What are debentures?
Debentures are a type of debt instrument that are issued by private companies to raise capital. They are unsecured bonds, which means that they are not backed by any specific collateral. Instead, they are backed only by the creditworthiness of the issuing company.
When an investor buys a debenture, they are effectively lending money to the issuer, who agrees to pay them back the principal amount at a future date, as well as regular interest payments over the life of the debenture.
Here are some features of private company debentures:
Interest Rate: Debentures typically pay a fixed interest rate, which is agreed upon by the issuer and the investor at the time of issuance. The interest rate may be higher than the rate paid on other types of debt instruments, as the debenture is considered to be more risky than other types of bonds.
Maturity Date: Debentures have a set maturity date, which is the date when the issuer must repay the principal amount to the investor. The maturity date may be a few years or several decades in the future, depending on the terms of the debenture.
Convertibility: Some debentures may be convertible, which means that they can be exchanged for equity shares in the company under certain circumstances. This feature allows investors to participate in the potential upside of the company if it performs well.
Subordination: Debentures may be subordinated to other forms of debt, such as bank loans. This means that if the company goes bankrupt, the holders of subordinated debentures may not be paid until other creditors are paid in full.
Here is an example of a private company debenture:
ABC Corporation is a private company that wants to raise capital to fund a new product line. It decides to issue debentures with a maturity of 5 years and a fixed interest rate of 5% per year. The debentures are unsecured, which means that they are not backed by any collateral.
Investor X purchases $10,000 worth of debentures from ABC Corporation. This means that Investor X is effectively lending $10,000 to ABC Corporation, and will receive regular interest payments over the next 5 years, as well as the principal amount at the end of the 5-year period.
Overall, debentures can be an attractive form of debt financing for private companies, as they allow companies to raise capital without giving up equity ownership. However, companies should carefully evaluate the costs and risks of issuing debentures, as they can be more expensive than other forms of debt financing and may not be suitable for all companies.
