Before knowing the types of debentures it will be necessary to know the meaning of debenture. Debenture is a long term loan which company issue on fixed amount of interest. Generally, large companies issues debentures for taking financial help from the public. The categorization of debentures depends upon their redemption, term, convertibility, security, mode of redemption, type of interest rate, demonstrability, and so on.
What are important factors relating to debentures?
- On issuance of debenture as a loan a certificate of debt is issued which is known as debenture deed, and this deed is issued under the common seal of the company.
- Debenture is issued at the fixed rate of interest and this interest has to be paid yearly or half yearly.
- The interest paid on debentures is paid out of the profit and the debenture holder became the creditor of the company and they have no voting rights in the company.
- The amount paid as interest on debentures is a tax deductable amount.
- As debentures are credit of the company, the company have to pay the interest even in the condition of losses.
Why company issue debentures over equity?
Whenever the company runs out of money they issue equity shares or debentures but there are some benefits of issuing debenture over equity shares, some of them are as follow:
- Equity shareholders are owners of the company whereas debenture holders are creditors of the company.
- Equity shareholders have voting rights in the management of the company whereas debenture holders have no voting right over the company.
- Equity shareholders get dividend in returns (only in case of profits) whereas debenture holders get interest in return (even in case of loss) and also tax deductible.
- Issuance of debentures is cheaper mode to raise fund for the company.
What are the types of debentures?
- Secured Debentures: As the name suggests something which is safe, secured debentures are those debentures which are issued against the security of assets of the company i.e. if company will not able to pay the interest on the debentures then the interest will be paid by selling those assets. It means in this kind of debentures, debenture holders are completely free of risk and that is why this is the most issued type of debenture in India.
- Unsecured Debentures: Unsecured debentures are issued without any security of assets, as there is no security in this type of debenture and are risky in nature they are not issued or issued in very less quantity in India.
- Redeemable Debentures: Redeem means to “buy back”. Redeemable debenture means those debentures which are paid after certain period of time. At the time of issuance it is decided that when these debenture will be paid off and after that the liability of the company will end. The repayment may be done in lump sum amount or on fixed instalments.
- Irredeemable Debentures: Irredeemable debentures are those debentures which are not paid back. They remain the liability of the company till the company exist. The existence of these kinds of debentures is perpetual.
- Fully Convertible Debentures: Convertible means that can be converted so the fully convertible debenture means the debentures which can be converted into the equity if the debenture holder wants to do so. After conversion debenture holder is no more the creditor of the company. He will have all rights same as shareholders have in the company such as voting right, decision making rights etc.
- Partly Convertible shares: Partly convertible shares are the share in which company gave an option to the debenture holder to change half of its debentures into the equity. If the debenture holders coverts its debentures into the shares he become the shareholder as well as creditor of the company. This sort of debentures are the best type of debentures for the holder as well as for the company as in this type the risk is minimised and the holder will get some ownership rights and for the company, it will get some deduction as well as deduction in liability( the burden of paying interest will be deducted)
- Non Convertible Debentures: Non Convertible debentures are the debentures which cannot be changed into the equity shares. These debentures will be matured at the time fixed during issuance or as per the prescribed procedure. This form of debenture is the most common type of debentures.
Debentures are the debt of company which they have to pay after sometime and during the issuance and repayment time the company has to pay certain amount of interest as income for the debenture holder out of that money. The interest deducted by the company on debentures is tax deductable it means it is charged on the profit of the company.
Associate at Aggarwals & Associates, S.A.S. Nagar, Mohali