Marine Law Practitioner In Dhaka

A document which either creates a debt or acknowledges it, and any document which fulfils either of these conditions is a debenture”- explain & illustrate.

INTRODUCTION

A company needs more money to help the function of it and expand. To collect more money, company will sometimes try to sell its bonds to people. A company bond is simply an amount of money that is borrowed from people by the company to use on various business related expenditures. In return for using peoples’ money, the company promises to pay back the full amount of money they initially borrowed along with the interest over an extended period of time.

Companies also provide things that offer financial protection in cases they are unable to pay back the amount of borrowed money and interest in the form of immediate cash. Some of this protection comes in the form of assets such as company stock or debentures, which are basically promises that the company will eventually pay them back.

Debenture is a type of debt instrument issued to anyone who lends money to a company for a specified term and interest rate. A debenture is a long term bond that is not secured by a mortgage on specific property.[1]

DEBENTURE

Bonds unsecured by specific property are called debentures (backed only by the general credit of the issuing firm). These bonds are normally issued by large financially sound firms whose ability to service the debt is not in question.[2]

A debenture is an unsecured bond, and such it provides no lien against specific property as security for the obligation. Debenture holders are, therefore, general creditors whose claims are protected by property not otherwise pledged. In practice, the use of debenture depends both on the nature of the firm’s assets and on its general credit strength. Extremely strong companies such as Exxon Mobile often use debentures; they simply do not need to put up property as security for their debt. Debentures are also issued by weak companies that have already pledged most of their assets as collateral for mortgage loans. In this latter case the debentures are quite risky, and they will bear a high interest rate.

ISSUE OF DEBENTURES

The issue of debentures by public limited companies is regulated by Companies act 1956 and guidelines issued by SEBI on 11-6-1992.[3]

A debenture is defined as a document which either creates a debt or acknowledges it and any document which fulfils either of these conditions is a debenture. (Levy v Abercorris Slate & slab Co. [1887] Ch D. 260).

The debenture is a document issued by a company acknowledging its indebtedness under a loan and setting out its terms.

A debenture need not be, but usually made under a seal.

A debenture usually creates a fixed or floating charge on the company’s assets for security for the loan. Although a debenture may be unsecured; i.e. no charge is created on the assets of the company.

A debenture may be a single debenture, evidencing a large sum of money lent to the company by a single debenture holder, or the company can create a loan fund known as “debenture stock” which is issued to a number of debenture holders, each of whom are given a debenture stock certificate evidencing a proportion of the total loan he is entitled to.[4]

Debenture holders have no right to vote in the meeting of the company. Section 117 of the Companies Act prohibits issue of debenture with voting rights. Debentures can be issued at discount. Particulars of discount are to be filed with registrar of Companies.[5]

FEATUES OF A DEBENTURE

  • Borrowed funds- Investors who invest in the debentures of the company are not the owners of the company. They are the creditors of the company or in other words, the company borrows the money from them.
  • Fixed rate of interests- Return paid by the company is in the form of interest. Rate of interest is predetermined, but the same can be freely decided by the company. The interest on debenture is payable even if the company does not earn the profits.
  • Compulsory payment of interest- Funds raised by the company by way of debentures are required to be repaid during the life time of the company at the time stipulated by the company. As such, debenture is not a source of permanent capital. It can be considered as a long term source.
  • Security- In practical circumstances, debentures are generally secured i.e. the company offers some of the assets as security to the investors in debentures.
  • Redeemable- A redeemable debenture is the one which is to be repaid within a maturity period.
  • No voting rights- The debenture-holder is not a shareholder and cannot vote in the company’s general meetings.
  • Appointment of trustee- It’s mandatory for any company to appoint one or more debenture trustee.
  • Movable- it is a movable property.
  • Charge- it may or may not create a charge on the assets of the company.

TYPES OF DEBENTURE

A company may issue different types of debentures. These are explained below-

1.  Secured/mortgage debenture

2.      Unsecured/naked debenture

3.      Convertible debenture

4.      Non-convertible debenture

5.      Redeemable debenture

6.      Non-redeemable debenture

7.      Zero coupon rate debenture

8.      Specific coupon rate debenture

1. Secured/mortgage debenture: These instruments are secured by a charge on the fixed assets of the issuer company. So if the issuer fails on payment either of the principal or interest amount, his assets can be sold to repay the liability to the investors.

2. Unsecured/naked debenture: These instrument are unsecured in the sense that if the issuer defaults on payment of the interest or principal amount, the investor has to be along with other unsecured creditors of the company.

3. Convertible debenture: Convertible debentures are of two types-

  • Partly Convertible Debentures (PCD): A part of these instruments are converted into Equity shares in the future at notice of the issuer. The issuer decides the ratio for conversion. This is normally decided at the time of subscription.
  • Fully convertible Debentures (FCD): These are fully convertible into Equity shares at the issuer’s notice. The ratio of conversion is decided by the issuer. Upon conversion the investors enjoy the same status as ordinary shareholders of the company.

4. Non-Convertible debenture: These instruments retain the debt character and cannot be converted in to equity shares.

5. Redeemable debenture: A redeemable debenture is the one which is to be repaid within a maturity period.

6. Non-Redeemable debenture: Non-redeemable debentures cannot be redeemed in the life time of the company and only repayable upon the liquidation of the corporation.

7. Zero coupon rate debentures: these debentures do not carry a specific rate of interest. In order to compensate the investors, such debentures are issued at substantial discount and the difference between the nominal value and issue price is treated as the amount of interest related to the duration of debentures.

8. Specific coupon rate debentures: these debentures are issued with specific a rate of interest which is called the coupon rate. The specified rate may either be floating or fixed.

LAWS OF ISSUING DEBENTURES

Debentures have been defined under Section 2 (12) of the Act to include debenture stocks, bonds and any other securities of the company whether constituting a charge on the company’s assets or not.

Debentures- charge created on present immovable properties- effect of non-registration.- Held, the debentures would be ineffective so far as they sought to create a charge on present immovable properties. AIR 1962 All. 131= (1962) 32. Comp. Cas 925.[6]

In determining what is or is not a debenture within S.2(1), the court is not bound to hold that an instrument is a debenture because it is called a debenture by the company issuing it, nor to hold that it is not a debenture because it is not so called by the company. The Court must look at the substance of the instrument itself, and without the assistance of any precise legal definition, form the best opinion it can whether the instrument is or is not a debenture. A document which either creates a debt or acknowledges it and is one of a series may be dealt with as a debenture. A creation of a charge over the assets of the company issuing the debenture, though usual, is not an requisite of a debenture. There may be a mortgage debenture or a simple debenture which does not create any charge on any of the assets of the company. AIR 1946 Bom 18.[7]

An instrument which contains words pointing it to be a bond or debenture should no doubt be prima facie assumed to constitute a personal liability. But at the same time the presence of these words is not conclusive and the prima facie assumption can be displaced by showing matters throwing a different light on the instrument.(1878) 10 Ch D 530.[8]

According to the Section 292(1) (b) of the Companies Act, the power to issue debentures can be exercised on behalf of the company at a meeting of the Board of Directors. As per Section 293 (1) (d), A public company may, however, require the approval of shareholders to borrow money in excess of the aggregate of its paid up capital and free reserves. Consent of the shareholders would also be required for selling, leasing or disposing of the whole or substantially the whole of the undertaking of the company under section 293 (1) (a).

Section 117 to Sections 123 of the Companies Act, 1956 regulate the provisions relating to debentures, appointment of debenture trustees, their duties, creation of Debenture Redemption Reserve Account, liability of trustees etc.

According to the act the debenture cannot carry any voting rights. A trust deed is undertaken by the company to pay the Debenture holders, principal and interest, for the public issue of debentures where there is a large number of debenture holders.

In terms of Section 117 B, it has been made mandatory for any company making a public/rights issue of debentures to appoint one or more debenture trustees before issuing the prospectus or letter of offer and to obtain their consent which shall be mentioned in the offer document. The Trustees declare the Trust in favour of the debenture holders. The Trust Deed may grant the Trustees fixed charge over the freehold and leasehold property while a floating charge may be created over other assets. The Company shall allow inspection of the Trust Deed and also provide copy of the same to any member or debenture holder of the company on payment of such sum as may be prescribed. Failure to provide the same would invite penalties by way of fine under the Act. Any provision contained in the Trust Deed, which exempts a Trustee from liability for breach of Trust, is void.

As per Section 125 (4) of the Companies Act, registration of a charge for purpose of issue of debentures is mandatory. Section 128 stipulates that where a company issues series of debentures which is secured by charge, benefit of which will be available to all debenture holders pari passu, the company shall file the prescribed particulars in Form 10 and 13 with the Registrar of Companies for registration of charge. These forms shall be filed within 30 days after the execution of the deed.

ADVANTAGES OF DEBENTURES

1.      Debentures are usually a secured source for raising the long term requirement of funds and usually the security offered to the investors is the fixed assets of the company.

2.      The debenture-holder is not a shareholder and cannot vote in the company’s general meetings. So Control of company is not surrendered to debenture holders because they do not have any voting rights.

3.      Trading on equity is possible as debenture holders get a lower rate of return than the earnings of the company.

4.       Interest on debenture is an allowable expenditure under income tax act, hence incidence of tax on the company is decreased.

5.       Debenture can be redeemed when company has surplus funds.

6.      Another great advantage to debentures is that at the end of the lending period companies usually offer the assets in the form of stock, which can ultimately be very valuable.

7.      Debentures can be a very attractive form of investment, but only should be taken advantage of with companies that have a very high probability of being successful. Large and already successful businesses are smart forms of investments when considering buying corporate debentures.

8.      In financial terms, debentures prove to be a cheap source of funds from the company’s point of view.

DISADVANTAGES OF DEBENTURES

1.      If earnings of the company are not stable or if the demand for the products of the company is highly elastic, debentures prove to be a very risky proposition for the company. Any adverse change in the earnings or demand may prove to be fatal for the company.

2.      Cost of raising capital through debentures is high of high stamps duty.

3.      Common people cannot buy debenture as they are of high denominations.

4.      A company which requires less investment in fixed assets, such as a trading company, may find debentures as a wrong source for raising the long term requirement of funds as it does not have sufficient fixed assets to offer as security.

5.      They are not meant for companies earning greater than the rate of interest which they are paying on the debentures.

CONCLUSION

In simple words, Debenture denotes a deed or bond enclosing an acceptance of liability produced by a firm and imparting a responsibility to pay back the balance at a particular day or else at the preference of the firm also in the interim to reimburse the profits at a preset rate as well as at the period declared in the deed. In some countries, the word is used interchangeably with note, loan stock, or bond. A debenture is an instrument of debt executed by the company acknowledging its obligation to repay the sum at a specified rate and also carrying an interest. It is only one of the methods of raising the loan capital of the company. A debenture is thus like a certificate of loan or a loan bond evidencing the fact that the company is liable to pay a specified amount with interest and although the money raised by the debentures becomes a part of the company’s capital structure, it does not become share capital. The debenture holders do not have any voting right.  A debenture also signifies very clearly as to what amount of the loan would be paid back on which particular date leaving no qualms behind. Moreover a debenture ensures the payment of interest until the principal sum is completely paid back. Last but not the least; a debenture also creates a charge on the prospect of the undertaking of the company or sometimes on any class of its assets.

BIBLIOGRAPHY

1.      Fundamentals of Financial Management, Eugene F. Brigham & Joel F. Houston, 10th Edition, Thomson South-western.

2.      Financial Markets and Institutions, Jeff Madura, 8th edition, Thomson.

3.      Merchant Banking, Principles and Practice, H. R. Machiraju.

4.      An Introduction to Company law in The Commonwealth Caribbean, Rambarran Mangal.

5.       Company Law And Practice, Syed Lutfor Rahman Soiloor, Volume one, 1st Edition 2007, New Warsi Book Corporation.

6.      Regulation of Debentures Issue- An overview”, G.P.Sahi.

7.      http://indianblogger.com/types-of-debentures/

[1] Eugene F. Brigham & Joel F. Houston, Fundamentals of Financial Management, ’Debenture’, pg-287.

[2] Jeff Madura, Financial Markets and Institutions, ‘Bond Collateral’, pg-152.

[3] H. R. Machiraju, Merchant Banking, Principles and Practice, ‘debentures- definition and nature’-the issue of debenture.., pg-53.

[4] Rambarran Mangal, An Introduction to Company law in The Commonwealth Caribbean, ‘Debenture’- A debenture is defined as, pg-108.

[5] H. R. Machiraju, Merchant Banking, Principles and Practice, ‘debentures- definition and nature’-the issue of debenture.., pg-54.

[6]Syed Lutfor Rahman Soiloor, Company Law And Practice, 21.debentures, pg-35

[7] Syed Lutfor Rahman Soiloor, Company Law And Practice, 18.clause(e):general-(1), pg-172

[8] Syed Lutfor Rahman Soiloor, Company Law And Practice, 18.clause(e):general-(6), pg-173

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