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Debentures, Debenture Stock

Fixed-interest securities issued by limited companies in return for long-term loans. Debentures are dated for redemtion (i.e. repayment of their nominal value by the borrower to the holder) between ten to forty years ahead but occasionally may be irredeemable. Debetures may be secured or unsecured. There are two main types of secured debentures:

Mortage debentures which are secured by a mortage on specific assets of the company; and Floating-charge debentures, where its assets are not suitable for a fixed charge. Debeture interest must be paid whether the company makes a profit or not. In the event of non-payment, debenture holders can force liquidation and rank ahead of all shareholders in their calims on the company’s assets. The interest which debentures bear depend partly on long-term rates of interest prevailing at the time and partly on the type of debenture, but will in any case, because of the lower risk involved, be less than borne by preference shares.

Debenture shares are most appropriate for financing companies whose profits are stable and which have substatial fixed assets, such as property companies.

Convertible debentures carry an option at a fixed future date to convert the stock into ordinary shares at a fixed price. This option is compensated for by a lower rate of interest than an ordinary debenture, but convertible debetures are attractive sinc they offer the investor, whithout sacrificing his security, the prospect of purchaing equity shares cheaply in the future. For this reason, convertibel debentures are issued at times when it is difficult to raise capital either by equity or fixed-interest securities.

Reference: The Penguin Dictionary of Economics, 3rd edt.