Vardha Ltd., a textile company, had issued 5,00,000 preference shares of 100 each in 2015, which are now due for redemption in 2025. The company has…

The redemption of preference shares is governed by Section 55 (2) of the Companies Act, 2013, which outlines specific conditions for redemption and payment of premium on redemption, if any. In the given case, the company can redeem the preference shares out of the following sources: Out of profits that would otherwise be available for dividend distribution.From the proceeds of a fresh issue of shares, specifically made for the purpose of redemption. Since the company has retained earnings of 3crore and free reserves of 2crore, it can opt for redemption from these sources. Alternatively, it can issue new equity shares to raise funds for redemption. Where such shares are proposed to be redeemed out of the profits of the company, there the sum to be redeemed, shall be transferred to a reserve, called Capital Redemption Reserve (CRR). The Capital Redemption Reserve (CRR) is a mandatory reserve that must be created when preference shares are redeemed using profits or free reserves. The amount to be transferred to CRR should be equal to the nominal value of the shares redeemed. Accordingly, if the company redeems the shares using retained earnings and free reserves, it must transfer 5crore (equal to the nominal value of shares) to the CRR account. However, if the company issues fresh equity shares to fund the redemption, it is not required to create a CRR since the redemption is backed by new capital inflow. Once created, the CRR is treated with the same sanctity as paid-up share capital. Hence in the present case, the company has two options, firstly if it redeems shares using profits and reserves, it must transfer 5crore to CRR and secondly if it issues fresh equity shares, it does not need to create CRR.