a court order due to a petition filed by creditors, shareholders, or regulatory authorities. A court may order liquidation if the company has engaged in fraudulent activities, mismanagement, or violations of the law.

• Creditors’ Pressure:

In cases where the company owes large sums of money to creditors and fails to meet repayment deadlines, creditors may push for liquidation to recover their dues. Creditors may initiate winding-up proceedings to force the company to sell off its assets and settle outstanding debts.

• Voluntary Decision by Shareholders:

In some cases, shareholders may choose to voluntarily liquidate the company even when it is solvent. This may happen due to changes in market conditions, business restructuring, or a decision to exit the market while assets still hold value.

• Mergers and Acquisitions:

If a company is acquired by another entity or merges with another firm, the original company may be liquidated to allow the new entity to take over its operations, assets, and liabilities. In such cases, the liquidation is a strategic decision rather than a financial necessity.

• Operational Mismanagement:

Poor management practices, such as inefficiencies, lack of strategic planning, or fraud, can lead to the company’s failure. Over time, these factors can erode a company’s financial health, making liquidation the only viable option to pay off debts and close the business.

Types of Liquidation:

Liquidation is the process by which a company’s assets are sold off to pay its debts, and the company is ultimately dissolved. There are different types of liquidation based on the circumstances and the parties initiating the process. The two main types of liquidation are Voluntary liquidation and Compulsory liquidation.

1. Voluntary Liquidation

Voluntary liquidation occurs when the company’s directors or shareholders decide to wind up the company. It can be initiated even when the company is solvent or insolvent. Voluntary liquidation is further divided into two types:

Members’ Voluntary Liquidation (MVL):

• This type of liquidation is initiated by the members (shareholders) when the company is solvent, meaning it can pay off its debts in full.
• The company’s directors declare a solvency statement, stating that the company will be able to pay all its debts within a specified period, usually 12 months.
• After all debts are settled, the remaining assets are distributed among the shareholders.
• MVL is typically used when the company no longer has a business purpose, the owners wish to retire, or a restructuring is planned.

Creditors’ Voluntary Liquidation (CVL):

• This type of liquidation is initiated by the company’s directors or shareholders when the company is insolvent and unable to pay its debts.
• The creditors are involved in the process as they are likely to receive payment from the proceeds of asset sales.
• A liquidator is appointed to manage the liquidation, sell the company’s assets, and distribute the proceeds to the creditors in a predetermined order of priority.

2. Compulsory Liquidation

Compulsory liquidation is ordered by a court, usually upon a petition from a creditor, the company, or certain stakeholders. This occurs when the company is unable to pay its debts or has committed serious legal violations.

Court-Ordered Liquidation:

• This type of liquidation happens when a creditor, regulatory authority, or even the company itself files a petition in the court for winding up due to insolvency or legal breaches.
• The court may issue a winding-up order if the company cannot meet its financial obligations or has violated legal norms.
• A liquidator is appointed by the court to take control of the company’s assets and distribute them according to the priority of claims, with secured creditors being paid first.

3. Voluntary Winding-Up Under Supervision

This type of liquidation occurs when a company begins a voluntary liquidation process, but the court steps in to supervise the proceedings. The court’s supervision ensures that the liquidation follows proper procedures and that creditors’ interests are protected.

4. Provisional Liquidation

In this type of liquidation, a court appoints a provisional liquidator to safeguard the company’s assets before a winding-up order is made. This may happen if there is concern that the company’s assets might be misused, removed, or wasted before the final court decision is made.