Difference between Shares and Debentures: Before we discuss the difference between the subject-matters, we will discuss what the two concepts are all about. This is important because there are recent development in the concept of shares and debentures in companies today. One needs to understand the basics of the concepts and how they work before an inference can be drawn on their differences.
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What is a share?
A share is a unit of equity owned by an individual in a company or corporation. It is the unit of value of a company allocated to an individual. Recently, in April 2022, it is also called Owned capital. This implies that an individual can buy and acquire shares from a company which will generate long term wealth and fulfil the financial goal or desire of the individual. Today, people invest hugely on shares of companies and many more people wish to be shareholders in different companies.
A shareholder holds a percentage of the shares he has bought. Today, shares could be a financial asset which the company will pay as profit to the shareholder. This payment of shares by the company to the shareholder after the share has generated profit is called dividends. Today, shares include equity owned by an individual in a corporation. It also include financial asset by investors who are called shareholders.
Types of shares
At this point, there are two types of shares in vogue today. They are:
– Ordinary shares
– Preferred shares
Today, these two types of shares vary based on the profit they yield.
This is also called Equity shares and comprise the bulk of the shares issued by a particular company. Today, ordinary or equity shares can be transferred and traded actively by investors in stock markets. Shareholders of companies are entitled to receive the dividends.
Recently, these dividends to shareholders are not fixed. Ordinary or equity shareholders also partake of any losses which may occur to the company based on the amount of their investment.
Ordinary shares are divided into: share capital, definition, and returns.
This is the share in which the shareholders receive preference in receiving their profits from the company unlike in ordinary shares. Today, where a company liquidates, they pay off the precedential shares to the shareholders before ordinary shares. Preferential shares are divided into: cumulative and non-cumulative preference shares, participating and non-participating preference shares, convertible and non-convertible preference shares, redeemable and non-redeemable preference shares.
Recently, preferred shares do not offer price appreciation but can be redeemed at an attractive price and they offer regular dividends. Today in all these types of shares, shares invested can be a great source of long-term wealth generation for the individual investors. Today, most companies, no matter the size issues shares of some kind and they can pay dividends to their shareholders without paying interest.
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What is a debenture?
This is a debt instrument which is not backed by collateral and is used by a lender when providing capital, loan, or credit to the borrower. It does not require collateral because it is based on the creditworthiness and reputation of the issuer or borrower. Recently, the lender could be a bank while the borrower could be a company or individual.
So, the most recent definition of debenture is that it is an instrument used by the bank (lender) to issue capital or loan to the borrower (company or individuals). This means that a debenture enables the borrower to access loan from the bank (which is the lender). Recently, it helps the lender to secure the loan given to the borrower at the default of the borrower in paying the loan. When this happens now, the lender can take out against the borrower’s tangible asset such as property with the use of the debenture in order to recover the loan.
By so doing, the debenture has granted fixed charge to the lender against the borrower and even when the borrower is in possession of the tangible asset, he cannot sell it without the consent of the lender. A floating charge is attached to changeable assets like: shares, raw materials, intellectual property unlike a fixed charge that is attached to unchangeable or fixed asset such as land.
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Where the borrower defaults in paying back the loan in a floating charge and he is in possession of the asset, he can sell it without the consent of the lender.
However, floating charges may become fixed if the borrower defaults in paying back the loan. Recently, both corporations and governments in addition to individuals frequently issue debentures to raise capital or funds. Debentures also pay periodic interest called coupon payment. The debenture contract called indenture contains the features of debt offering, time for the interest or coupon payments, the method of interest calculation. e.t.c.
Today, Governments and corporations use debentures as long-term loans (with long maturity dates) but while the government debentures are secured, the corporations’ debentures are not secured rather, they have the backing of only the financial viability and credit worthiness of the underlying company.
Recently, debentures comprise of Registered debentures, bearer debentures, secured debentures, unsecured debentures, redeemable debentures, non-redeemable debentures, first debentures, second debentures, convertible debentures, and non-convertible debentures.
Now let us see the differences between the two concepts (shares and debentures).
Major Differences Between Shares and Debentures
1. Nature: The nature of shares differ from that of debentures in that shares are bought by firms (whether governments, corporations, or individuals) from the companies and represent the firm’s equity in those companies. But debentures are funds borrowed by these firms and not bought because it has to do with lender-borrower contract in that if the borrower defaults to pay, the lender accesses the asset and recover the funds or loans.
2. The type of returns or profits: Their difference can also be deduced from their type of returns or the profits that come with them in that the returns or profits from shares are called dividends. But the returns or profits from debentures are called interests.
3. The income from returns: The income from returns of shares (which is called dividends) can only be paid if the company has made profit. That means if the firm does not make profits, the dividends may not be paid. But the income from returns of debentures (which is called interests) must be paid whether the debenture issuer makes profit or not.
4. The holder: The person who buys shares or stock (whether government, corporation, or an individual) is called a shareholder. This is because he buys and holds shares in the company which may return to him as profit in the future.
But a person who advances fund or loan is called a debenture holder because he makes advances or loan to the debenture issuer with the debenture (though without collateral) which the debenture issuer or borrower will pay back within a stipulated time and default of which entitles the debenture holder or the lender to the asset of the debenture issuer.
5. The status of the holder: A holder of share (that is a shareholder) is a proprietor because he makes a business transaction by obtaining the shares in order to make profit.
But a holder of debenture (that is a debenture holder) is a lender because he advanced loan to the debenture issuer in order to recover it within a particular period of time and not mainly on the basis of business transaction.
6. Risks: Shares of companies have high risks because the profit or dividends may not come to the shareholders. This is because the profits of the companies are contingent and the dividends of the shareholders are dependent on these profits of companies. If the companies do not make profits, the profits or dividends of the shareholders are automatically extinguished (and that is the risk).
But debentures have low risks because the interest will come to the debenture holder or the lender. This means that the payment of interest to the debenture holder or the lender is assured (that means that the risk is not high but rather low).
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7. Security: Shares of companies are not secured or guaranteed because since they are dependent on the profit of the companies, if the companies do not make profits, the returns of shares (dividends) will not be paid to the shareholders.
But the payment of the loan to the debenture holder or the lender is secured and must be guaranteed by the debenture issuer in the debenture contract (which is called indenture).
8. Deed of Trust: Purchase of shares of companies do not require deed of trust between the shareholder and the companies or any other person who may be the beneficiary. This is because shares are not based on contract made under deed (formal contract) rather, it is a contingent transaction.
But public debentures require deed of trust in order to show that the debenture holder or the lender advanced the loan on trust to the public and the loan (with its interest) will go to the beneficiary (as stated in the deed of trust).
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9. Liquidation: Shares of companies can be liquidated or it can end at any time even without payment of dividends or giving notice to the shareholder because the payment of returns or dividends is not guaranteed and it means that the shares do not have priorities in that liquidation may occur even without payment of dividends.
But debenture contracts (Indentures) cannot be liquidated or cannot end without the notice and payment of the loan to the debenture holder or the lender. This means that debentures have priorities in that payment of loan and its interest come before liquidation.
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10. Convertibility: Shares of companies cannot be converted into debentures because they are purchases made by the shareholders and cannot be loans advanced to the companies. But debentures can be converted into shares in that the loans advance by the debenture holder to the debenture issuer can be converted into shares.
11. Voting rights: Shares of companies have voting rights. But debentures issued by the borrowers to the debenture holders or the lenders for advancement of loans do not have voting rights.
Edeh Samuel Chukwuemeka, ACMC, is a lawyer and a certified mediator/conciliator in Nigeria. He is also a developer with knowledge in various programming languages. Samuel is determined to leverage his skills in technology, SEO, and legal practice to revolutionize the legal profession worldwide by creating web and mobile applications that simplify legal research. Sam is also passionate about educating and providing valuable information to people.