A company requires funds at various junctures- when starting business, when expanding business, for a particular project and so on.  A joint stock company can issue equity to raise the required funds.  It can also opt for borrowing from the public by issuing debentures, accepting deposits and so on.

What is a Debenture?

A debenture is a certificate issued by a company, bearing its seal, acknowledging a debt due to its holder.  It is similar to a bond, the difference being that a bond can be issued without a predetermined rate of interest.  A debenture has to have the rate of interest specifically mentioned.

Some Features of a Debenture:

  • A debenture represents a debt owed by the company and debenture holders are the company’s creditors.
  • Debenture holders are paid a fixed rate of interest by the company.
  • A debenture is generally repayable after a fixed period.
  • A debenture holder has no voting rights regarding any matter pertaining to the company.

Various Types of Debentures:

On the basis of Security:

  • Secured or mortgage Debentures: These debentures are secured by a fixed or floating charge on the assets of the company.
  • Unsecured or Naked Debentures: These debentures do not have any charge on the company’s assets.

On the basis of Convertibility:

  • Convertible Debentures: These debentures can be converted to equity or preference shares in the future at the discretion of the company.
  • Non-convertible Debentures: These debentures cannot be converted to any other instrument.

On the basis of Transferability:

  • Registered Debentures: When the name of the debenture holder is specifically mentioned on the debenture certificate, it is called a registered debenture.  This is not a negotiable instrument.
  • Bearer or Unregistered Debentures: These debentures do not have any name on the certificate and are negotiable instruments.

On the basis of Redeem Ability:

  • Redeemable Debentures: These debentures can be redeemed by the company after a specified period.
  • Irredeemable Debentures: These debentures will not be repaid during the lifetime of the company and are repayable only in the event of liquidation of the company.

Differences between a Share and a Debenture:

  • A share is a part of ownership capital while a debenture is a part of borrowed capital.
  • A shareholder has got voting rights in matters pertaining to the company.  A debenture holder has no such rights.
  • A shareholder is paid dividend while the debenture holder is paid interest.
  • Dividends are generally paid to shareholders only when the company makes profits.  Debenture interest has to be paid irrespective of whether the company makes profit or loss.
  • A shareholder has no charge on the assets of the company.  A debenture holder generally has a charge on the assets of the company.
  • On the event of liquidation of the company, the claim of the debenture holders comes prior to the claim of shareholders.

Debentures may be issued on par, at a premium are at a discount.

Redemption of a Debenture May Take Place:

  • On maturity or even earlier depending on the terms of the debenture
  • By purchase in the open market, generally when the market price is below the par value
  • On conversion to a share