Meaning and Legal Basis of Debentures
Debentures are an important financial instrument used by companies to raise long-term funds without diluting ownership. Under Section 2(30) of the Companies Act, 2013, a debenture includes debenture stock, bonds, or any other instrument issued by a company evidencing a debt, whether secured or unsecured. In simple words, debentures represent borrowed capital, and the company issuing them undertakes an obligation to repay the principal along with interest. Debenture holders are creditors of the company and not owners, which means they do not enjoy voting rights or management control. The interest on debentures is usually fixed and payable irrespective of the company’s profits. Because of this certainty of return, debentures are often preferred by risk-averse investors. Companies, on the other hand, benefit by raising funds while retaining control over management.
Types and Key Characteristics of Debentures
Debentures may be classified on various bases such as security, convertibility, and redemption. Secured debentures are backed by a charge on the assets of the company, while unsecured debentures depend solely on the creditworthiness of the issuer. As per Section 71 of the Companies Act, 2013, debentures may be issued as convertible or non-convertible. Convertible debentures can be converted into equity shares after a specified period, subject to approval by shareholders through a special resolution. Non-convertible debentures remain purely debt instruments until redemption. Debenture holders receive fixed interest and enjoy priority over shareholders in repayment during winding up. These features clearly distinguish debentures from shares and highlight their nature as a loan to the company.
Rights and Protection of Debenture Holders
The Companies Act, 2013 provides statutory protection to debenture holders to ensure their interests are safeguarded. Under Section 71(5), certain companies are required to create a Debenture Redemption Reserve (DRR) to secure funds for repayment. Further, Section 71(6) mandates the appointment of a Debenture Trustee when debentures are issued to the public. The trustee acts as a watchdog and ensures that the company complies with the terms of issue. Debenture holders have the right to timely payment of interest, redemption of principal, and access to relevant financial information. These legal safeguards enhance investor confidence and make debentures a reliable instrument for long-term investment.
Real-Time Example of Debentures
A practical example of debentures can be seen in Indian companies issuing Non-Convertible Debentures (NCDs) to raise capital for infrastructure, power, or financial projects. For instance, large public sector undertakings and reputed private companies regularly issue secured NCDs to the public. Investors subscribe to these instruments to earn stable interest income, while companies use the funds for expansion without issuing new shares. Many such debentures are listed on stock exchanges, allowing investors liquidity. This real-time usage demonstrates how debentures serve as an effective bridge between corporate financing needs and investor demand for fixed returns.
Mnemonic to Remember Debentures
A simple mnemonic to remember debentures is “DIRT”.
D – Debt instrument, showing that debentures represent borrowed money.
I – Interest payable, meaning a fixed return is paid irrespective of profits.
R – Redeemable, indicating repayment after a fixed period.
T – Trustee protection, highlighting the role of debenture trustees under the law.
This mnemonic helps students and exam aspirants quickly recall the essential legal and practical features of debentures under company law.
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