Debentures - An Overview

Debentures: An Overview

Author: Aayush Sharma
Student, New Law College, BVDU, Pune

Introduction

There is a need for finances at the heart of any firm. That money is required to ensure the proper operations of a business. Companies employ a variety of strategies to raise capital for this purpose, but debentures are one viable source for long-term solutions.

Debentures are longterm loans at their essence.The firm generally pays debenture holders interest at the end of each year, but if it is unable to pay either the interest or the principal amount of the loan, the creditors can request that their money be returned by sharing the company’s assets and properties.

Debenture’s Definition

The word ‘debenture’ comes from the Latin word ‘debere,’ which means ‘to borrow.’ It involves a formal agreement for principal repayment after a certain period or at intervals at the company’s discretion, as well as interest payment at a fixed rate.

Characteristics Of Debentures

  1. Because a debenture is a type of debt, debenture holders aren’t the company’s owners, so they don’t have a say in how the company is run.
  2. The holder of a debenture does not have to worry about the company’s earnings or losses because they are paid a fixed rate of interest on the principal amount.
  3. In the event of liquidation, debenture holders can sell the company’s linked property and receive their money back.
  4. A debenture is a type of certificate of indebtedness that is issued by the firm itself.

5 The debenture holders are essentially the company’s creditors.

  1. Debenture holders are unable to vote at any company meeting.
  2. The firm is required to repay the company’s debenture holders in accordance with existing legislation, ensuring that the debenture holders do not lose any money if the company fails.

Types Of Debentures

Certain characteristics, such as priority, record, performance, convertibility, and security, might lead to the issuance of various types of debentures.

  1. Based on Priority
  • First mortgaged debentures

Debentures with first priority above all other debentures issued by the corporation are known as first mortgaged debentures. Such a preference is asserted when a firm is liquidated and its assets are dispersed among its shareholders.

  • Debentures with a Second Mortgage

After the first mortgaged debentures, the second mortgaged debenture has second priority over the company’s assets at the time of liquidation. The second mortgaged debenture holders will be able to recover their main amount from the corporation only after the first mortgaged debenture holders have been satisfied.

  1. Relying on Records
  • Registered that are registered

A registered debenture is a debt instrument that is issued by a company.

In the case of a registered debenture, the corporation enters the name, address, number of debentures, and other information about the holding in the debenture registry. When debentures are transferred from one holder to another, the transfer is noted in the register of transfer, which is kept alongside the register of debenture holders.

  • Debentures that aren’t registered

Bearer debentures are sometimes known as unregistered debentures. Unlike registered debentures, the corporation does not keep track of these instruments, and the principal and interest are paid to the holder of the instrument rather than the name written on it.

  1. Performance-based
  • Redeemable Debentures

Redeemable debentures are those for which the redemption date is specified in the debenture certificate issued, and on that date, the company is required to repay the principal amount to the debenture holder as a legal requirement.

  • Non-Redeemable Debentures.

Irredeemable debentures last indefinitely, and unlike redeemable debentures, there is no deadline for the corporation to pay debenture holders. Only when the corporation goes bankrupt does it become redeemable.

  1. On the basis of Convertibility
  • Debentures that are fully convertible

Debenture holders with fully convertible debentures have the opportunity to convert their debentures into equity shares of the company at a later date. The conversion ratio, post-conversion rights of debenture holders, and the conversion trigger date are all defined at the time these debentures are issued.

  • Debentures that are partially convertible

Debentures that are partially convertible can be split into two categories. The first component consists of convertible debentures that can be converted into business equity shares, while the second part consists of non-convertible debentures that must be redeemed at the end of their term. The holder of a debenture is offered the option of partially converting his or her debt into business shares. Optionally convertible debentures are partially convertible debentures that are partially convertible.

  • Non-Convertible Debentures

Non-convertible debentures are those that do not have the option of being converted into firm equity shares. At the end of the maturity period, these debentures are redeemed.

  1. On the basis of safety
  • Debentures with a Guarantee

Secured debentures are debentures that are issued in order to create a charge over the company’s assets. The charge imposed on the debentures can be either fixed or floating. According to the Companies Act of 2013, any charge that is formed must be registered with the Registrar within 30 days of its inception.

  • Debentures with No Security

Unsecured debentures, unlike secured debentures, are issued by the firm without creating a charge on the company’s assets. In other words, these debentures provide no protection to the investor in the event that the corporation is unable to pay the debt incurred.

Legal Provisions of Debentures

A debenture is the most significant instrument and way for a corporation to raise loan money. A debenture is similar to a loan certificate or a loan bond in that it demonstrates that the firm is obligated to pay a defined amount plus interest, and while the money raised via debentures becomes part of the company’s capital structure, it does not become share capital.

SEBI Guidelines on Debentures

SEBI Issue of Capital and Disclosure Requirement (ICDR) Regulations 2009 are detailed in the SEBI Regulation Act 2009 as equity shares and convertible instruments. The word “convertible securities” refers to a bond that, with or without the approval of the debenture holder, can be exchanged for or converted into equity shares of a firm beyond its maturity date. It also covers convertible preference shares and convertible debt instruments. As a result, the rules outlined below apply not just to stock securities but also to public convertible debt instrument offerings.

Companies Act of 2013 (Share Capital and Debentures) Regulations, 2014

  • The corporation is not permitted to issue debentures with voting rights under section 71(2). [1]Secured debentures must adhere to the terms and conditions laid forth.
  • A corporation may issue secured debentures if certain criteria and circumstances are met, pursuant to Section 71. (3)[2].

Redemption of debentures

The term “redemption of debentures” refers to a corporation repaying the principal amount of a debenture in compliance with the debentures’ terms and conditions. Until the debentures are returned, the firm is not freed or absolved of its responsibility.

The following are some examples of different ways for it:

1) Instalments– In this situation, the debenture redemption payment is payable in instalments on specific dates throughout the debenture’s tenure. The total liability of the corporation is divided by the number of years.

2) Open market purchase: When a corporation purchases its own debentures for the purpose of cancellation, it is known as open market redemption.

3) Lump sum payment– The corporation redeems the debenture by paying a lump sum payment in accordance with the terms of issue at the end of the stipulated time period.

4) By converting into shares or creating new debentures– The corporation redeems its debentures in this circumstance by converting them into shares or creating a new debenture class. Depending upon the profit perception of debenture holder , he can convert them into shares.

Conclusion

Debentures are a long-term strategy for a firm to raise funds. It differs significantly from equity or other types of shares. The main distinction is that when a person purchases business shares, he or she becomes a part-owner of the firm, whereas when an individual purchases company debentures, he or she becomes a creditor of the company. We might conclude that a debenture is a type of personal debt that a firm receives. As a result, the corporation is obligated to return the loan in line with the interest and other terms and circumstances stipulated.

[1] Companies Act 2013, section 71(2)

[2] Companies Act 2013, Section 71(3)

 

 

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Aayush Sharma
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