Corporate Accounting: Issue, Forfeiture, Reissue of Shares; Liquidation; Mergers and Reconstruction

1. Issue of Shares

Companies raise capital by issuing shares to the public. Shares represent ownership in a company. There are two main types of shares: equity shares (which carry voting rights) and preference shares (which have priority in dividend payment and capital repayment). Companies can issue shares at par (face value), at a premium (above face value), or at a discount (below face value). Issuing shares at a discount is generally prohibited by law in most jurisdictions, except under specific circumstances and with government approval.

1.1 Types of Share Issues

Shares can be issued in several ways:

• Public Issue: Offering shares to the general public through an Initial Public Offering (IPO) or a Follow-on Public Offering (FPO).
• Rights Issue: Offering new shares to existing shareholders in proportion to their current holdings. This is often done at a discount to market price.
• Bonus Issue: Issuing new shares to existing shareholders free of cost, typically out of accumulated profits or reserves.
• Private Placement: Offering shares to a select group of investors, such as institutional investors or venture capitalists, without going public.
• Employee Stock Option Plans (ESOPs): Granting options to employees to purchase shares at a predetermined price.

1.2 Share Application and Allotment

When a company issues shares to the public, interested investors submit applications along with the application money. The company then reviews these applications and decides on the allotment of shares. If the number of applications received is more than the number of shares offered, it leads to oversubscription. In such cases, the company can allot shares on a pro-rata basis (proportionally) or reject some applications entirely. If the applications are fewer than the shares offered, it is called undersubscription.

1.3 Calls on Shares

Companies typically receive share capital in installments. The amount payable on application and allotment is usually collected first. The remaining balance is called up by the company in one or more installments, known as 'calls'. The first call is the first installment after allotment, followed by the second call, and so on, until the full face value of the share is paid. The company's Articles of Association specify the rules regarding calls.

1.4 Share Premium

When shares are issued at a price higher than their face value, the excess amount is called share premium. This premium is credited to the 'Securities Premium Account' and can be used for specific purposes as permitted by law, such as issuing bonus shares, writing off preliminary expenses, or paying premiums on the redemption of preference shares or debentures.

1.5 Accounting Treatment

The accounting entries for issuing shares involve debiting the bank account for the amount received and crediting the share capital account and any share premium account. For calls, entries are made to record the amount due on call and the subsequent receipt of payment.

Example: A company issues 10,000 equity shares of ₹10 each at a premium of ₹2 per share, payable as follows: ₹3 on application, ₹5 on allotment (including premium), and ₹4 on first and final call.

• Application: Bank A/c Dr. ₹30,000 To Share Application A/c ₹30,000
• Allotment: Share Application A/c Dr. ₹30,000 To Equity Share Capital A/c ₹20,000 To Securities Premium A/c ₹10,000
• First Call: Equity Share Capital A/c Dr. ₹40,000 To Equity Share Capital A/c ₹40,000
• Receipt of Call Money: Bank A/c Dr. ₹40,000 To Equity Share Capital A/c ₹40,000

2. Forfeiture of Shares

Forfeiture of shares is the process by which a company cancels shares of a shareholder who has failed to pay the amount due on allotment or calls, even after receiving a notice. The company retains the money already paid by the shareholder on these shares. Forfeited shares can be reissued later.

2.1 Procedure for Forfeiture

The company must follow a specific procedure:

1. The shareholder must have defaulted in paying the allotment money or any call money.
2. The company must have sent a notice to the shareholder calling for payment within a specified period (usually 14 days).
3. The notice should state that if payment is not made within the stipulated time, the shares will be forfeited.
4. If the shareholder still fails to pay, the Board of Directors can pass a resolution to forfeit the shares.

2.2 Accounting Treatment for Forfeiture

When shares are forfeited, the Share Capital account is debited with the nominal value of the shares forfeited. The Share Premium account is debited if shares were issued at a premium and the premium was not received. The Share Application/Allotment/Calls-in-Arrears accounts are debited for the amounts not paid. The Share Forfeiture account is credited with the amount already paid by the shareholder on these shares.

Example: 100 shares of ₹10 each, issued at a premium of ₹2, were forfeited for non-payment of ₹6 per share on allotment (including ₹2 premium) and ₹4 on the first and final call. ₹3 was paid on application.

• Nominal Value per share = ₹10
• Amount received per share = ₹3
• Amount not received per share = ₹6 (allotment) + ₹4 (call) = ₹10
• Premium received = ₹0 (as allotment included premium and it was not paid)
• Journal Entry: Equity Share Capital A/c Dr. ₹1,000 (100 x ₹10) To Calls-in-Arrears A/c ₹1,000 (100 x ₹10) To Share Forfeiture A/c ₹300 (100 x ₹3)

If premium of ₹2 per share was received on application and then allotment and call were not paid:

• Nominal Value per share = ₹10
• Amount received per share = ₹3 (application) + ₹2 (premium) = ₹5
• Amount not received per share = ₹6 (allotment) + ₹4 (call) = ₹10
• Premium received = ₹2
• Journal Entry: Equity Share Capital A/c Dr. ₹1,000 (100 x ₹10) To Calls-in-Arrears A/c ₹1,000 (100 x ₹10) To Share Forfeiture A/c ₹500 (100 x ₹5)
• Note: If premium was received, Securities Premium A/c is not debited. If premium was not received and shares were issued at premium, then Securities Premium A/c is debited.

3. Reissue of Shares

Forfeited shares can be reissued to the public or existing shareholders. They can be reissued at par, at a premium, or at a discount. However, the discount allowed on reissue cannot exceed the amount forfeited. The reissue price is the price at which the shares are transferred to the new holder.

3.1 Accounting Treatment for Reissue

When shares are reissued, the Bank account is debited with the amount received. The Share Capital account is credited with the nominal value of the shares reissued. If the shares are reissued at a discount, the Share Forfeiture account is debited with the amount of discount.

Example: Continuing from the previous forfeiture example (100 shares forfeited, ₹3 paid per share, total ₹300 forfeited). These shares are then reissued at ₹8 per share paid-up.

• Nominal value of shares reissued = 100 x ₹10 = ₹1,000
• Amount received on reissue = 100 x ₹8 = ₹800
• Discount allowed = ₹10 - ₹8 = ₹2 per share, total ₹200
• Amount forfeited = ₹300
• Journal Entry: Bank A/c Dr. ₹800 To Equity Share Capital A/c ₹1,000 To Share Forfeiture A/c ₹200 (Discount)

3.2 Transfer of Balance to Capital Reserve

After reissuing forfeited shares, any credit balance remaining in the Share Forfeiture account is considered a gain for the company and is transferred to the Capital Reserve account. This represents the profit on forfeited shares that were not reissued. The amount transferred is calculated as: (Amount forfeited - Discount on reissue).

Example (Continuing):

• Amount forfeited = ₹300
• Discount on reissue = ₹200
• Balance in Share Forfeiture A/c to be transferred = ₹300 - ₹200 = ₹100
• Journal Entry: Share Forfeiture A/c Dr. ₹100 To Capital Reserve A/c ₹100

4. Liquidation of Companies

Liquidation, also known as winding up, is the process by which a company ceases to exist. Its assets are realized, its debts are paid, and any remaining balance is distributed among its shareholders. Liquidation can be voluntary or compulsory.

4.1 Types of Liquidation

• Voluntary Liquidation: Occurs when the shareholders or creditors of a solvent company decide to wind up its affairs. This can be a Members' Voluntary Winding Up (if the company is solvent) or a Creditors' Voluntary Winding Up (if the company is insolvent but creditors agree to the process).
• Compulsory Liquidation: Ordered by a court or tribunal, typically when a company is insolvent, unable to pay its debts, or has acted against the public interest. A liquidator is appointed by the court to manage the process.

4.2 The Role of the Liquidator

The liquidator is an officer appointed to manage the winding-up process. Their main duties include:

• Taking possession of company assets.
• Realizing (selling) these assets.
• Settling the company's debts and liabilities.
• Distributing any surplus funds to shareholders according to their rights.
• Preparing and submitting final accounts to the Registrar of Companies and the court/members.

4.3 Order of Payment of Liabilities

During liquidation, creditors and shareholders are paid in a specific order of priority:

1. Secured Creditors: Those holding security over specific assets of the company.
2. Liquidation Expenses: Costs incurred in the winding-up process, including liquidator's fees.
3. Preferential Creditors: Certain debts given priority by law, such as wages and salaries of employees, and taxes.
4. Unsecured Creditors: Creditors without any security.
5. Debenture Holders (if not secured): Holders of debentures who do not have specific security.
6. Shareholders:
   • Preference Shareholders (for their capital, usually with any preferential dividend).
   • Equity Shareholders (any remaining balance).

4.4 Statement of Account by Liquidator

The liquidator prepares a detailed statement showing receipts from asset realization and payments made to creditors and shareholders. This statement is crucial for demonstrating how the company's affairs were wound up.

5. Mergers and Amalgamations

A merger is the combination of two or more companies into a single, new entity. An amalgamation is similar, where two or more companies are absorbed into an existing company, or a new company is formed to take over their businesses. These are common strategies for growth, synergy, and market expansion.

5.1 Types of Mergers

Mergers can be classified based on their business combination:

• Horizontal Merger: Between companies in the same industry and at the same stage of production (e.g., two car manufacturers).
• Vertical Merger: Between companies in the same industry but at different stages of production (e.g., a car manufacturer merging with a tire company).
• Congeneric Merger: Between companies in the same industry but with unrelated products or services (e.g., a car manufacturer merging with a bicycle maker).
• Conglomerate Merger: Between companies in entirely different industries (e.g., a car manufacturer merging with a food company).

5.2 Accounting for Mergers (Purchase Method vs. Merger Method)

Accounting standards (like Ind AS 103 in India) prescribe methods for accounting for business combinations. Historically, two main methods were used:

• Purchase Method: The acquiring company treats the acquired company as a purchased asset. The assets and liabilities of the acquired company are recorded at their fair values on the acquisition date. Any excess of the purchase consideration over the fair value of net assets acquired is recognized as goodwill. If the net assets exceed the consideration, it results in a capital reserve (bargain purchase).
• Merger Method (Pooling of Interest Method): This method is used when a true merger occurs, where the shareholders of both companies become shareholders of the combined entity, and there is continuity of ownership. In this method, the assets and liabilities of the transferor company are combined with those of the transferee company at their book values. There is no recognition of goodwill or capital reserve.

Most modern accounting standards, like Ind AS 103 and IFRS 3, primarily use the acquisition method (similar to the purchase method), which involves recognizing identifiable assets acquired and liabilities assumed at their fair values and recognizing goodwill or a gain from a bargain purchase.

5.3 Key Terms

• Acquiring Company (Transferee Company): The company that gains control of one or more other businesses.
• Acquired Company (Transferor Company): The company whose business is acquired by another.
• Purchase Consideration: The total amount paid by the acquiring company to acquire the transferor company, which can be in cash, shares, or other securities.
• Goodwill: An intangible asset representing the excess of the purchase consideration over the fair value of the net identifiable assets acquired. It reflects the future economic benefits arising from assets acquired in a business combination that are not individually identified and separately recognized.
• Net Assets: Total assets minus total liabilities.

5.4 Accounting Entries (Acquisition Method)

The primary entries involve:

• Debit all assets acquired at fair value.
• Credit all liabilities assumed at fair value.
• Credit the payment made (Bank/Shares in Acquiring Company).
• Debit Goodwill (if purchase consideration > fair value of net assets) or Credit Capital Reserve (if purchase consideration < fair value of net assets).

6. Reconstruction of Companies

Company reconstruction refers to the process of reorganizing a company's capital structure or business operations to improve its financial position and profitability. It is often undertaken when a company is facing financial difficulties or needs to adapt to changing market conditions. Reconstruction can be internal or external.

6.1 Internal Reconstruction

Internal reconstruction involves changes within the company itself, without involving external parties or forming a new company. It typically aims to reduce the company's liabilities or simplify its capital structure. Common methods include:

• Alteration of Share Capital: Consolidating shares, sub-dividing shares, converting shares into stock, or cancelling unissued share capital.
• Reduction of Share Capital: Reducing the nominal value of shares or cancelling paid-up capital that is lost or unrepresented by available assets. This requires court approval.
• Variation of Shareholder Rights: Changing the rights attached to different classes of shares.
• Compromise or Arrangement: Reaching an agreement with creditors or shareholders to modify their claims or rights, often to avoid liquidation.

6.2 External Reconstruction

External reconstruction involves forming a new company to take over the business of an existing company (or companies). The old company is then usually wound up. This is similar to an amalgamation or merger but is often initiated due to insolvency or severe financial distress. The new company acquires the assets and liabilities of the old company, and shares in the new company are issued to the shareholders and creditors of the old company, often on a reduced basis.

6.3 Reconstruction Schemes

A reconstruction scheme outlines the proposed changes. It must be approved by the shareholders and, in many cases, by the court. The scheme details how assets and liabilities will be treated, how creditors will be compensated, and how shareholders will be treated (e.g., conversion of debt to equity, reduction of share capital).

6.4 Accounting for Reconstruction

Accounting entries for reconstruction depend on the specific scheme.

• For writing off losses and fictitious assets: Capital Reserve or Revaluation Reserve is debited.
• For reducing the value of assets: Asset accounts are credited.
• For reducing liabilities: Liability accounts are credited.
• For conversion of debt to equity: The debt account is debited, and the share capital/preference share capital account is credited.

A key part of reconstruction accounting is the creation of a "Capital Reduction Account" (also known as the "Reconstruction Account" or "Loss Adjustment Account"). This account is debited with all the losses, the reduction in asset values, and the write-off of fictitious assets. It is credited with any surplus arising from the reduction of liabilities or share capital. The balance in this account, if any, is then used to write off remaining losses or is transferred to the Capital Reserve.

6.5 Difference between Amalgamation and Reconstruction

While both involve combining or reorganizing companies, the intent and outcome differ:

Feature	Amalgamation	Reconstruction
Objective	Growth, Synergy, Market Expansion	Overcoming Financial Difficulties, Improving Financial Position
Company Status	Generally Solvent Companies	Often Insolvent or Financially Distressed Companies
Formation of New Company	May result in a new company or absorption into an existing one.	Often involves internal changes or a new company taking over an old one.
Accounting Treatment	Focus on fair value of assets/liabilities (Acquisition Method), Goodwill or Capital Reserve.	Focus on writing off past losses, reducing capital/liabilities via Capital Reduction Account.