Debentures are fixed-income securities that offer the investor a fixed rate of return throughout the duration of the product. The Latin verb “debere,” which means to borrow, is where the word “debenture” originates. Debentures are typically utilized as a medium- to long-term loan to raise cash and are classified as debt by the companies issuing them. Depending on the needs of the organization, there are various sorts of debentures. It can also be divided based on factors such as convertibility, registration, redemption, tenure, and coupon.
A firm with a good credit rating can raise money at lower interest rates than a company with a poor credit rating since the interest rate or coupon of the debenture is essentially tied to the creditworthiness of the underlying company. Debenture interest is categorized as a cost in a company’s financial statements. Therefore, a corporation typically pays the interest on the debentures prior to paying a dividend to its investors. Even if the business is losing money, the interest is still paid out.
Benefits of Debentures :
Benefits to Debenture Issuers –
- Economical loan: The rate of return for equity and preference share owners is higher than the interest payment on the debenture.
- There is no loss of management control over the day-to-day operations of the company because the issuance of debentures does not reduce the organization’s ownership interest.
- Tax-friendly: Because interest is paid prior to dividends, it is classified as an expense, which lowers the organization’s tax liability.
Benefits to Investors –
- Regular interest income: The investor receives interest income based on the frequency of coupons payable at the coupon rate specified in the debenture’s term sheet.
- Payment preference: In the event that the company’s assets are liquidated due to bankruptcy, debenture holders will be paid before equity stockholders because they are considered creditors.
- Regulation: The Securities and Exchange Board of India (SEBI), the market regulator, is in charge of overseeing the issue of debentures in India. As a result, these debentures are subject to strict regulations that safeguard investors.
How do Debentures Work?
The debenture issuer decides on an interest rate or coupon based on the needs and credit standing of the business or issue. Then, this is planned to go on sale during the offer period, when investors can buy the securities directly from the issuer or through the distribution network, which includes websites like Yubi, on the primary market.
After being sold, the debenture is posted on the secondary market and exchanged based on supply and demand.