Understand Debenture Redemption Reserve (DRR) & Debenture Redemption Fund (DRF) requirements under Companies Act, 2013. Learn the rules, accounting entries, and their significance in securing debenture holders. Explore FAQs for a comprehensive insight.
What is Debenture Redemption Reserve (DRR) & Debenture Redemption Fund (DRF)?
Debenture Redemption Reserve (DRR)
Section 71(4) of the Companies Act, 2013, read with Rule 18(7) of the Companies (Share Capital And Debentures) Rules, 2014, requires every company issuing redeemable non-convertible debentures to create a Debenture Redemption Reserve (DRR) account of at least a certain percentage of the total outstanding value of the issued debentures (described below), out of the profits of the company available for the payment of dividend and the amount credited to such account shall only be used for the redemption of debentures. This effort is to protect the debenture holders from the possibility of the company defaulting on repayments, as DRR ensures that enough funds are available to meet the obligations of the debenture holders. Let’s say when a company that has issued debentures goes bankrupt or faces a liquidity crunch, it usually defaults on its repayments to the debenture holders. In such cases, the existence of DRR reduces the investment risk for debenture holders. Provided that a company issuing partly convertible debentures, DRR shall only be created in respect of the non-convertible portion of the debentures issued.
Let us assume that an unlisted company issues ₹10 crore worth of debentures in January 2022 with a maturity date of January 2032. In this case, the company has to create ₹1 crore (representing 10% of the total outstanding of the issued debentures, i.e., ₹10 crore) as DRR before the maturity date.
Debenture Redemption Fund (DRF)
Rule 18(7) of the Companies (Share Capital And Debentures) Rules, 2014, also mandates for a certain class of companies (described below) to either invest or deposit (DRF) (in any one or more methods of investments or deposits as prescribed under the rules) on or before the 30th day of April in each year, a sum of at least 15% of the amount of its debentures maturing during the year, ending on the 31st day of March of the next year. It ensures that a company has enough liquidity for the repayment in the year when debentures are due for redemption.
If we take a reference of the above example, the company shall either invest or deposit ₹1.5 crore (representing 15% of the amount maturing during the year 2031-2032, i.e., ₹10 crore) on or before the 30th day of April 2031, in any one or more methods of investments or deposits as prescribed under the rules.
The creation of DRR is somewhat a liberal requirement than the creation of DRF, this is because, where the former is merely an accounting entry (described below), the latter is investing or depositing a certain amount of money by the company in any one or more methods of investments or deposits as prescribed by the Central Government from time to time.
Accounting entries for the creation of DRR and DRF:
1. For the creation of DRR:
Profit & Loss A/c Dr. ₹1,00,00,000
To Debenture Redemption Reserve A/c ₹1,00,00,000
(Being the amount transferred to the DRR account)
2. For the utilization of DRR:
Debenture Redemption Reserve A/c Dr. ₹1,00,00,000
To General Reserve A/c ₹1,00,00,000
(Being the amount of DRR transferred to the General Reserve at the time of redemption of debentures)
3. For the creation of DRF:
Debenture Redemption Investment A/c Dr. ₹1,50,00,000
To Bank A/c ₹1,50,00,000
(Being the investment made for the redemption of debentures)
4. For the realisation of DRF:
Bank A/c Dr. ₹1,50,00,000
To Debenture Redemption Investment A/c ₹1,50,00,000
(Being the investment realised for the redemption of debentures)
Synopsis of DRR & DRF requirement provisions
Type of entities |
All India Financial Institutions (AIFIs) |
Public Financial Institutions (PFIs) |
Non-Banking Financial Corporations (NBFCs) & Housing Finance Companies (HFCs) |
Others |
|||||||||
List-ed |
Unlist-ed |
List-ed |
Unli-sted |
Listed |
Unlisted |
Listed |
Unlisted |
||||||
Public Issue |
Private Placem-ent |
Public Issue |
Private Placem-ent |
Public Issue |
Private Placem-ent |
Public Issue |
Private Placem-ent |
||||||
Applicab-ility of: |
|||||||||||||
DRR Require-ment |
No |
No |
No |
No |
No |
No |
No |
No |
No |
No |
No |
Yes, 10% |
|
DRF Require-ment |
No |
No |
No |
No |
Yes, 15% |
No |
Yes, 15% |
No |
Yes, 15% |
No |
Yes, 15% |
Yes, 15% |
|
Conclusion
Raising money by issuing debentures is the commonly used mode of raising money by corporates and the government. A debenture is a bond issued by a company under its seal, acknowledging a debt and containing provisions regarding the repayment of principal and interest thereon. The debenture holders are the creditors of the company whereas the shareholders are the owners. The debenture holders have no voting rights and consequently do not pose any threat to the existing control of the company. In simple words, we can say that debentures are a major way to raise money without diluting the ownership of the company. The concept of DRR and DRF may not guarantee the debenture holders for the entire repayment of their investments but provides them with a certain level of surety by setting aside a portion of the company’s profit in the DRR account and making investments or depositing a certain amount of money in the government-approved modes of investment. It can also be considered as an aid to ease the burden on the issuer company at the time of redemption of debentures.
FAQs
1. What are the modes of investments approved by the government for depositing or investing money for the purpose of redemption of debentures?
Ans. The modes of investments approved by the government for depositing or investing money for the purpose of redemption of debentures are as follows:
a. in deposits with any scheduled bank, free from any charge or lien; or
b. in unencumbered securities of the Central Government or any State Government; or
c. in unencumbered securities mentioned in sub-clause (a) to (d) and (ee) of section 20 of the Indian Trusts Act, 1882; or
d. in unencumbered bonds issued by any other company which is notified under sub-clause (f) of section 20 of the Indian Trusts Act, 1882.
2. Is it necessary for a loss-making company to meet the DRR requirements?
Ans. No, as DRR is required to be created only out of the company’s profits available for distribution of dividend (also known as Free Reserves).
3. Can the remaining amount invested or deposited fall below 15% of the amount of the debentures maturing during the year ending on the 31st day of March of that year?
Ans. No, as at any point in time, the amount remaining invested or deposited, as the case may be, shall not fall below 15% of the amount of the debentures maturing during the year ending on the 31st day of March of that year.
Let us assume that an unlisted company issues ₹100 crore worth of debentures with a maturity date of December 2023 and another ₹100 crore worth of debentures with a maturity date of March 2024. In this case, the company was required to deposit or invest at least ₹30 crore (representing 15% of ₹200 crore worth of debentures maturing during the year ending on the 31st day of March 2024) on or before the 30th day of April 2023, and to meet with the aforesaid requirement, the Company deposited ₹30 crore with the scheduled bank on the 30th day of April 2023.
The amount remaining with the scheduled bank after the redemption of debentures with a maturity date of December 2023, at any point in time, shall not fall below ₹15 crore which represents 15% of another ₹100 crore worth of debentures with a maturity date of March 2024.
4. Whether the company is required to create a DRR of 10% every year till the date of redemption of debentures?
Ans. No, as the law requires every company which issues debentures to create a minimum of 10% of the value of outstanding debentures as DRR. And as per my understanding, the said 10% criteria can be met by the company (even in tranches) any time before the date of redemption.
Sources
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- https://www.mca.gov.in/
- Study Material of the ICSI (“The Corporate and Management Accounting” & The Company Law”)
Disclaimer
The views and opinions expressed in this article are those of the author only. Please seek expert advice before relying on the information published in this article. The author shall not be liable or accept any liability for any loss or damage caused by relying on the information published in this article.
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What will happen if the company has negative Networth and does not have enough cash to invest 15% in the DRF
As per my understanding the requirement of DRR would not arise as the company is incurring losses but its obligatory to park 15%(DRI) of the amount redeeming before redemption (it has nothing to do with profits/ losses of the company)
Supporting your statement:
There is no obligation on the part of the company to create DRR if there is no profit for the particular year
Refer MCA’s Circular No. 9/2002 dated 18-4-2002