Redemption of Preference Shares

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Redemption of Preference Shares

Redeemable Preference Shares are a special class of shares that can be redeemed (paid back) during the company's lifetime, as authorized by the company's Articles and in accordance with the Companies Act, 1956. Here, we explore the key aspects of redeemable preference shares, including the methods, legal provisions, and sources of redemption.

Key Points of Redemption

  • Definition and Process:
    • Redemption means "to pay back or return."
    • It involves repaying the capital raised through the issue of redeemable preference shares to the shareholders.
    • Redemption does not reduce the company's authorized capital but replaces the redeemed share capital with new shares or a Capital Redemption Reserve Account.
  • Legal Framework:
    • Section 80 of the Companies Act, 1956: Permits the issuance of redeemable preference shares.
    • Companies (Amendment) Acts 1988 and 1996:
      • No company can issue irredeemable preference shares.
      • Preference shares must be redeemable within a maximum period of 20 years from the date of their issue.
      • Companies that issued irredeemable preference shares before the amendments had to redeem them within specified periods.
  • Conditions for Redemption:
    • Only fully paid-up preference shares can be redeemed.
    • Redemption can be funded through fresh issue of shares or profits of the company.
    • Redemption at Premium: If shares are redeemed at a premium, it must be provided from the company's profits or the Securities Premium Account.

Methods of Redemption

  • Redemption from Fresh Issue of Shares:
    • Procedure:
      • The company issues new shares (equity or preference).
      • The proceeds from the new issue are used to redeem the preference shares.
    • Accounting:
      • The amount received from the new issue is used to replace the redeemed share capital.
  • Redemption from Profits:
    • Procedure:
      • The required amount is transferred from the company's profits to the Capital Redemption Reserve Account.
      • The preference shares are then redeemed.
    • Accounting:
      • The Capital Redemption Reserve Account serves as a replacement for the redeemed shares.

Sources for Redemption

  • Fresh Issue of Shares:
    • Proceeds from fresh issue of equity or preference shares are utilized.
    • Proceeds from borrowings, sale of fixed assets, or investments are not permissible for this purpose.
    • The term "proceeds" refers to the amount received, excluding any securities premium.
  • Profits Available for Dividends:
    • Profits used to create a Capital Redemption Reserve Account can include retained earnings and other reserves available for dividends.
    • The reserve ensures that the company's creditors are not disadvantaged by the reduction in share capital.

Summary: The redemption of preference shares allows a company to repay the capital raised through such shares, provided they are fully paid up. Redemption can be financed through fresh issue of shares or the company's profits, and must comply with legal provisions to protect creditors. The process involves replacing the redeemed capital with new shares or a Capital Redemption Reserve Account, ensuring the company's financial stability and compliance with regulatory requirements.