What is Debenture? Explain its kinds.

Question: What is Debenture? Explain its kinds.

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Answer

A Debenture is a type of debt instrument that is used by companies to raise capital. It is a loan that is made by investors to a company in exchange for a promise of periodic interest payments and repayment of the principal amount at maturity. Debentures are typically issued with a fixed term, typically ranging from 5 to 20 years, and are usually unsecured, meaning they are not backed by any specific assets of the company.

There are two main types of Debentures:

i) Secured and

ii) Unsecured

Secured Debentures: These debentures are backed by a charge or mortgage on the assets of the company. In case of default by the company, the debenture holders have a right to the assets that have been pledged as security. Secured debentures are considered less risky than unsecured debentures, and as a result, they typically offer a lower rate of interest.

Unsecured Debentures: These debentures are not backed by any specific assets of the company, and the repayment of the loan depends solely on the company's ability to generate profits and make interest and principal payments. Unsecured debentures are considered to be riskier than secured debentures and as a result, they typically offer a higher rate of interest.

There are also several subtypes of Debentures, including:

• Convertible Debentures: These debentures can be converted into equity shares of the company at a specified conversion price. Convertible debentures are typically issued at a lower rate of interest compared to non-convertible debentures, as the holder has the option to convert the debt into equity if the company's stock price increases.
  
• Non-Convertible Debentures (NCDs): These debentures cannot be converted into equity shares of the company. NCDs typically offer a higher rate of interest compared to convertible debentures, as the holder does not have the option to convert the debt into equity.
  
• Redeemable Debentures: These debentures have a maturity date and can be redeemed by the company at the end of the term. Redeemable debentures are typically issued at a lower rate of interest compared to non-redeemable debentures, as the holder has the assurance that the debt will be repaid at maturity.
  
• Irredeemable Debentures: These debentures do not have a maturity date and can only be redeemed if the company is liquidated. Irredeemable debentures are typically issued at a higher rate of interest compared to redeemable debentures, as the holder does not have the assurance that the debt will be repaid at maturity.
  
• Zero-Coupon Debentures: These debentures do not pay periodic interest to the holder. Instead, the holder receives the entire principal amount and the interest earned at maturity. Zero coupon debentures are typically issued at a discount to the face value, and the holder earns the difference between the purchase price and the face value as interest.
  

Debentures can be issued through private placement or public issues. Private placement debentures are issued directly to institutional investors and are typically used to raise large sums of capital. Public issue debentures are issued through an initial public offering (IPO) and are sold to retail and institutional investors.

Debentures are typically used by companies to raise long-term capital for investments in projects or to refinance existing debt. They are also used as a source of financing for mergers and acquisitions.

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