What is debenture?
The term debenture is derived from the Latin word “debere” which means “to owe a debt”. A debenture may, be defined as document issued by the company as an evidence of debt. It is the acknowledgement of the company’s indebtedness to its holders.
Features of debentures
The following are the features of debentures.
1. Debenture-holders are entitled to periodical payment of interest at an agreed rate.
2. They are also entitled to redemption of their capital as per the agreed terms.
3. They have no voting rights.
4. Usually debentures are secured by charge on or mortgage of the assets of the company.
5. Debenture holders have the right to sue the company for any unpaid dues.
6. They can enforce the security by sale in case of default.
7. They can apply for winding up of the company to safeguard their interests.
Kinds of Debentures:
Debentures may be classified as under:
1. Redeemable debentures: These debentures are to be repaid within certain specified period as per the terms of their issue.
2. Irredeemable debentures: These are perpetual debentures. The company has no obligation to make the payment of the principal of these debentures during its life time. These debentures are repaid in case of winding up of the company.
3. Bearer debentures: These debentures are transferable by mere delivery. The name of the holder is not registered with the company.
4. Registered debentures: These debentures are not transferable by mere delivery. In this type of debenture, the names of the debenture holders are registered with the company.
5. Naked debentures: These debentures are issued without any charge on company’s assets, and they are not mortgaged. The issue of these debentures is not much popular.
6. Secured or Mortgaged debentures: These debentures are secured by a charge on company’s assets. This charge may be fixed or floating.
Advantages of debentures
The following are the advantages of debentures:
1. Secured investments: Debentures provide greatest security to the investors. They make a very good appeal to the conservative minds.
2. Fixed return: They guarantee a fixed rate of interest.
3. Stable prices: Their prices are more stable as compared to shares because the changing monetary conditions affect the price movement of the debentures very little.
4. Non-interference in management: The debenture holders do not interfere in the management of the company.
5. Economical: It is a cheaper method of raising finance. Lower rate of interest further makes them more economical.
6. Availability of funds: The companies can raise money through debentures easily compared to equity and preference shares.
7. Regular source of income: The investors get fixed and regular interest, whether the company earns profit or not.
Disadvantages of debentures
The following are the limitations of Debentures.
1. Permanent burden of interest: Interest on debentures is always cumulative. It is to be paid irrespective of the profits or otherwise of the company. During the period of depression, it becomes a heavy burden.
2. Limits company’s credit: Since in most of the cases, the assets of the company are mortgaged with the debenture holders as a security against their advances, the credit worthiness of the company falls in the eyes of the public as well as the banks. Borrowings from other sources becomes difficult.
3. No right to participate in company management: Ordinarily debenture holder do not enjoy any voting rights in the companies. They have no interest in the election of directors. They do not have representation in the management of the affairs of the companies.