What are Debentures?
Debentures are a type of debt instrument that companies issue to raise capital. They are essentially a loan that the company takes from the public. Unlike shares, debentures do not provide the holder with ownership interest in the company. Instead, they offer a fixed rate of interest and a promise of repayment at a specified date in the future.
Characteristics of Debentures
Fixed Rate of Interest
Debentures offer a fixed rate of interest to the investors. This interest is paid to the debenture holders before any dividends are paid to the shareholders. The interest rate is often higher than what is offered by banks, making debentures an attractive investment option for those seeking regular income.
The principal amount of the debenture is repaid at a predetermined date, known as the maturity date. This can range from a few years to several decades, depending on the terms of the debenture.
Debentures can be either secured or unsecured. Secured debentures are backed by specific assets of the company. In case the company fails to repay the debenture, these assets can be sold to repay the debenture holders. Unsecured debentures, on the other hand, do not have any collateral backing them.
Uses of Debentures
Companies use debentures to raise long-term funds for various purposes such as expansion, modernization, and meeting working capital requirements. Since debentures do not dilute the ownership of the company, they are a preferred method of raising funds, especially for companies that want to avoid issuing more shares.
Investing in Debentures
Investing in debentures can be a good way to earn a regular income, especially for risk-averse investors. However, it is important to understand the risks involved. The main risk is the credit risk of the issuing company. If the company goes bankrupt, the debenture holders may lose their investment. Therefore, it is important to assess the financial health of the company before investing in its debentures.
Debentures are an important financial instrument that companies use to raise capital. They offer a fixed rate of interest and a promise of repayment, making them an attractive investment option for many investors. However, like all investments, they come with their own set of risks and it is important to do thorough research before investing in them.