Q.What is meant by redemption of debentures by 'Purchase in Open Market'?

Redemption of Debentures by 'Purchase in Open Market'

When a company buys back its own debentures from the stock exchange or from existing debenture holders through a recognised stock exchange, it is called redemption by purchase in the open market. This method is used when the company does not want to wait until the maturity date, or when debentures are available at a discount in the market.

The key feature is that the company purchases its debentures at the prevailing market price, which may be:

• At par (equal to face value)
• At a discount (below face value — the company gains)
• At a premium (above face value — the company incurs a loss)

Once purchased, the company cancels these debentures immediately, reducing its liability. The difference between the face value and the purchase price is transferred to the Capital Reserve (if purchased at a discount) or debited to Profit & Loss (if purchased at a premium). …

Concept and Accounting Treatment

When a company issues debentures, it borrows money from the public. Redemption is the repayment of that loan. The 'Purchase in Open Market' method is one way to do this — instead of paying all debenture holders at once on a fixed date, the company buys its own debentures from the open market (like a stock exchange) whenever it has surplus cash or finds them available at a favourable price.

Why this method? It gives the company flexibility. If debentures are trading below face value (say ₹95 for a ₹100 debenture), the company can buy them cheap, reducing its total liability. The debentures purchased are then cancelled, and the company's liability is extinguished to that extent.

Accounting rule applied: When debentures are purchased in the open market, the company is effectively settling a liability. The journal entry debits 'Debentures Account' (to reduce the liability) and credits 'Bank Account' (for cash paid). If the purchase price is less than face value, the difference is a gain — credited to 'Capital Reserve' (a capital profit, not available for dividends). If the purchase price is more than face value, the loss is debited to 'Profit and Loss Account' (or 'Statement of Profit and Loss').

Journal Entries (Illustrative)

Assume a company has ₹1,00,000 of 10% Debentures (face value ₹100 each). It buys 500 debentures from the open market at ₹95 each and cancels them.

Explanation of the entry:

• Debit Debentures A/c with the face value (500 × ₹100 = ₹50,000) — this reduces the liability.
• Credit Bank A/c with the actual cash paid (500 × ₹95 = ₹47,500).
• Credit Capital Reserve A/c with the gain (₹50,000 – ₹47,500 = ₹2,500) — this is a capital profit.

If the purchase price were ₹105 each, the entry would be:

| Date | Particulars | L.F. | Debit (₹) | Credit (₹) |

|------|-------------|------|-----------|------------| …