Issue of Debentures by A Company: How does a Company Issue Debenture to the Public?

Debentures are a form of long-term debt instrument issued by a company to raise funds from the public. It is a popular financing tool used by companies for various purposes, including capital expenditure, expansion plans, and debt refinancing. Debentures are a crucial aspect of the corporate world, and their issuance is governed by the Companies Act, 2013. In this article, we will discuss the Issue of Debentures by a Company.

Quick Look

Debentures are debt instruments that carry a fixed rate of interest and have a maturity date, after which the principal amount is repaid to the debenture holders. Debentures can be secured or unsecured, depending on whether they are backed by the company’s assets or not. Secured debentures are backed by specific assets of the company, such as land, buildings, or machinery, while unsecured debentures are not backed by any assets.

Meaning of Debentures

Debentures are a type of debt instrument that companies use to raise capital. When a company issues debentures, it borrows money from investors and promises to repay the amount with interest at a predetermined date in the future. Debentures are usually issued by large companies that have a good credit rating and can easily raise money from the public. Debenture holders have no ownership in the company, but they do have the right to receive interest and principal payments according to the terms of the debenture agreement.

Types of Debentures

There are several types of debentures that companies can issue, including:

• Convertible Debentures – These are debentures that can be converted into equity shares at a predetermined price and time.
• Non-Convertible Debentures – These are debentures that cannot be converted into equity shares and are only redeemed for a fixed amount of money.
• Fully Convertible Debentures – These are debentures that are converted into equity shares at a predetermined ratio and at a predetermined time.
• Partly Convertible Debentures – These are debentures that can be converted into equity shares only in part, and the remaining portion is redeemed for a fixed amount of money.

Benefits of Issuing Debentures

There are several benefits of issuing debentures for companies, including:

• Lower Interest Rates – Companies can usually raise capital at a lower interest rate by issuing debentures compared to other sources of debt financing.
• Diversification of Funding Sources – Issuing debentures allows companies to diversify their funding sources and reduce their reliance on bank loans or equity financing.
• Longer Repayment Period – Debentures have a longer repayment period compared to other forms of debt financing, which gives companies more time to generate cash flows to repay the debt.
• No Dilution of Ownership – Debentures do not dilute the ownership of existing shareholders, unlike equity financing.

Drawbacks of Issuing Debentures

Despite the benefits, there are some drawbacks to issuing debentures, including:

• Interest Payments – Companies are required to make regular interest payments to debenture holders, which can put a strain on their cash flows.
• Strict Covenants – Debenture agreements often come with strict covenants that companies must adhere to, which can limit their financial flexibility.
• Default Risk – If a company is unable to make interest or principal payments on its debentures, it may default on its debt obligations, which can negatively impact its credit rating and reputation.
• Market Risk – The value of debentures can fluctuate based on market conditions, which can result in losses for investors.

Procedure for Issuing Debentures

The procedure for issuing debentures by a company is as follows:

• Board Resolution: The first step is to pass a board resolution approving the issuance of debentures and specifying the terms and conditions of the issue.
• Debenture Trust Deed: The company needs to create a debenture trust deed, which is a legal document that specifies the terms and conditions of the debenture issue and the obligations of the company and the debenture trustee.
• Credit Rating: The company needs to obtain a credit rating from a recognized credit rating agency to determine the creditworthiness of the debenture issue.
• Prospectus: The company needs to prepare a prospectus containing all the details of the debenture issue, including the terms and conditions, the use of proceeds, the credit rating, and the risk factors.
• SEBI Approval: If the debenture issue is for an amount exceeding INR 500 crores, the company needs to obtain approval from the Securities and Exchange Board of India (SEBI).
• Allotment of Debentures: After the debenture issue is oversubscribed, the company needs to allot the debentures to the applicants and receive the subscription amount.

How does a Company Issue Debenture to the Public?

Debentures are one of the most commonly used financial instruments used by companies to raise capital. A debenture is essentially a debt instrument that is issued by a company to the public or investors in exchange for a fixed rate of interest. Debentures are typically unsecured and can be issued for short or long-term periods. Lets us now move on to discuss about the answer for the question as stated above:

• Determine the need for Debentures: The first step in issuing debentures is for the company to determine the need for such an instrument. Companies typically issue debentures to raise long-term capital for a variety of purposes, including expansion, working capital, or debt refinancing. The company must analyze the market conditions, interest rates, and other factors to determine the best time to issue the debentures.

• Formulate a Debenture Issue Plan: Once the need for debentures has been established, the company must formulate a debenture issue plan. This plan includes the type of debentures to be issued, the amount to be raised, the duration of the debentures, the interest rate to be offered, and the terms and conditions of the issue.

• Appoint a Debenture Trustee: A debenture trustee is an independent entity that is appointed by the company to oversee the interests of the debenture holders. The trustee is responsible for ensuring that the company adheres to the terms and conditions of the debenture issue and that the interests of the debenture holders are protected.

• File a Prospectus: Before issuing debentures to the public, the company must file a prospectus with the regulatory authorities. The prospectus contains detailed information about the company, the debenture issue, and the terms and conditions of the issue. The prospectus must be approved by the regulatory authorities before the company can proceed with the issue.

• Issue the Debentures: Once the prospectus has been approved, the company can proceed with the debenture issue. The company typically offers the debentures to the public through a public offer or private placement. In a public offer, the debentures are offered to the general public through a prospectus, while in a private placement, the debentures are offered to a select group of investors.

• Listing and Trading: After the debentures have been issued, the company must apply for listing on the stock exchange. Once listed, the debentures can be traded on the stock exchange like any other security.

Takeaway

Issuing Debentures to the public is a common way for companies to raise capital. The process involves appointing a merchant banker, preparing a prospectus, registering the prospectus with SEBI, making a public offer, allotting the debentures, and listing the debentures on the stock exchanges. Companies must comply with the rules and regulations laid down by SEBI to ensure a fair and transparent issuance process.
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