Convertible Debenture

Reviewed by Bhavana | Updated on Aug 26, 2020

Introduction

A convertible debenture is a kind of long-term debt which can be transformed into stock after a specific period of time. A convertible debenture is usually an unsecured bond or a loan as in there is no primary collateral interlinked to the debt.

They are long-term debt securities that pay interest returns to the bondholder. A unique feature of convertible debentures is that they can be converted into stock at specified times. It gives the bondholder some security that may put down some of the risks involved with investing in unsecured debt.

Usually, companies issue debt in the form of bonds or equity in the form of shares of stock in order to raise capital. Some companies may use more debt than equity to raise capital for funding operations or vice versa. A convertible debenture can be transformed into equity shares after a specific period. The option of converting debentures into equity shares lies with the holder. A convertible debenture will provide regular interest income via coupon payments and repayment of the principal amount at maturity.

Understanding Convertible Debenture

Types of a Convertible Debenture:

  1. Fully Convertible Debenture: These are debentures in which the whole value of debentures can be converted into equity shares of the company.
  2. Partly Convertible Debenture: In this kind of debentures, only a part of the debentures will be eligible for conversion into equity shares.
  3. Non-Convertible Debenture: These securities cannot be converted into equity shares. The interest rate, in this case, is usually high.

Highlights of Convertible Debenture: 1. A convertible debenture is a hybrid product which tries to strike a balance between equity and debt. 2. An investor will be paid a fixed-rate and will also have an option to take part in a stock price increase. 3. In case an issuer's stock price dips, an investor can hold the bond until maturity and receive interest income. 4. For early-stage companies, a convertible debenture is a very useful financial instrument.