Redemption of preference shares

REDEMPTION OF PREFERENCE SHARES

Section 55 of the Companies Act, 2013 (the Act) prescribes that a company shall not issue an irredeemable preference shares. Further, it also imposes restriction on companies limited by shares to issue preference shares liable to be redeemed at the end of the end of twenty years. However, a company engaged in the setting up and dealing with of infrastructural projects, may issue preference shares for a period exceeding twenty years but not more than thirty years, subject to the redemption of a minimum ten percent of such preference shares from the twenty first year on wards on an annual basis at the option of such preferential shareholders.

In terms of the provisions of Section 55 (2) of the Act, redeemable preference shares shall be redeemed out of the profits of the company which would otherwise be available for dividend or out of the proceeds of a fresh issue of shares made for the purposes of such redemption.

A Company must have either sufficient profits by way of surplus/ accumulated profits or general reserve or any other free reserve to redeem its preference shares out of profits. In other case, where there is no profit or inadequate profit, a company may issue fresh issue of shares. However, a company may issue share to redeem its preference shares, even it is having sufficient profit.

REDEMPTION OUT OF PROFITS OF THE COMPANY:

The expression “out of the profits of the company which would otherwise be available for dividend means” that a company may use its accumulated profit for redemption of preference shares. So, any account in which profits earned by the company is kept may be used; but security premium account, capital redemption reserve, capital reserve and debenture redemption reserve, etc. which are not available for distribution by way of dividend cannot be used.  However the companies proposing to redeem out of its profits are required to keep a sum equal to the nominal amount of the share to be redeemed, to a reserve known as Capital Redemption Reserve Account.

REDEMPTION IN CASE OF ISSUE OF SHARES:

A company may also decide to redeem its preference shares, through “proceeds of a fresh issue of shares made for the purposes of such redemption”. The company proposing such manner of redemption, issues shares equal to the face value of the redeemable preference shares, which is to be redeemed. In such a case, the fresh issue of shares shall replace the redeemable preference share in the balance sheet.

In case of redemption of preference shares through allotment of fresh issue of shares and wherein the fresh issue has been made at a premium, the amount of face value of shares shall be credited to the share capital account and the amount of premium shall be credited to the security premium account. A company may issue shares of any class of shares whether at par/premium, and use the money so raised to redeem the shares. A company while redemption through issue of shares, uses the proceeds of issue as redemption.

The premium received in case of issue of fresh share must be credited to the security premium account and can be used for the purpose stated in the Section 52(2) of the Act. Further, Section 52(2)(d) of the Act, prescribes that the amount underlying in the Security Premium Account could be utilised for redemption of Preference Shares at premium.

Thus, the amount of premium received in case of issue of shares cannot be utilised for redemption of preference shares to the extent of face value of shares, rather it can be utilised for the purpose of premium, if any in case of redemption.

For Illustration:

Any of the three options are possible for redemption of the redeemable preference shares of Face Value Rs.10/- at a premium of Rs. 90/- per share

Option 1:  Issue Preference share of face value Rs. 10/- each at a premium of Rs. 90/-. In this case the proceeds of issue of preference share capital and the security premium could be adjusted respectively.

Option 2: Issue Equity share of face value Rs. 10/- each at a premium of Rs. 90/-. In this case the proceeds of issue of Equity share and the security premium could be adjusted respectively with the amount payable towards redemption of the preference shares.

Option 3: Issue such number of Equity Shares at par which is equivalent to the sum total of the amount of redemption of preference shares (i.e. Face value + Premium amount)