A company is an enormous association of a lot of persons who operate a business to gain profits. Effective maintenance and running of a company is a huge task which has to be fulfilled with a lot of efforts and responsibility. Companies have to undertake various operations to manage the affairs of the company. To gain profits companies have to do optimum and efficient use of their capitals. All these require plethora of funds and finances which are often raised by company through loans and borrowings. Debentures are a kind of security against the loan borrowed. It can be defined as a written instrument or certificate providing evidence of a debt taken by the company.[i] The word ‘debenture’ itself is a derivation of the Latin word ‘debere’ which means to borrow or loan. [ii] “The definition of debenture is so wide as to include any security of a company whether constituting a charge on the company’s assets or not”.[iii]
Types of debentures
Debentures of the company can be classified into various ways-
On the basis of security[iv]
- Secured debentures– The debentures that are secured using the assets which are kept as collateral of the company. If the company defaults in paying loan, the loan is reclaimed after selling the debenture. The charge created over the debentures may be fixed or maybe floating.[v]
- Unsecured debentures – These are not issued against the assets of the company. There is no collateral attached with the loan. In case of default, the debenture holder can only approach tribunal (which is an adjudicating authority in disputes related to company law)[vi] to reclaim back the loan amount.
On the basis of redeemability
- Redeemable debentures– These debentures are to be paid at the expiry of the term or through periodic instalments. The date of redemption is fixed. The company can default in redemption is liable for the same
- Irredeemable debentures – The Company can pay the amount on its discretion but there is payment of instalments periodically. There is no fixed time of redemption. There arises no liability under section 71(10)[vii] of the act until the company defaults on regular payment of instalments.
On the basis of registration
- Registered debentures–The debenture is made and registered in the name of particular individual who is registered as the debenture holder. His name appears on the written instrument.
- Bearer debentures – the company does not hold the record of debenture holder. They are transferable by delivery.
On the basis of convertibility-
- Non-convertible debentures – These debentures cannot be converted into shares or any equity. They are mandated to remain debentures till the redemption of loan.
- Partly convertible debentures – The Company has the option to partially convert the debentures according to its will.
- Fully convertible debentures – These debentures can be completely converted into shares under section 71(2) of the Act.
Provisions governing debentures under Companies Act, 2013
- Section 2(30) of Companies Act, 2013 which contains definition of debentures.
- Section 44 which talks about nature of debentures.
- Section 71 which has detailed provisions regarding debentures and their issuance
Salient features of the Act[viii]
- Debenture has to be a movable property transferrable in the manner as provided in section 44. [ix]
- The company is permitted to issue debenture under section 71 of the Act. The company can also convert these into shares at the time of recovery if the same has been approved in the general meeting by passing a special resolution[x]. The debentures cannot be equated as shares unless they are converted as claimed by the judiciary.[xi] The expenditure incurred on such conversion is revenue expenditure.[xii]
- Voting rights – Companies cannot issue debenture giving voting rights as stated in section 71(2) of the Act. Debenture holders are merely the creditors[xiii] of the company and do not hold any right in decision making of the company.
- The companies are obligated to reserve money for redemption of loans as the debenture redemption reserve which is created out of profits of the company and this amount has to be unutilised except for repayment of loans against debenture. However in 2019 the removed Debenture Redemption Reserve requirement for Listed Companies, NBFCs and HFCs.[xiv] Moreover the companies have to only keep the amount payable and not extra than required. [xv]
- The company cannot issue a prospectus or make an offer for issuance of debentures until the company has made a debenture trustee for the same. The company has to appoint a debenture trustee who will make sure that the rights and interests of debenture holders are protected.
- The debenture trustee can approach the tribunal if it finds that the assets are insufficient to repay the loan amount and tribunal after appropriate hearing may restrict the company from securing more loans that may add to its liability. The debenture holders are only entitled to approach the court in case of any dispute.[xvi]
- The debenture holders can approach the tribunals and seek relief if the company defaults in paying the interest on its due date or fails to repay the entire amount. They can redeem their amount with the assistance of the courts.
- If company fails to comply with the orders of the court or tribunal, they become liable to be penalised with imprisonment of up to 3 years or fine which can between 2 lakhs to 5 lakhs. The liability to pay the amount received for the debentures is a liability.[xvii]
- The contract between debenture holders and the company is bound by specific performance where company has to perform the specific act (on the order of the court) which it ought to perform and cannot be exempted from the same.
- The central government has been given authority for prescribing the procedure related to issuance of debentures, repayment and other related activities thereof.
Frequently Asked Questions
Is debenture issued at discount?
Yes debentures can be issued at discount. When debentures are issued at a price less than its actual value it is called debenture issued at discount.
Who can issue debenture?
Debentures are issued by the board, directors or any other member on behalf of the company under Companies Act 2013.
Can a debenture fall under two types of classifications?
Yes a debenture can fall under more than one category. For e.g. – a non-convertible debenture can be registered and hence fall in two categories.
Does debenture holders have any rights in the company?
Debenture holders do not have any right in the company as they are merely creditors to the company.
Edited by Shikhar Shrivastava
Approved & Published – Sakshi Raje
[i] Section 2(30), Companies Act 2013
[ii]Meaning of Debenture, toppr.com,https://www.toppr.com/guides/accountancy/issue-and-redemption-of-debentures/meaning-of-debenture/ (last visited on 21 january,2020)
[iii]Cf. Pearl Assurance Co. Ltd. v. West Midlands Gas Board, (1950) 2 All ER 844 (ChD)]
[iv] Section71(2), Companies Act 2013
[v]Khushnummotafram, “Different Types of Debentures and Their Use”, blog.ipleaders.in, https://blog.ipleaders.in/different-types-of-debentures-use/( last visited on 22 january , 2020)
[vi] Section 408, Companies Act 2013
[vii] Section 71(10), Companies Act 2013
[viii] Section 71, Companies Act 2013
[ix] Section 44, Companies Act 2013
[x] Section 100, Companies Act 2013
[xi] DCIT vs. Modern Syntex India Limited,(95 TTJ JP 161)
[xii] Deputy Commissioner Of Income Tax vs I.T.C. Hotels, 82 TTJ Bang 652
[xiii]Bachharaj Factories Ltd. vsHirjee Mills Ltd. , 57 BOMLR 378, 1955 25 CompCas 227 Bom
[xiv]Devika , “ Companies (Share Capital & Debentures) Rules”, scconline.com, https://www.scconline.com/blog/post/2019/08/20/government-removes-debenture-redemption-reserve-requirement-for-listed-companies-nbfcs-and-hfcs/ (last visited on 22 January, 2020)
[xv]National Rayon Corporation Ltd vs The Commissioner Of Income Tax, 197 ITR 227 Bom
[xvi]Canara Bank vsArihant Industries Ltd., 110 CompCas 70 P H
[xvii]M/s. Bilahari Investments (P) Ltd. v/s The Commissioner of Income Tax, Central II, ChennaiT.C.(A) Nos.76 to 86, 105, 129 to 133 of 2003 and 287 to 290, 322 to 328 and 459 to 463 of 2006