TYBMS SEM 5 Financial Accounting (Q.P. November 2022 with Solution)

 Paper/Subject Code: 46012/Finance: Financial Accounting

TYBMS SEM 5

Financial Accounting

(Q.P. November 2022 with Solution)

(1) All Questions are compulsory with Internal Choice.

(2) Each Questions carries equal marks.

(3) Use of Simple C Calculator is allowed.

Q.1 (A) Multiple Choice Questions. (Any 8)                (08)

1. Unclaimed dividend is shown under ________.

a) Secured Loan

b) Short term Provision

c) Long Term Provision

d) Current Liability

2. When the entire issue is underwritten it is called ________.

a) Partial Underwriting

b) No Underwriting

c) Full Underwriting

d) Half Underwriting

3. An exchange rate on the date of balance sheet is known as ________.

a) Monetary Rate

b) Non-Monetary Rate

c) Closing Rate

d) Average Rate

4. Interest on securities is always calculated on ________.

a) Face Value

b) Market Value

c) Cost

d) Cum Interest

5. A Company has to spend _______ in CSR.

a) 10% of Net Profit

b) 20% of Net Profit

c) 2% of Net Profit

d) 1% of Net Profit

6. Short term loan is the loan due for not more than _________.

a) 1 Year

b) 2 Year

c) 4 Year

d) 5 Year

7. Total share for which guarantee is given by each underwriter individually is known as ________.

a) Net Liability

b) Gross Liability

c) Marked Application

d) Unmarked Application

8. Foreign currency is a currency ________.

a) Used in recording foreign transaction

b) Other than the reporting currency

c) In presenting foreign financial statements

d) Is the proportion between two currencies

9) Loss on sale of investment is ________.

a) Debited to Profit and Loss A/c

b) Credited to Profit and Loss A/c

c) Debited to Investment. A/c

d) Debited to Interest A/c

10. ASB is constituted in ________.

a) 1977

b) 1987

c) 1997

d) 1967 

Q.1 (B) State whether the following statements are True or False: (Any 7).    (07)

1. The income for pre-acquisition period should be credited to Investment Account.

Ans: True

2. AS-13 deals with accounting for Foreign Currency Transactions. 

Ans: False

3. The applications forms received by the company without any stamp of any of the underwriters are known as Marked Application.

Ans: False

4. Accounting policies adopted by a company should be disclosed as per AS-1.

Ans: True

5. CSR is governed by section 135 of Companies Act 2013.

Ans: True

6. Ethical behavior should be practiced with Shareholders only.

Ans: False

7. Issue of bonus share is entered in N.V. column of Investment A/c.

Ans: True

8. Balance in Foreign Exchange Fluctuation A/c is transferred to capital A/c.

Ans: False

9. When the issue is underwritten by two or more underwriters it is called as "sole underwriting".

Ans: False

10. Interest is disclosed under cash and cash equivalent.

Ans: False

Q.2 (A) Poonam Limited furnishes you with the following Trial Balance as on 31 March, 2022.                (15)

Particulars	Debit (Rs.)	Credit (Rs.)
Equity share capital: shares of 10/- each fully paid		50,00,000
Security Premium		22,10,000
Goodwill
Patents	80,000
General Reserve as per last Balance Sheet.		39,40,000
Capital Reserve		7,70,000
Cash Balance	20,000
HDFC Bank-Current Account	1,00,000
City Bank - Current Account	1,00,000
Debtors	42,00,000
Term Loan		4,50,000
Advance against salary	1,50,000
Prepaid expenses	50,000
Income received in advance		60,000
Sundry Creditors		20,00,000
Investment	80,00,000
Furniture	10,50,000
Machinery	7,50,000
Inventory at Cost	20,00,000
Bills Payable		1,70,000
Bills Receivable	50,000
Income tax Provision		6,00,000
Advance tax Payment	5,50,000
Profit and Loss A/c		20,00,000
	1,72,00,000	1,72,00,000

Additional Information:

1. Authorized share capital is 1 Core.

2. Transfer 7,00,000 to the General Reserve.

3. Out of the Debtors 2,00,000/- are outstanding for a period exceeding six months. All debtors are unsecured and considered good.

4. Investment represent 10,00,000 Equity Share in X Ltd. of 10 each, 8 Paid up.

5. Bill Discounted with bank worth 20,000 not matured till the Balance sheet date.

You are required to prepare the Balance Sheet of Poonam Limited as on 31 March, 2022 as per Schedule III requirements companies Act, 2013.

OR

Q.2 (B) Sapna Ltd. issued 90,000 equity shares of 20 each. The issue was underwritten as follows:                     (15)

A 50%, B 25%, and C 25%. The company received a total number of 80,000 applications including Firm Underwriters and Marked applications were as follows:

A: 30,000 shares, B: 15,000 shares and C: 5,000 shares.

The Firm Underwriting is A:5,000 shares; B: 3,000 Shares; C: 2,000 Shares

Determine the liability of each of the underwriters, If

1. Benefits of Firm underwriting is given/Credit is given for firm underwriting

2. Benefits of Firm underwriting is not given/Credit is not given for firm underwriting

Q.3 (A) Vishal Ltd., exported goods to James Trading Company Germany worth US $ 1,00,000 on 20th January, 2022, on which date the exchange rate of 1 US $ was 70.50.

The payment for the same was received as under:                (15)

Date of Payment	US $ Received	Exchange Rate for 1 US $
25.02.2022	25,000	Rs. 70.75
23.03.2022	25,000	₹70.00
24.04.2022	25,000	Rs. 72.60
28.05.2022	25,000	₹68.90

Vishal Ltd. closes its books on 31st March every year. The exchange rate on 31st March, 2022 was 1 US $, 268.00.

Pass Journal Entries for the following transactions in foreign currency in the books of 'Vishal Ltd. and prepare Foreign Exchange Fluctuation Account.

OR

Q.3 (B) Following is the extract of Trial Balance of Bhavik Lid. As on 31 March 2022.     (15)

Particulars	Rs.	Rs.
Sales		1,00,00,000
Opening Stock		12,00,000
Purchase		30,00,000
Purchase Return		5,00,000
Interest Received		3,00,000
Freight		2,00,000
Salaries		50,000
Bonus to Employees		20,000
Depreciation on:
Land and Building	3,00,000
Plant and Machinery	2,00,000
Furniture and Fixture	50,000	5,50,000
Interest Paid		6,00,000
Repairs and Maintenance		70,000
Electricity Charges		50,000
Rent, Rates and Taxes		50,000
Audit Fees		30,000
Advertisement Expenses		1,00,000
Sundry Expenses		10,000
Telephone Expenses		30,000

Additional Information

1. Closing Stock is valued at 15,00,000.

2. Outstanding Expenses are:

a) Salaries    ₹10,000;

b) Electricity Charges Rs. 5,000;

c) Rent        Rs. 3,000

3. Miscellaneous income received 10,000.

4. Prepaid Advertisement Expenses was 30,000

5. Provide RDD 250,000

6. Make a Provision for Tax 5,00,000.

You are required to Prepare Statement of Profit and Less for the year ended 31 March, 2022. 

Q.4 (A) On 1st April, 2021; 500 6% debentures of ₹ 100 each of Murs Ltd. were held as investment by Mr. Kushal at a cost of ₹ 46,200.

Excellent Ltd. pays interest on 1st July and 1st Jan every year.

The following other transactions were entered by him during the year ended 31st March, 2022 in regard to these debentures.

Date	No. of Debentures	Transaction	Rate
1st May, 2021	100	Sale	Rs. 98 cum-interest
1st Oct, 2021	300	Purchase	Rs. 104 ex-interests
1st Dec, 2021	100	Purchase	Rs. 97 cum-interest
1st Feb, 2022	600	Sale	Rs. 97 ex-interest

You are required to prepare investment in 6% debentures in Mars Ltd. Account for the year 31st March, 2022 as it would appear in the books of Mr. Kushal. (Apply AS-13) (15)

OR

Q.4 (B) On 1st April 2021 Mr. Manoj holds 10,000 Equity Shares of 10 each in PG Ltd., at a cost of ₹3,00,000

On 1st July 2021 he purchased 5,000 additional shares of the same Company at a cost of 74,000.

On 1st September 2021 Company issued a bonus of one share for every Five shares held as on that date.

On 1st January 2022 he purchased right shares, announced by the Company at the rate of two shares for every Six shares held as on that date at 12 each.

On Ist February 2022 he sold 1,000 shares for 20 cach.

Prepare Investment in Equity shares account in the books of Mr. Manoj for the year ended 31st, March 2022.                                (08)

Q.4 (C) Sun Ltd. issued 30,000 debentures which are underwritten as follows: Raj - 15,000 debentures, Rajan 10,000 debentures and Sajan -5,000 debentures.

The total subscriptions were 29,000 Debentures including marked applications were: Raj - 10,000 debentures; Rajan-4,000 debentures and Sajan 1,000 debentures.

You are required to show the allocations of liability of each underwriter.                (07)

Q.5 (A) Describe the fundamental principles of IFAC Code.                (08)

The IFAC (International Federation of Accountants) Code of Ethics for Professional Accountants is a globally recognized framework that sets out the ethical requirements for professional accountants. It is developed and issued by the International Ethics Standards Board for Accountants (IESBA), which is an independent standard-setting board supported by IFAC.

The Code's fundamental principles establish the standard of behavior expected of all professional accountants and reflect the profession's recognition of its public interest responsibility. These principles are the bedrock upon which the entire ethical framework for accountants is built.

There are five fundamental principles in the IFAC Code:

1. Integrity:

   • Meaning: To be straightforward and honest in all professional and business relationships.
   • In Practice: This means acting with honesty, fairness, and truthfulness, even when facing pressure or potential adverse consequences. It requires a professional accountant to not knowingly be associated with information that contains materially false or misleading statements, or that omits or obscures required information. It's about having the strength of character to do the right thing.

2. Objectivity:

   • Meaning: To not allow bias, conflict of interest, or undue influence of others to override professional or business judgments.
   • In Practice: Professional accountants must exercise their judgment impartially. They should not undertake a professional activity if a circumstance or relationship unduly influences their professional judgment regarding that activity. This principle requires independence of mind and appearance, especially in assurance engagements like audits.

3. Professional Competence and Due Care:

   • Meaning: To attain and maintain professional knowledge and skill at the level required to ensure that a client or employing organization receives competent professional service, based on current technical and professional standards and relevant legislation. To act diligently and in accordance with applicable technical and professional standards.
   • In Practice: This means:
     • Professional Competence: Possessing the necessary skills and knowledge to perform a professional activity.
     • Due Care: Acting diligently, thoroughly, and in a timely manner. It includes taking reasonable steps to ensure that others working under the professional accountant's authority have appropriate training and supervision. It also implies a commitment to continuing professional development (CPD) to stay updated with relevant developments in practice, legislation, and technology.

4. Confidentiality:

   • Meaning: To respect the confidentiality of information acquired as a result of professional and business relationships and not disclose any such information to third parties without proper and specific authority or unless there is a legal or professional right or duty to disclose. Confidential information should also not be used for the personal advantage of the professional accountant or third parties.
   • In Practice: This extends to all unpublished information about a client's or employer's affairs. It requires professional accountants to take appropriate action to protect the confidentiality of information throughout its lifecycle (collection, use, transfer, storage, retention, dissemination, and destruction). The duty of confidentiality continues even after the end of the professional relationship.

5. Professional Behavior:

   • Meaning: To comply with relevant laws and regulations and avoid any conduct that the professional accountant knows or should know might discredit the profession.
   • In Practice: This principle encompasses a broad range of conduct, requiring professional accountants to act in a manner consistent with the accountancy profession's responsibility to act in the public interest. It means being courteous and considerate, avoiding exaggerated claims for services, and not making disparaging references to the work of others. It underscores the importance of maintaining the reputation and trustworthiness of the entire accounting profession.

The Conceptual Framework:

The IFAC Code operates on a conceptual framework approach rather than a mere list of rules. This means professional accountants are required to:

1. Identify threats to compliance with the fundamental principles (e.g., self-interest threat, self-review threat, advocacy threat, familiarity threat, intimidation threat).
2. Evaluate the significance of the identified threats.
3. Apply safeguards to eliminate the threats or reduce them to an acceptable level.
4. If threats cannot be eliminated or reduced to an acceptable level, the professional accountant must decline or end the specific professional activity or service.

This principles-based approach allows professional accountants to exercise professional judgment in diverse situations, ensuring that ethical behavior is maintained even in complex or unforeseen circumstances. It emphasizes that the spirit of the principles must be upheld, not just the letter of the rules.

Q.5 (B) What does the Accounting Profession mean by Ethical Behaviour?           (07)

In the accounting profession, ethical conduct means following a set of moral standards that also guide the profession and ensure a transparent and honest reporting of the company’s financial situation and standing. Accountants who do handle financial records have access to sensitive information which they are obligated to act with not only client interests in mind but with public responsibility.

Principles of Ethical Behaviour:

Honesty – Professional integrity in all dealings.

Objectivity - No bias, conflict of interest or undue influence.

Professional Competence and Due Care -Keeping abreast of the level of knowledge and skill required and acting diligently.

Confidentiality – Keeping sensitive information that can be accessed during professional duties, confidential.

Professional Behaviors -Adherence to applicable laws and regulations, avoidance, of behavior which discredits the profession.

Importance:

Ethical conduct leads to trust, compliances with laws and rules, fraud and misrepresentation is prevented and the reputation of the profession is maintained. It is a necessary to establish credibility and trust of financial information.

Ethical behaviour ensures trust, transparency, and accountability in financial reporting. It protects the public interest, supports good business practices, and maintains the credibility of the accounting profession.

OR

Q. 5 (C) Write Short Notes: (Any Three)                    (15)

1. Corporate Governance

Corporate governance is the system of rules, practices, and processes by which a firm is directed and controlled. It is the systems and processes by which businesses are held to account — especially their own management — by those with whom they engage or seek to engage; shareholders, employees, customers, the wider community. The document below, delves into the fundamental building blocks of corporate governance, why it's important and some of the frameworks that help make corporate governance work.

Components of Corporate Governance

1. Board of Directors: Board is responsible for managing the company on behalf of the shareholders. The gender, autonomy, and diversity of the board are key d From w1the perspective of effective governance.

2. Shareholder Rights : Preserve shareholder rights as the building block for corporate governance. This encompasses the right to vote on important matters, access to information and influence over corporate decisions.

3. Transparency and Disclosure: Firms must disclose fair and timely information to stakeholders. Transparency breeds trust, and it allows investors and other concerned parties to make an informed decision.

4. Risk Management: Good governance is about how risk exposure is identified, assessed and managed to help the company perform at its best and protect its reputation. This includes implementation of strong internal controls and compliance systems.

5. Ethics: Good Business Sense Ethics create a solid foundation for governance. You must have a code of conduct at your company to foster honesty and responsibility among your staff.

Importance of Corporate Governance

Corporate governance is crucial for several reasons:

• Improves Accountability: It makes management accountable to the share and stakeholders and promotes a culture of accountability.

• Ensures Sustainable Growth: Good governance fosters sustainable growth by harmonising multiple stakeholders' interests & encouraging ethical business practices.

• Manages Risks: Good governance systems contribute to the fast detection and control of risk, thus minimizing susceptibility to corporate scandal and financial crisis.

• Building Investor Confidence: Well-run governance can increase investor confidence, which can lead to additional investing and higher stock prices.

Frameworks for Corporate Governance

How Corporations Are Governed Several models and manuals exist for promoting good corporate governance:

OECD Principles of Corporate Governance: Provide marquee template for policymakers and companies to improve governance around the world

Sarbanes-Oxley Act (SOX): SOX, implemented in the US, has been enacted to protect investors from accounting scandals and other corporate abuses perpetrated by supporting more reliable and accurate corporate disclosures of material information.

UK Corporate Governance Code: This code defines how companies should be directed on a day-to-day basis in the area of board leadership and effectiveness, remuneration, accountability and relations with shareholders.

2. Contingent Liability

Contingent liabilities are potential obligations that may arise in the future depending on the outcome of an uncertain event. Unlike regular liabilities, which are definite obligations, contingent liabilities have an element of uncertainty regarding their existence, amount, or timing.

Characteristics:

• Uncertainty: The defining characteristic is that the liability's existence, amount, or timing is not certain and depends on a future event that is not entirely within the entity's control.
• Past Event: Even though the outcome is uncertain, the potential obligation must arise from a past event or transaction.
• Potential Outflow of Resources: If the uncertain future event occurs, it is expected to result in an outflow of economic benefits (e.g., cash, assets).

Accounting Treatment (Based on Likelihood and Estimability):

Accounting standards (like GAAP in the US and IFRS internationally) classify contingent liabilities into three main categories, which dictate their financial statement treatment:

1. Probable:

   • Definition: The future event is likely to occur (generally considered to have a high probability, often 50% or more, or "more likely than not" under IFRS).
   • Estimable: The amount of the loss can be reasonably estimated.
   • Accounting Treatment: If both conditions are met, the contingent liability is recognized and recorded on the balance sheet as a liability and an expense on the income statement. This is often done by creating a "provision" or "accrued liability."

2. Possible:

   • Definition: The future event's occurrence is not probable but also not remote (i.e., there's a reasonable possibility).
   • Accounting Treatment: The contingent liability is not recognized on the balance sheet but disclosed in the footnotes to the financial statements. The disclosure should describe the nature of the contingency and, if possible, an estimate of the financial effect or a statement that such an estimate cannot be made.

3. Remote:

   • Definition: The future event is unlikely to occur.
   • Accounting Treatment: The contingent liability is neither recognized nor disclosed in the financial statements.

Examples of Contingent Liabilities:

• Pending Lawsuits/Litigation: A company being sued, where the outcome and potential damages are uncertain.
• Product Warranties: The potential cost of repairing or replacing defective products under warranty.
• Guarantees: A company guaranteeing the debt or performance of another entity. If the primary debtor defaults, the company may be obligated to pay.
• Environmental Liabilities: Potential costs for environmental clean-up or remediation due to past operations or pollution.
• Disputed Tax Liabilities: When a company is disputing a tax assessment from authorities, and the final outcome is uncertain.
• Recalls: The potential cost of recalling a product due to safety concerns or defects.

Importance of Contingent Liabilities:

• Financial Reporting Accuracy: Proper accounting for contingent liabilities ensures that financial statements provide a true and fair view of a company's financial position and performance.
• Informed Decision-Making: Disclosure of contingent liabilities allows investors, creditors, and other stakeholders to understand the potential risks and obligations a company faces, which is crucial for making informed decisions.
• Risk Management: Companies track contingent liabilities to assess and prepare for potential future outflows, aiding in better risk management and financial planning.

3. Net Liability of Underwriters

"Net liability of underwriters" means the sum which underwriters are required to take or for which they are responsible after deducting therefrom allowances on account of adjustments from firm underwriting agreements, marked applications and for any other adjustments. Underwriters of a public offering of securities automatically subscribe to any portion of the offering not bought by the public. Their final, or net, liability is determined after subtracting the amount of shares subscribed by the public (and credited to each underwriter) and adding any firm underwriting commitments.

Formula:

Net Liability = Gross Liability – Marked Applications – Unmarked Applications (ratio) + Firm Underwriting

This net liability represents the number of shares that the underwriter is technically required to purchase, and therefore, represents the actual "net syndicate exposure" that the underwriter has in the issue.

It is an important parameter to consider the risk of each underwriter.

Solid underwriting is always included in the calculation of net liability.

Help to facilitate equitable allocation of the shares not subscribed among underwriters.

4. Exchange Rates

Exchange rates are a fundamental concept in international finance and economics. Simply put, an exchange rate is the value of one country's currency in relation to another country's currency. It tells you how much of one currency you can get for a certain amount of another currency.

Exchange rates are essentially prices determined by the forces of supply and demand in the global foreign exchange (forex or FX) market. This market is the largest and most liquid financial market in the world, operating 24 hours a day, five days a week, across major financial centers like London, New York, Tokyo, and Singapore.

• Supply and Demand: As demand for a currency rises (e.g., foreign investors are more interested in buying assets from it, or foreign consumers desire its exports), its exchange value appreciates (gets stronger). As demand falls or supply rises (e.g., local investors want to purchase foreign assets, or a nation imports more than it exports), its exchange value depreciates (weakens).
• Quotation: Exchange rates normally appear in pairs, for example, EUR/USD or USD/INR.
• Base Currency / Quote Currency: The base currency is the first currency in a pair, and the quote currency is the second one. The exchange rate shows how many units of the quote currency are required to purchase one unit of the base currency.
• Example: USD/INR 85.50 translates to 1 US Dollar (USD) equals 85.50 Indian Rupees (INR). For each USD, you can exchange it for 85.50 INR if you possess USD. If you possess INR, then to exchange for 1 USD, you would require 85.50 INR.

Types of Exchange Rate Regimes:

Countries adopt different systems for managing their exchange rates:

1. Floating Exchange Rate System:

   • Most major world currencies (like the USD, EUR, JPY, GBP, CAD) operate under this system.
   • The value of the currency is primarily determined by market forces of supply and demand, with minimal government intervention.
   • Advantages: Acts as an "automatic stabilizer" for the economy, allowing monetary policy to focus on domestic conditions like inflation and unemployment.
   • Disadvantages: Can be volatile, leading to uncertainty for businesses engaged in international trade and investment.

2. Fixed Exchange Rate System (Pegged Exchange Rate):

   • The government or central bank sets the exchange rate for its currency and pegs it to another major currency (e.g., the US Dollar) or a basket of currencies, or even a commodity like gold.
   • To maintain the peg, the central bank intervenes in the forex market by buying or selling its own currency.
   • Advantages: Provides certainty and stability for international trade and investment, especially beneficial for smaller economies.
   • Disadvantages: Limits the central bank's ability to use monetary policy for domestic economic goals; requires large foreign currency reserves to maintain the peg; can make the economy vulnerable to external shocks if the peg is unsustainable. Examples include the Hong Kong Dollar's peg to the USD.

3. Managed Floating Exchange Rate System (Dirty Float):

   • This is a hybrid system where the exchange rate is generally determined by market forces, but the central bank may intervene periodically to prevent excessive volatility or steer the currency in a desired direction.
   • Many countries, including India, operate under a managed float. This allows for some market flexibility while providing a degree of stability.

Factors Influencing Exchange Rates:

Numerous factors can influence the supply and demand for a currency, leading to fluctuations in its exchange rate:

• Interest Rates: Higher interest rates in a country tend to attract foreign capital (as investors seek better returns), increasing demand for that currency and strengthening its value.
• Inflation: Countries with lower and more stable inflation rates tend to have stronger currencies, as their purchasing power is better preserved. High inflation erodes a currency's value.
• Economic Performance (GDP Growth, Employment): Strong economic growth, low unemployment, and a generally healthy economy tend to attract foreign investment, increasing demand for the domestic currency.
• Trade Balance (Current Account Deficit/Surplus):
  • Trade Surplus (Exports > Imports): A country that exports more than it imports experiences higher demand for its currency, leading to appreciation.
  • Trade Deficit (Imports > Exports): A country that imports more than it exports needs to convert its currency into foreign currency to pay for imports, increasing the supply of its currency and potentially leading to depreciation.
• Government Debt: High levels of public debt can worry investors about a country's ability to service its debt or potential inflation from money printing, leading to a weaker currency.
• Political Stability and Geopolitical Events: Political instability, social unrest, or major geopolitical events can deter foreign investment and lead to a rapid depreciation of a country's currency due to uncertainty.
• Speculation: Traders and investors in the forex market constantly speculate on future currency movements, and their collective actions can significantly influence exchange rates in the short term.
• Terms of Trade: If a country's export prices rise relative to its import prices, its terms of trade improve, generally leading to currency appreciation.
• Central Bank Intervention: Even in floating rate systems, central banks may occasionally intervene to stabilize their currency if it becomes too strong or too weak, which could negatively impact the economy.

Importance of Exchange Rates:

• International Trade: They determine the cost of imports and the competitiveness of exports. A weaker domestic currency makes exports cheaper for foreigners and imports more expensive for domestic consumers.
• Tourism: A stronger domestic currency makes foreign travel cheaper, while a weaker currency makes it more expensive.
• Foreign Investment: Exchange rates impact the profitability of foreign direct investment (FDI) and portfolio investment.
• Inflation: Changes in exchange rates can influence domestic inflation, especially through import prices.
• National Debt: The value of a country's foreign-denominated debt can change significantly with exchange rate fluctuations.

5. Bonus Share

Bonus shares are issued as gift to equity shareholders. These shares are issued free of cost to existing equity shareholders. These are issued out of accumulated profits. Bonus shares are issued in proportion to the shares held. Thus capital investment of (ordinary) equity shareholder tends to grow on its own. This benefit is available only to the equity shareholder.

Bonus shares are fully paid shares issued free of cost to the existing equity shareholders in proportion to their shareholdings. Usually financially sound companies issue Bonus Shares out of its accumulated distributable profits or reserves. Hence as the profits or reserves are capitalised, it is also called as ‘Capitalisation of Profits or Reserves’.

This capitalisation of profit by issue of bonus shares is known as ploughing back of profit or self financing. Bonus shares are issued free of cost to the existing equity shareholders out of the retained earnings. The Management can convert retained earnings into permanent share capital by issuing bonus shares.

Provisions : Following are the provisions related to Bonus Issue :

a) A company can issue Bonus Shares only out of : 

i) Free reserves or 

ii) Securities Premium Account or 

iii) Capital Redemption Reserve Account

b) A company cannot issue Bonus shares out of reserves created by Revaluation of Assets.

c) It also cannot issue Bonus Shares instead of paying dividend. 

d) Once the announcement for Bonus Shares is made by the Board of Directors, it cannot be then withdrawn. 

e) Bonus shares are fully paid up shares. 

f) Shareholders cannot renounce i.e. give away their Bonus shares to another person. g) There is no minimum subscription to be collected.