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META DES – Different type of debenture issued by firms on the basis of Security, Tenure, Convertibility, Interest rate, Coupon rate and Redemption. Click here to read

By Priya S

Posted on June 7, 2023

Type of Debenture

Debentures, also known as debt instruments, are used by private and public entities, as well as governments, to issue loans or credit. Different types of debentures issued by a company are considered formal certifications that the issuing authority has borrowed money from the public. The borrowed amount comes with a promise to be repaid on or before the maturity period. As a result, debenture holders become creditors for an entity or organization.

The essential factor that distinguishes debentures from other debts is that they are not collateral-backed. Debentures are obtained based on a person’s creditworthiness and the goodwill of the applicant.

Is a debenture a promissory note?

A debenture is considered a type of promissory note of a long-term corporate bond. The borrower here is generally a company or an entity, and the lender is the public. They are only reputation and integrity-backed, and also specific assets of the borrower are considered.

Government-issued treasury bonds are the perfect example of debentures, as they are also risk-free to invest in.

In the Indian financial markets, there are nearly 10 kinds of debentures that are being operated, differing on the basis of the redemption date, tenure, security, rate of interest, coupon rate, etc.

A debenture is a loan instrument or an evidence bond that signifies that the company is bound to repay the amount along with the interest rate.

Different types of debentures in the Indian market:

Debentures are classified broadly into 4 distinct categories, namely:

Redeemable and Irredeemable debentures
Registered and bearer network
Secured and unsecured debentures
Convertible and non-convertible debentures

Redeemable debenture

A redeemable debenture is a type of debenture that refers to a written agreement related to a loan that must be repaid within a set period of time. Interest rates featured are comparatively less, and time frames are also extended. Precise time period, repayment method, and amount are bounded by the debenture holder to follow.

Irredeemable debenture

This category of debenture cannot be redeemed during the company’s lifetime, hence they are termed as irredeemable. They can only be redeemed at the time of dissolution of the company, in case if the company is willing to return the borrowed amount, or else they have reached the expiry/maturity date. These debenture holders are entitled to get interest on their invested amount.

Registered debenture

In this type of debenture, the crucial information of the debenture holder, such as name, address, and the amount invested, is registered at the issuing authority. Only the debenture holders are entitled to redeem registered debentures, and they are easily transferable if the provisions of the Companies Act 2013 are satisfied.

Bearer/Registered debenture

Bearer debentures can be easily transferred from one entity to another, and issuing companies do not have records of the holders. Debenture interest is paid to individuals who produce interest coupons.

Secured debenture

Those debentures are secured by some assets that holders can liquidate in case they need to recover the uncleared dues from the property that has been pledged as collateral. They are also known as mortgage debentures. Secured debenture holders have the power to reclaim the principal amount with a higher rate of interest.

Learn about resolving disputes related to creditworthiness and credit reports here.

Convertible Debenture

A convertible debenture has the power to convert all holdings into equity after a specific period. They are long-term debts issued by institutions. On the other hand, non-convertible debentures come with many security-related risks and issues.

Non-Convertible Debenture

Non-convertible debentures are not entitled to be converted into equities. They are always treated as debts, and interest can be paid monthly, quarterly, semi-annually, or annually. Non-convertible debentures have a fixed period of maturity.

Pros and Cons to know before investing in Debenture

The advantages and disadvantages associated with the type of debenture are

Pros

Cons

Regular interest is paid as per the coupon rate

Companies do not involve their profit in a debenture

Appropriate when profits, revenue and sales are positive

People who need profits at lesser risk can prefer debenture

Less costly

Borrowing debentures reduces the capacity of the company to borrow further funds.

Debentures are considered a permanent burden on the company. Hence a greater risk when earning swings.

Interest rates are taxable as per the government standards.

Why Debentures are Preferred over Shares?

Debentures have several advantages over shares, such as:

Helpful in operating and governing the entity’s ownership formation

Shareholders become part/small owners of the company, which means that the owner is highly dependent on shareholders. On the other hand, debenture holders are not shareholders, so it may not affect the company in any way.

Effective and efficient way of temporary financing

A company has two ways to raise funds: debt or equity. If a company has released IPOs and given part to shareholders, it may not come back. While debentures can be redeemed easily. Debentures can be paid back whenever the company has the amount to repay the money. Although the issuing company has the option to redeem the debenture before the maturity period.

Click here and learn about different types of working capital in India.