A debenture is a debt instrument issued by a company to acknowledge a loan. Under Section 2(30) of the Companies Act, 2013, a debenture includes debenture stock, bonds, or any other instrument of a company evidencing a debt, whether constituting a charge on the assets of the company or not.
In simpler terms, while a shareholder is an owner of the company, a debenture holder is a creditor. Debentures typically carry a fixed rate of interest (called a coupon rate) which must be paid regardless of whether the company makes a profit.
Kinds of Debentures
Companies issue various types of debentures to suit the needs of different investors and their own financial requirements. They can be classified as follows:
1. On the Basis of Security
Secured (Mortgage) Debentures: These are secured by a "charge" on the fixed assets of the company. If the company fails to repay, the holders can recover their money by selling the secured assets. Under the 2013 Act, most debentures must be secured.
Unsecured (Naked) Debentures: These carry no charge on the company’s assets. The holders are treated as ordinary unsecured creditors in the event of liquidation.
2. On the Basis of Convertibility
Convertible Debentures: These give the holder the option to exchange their debentures for equity shares of the company after a specified period.
Fully Convertible (FCDs): The entire value is converted into shares.
Partly Convertible (PCDs): A portion is converted into shares, while the rest remains as debt.
Non-Convertible Debentures (NCDs): These cannot be converted into shares. They are pure debt instruments and usually offer a higher interest rate to compensate for the lack of conversion benefits.
3. On the Basis of Permanence (Redemption)
Redeemable Debentures: These are issued for a specific period, at the end of which the company must repay the principal amount to the holders.
Irredeemable (Perpetual) Debentures: These have no fixed date for repayment. They are repayable only upon the winding up of the company or on the occurrence of a specific extreme event. (Note: Indian law generally restricts the issuance of perpetual debt by companies).
4. On the Basis of Negotiability (Registration)
Registered Debentures: These are made out in the name of a specific person. Their names and addresses are recorded in the company’s Register of Debenture Holders. Transferring these requires a formal transfer deed.
Bearer Debentures: These are like currency; they are payable to the "bearer" or whoever holds the document. They are transferable by mere delivery, and the company does not maintain a record of the individual owners.
Key Provisions under the Companies Act, 2013
Voting Rights (Section 71): No company is permitted to issue any debentures that carry voting rights. This ensures that creditors do not interfere in the internal management of the company.
Debenture Redemption Reserve (DRR): Companies are required to create a DRR account out of their profits to ensure there are sufficient funds available to repay the debt upon maturity.
Debenture Trustee: If a company issues a prospectus to more than 500 people, it must appoint a Debenture Trustee to protect the interests of the debenture holders.
Comparison: Shares vs. Debentures
| Feature | Shares | Debentures |
| Status | Holder is an Owner. | Holder is a Creditor. |
| Return | Dividend (paid only out of profit). | Interest (a charge against profit). |
| Voting Rights | Usually carries voting rights. | No voting rights permitted. |
| Priority | Paid last during winding up. | Paid before shareholders. |
| Security | Never secured. | Usually secured by a charge on assets. |
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