EN
Debenture redemption is the repayment of a bond's principal amount by an issuer at maturity. The terms of the issue may provide for the redemption of debentures at face value, at a premium, in instalments, by means of a sinking fund, or by any other authorised method.
The debenture documentation and prospectus will usually set forth the terms of redemption.
Understanding how redemption is calculated helps investors know how much money they can expect at maturity. This article explains it in detail.
Key Takeaways
- Redemption means repayment of the debenture amount.
- The total payout is computed using the face value, number of debentures held, and the predefined redemption price.
- Debentures are redeemable at par or at a premium.
- Periodic coupon interest payments are handled separately and are not included in the final principal redemption calculation.
- Depending on the terms of the issue, companies can employ different redemption procedures.
- Investors should see the prospectus or the debenture certificate for the specific terms of redemption.
What is Debenture Redemption?
Debenture redemption is the process where a corporate issuer pays back the principal sum owed to debenture holders, clearing the debt obligation from its books.
Example:
A company offers 10,000 debentures with a face value of ₹1,000 each, redeemable at par after five years.
The total principal repaid at maturity is:
10,000 x ₹1,000 = ₹1 crore
If the same debentures are redeemable at a 5% premium, the corporation will pay back more.
Also Read About: Debentures
How is Redemption of Debentures Calculated?
The basic formula is:
Redemption Amount = No. of debentures x redemption value of each debenture
The redemption value will be determined by the value at which the debentures are redeemed, either at par or at a premium.
1. Redemption at Par Value
If a debenture is redeemed at par, the corporation pays its nominal value.
Formula:
Redemption Amount = Face Value * Number of Debentures
Example
You have 100 debentures with a face value of ₹500 apiece. They are payable at par.
Redemption value:
100 × ₹500 = ₹5,00,000
You would receive ₹5 lakh on the principal at redemption, subject to relevant terms.
2. Premium Redemption
Some debentures are redeemed at a premium. The extra amount is called the redemption premium.
Formula:
Redemption value = Face value x (1 + premium rate)
Given: Number of debentures = 100, face value of each debenture = ₹1,000, redeemable at a premium of 5%.
Price per debenture premium:
₹1,000 x 5% = ₹50
Redeemable value of each debenture:
₹1,000 + ₹50 = ₹1,050
Total Amount Redeemed:
100 x ₹1,050 = ₹1,05,000
So at the time of redemption, the investor will receive ₹1.05 lakh.
Does Redemption Amount Include Interest?
The periodic interest and the principal redemption amount are often separate.
Example:
A ₹1,000 debenture, which bears interest at 8% per annum, is redeemable at par.
Interest per annum:
₹1,000 × 8% = ₹80
The investor is paid the principal amount of ₹1,000 at maturity, along with interest as per the schedule set out in the terms of the issue.
So do not automatically include all the interest payments in the redemption value when computing the amount owed on maturity.
Also Read About: Debenture vs Bond
What Happens When Debentures are Redeemed at a Premium?
If a bond is redeemed at a premium, the investor receives more than the par value.
For example:
| Particulars | Amount |
| Face value | ₹1,000 |
| Redemption premium | 10% |
| Premium amount | ₹100 |
| Redemption value | ₹1,100 |
If the investor has 2,000 such debentures, then:
2,000 × ₹1,100 = ₹22,00,000
This would mean its entire redemption amount would be ₹22 lakh.
How the premium is treated precisely depends on the conditions of issue and the applicable accounting and regulatory obligations.
Also Read About: Difference Between Shares and Debentures
Modes of Redemption of Debentures
Companies can arrange redemption differently. Some popular strategies are discussed below:
Redemptions in Lump Sum
In this technique, the entire principal is repaid at a certain maturity date. This is one of the easiest arrangements, as the corporation knows the amount to be paid at maturity.
Redemption in Instalments
Instead of repaying the entire principal at once, the corporation may repay a portion at set intervals. This spreads the repayment obligation over time.
If ₹10 crore in debentures are to be redeemed equally over 5 years, the principal repayment might be ₹2 crore per year, according to the issuance terms.
Sinking Fund Redemption
A firm may, over time, set aside money to establish funds for future redemption. This may help lessen the hassle of arranging a large amount of cash when the debentures mature.
The exact requirements and allowable procedures rely on the underlying corporate legislation and regulatory framework.
Redemption (Buy on Open Market)
If the rules allow, a firm can buy its debentures from the market. This may be advantageous if the debentures are selling at a discount to their redemption value. This means the price the corporation pays for the purchase may differ from the face value.
Conversion to Shares
Convertible debentures may be converted into equity shares rather than redeemed in cash. In such circumstances, the investor does not receive the principal in cash but instead receives shares under the conversion terms.
Also Read About: Convertible vs Non-Convertible Debentures
Early Redemption via Embedded Call and Put Options
While debentures typically mature on a fixed date, some issues include embedded options that allow early redemption before maturity:
- Call Option (Issuer's Right): Grants the issuing company the right, but not the obligation, to redeem the debentures before maturity at a predetermined price, usually if interest rates decline and the company wishes to refinance at a lower cost.
- Put Option (Investor's Right): Grants the investor the right to sell the debentures back to the issuer at a specified price prior to maturity, providing a safety net if market interest rates rise or the issuer's credit quality deteriorates.
Redemption Calculation: An Example
A corporation has issued 200,000 debentures at a face value of ₹1,000 each. The debentures shall be redeemed at the end of five years at a premium of 4%.
Step 1: Compute the premium
₹1,000 × 4% = ₹40
Step 2: Find redemption value per debenture
₹1,000 + ₹40 = ₹1,040
Step 3: Work Out Total Redemption Value
200,000 × ₹1,040 = ₹208,000,000
Excluding interest, which will be paid separately, the corporation will have to shell out ₹2.08 crore to redeem all the debentures.
Factors Affecting Redemption Amount
Several things can affect what you ultimately pay:
| Factor | Effect |
| Face value | Forms the basic principal amount |
| Number of debentures | Determines total principal outstanding |
| Redemption price | Decides whether repayment is at par or premium |
| Redemption premium | Increases the amount payable |
| Installation structure | Spreads repayment over different dates |
| Conversion terms | May replace cash repayment with equity shares |
| Open-market purchase price | Can differ from face value |
So the ultimate sum should be calculated after reviewing the prospectus and the debenture certificate.
Market Value vs Redemption Value
It is vital to distinguish between redemption value and market value.
The redemption value is the sum payable by the issuer under the terms of the debenture. Market value is the price at which the debenture can be sold before maturity.
For example, a debenture with a face value of ₹1000 may be quoted in the market at ₹950 but will have a contractual redemption value of ₹1000 at maturity if it is redeemable at par.
This difference is substantial to investors who purchase or sell debentures before maturity.
Why do Investors Need Redemption?
Redemption clarifies when and how much of an investor’s principal is anticipated to be restored. It can also assist investors in predicting cash flows and evaluating different fixed-income investments.
Investors should check before investing:
- Nominal value of debenture
- Interest rate or coupon
- Date of maturity
- Redeemable value
- Redemption premium
- Whether the instrument is convertible to
- Possibility of redemption before maturity
- The Issuer’s credit quality
Redemption terms are often set out in the relevant issuance documents.
Tax Treatment: Coupon Payouts vs. Redemption Premiums and Discounts
The tax implications differ significantly between regular interest earnings and the final redemption value:
Coupon Interest Payouts: Periodic interest payments are taxed annually as "Income from Other Sources" according to your applicable individual income tax slab rates, and are generally subject to TDS.
Redemption at a Premium: If debentures are redeemed at a premium, the difference between the issue price (or purchase price) and the higher redemption value is treated as a capital gain (short-term or long-term depending on the holding period).
Redemption at a Discount / Open-Market Purchase: If an investor purchases a debenture below its face value and it is redeemed at par, the difference may also be treated as a capital gain upon maturity or sale.
Conclusion
Redemption of debentures is the repayment of the principal amount owed by a corporate issuer to its debenture holders upon maturity. If an instrument is redeemed at par, its redemption value equals its nominal face value. If it is redeemed at a premium, the specified premium percentage is added to the face amount.
