Question

X Ltd. decides to redeem 650, 15% Pref. Shares of Rs. 100 each at 10% premium. It has a General Reserve of Rs. 45,500 and a Securities Premium of Rs. 1,000. If the new equity shares are to be issued at 20% discount, the minimum number of equity shares of Rs 10 each to be issued for the purpose of redemption is ___________.

• A. 1950
• B. 2000
• C. 3125
• D. 2500

Answer 1

The correct option is C 3125

Preference shares are the only one which can be redeemed or returned back to the shareholder. The company prefers to issue new equity shares to fund the redemption process.

The first step is to find out the preference shares to be redeemed and it can be calculated as follows:

Amount to be redeemed= $Numberofshare\times Marketvalueofshare$

Substitute the given information in the above equation

Amount to be redeemed= $650shares\times Rs110=Rs71,500$

Balance in reserve & surplus with the company= General Reserve+Security premium reserve =Rs45,500+Rs1000 =Rs46,500

Net amount to issue new equtiy= Rs71,500-Rs46,500 =R25,000

Thus, the company needs to issue new equity to redeem Rs71,500 preference shares. And this can be calculated as under:

Equity to be issued=$\frac{Amounttoredeem}{Marketvalueofshare}$

Market value of share= Face value-Discount =Rs10-Rs2 =Rs8

Substitute the given values in the above equation

Equity to be issued=$\frac{Rs25,000}{Rs8}=3,125shares$

Thus, the company need to issue 3,125shares at Rs8 to redeem the preference shares.