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What is Accounting treatment of Capital Reconstruction of a company
When a company has been making losses for a number of years, the financial position does not present a true and fair view of the state of the affairs of the company. In such a company the assets are overvalued, the assets side of the balance sheet consists of fictitious assets, useless intangible assets and debit balance in the profit and loss account. Such a situation does not depict a true picture of financial statements and shows a higher net worth than what the real net worth ought to be. In short the company is over capitalized. Such a situation brings the need for reconstruction. Reconstruction is a process by which affairs of a company are reorganized by revaluation of assets, reassessment of liabilities and by writing off the losses already suffered by reducing the paid up value of shares and/or varying the rights attached to different classes of shares. The object of reconstruction is usually to reorganize capital or to compound with creditors or to effect economies. Such a process is called internal reconstruction which is carried out without liquidating the company and forming a new one.
However, there may be external reconstruction. Wherever an undertaking is being carried on
by a company and is in substance transferred, not to an outsider, but to another company consisting substantially of the same shareholders with a view to its being continued by the transferee company, there is external reconstruction. Such external reconstruction is essentially
covered under the category ‘amalgamation in the nature of merger
Methods of internal reconstruction
There are various steps of internal reconstruction which is defined in financial accounting For properly deploying the process of internal reconstruction following methods are generally
employed or used simultaneously:
a) Alteration of share capital as per section 94, 95 and 97 of the Companies Act.
b) Variation of Shareholders’ rights as per section 106 of the Companies Act, 1956.
c) Reduction of Share Capital as per Section 100 to 105 of the Companies Act, 1956.
d) Compromise/ Arrangement as per Section 391 to 393 and Section 394A of the companies
e) Surrender of Shares.
Alteration of Share Capital
Sub-division and Consolidation of Shares:
If authorised by its Articles, a company may, in a general meeting, decide to sub-divide or consolidate the shares into those of a smaller or higher denomination than that fixed by the Memorandum of Association, so long as the proportion between the paid up and unpaid amount, if any, on the shares continues to be the same as it was in the case of the original
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