Debentures
By Asok Nadhani
9.2 Debentures
i.
A debenture is a document
issued by the company as evidence of its debt. It is an acknowledgement of the
company’s indebtness to its holders.
ii. The term
Debenture includes debenture stock, bonds and any other security of a company,
whether constituting a charge on the assets of the company or not.[ S. 2 (12)]
9.2.1 Characteristics of Debentures
a.
A debenture is an acknowledgement of indebtness of the company, normally issued
under the company's seal.
i. Debenture holders are the creditors of the company.
ii. Debentures are generally secured. The secured debentureholders are given
a charge on certain assets of the company. However, unsecured debentures may
also be issued.
iii. Where debentures are issued in a series, they are usually issued with ‘pari
passu’ clause. However, debentures in a series can also be issued without
any pari passu clause.
iv. Debentures are redeemable at the expiry of their term as specified in the
terms of issue of debentures. However, irredeemable debentures may also be
issued.
b.
Debentures are movable property transferable in the
manner provided by the Articles. (s. 82)
c.
Debentures are normally issued in a series to
several persons at a time, though legally debentures may be issued to one or a
few selected persons.
d.
No debenture can carry any voting right in members’
meetings. (s. 117)
e.
A contract to take up & pay for debentures may
be enforced by a decree for specific performance. (S.122)
9.2.1.1 Debenture stock
a.
Debenture stock is a debt
carrying interest at a fixed rate. The Debenture Stock must be fully paid up,
while Debentures may be fully or partly paid up.
b.
Debenture stock is similar in nature as debentures but instead of separate debenture
bond, a certificate entitling him to a specified portion of one large loan is
issued.
c.
Debenture stock is
borrowed capital consolidated into one mass which may be divided into and
transferable in convenient units of fixed amount. It represents aggregate of
debenture bonds, legally consolidated, out of which portions are held by
different persons called stock holders.
d.
Issue of debenture stock
instead of debentures facilitates issue and transfer of any amount (even in
fractions).
9.2.1.2 Debenture Certificate
i. Debenture Certificates are issued under the common seal of the company.
The Debenture Certificate is a document, which certifies that the holder is the
creditor of the company to the amount of number of debentures multiplied by the
face value of each debenture.
ii.
The rules of issue of
debenture certificate is similar to issue of share certificate (3 months from
date of allotment, or 2 months from date of submission of transfer deed, as
applicable). However, CLB may extend the time for another 3 months.
iii.
A copy of certificate of
Registration of Charge u/s 132, should be endorsed on every copy of Debenture
Certificate. (s.133)
iv.
Default in issue
of certificate by the Company : If a company makes a default in issue and
delivery of debenture certificate within the prescribed time, the person
entitled to the certificate may serve a notice on the company.
a.
If the company fails to make good the default
within 10 days of receipt of such notice, the person may make an application to
the Company Law Board.
b.
The Company Law Board may direct the company and to
make good the default or may order that costs of application be borne by the company
or by defaulting officer.
9.2.2 Types of
Debentures
a.
Classification as per
transferability
i.
Registered debentures
ii.
Bearer (or Unregistered) debentures
b.
Classification as per
security
i.
Secured (or Mortgaged) debentures
ii.
Unsecured (or naked) debentures
c.
Classification as per
repayment
i.
Redeemable debentures
ii.
Irredeemable (or perpetual) debentures
d.
Classification as per
convertibility
i.
Convertible debentures
ii.
Non-convertible debentures
e. On
the basis of priority
i.
First
debentures. Such debentures which are to be repaid in
priority to other debentures.
ii.
Second
debentures. Such debentures which are to be repaid only
after first debentures have been repaid in full.
9.2.2.1 Registered Debentures: For such debentures, money is
re-payable to the registered holders.
i.
Like register of members, the company maintains
particulars of such debenture holders and the debentures are transferred like
shares (Sec.108).
ii.
So, registered debentures are not negotiable
instruments.
9.2.2.2 Bearer
(or Unregistered) Debentures: These debentures
are like negotiable instruments and are transferable by mere delivery. [Bechuanaland
Exploration Co. v. London
i.
So, a bona fide transferee for value is not
affected by the defect in the title of the prior holder.
ii.
Interest on such debentures is paid on the
production of coupons attached to the debentures.
iii.
No register of debentures holders is maintained for
bearer debentures.
9.2.2.3 Secured
Debentures: Debentures which are secured by a charge on
the assets of the company are known as secured debentures. The charge may be fixed
or floating.
9.2.2.4
Unsecured or naked Debentures: Debentures
which do not create any charge on the assets of the company are known as
unsecured or naked debentures. The holders of these debentures are ranked at
per with unsecured creditors in regard to their claims on the asset of the
company.
9.2.2.5 Redeemable &
Irredeemable Debentures:
i.
Redeemable debentures are repaid after the expiry
of a certain specified period. They may be re-issued after redemption (Sec. 117C,
121).
ii.
Irredeemable
Debentures (or perpetual Debentures): These have no fixed time
for Repayment. They are paid back at the discretion of company or at
liquidation of company.
9.2.2.6 Perpetual
Debentures: These debentures
(also referred as irredeemable) are retained like permanent capital of the
company. Irredeemable debentures are not refundable during the life time of the
company, until the company goes into liquidation (sec.120).
9.2.2.7 Convertible
Debentures: These
debentures may be converted (wholly or partly) into shares (preference or
equity) after a certain period, as per terms of issue. Convertible debentures
provide a privilege to convert from creditor to shareholder of the
company.
a.
Fully
convertible debentures. If the terms of issue of
debentures provide for conversion of whole amount of debentures into equity
shares, the debentures are called as fully convertible debentures.
b.
Partly
convertible debentures. These debentures consist
of two parts, convertible and non-convertible debentures. The convertible part
of debentures is converted into equity shares, whereas the non-convertible part
is repaid on the expiry of specified period.
9.2.2.8 Non-convertible
Debentures: These debentures do not carry any right to convert
them into preference or equity shares. They are repaid at maturity.
9.2.2.9 Debentures with Pari Passu Clause
i. Debentures for money borrowed from a large number of persons on the
security of some particular asset of the company are normally issued in a series,
to avoid separate agreement with every lender.
ii.
Every lender may
subscribe for some amount of debentures.
iii.
All these debentures are
secured by the same assets, having same rights and terms of repayments
(referred as Pari Passu Clause).
9.2.2.9.1 Particulars
of Debentures with pari passu clause
(Sec. 128)
i. When the company
creates a pari passu charge for the benefit of Debenture holders, it should,
within 30 days from the relevant date, file a statement containing the
following particulars:
a.
Total amount secured by the whole series
b.
Dates of resolutions authorizing the issue of the
series and the date of the covering deed, if any, by which the security is
created or defined.
c.
Description of the property charged
d.
Name of the trustees for the debenture holders
e.
In case of more than one issue is made in the
series, particulars of the date and amount of each such issue.
ii.
The relevant date is the date of execution of Deed,
(if deed of charge is executed), and where the deed is absent, the relevant
date will be the date of execution of any debentures of the series.
9.2.2.9.2 Priority of debentures issued at
different points of time
i.
Rank and
Priority of Payments
a.
Debentures issued in a series with a pari passu clause
stands in an equitable position with respect to other holders of the same
series.
b.
Debentures
issued with pari passu clause: The Debenture
holders of same series shall be entitled to share rateably the proceeds of the
security realized, and in case of short fall, the realized amount shall be
divided proportionately among the debenture holders.
c.
Debentures
issued without pari passu clause: The debenture
shall rank in priority of
repayment according to the
dates of issue and among debentures issued on same date, they will rank as per
serial number.
ii.
New Series
a.
The company cannot issue
a new series of debentures which will rank in priority in a series of
debentures. Similarly, a company cannot issue a new series of debentures which
will rank pari passu with a prior series of debentures.
b.
However, a company may
issue debentures on the condition that the company may afterwards issue a new
series of debentures which will rank pari passu with these debentures or issue
a new series of debentures having priority over these debentures.
9.2.2.10 Issue of Debentures at a Discount
a.
Debentures can be issued at a discount, unless the
Articles provide otherwise.
b.
Particulars of Discount, any allowance or
Commission paid on such issue is to be filed with the Registrar (Sec. 129).
c.
Interest on debentures may be paid out of capital.
d.
Convertible debentures cannot be issued at a
discount to exchange them for shares of par value as this tantamounts to issue
of shares at a discount. In such case, compliance with Sec. 79 is necessary.
9.2.2.11
Re-issue of redeemed debentures
i.
Redeemed debenture can be reissued unless: (Sec. 121)
re-issue is prohibited by Articles of Association
any terms and condition of the original issue
prohibits re-issue, or
the company has cancelled such debentures
ii.
A company can reissue the debentures redeemed on
same terms and conditions of original issue. The holders of the re-issued
debentures shall have same rights and priorities as enjoyed by the original
debenture holders. So, a charge created
on an asset of a company shall continue where debentures are redeemed and then
reissued.
iii.
The re-issue shall be treated as issue of new
debentures for the purpose of payment of stamp duty.
iv.
In case of re-issue, the
company is not required to comply with the requirements of a fresh issue of
debentures, saving cost and time.
9.2.2.12 Difference between Shares and Debentures
|
Basis of distinction
|
Shares
|
Debentures
|
|
1.
Capital v debt
|
Amount raised by issue of shares represents the capital of the company.
|
Amount raised by issue of debentures represents the indebtendness of
the company.
|
|
2.
Status
|
The shareholders are the owners of the company.
|
The debenture holders are the creditors of the company.
|
|
3.
Return on Investment
|
The return paid to shareholders is termed as dividend.
|
The return paid to debenture holders is called as interest.
|
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4.
Quantum of Return
|
The amount of dividend varies (normally with the quantum of profit).
|
The amount of interest is fixed irrespective of quantum of profits.
|
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5.
Accounting Treatment
|
Dividend on shares is an appropriation of profits.
|
Interest on debentures is a charge on profits.
|
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6. Payment Terms
|
Dividend on shares is paid only out of Profit.
|
Interest on Debentures must be paid irrespective of Profit/Loss.
|
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7.
Issue at discount
|
Provisions of section 79 must be complied with for issue of shares at
discount.
|
No restriction or condition for issue of debentures at discount.
|
|
8.
Voting rights
|
Shareholders have voting rights.
|
Debenture holders do not have any voting rights.
|
|
9.
Purchase of own shares
or debentures
|
A company cannot purchase its own shares, except by way of buy-back as
per the provisions of section 77A and must cancel the share bought back.
|
A company can purchase own debentures and may cancel or continue to
hold them.
|
|
10.
Security for payment
|
No security is created in favour of shareholders.
|
Generally, security is created in favour of debenture holders.
|
|
11.
Trust deed
|
No trust can be executed in case of issue of shares.
|
Trust deed must be executed for debentures issued to the public.
|
|
12.
Conversion
|
Shares cannot be converted into any other security. (share warrants may
be issued canceling share certificates).
|
Debentures may be converted into shares, if the terms of issue of
debentures so provide.
|
|
13.
Redemption
|
Equity shares are always irredeemable. Preference shares may be
redeemable, but the period of redemption cannot be more than 20 years.
|
Debentures may be irredeemable or redeemable, without any time limit.
|
|
14.
Transfer by delivery
|
Bearer shares cannot be issued. However, a company may issue share
warrants, transferable by delivery, by canceling share certificates.
|
The debentures may be registered or bearer (transferable by delivery).
|
9.2.3 Rights of
Debenture Holders
Rights of
different types of debenture holders are enumerated below:
−
Rights of Unpaid
Debenture Holders
−
Rights of Unsecured
Debenture Holders
−
Rights of Secured
Debenture Holders
9.2.3.1 Rights
of Unpaid Debenture Holders
When a debenture
holder is not paid back on maturity, he has certain rights & remedies
available to him to get back his money invested in debenture of the company, according
to nature of debentures (secured or unsecured).
9.2.3.2 Rights
of Unsecured Debenture Holders
i.
An unsecured debenture is in same position as an
ordinary trade creditor. So he has two rights to:
a.
sue for Principal
amount and accrued Interest.
b.
petition for the winding up of the
company by the Tribunal on the ground that the company is unable to pay
its debts [S. 433 (e)]. If the company
is already in the course of winding up, the debenture holders may prove their
debts before the liquidator.
ii.
make an application to the Company Law Board.
On receipt of such an application, the Company Law Board shall hear the parties
concerned and may order the company to redeem the debentures forthwith.(Sec.
117C)
iii.
in the course of winding up, may prove their
debts before the liquidator, like any unsecured creditor.
9.2.3.3 Rights
of Secured Debenture Holders
Apart from the
rights available to unsecured debenture holders, secured debenture holder has
following additional courses available to him:
a.
Debenture-holders' action: He may sue on behalf of himself and all
other debenture-holders of the same class to obtain payment and enforce his
security by sale. If several debenture-holders sue separately, the Tribunal can
consolidate their suits into one.
b.
Foreclosure: He may apply to
the Tribunal for foreclosure of the company's right to redeem the debentures.
c.
Sale
d.
Appointment of receiver: He may appoint a
receiver or apply to the Tribunal in a debenture holders' action to appoint
one. On the appointment of a receiver, the assets become specifically charged
in favour of the debenture-holders, and the company is stripped off the powers
to deal in them in the ordinary course of business.
e.
Proof for Debt: If the company is insolvent and his security is
insufficient, he may value his security and prove for the balance, or he may
surrender his security and prove for the whole amount of his debt.
f.
Winding Up: A debentureholder may petition for winding up of
the company for the principal and accrued interest (but not for premium payable
on redemption, if any).
9.2.3.4 SEBI Guidelines pertaining to Issue of
Debentures
As per SEBI
(Disclosure and Investor Protection) Guidelines 2000, a listed company shall
comply with the following additional provisions, apart from those provided need
the Act and the Rules.
a.
Credit rating
No public or rights issue
of debt instruments (including convertible instruments) shall be made unless
credit rating of has been obtained from not less than two registered credit
rating agencies and disclosed in the offer document.
b.
Debenture
Trustee
i.
A trust deed shall be executed by the issuer
company in favour of the debenture trustees within three months of the closure
of the issue. Trustees to the debenture issue shall be vested with the
requisite powers for protecting the interest of debenture-holders including a
right to appoint a nominee director on the Board of the company in consultation
with institutional Debentureholders.
ii.
The merchant banker shall, along with the draft
offer document, file with the Board, certificates from their bankers of the
company that:
a.
The assets on which security is to be created are
free from any encumbrances.
b.
Necessary permissions to mortgage the assets have
been obtained or a No-objection Certificate from the Financial Institutions (or
banks for a second or pari passu charge in cases where assets are encumbered).
c.
Distribution of
Dividends
i.
In case of the companies which have defaulted in
payment of interest on debentures or redemption any distribution of dividend
shall require approval of the debenture trustees and the lead institution, if
any.
ii.
Dividends may be distributed out of profits of
particular years only after transfer of the requisite amount in the DRR.
iii.
If residual profits after transfer to the DRR are
inadequate to distribute reasonable dividends, the company may distribute
dividends out of the general reserve.
d.
Additional
requirements
i.
No company shall issue FCDs having a conversion
period of more than 36 month, unless conversion is made optional with “put” and
“call” option.
ii.
If the conversion takes places at or after 18
months from the date of allotment, but before 36 months, any conversion in part
or whole of the debenture shall be optional at the hands of the debenture holder.
iii.
No issue of debentures by an issuer company shall
be made for acquisition of shares or providing loan to nay company belonging to
the same group.
iv.
The premium amount and time of conversion shall be
determined by the issuer company and disclosed.
v.
The interest rate for debentures can be freely
determined by the issuer company.
e.
Additional
Disclosures
Following additional
disclosures should be made in respect of issue of disclosures.
a.
The premium amount on conversion, time of
conversion.
b.
In case of PCDs/NCDs, redemption amount, period of
maturity, yield on redemption of the PCDs/NCDs.
c.
Full information relating to the terms of other or
purchase including the name(s) of the party offering to purchase the khokhas
(non-convertible portion of PCDs).
d.
The discount at which such offer is made and the
effective price for the investor as a result of such discount.
e.
The existing and future equity and long-term debt
ratio.
f.
Servicing behaviour on existing debentures, payment
of due interest on due dates on terms loans and debentures.
For more details, refer to Business & Corporate Laws, by
Asok Nadhani, BPB Publications-ww.bpbonline.com, bpbpublications@gmail.com
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