A debenture is a long term promissory note for raising loan capital. The firm promises to pay interest and principal as stipulated. Debentures mature between 10 – 15 years.
Interest on debentures is payable twice a year and it is a legal obligation.
- Interest rate – is fixed and known it is called contractual or coupon rate.
- Payment of interest legally binding on com.
- Interest tax deductible for company.
- Issued for specific period.
- Redemption on maturity
(i) Secured debentures
Usually secured in two ways, secured with a fixed charge or with a floating cha..
- Fixed charge – claim on specific asset e.g. mortgage.
- Floating charge – can claim from any or all of the assets which have not been pledged as securities for any other form of debt.
(ii) Naked debentures
Unsecured – Number form of security.
(iii) Redeemable debentures
The company can buy back after the run redemption period and before the maximum redemption period after which holders can force the company to receivership to receive their capital and interest outstanding.
(iv) Irredeemable Debentures
Never bought back in which case they form permanent source of finance for company.
Rare and issued by companies with a history for stable ordinary dividend record.
(v) Convertible Debentures
Convertible debentures can be converted into ordinary shares although they can also be converted into preference taxes. Convertible debentures would be issued when company wishes to delay the introduction of ordinary shares. Such issues may also be made when company need to raise capital and rates of interest are very high.
The investors are induced to subscribe for these securities at low interest rate and having an option to convert their stock on predetermined dates into company’s ordinary shares.
Why debentures unpopular in Kenya
- Par value extremely high hence not affordable.
- No securities for collateral.
- Low credit worthiness for the would be sellers.
- Kenyan capital market not developed.
- Many ignorant of existence of debenture market.
- Few investors willing to stake their savings for long time.