What is debenture?
In law, a debenture is a document that either creates a debt or acknowledges it. In corporate finance, the term is used for a medium- to long-term debt instrument used by large companies to borrow money. In some countries the term is used interchangeably with bond, loan stock or note.
Debentures are generally freely transferable by the debenture holder. Debenture holders have no rights to vote in the company’s general meetings of shareholders, but they may have separate meetings or votes e.g. on changes to the rights attached to the debentures. The interest paid to them is a charge against profit in the company’s financial statements.
Unsecured debt backed only by the integrity of the borrower, not by collateral, and documented by an agreement called an indenture. One example is an unsecured bond.
Nature of debentures a debenture is simply a document that either creates a debt or acknowledges it. The term is used for a medium to long-term instrument used by all forms of registered companies to borrow money. The Companies and Allied Matters Act (CAMA) defines a debenture as “a written acknowledgment of indebtedness by the company setting out the terms and conditions of the indebtedness”.
Debenture-holders are creditors of the company and therefore are not members of the company. They have no voting rights regarding the company’s decisions and the interest the company pays to them is a charge against profit in the company’s financial statements. A debenture is specie of personal property and the holder can transfer it freely. As a bearer instrument, any person in possession of it can make a claim for payment.
In view of the foregoing, a debenture is a finance option which leaves an entrepreneur comfortable with the control of his business and at the same time provides less risk in terms of security, since it does not allow the debenture holder to take physical possession of the charged asset, except where it is secured.
Every company, irrespective of size, aspiring to finance new projects; modernize, expand or diversify its operations; invest in normal capital expenditure and/or working capital requirements, can take advantage of this relatively simple method of sourcing capital, and be guaranteed continued control of the business as well as less risk.
Security indifferent Jurisdiction:
In the United States, debenture refers specifically to an unsecured corporate bond, a bond that does not have a certain line of income or piece of property or equipment to guarantee repayment of principal upon the bond’s maturity. Where security is provided for loan stocks or bonds in the US, they are termed ‘mortgage bonds’.However, in the United Kingdom a debenture is usually secured.
In Asia, if repayment is secured by a charge over land, the loan document is called a mortgage; where repayment is secured by a charge against other assets of the company, the document is called a debenture; and where no security is involved, the document is called a note or ‘unsecured deposit note’.
Types of debenture:
There are two types of debentures:
1. Convertible debentures, which are convertible bonds or bonds that can be converted into equity shares of the issuing company after a predetermined period of time. “Convertibility” is a feature that corporations may add to the bonds they issue to make them more attractive to buyers. In other words, it is a special feature that a corporate bond may carry. As a result of the advantage a buyer gets from the ability to convert; convertible bonds typically have lower interest rates than non-convertible corporate bonds. Also, these are debentures which are issued on the condition that instead of redemption, they may be converted into shares in the company, at the option of either the holder or the company. The conversion will be in line with the terms stated in the agreement between the borrower and the debenture holder.
2. Non-convertible debentures, which are simply regular debentures, cannot be converted into equity shares of the liable company. They are debentures without the convertibility feature attached to them. As a result, they usually carry higher interest rates than their convertible counterparts
Redeemable and Perpetual Debentures: Generally, every debenture is redeemable. However, the Companies and Allied Matters Act created a form of debenture which is irredeemable (or redeemable on the happening of a contingency) called a perpetual debenture.
Registration of debentures and debenture holders The law requires every company which issues debentures to maintain a register of holders, showing their names, addresses, amount borrowed, premium(where charged), issue price and paid up amount; date of issue and date of redemption. (This is required to be done within 30 days of the conclusion of an agreement with the company to be a debenture holder, or within 30 days of the date of which he ceases to be one).
Apart from the company’s register, companies that issue debentures have a statutory obligation to register them publicly, irrespective of whether they a resecured or not. The registration is done at the Corporate Affairs Commission (CAC) within 90 days after the creation of the charge or debenture. Where the particulars of a charge are not registered, the charge shall be void as against the company’s liquidator or creditors.
According to another site there are different types of debenture. They are,
1. Bearer Debentures: They are registered and are payable to its bearer. They are negotiable instruments and are transferable by delivery.
2. Registered Debentures: They are payable to the registered holder whose name appears both on debenture and in the register of debenture holders maintained by the company. Registered debentures can be transferred but have to be registered again. Registered debentures are not negotiable instruments. PI registered debenture contains a commitment to pay the principal sum and interest. It also has a description of the charge and a statement that it is issued subject to the conditions endorsed therein.
3. Secured Debentures: Debentures which create a charge on the assets of the company, which may be fixed or floating, are known as secured debentures.
4. Unsecured or Naked Debentures: Debentures, which are issued without any charge on assets, are unsecured or naked debentures, The holders are like unsecured creditors and may sue the company for recovery of debt.
5. Redeemable Debentures: Normally debentures are issued on the condition that they shall be redeemed after a certain period. They can, however, be reissued after redemption under Section 121 of Companies Act 1956.
6. Perpetual Debentures: When debentures are irredeemable they are called Perpetual.
7. Convertible Debentures: If an option is given to convert debentures into equity shares at stated rate of exchange after a specified period they are called convertible debentures. In our country the convertible debentures are very popular. On conversion, the holders cease to be lenders and become owners. Debentures are usually issued in a series with a pari passu (at the same rate) clause which entitles them to be discharged rate ably though issued at different times. New series of debentures cannot rank pari passu with old series unless the old series provides so.
8. New debt instruments issued by public limited companies are participating debentures, convertible debentures with options, third party convertible debentures, and convertible debentures redeemable at premium, debt equity swaps and zero coupon convertible notes.
9. Participating Debentures: They are unsecured corporate debt securities, which participate in the profits of the company. They might find investors if issued by existing dividend paying companies.
10. Convertible Debentures with Options: They are a derivative of convertible debentures with an embedded option, providing flexibility to the issuer as well as the investor to exit from the terms of the issue. The coupon rate is specified at the time of issue.
11. Third Party convertible Debentures: They are debt with a warrant allowing the investor to subscribe to the equity of a third firm at a preferential vis-à-vis the market price. Interest rate on third party convertible debentures is lower than pure debt on account of the conversion option.
12. Convertible Debentures Redeemable at a premium: Convertible debentures are issued at face value with an option entitling investors to later sell the bond to the issuer at a premium. They are basically similar to convertible debentures but embody less risk.
Law about the debenture:
According to the Companies Act 1956,
Power to Re-issue redeemed debentures in certain cases:
(1) Where either before or after the commencement of this Act, a company has redeemed any debentures previously issued, then –
(a) unless any provision to the contrary, whether express or implied, is contained in the articles, or in the conditions of issues, or in any contract entered into by the company; or
(b) unless the company has, by passing a resolution to that effect or by some other act, manifested its intention that the debentures shall be cancelled; the company shall have, and shall be deemed always to have had, the right to keep the debentures alive for the purposes of re-issue; and in exercising such a right, the company shall have, and shall be deemed always to have had, power to re-issue the debentures either by re-issuing the same debentures or by issuing other debentures in their place.
(2) Upon such re-issue, the person entitled to the debentures shall have, and shall be deemed always to have had, the same rights and priorities as if the debentures had never been redeemed.
(3) Where with the object of keeping debentures alive for the purpose of re-issue, they have, either before or after the commencement of this Act, been transferred to a nominee of the company, a transfer from that nominee shall be deemed to be a re-issue for the purposes of this section.
(4) Where a company has, either before or after the commencement of this Act, deposited any of its debentures to secure advances from time to time on current account or otherwise, the debentures shall not be deemed to have been redeemed by reason only of the account of the company having ceased to be in debit whilst the debentures remained so deposited.
(5) The re-issue of a debenture or the issue of another debenture in its place under the power by this section given to, or deemed to have been possessed by, a company, whether the re-issue or issue was made before or after the commencement of this Act, shall be treated as the issue of a new debenture for the purposes of stamp duty, but it shall not be so treated for the purposes of any provision limiting the amount or number of debentures to be issued. Provided that any person lending money, on the security of a debenture re-issued under this section which appears to be duly stamped may give the debenture in evidence in any proceedings for enforcing his security without payment of the stamp duty or any penalty in respect thereof, unless he had notice or, but for his negligence, might have discovered, that the debenture was not duly stamped; but in any such case the company shall be liable to pay the proper stamp duty and penalty.
(6) Nothing in this section shall prejudice –
(a) the operation of any decree or order of a Court of competent jurisdiction pronounced or made before the twenty-fifth day of February, 1910, as between the parties to the proceedings in which the decree or order was made;
(b) where an appeal has been preferred against any such decree or order, the operation of any decree or order passed on such appeal, as between the parties to such appeal; or
(c) Any power to issue debentures in the place of any debentures paid off or otherwise satisfied or extinguished, reserved to a company by its debentures or the securities for the same.
According to the Companies Act 1956 Section 68. Penalty for fraudulently inducing persons to invest money. Any person who either by knowingly or recklessly making any statement, promise or forecast which is false, deceptive or misleading or by any dishonest concealment of material facts, induces or attempts to induce another person to enter into, or to offer to enter into,
(a) Any agreement for or with a view to acquiring, disposing of, subscribing for, or underwriting shares or debentures; or
(b) any agreement the purpose or pretended purpose of which is to secure a profit to any of the parties from the yield of shares or debentures, or by reference to fluctuations in the value of shares or debentures, shall be punishable with imprisonment for a term which may extend to five years, or with fine which may extend to 1[one lakh rupees], or with both.
When debentures to be issued:
(1) After the receipt of the inspection and completion certificate, the council may issue a debenture payable to the Minister of Finance with respect to the funds to be loaned by the local municipality.
Amount of debentures
(3) The amount of each debenture issued to the Treasurer of Ontario shall be in the sum of $100 or any multiple thereof and shall not exceed the amount of the loan or loans with respect to which the debenture is issued nor 75 per cent of the total cost of the drainage work or works with respect to which the debenture is issued.
Interest rates on debentures
(4) The interest rates applicable to debentures, both before and after maturity, issued under this Act shall be determined from time to time by the Lieutenant Governor in Council.
Term of debentures
(5) The term of the debentures shall be for a period of ten years and shall be repayable by equal annual installments of principal and interest each due on the anniversary date of the debenture.
(6) The debentures shall provide that the municipality may at any time prepay the whole amount of principal and interest owing at the time of such prepayment.
Date of debentures
(7) Each debenture shall be dated the first day of the month following the month in which it is delivered to the Treasurer of Ontario.
Offer to sell
(8) An application requesting the Treasurer of Ontario to purchase a debenture shall be by way of an offer to sell in the prescribed form and shall accompany the debenture delivered to the Treasurer of Ontario.
Purchase and validation of debentures
6. The Treasurer of Ontario may purchase, acquire and hold debentures issued under the authority of this Act and pay therefore out of the Consolidated Revenue Fund.
Terms on which council shall lend money
7. The council shall lend the money so borrowed under the authority of section 2 in sums of $100 or multiples thereof for a term of ten years at a rate of interest equal to that set out in the debenture by which the funds are borrowed, but the amount loaned to any one applicant shall not exceed the amount applied for nor 75 per cent of the total cost of the drainage work with respect to which the loan is made.
8. The council shall impose by by-law in the prescribed form and, subject to section 13, shall levy and collect for the term of 10 years, over and above all other rates, upon the land in respect of which the money is lent, a special equal annual rate sufficient to discharge in 10 years the principal and interest of the money lent, and the special rates imposed shall have priority lien status, as described in section 1 of the Municipal Act, 2001 or section 3 of the City of Toronto Act, 2006, as the case may be, and shall be added to the tax roll.
Discharge of indebtedness by owner
13. The owner of agricultural land in respect of which money has been borrowed under this Act may at any time obtain a discharge of the indebtedness by paying to the treasurer of the local municipality the amount outstanding together with accrued interest at the rate at which the funds were borrowed, and any amounts so paid shall be forthwith remitted by the treasurer of the local municipality to the Treasurer of Ontario or his or her assignee who shall apply them towards payment of the debentures of the local municipality or upper-tier municipality.
Allowance on renewal of certain debentures:
55. When any duly stamped debenture is renewed by the issue of a new debenture in the same terms, the Collector shall, upon application made within one month, repay to the person issuing such debenture, the value of the stamp on the original or on the new debenture, whichever shall be less: Provided that the original debenture is produced before the Collector and cancelled by him in such manner as the Government may direct.
Explanation-A debenture shall be deemed to be renewed in the same terms within the meaning of this section notwithstanding the following changes:-
(a) The issue of two or more debentures in place of one original debenture, the total amount secured being the same;
(b) The issue of one debenture in place of two or more original debenture, the total amount secured being the same.
(c) The substitution of the name of the holder at the time of renewal for the name of the original holder; and
(d) The alteration of the rate of interest or the dates of payment thereof.
So, the issue of debentures by public limited companies is regulated by Companies Act 1956. Debenture is a document, which either creates a debt or acknowledges it. Debentures are issued through a prospectus. A debenture is issued by a company and is usually in the form of a certificate, which is an acknowledgement of indebtedness. They are issued under the company’s seal. Debentures are one of a series issued to a number of lenders.
The date of repayment is invariably specified in the debenture. Generally debentures are issued against a charge on the assets of the company. Debentures may, however, be issued without any such charge. Debenture holders have no right to vote in the meetings of the company.
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