Debentures¶
A debenture is a document issued by a company that serves as a certificate acknowledging a debt. According to the Companies Act 2013, the term "debenture" includes debenture stock, bonds, and any other securities of a company, whether or not they constitute a charge on the company's assets.
When a company needs to borrow a significant amount of funds for an extended but fixed period, it can raise capital from the general public by issuing loan certificates known as debentures. These debentures are offered to the public for subscription in a manner similar to shares. A debenture is issued under the common seal of the company and represents a written acknowledgment of the money borrowed, specifying terms and conditions such as the rate of interest, repayment period, security, and more.
Advantages of Debentures¶
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Fixed Income: Investors seeking fixed income with lower risk often prefer debentures.
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No Dilution of Control: Debentures do not carry voting rights, so raising funds through them does not dilute the control of equity shareholders over the management.
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Cost-Effective Financing: Financing through debentures is typically less costly compared to raising capital through preference or equity shares, as the interest payments on debentures are tax-deductible.
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Preservation of Profits: Debentures do not involve the distribution of profits to shareholders, which can be advantageous in certain situations.
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Stability: Debentures are suitable when a company's sales and earnings are relatively stable.
Disadvantages of Debentures¶
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Reduced Borrowing Capacity: Each company has a limited borrowing capacity, and issuing debentures reduces the company's ability to further borrow funds.
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Repayment Obligations: With redeemable debentures, the company must make provisions for repayment on specified dates, even during financial difficulties.
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Earnings Impact: Debentures impose a permanent financial burden on a company's earnings, which can be risky when earnings fluctuate.
Types of Debentures¶
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Secured and Unsecured: Secured debentures create a charge on the company's assets, while unsecured debentures do not have any security on the company's assets.
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Registered and Bearer: Registered debentures are recorded in the register of debenture holders, requiring a formal transfer process. Bearer debentures are transferable by mere delivery.
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Convertible and Non-Convertible: Convertible debentures can be converted into equity shares after a specified period, while non-convertible debentures cannot be converted into equity shares.
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First and Second: First debentures are repaid before other debentures, while second debentures are paid back after the first debentures have been settled.
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