CA > Foundation > Paper 1 – Skim Notes

Unit 4: Accounting for Bonus Issue and Right Issue

Overview

  • Understanding of bonus shares and right shares provisions.
  • Accounting for bonus shares and rights issue in company records.
  • Understanding renunciation of rights and share value concepts.
  • Differentiation between cum-right and ex-right share values.
  • Calculation of rights value.
  • Impact of regulations from the Companies Act, 2013.
  • Understanding financial implications of bonus and rights issues.

Key Topics

Bonus Shares

  • Definition: Bonus shares are additional shares provided to existing shareholders free of cost, proportional to their holdings.
  • Source of issuance: Companies may issue them from free reserves, securities premium account, or capital redemption reserve account.
  • Not permitted from revaluation reserves, as clarified in Section 63 of the Companies Act, 2013.
  • Capitalization of profits is necessary for issuing bonus shares and must follow company articles and board resolutions.
  • The issuance does not raise new funds but increases the total number of shares while maintaining individual interests.

Deep Dive

  • Bonus shares are sometimes known as ‘scrip issues’ or ‘capitalization issues’, emphasizing their role in maintaining shareholder equity without cash transactions.
  • The impact of bonus shares tends to dilute earnings per share (EPS), and effective market prices adjust accordingly.
  • Companies may experience an increase in market confidence due to bonus issues, depending on perceived profitability.

Right Issue

  • A rights issue allows existing shareholders to purchase additional shares, maintaining their proportional ownership and voting rights.
  • Typically offered at a discounted price, encouraging shareholders to buy more shares within a specified timeframe.
  • Shareholders have the option to renounce their rights to buy shares to other persons, potentially generating value.
  • Must follow procedures outlined in the Companies Act, 2013, including informing shareholders of their rights and setting deadlines for acceptance.
  • Financial implications include potential dilution of earnings and share value adjustments post-issue.

Deep Dive

  • The right to renounce shares becomes valuable when shareholders cannot exercise their rights, allowing for monetization in capital markets.
  • Understanding how cum-right and ex-right prices adjust during and following a rights issue can inform strategic investment decisions.
  • Rights issues may also impact perceived market liquidity and investor confidence.

Accounting for Bonus Issue

  • Journal entries related to the issuance of bonus shares must adhere to regulations specifying how reserves are used.
  • Different accounts such as Capital Redemption Fund, Securities Premium, and General Reserve may be affected during these transactions.
  • Necessary entries include debiting relevant reserves and crediting the bonus to shareholders, followed by the equity share capital increase.
  • Example case studies illustrate practical applications of accounting entries and impacts on financial statements.
  • Completion of entries leads to an increase in authorized capital if it exceeds previously set limits.

Deep Dive

  • Accounting practices surrounding bonus issues stress the importance of complying with corporate governance standards to maintain transparency.
  • Pre-approval from boards and shareholders is compulsory, ensuring offers align with corporate articles and fiscal health considerations.
  • Reported changes in financial statements post-bonus issuance reveal shifts in net worth and valuation metrics.

Accounting for Rights Issue

  • Record keeping for rights issues mirrors ordinary share issues, usually involving debits to the Bank and credits to equity share capital.
  • Journal entries differ when shares are offered at a premium, necessitating an addition to the securities premium account.
  • Accounting reveals financial effects emphasizing cash flow from the increase in capital against potential dilution of existing shares.
  • Examples of journal entries illustrate linguistic and conceptual understanding, applying real-world scenarios to learning.
  • Understanding the theoretical and practical valuation of rights enhances financial literacy.

Deep Dive

  • Contextual analysis of how rights issues impact company share performance, projecting future market behaviors based on investor reactions.
  • Establishing a framework for evaluating strategic decisions regarding existing shareholder rights can inform investment strategies.
  • Understanding the financial calculations during rights offerings helps investors assess the eventual cost of capital increases.

Summary

By examining the bonus issue and rights issue, students can grasp key accounting principles and practices. The bonus issue facilitates shareholder loyalty without affecting capital while adhering to strict legal prescriptions. Conversely, rights issues empower existing shareholders to maintain ownership stakes but can lead to share dilution. Understanding journal entries helps in accurately documenting these transactions. The exploration of renunciation rights and the implications of share pricing changes after these issues form a robust basis for advanced financial analysis. Overall, it’s crucial for students to recognize how these mechanisms influence a company’s financial strategies, shareholder equity, and market perceptions.