The difference between shares and debentures is the difference an investor or business house needs to know, as the former represents either a raised capital instrument or a tool for raising capital. At the same time, the latter differs in ownership, risk, returns, and structure. Shares represent company ownership in the issue process to the shareholder with voting rights and rights regarding dividends. Debentures represent a debt obligation through which the issuer obliges itself to pay a fixed interest rate without any right to own the capital. Understanding the difference between shares and debentures is essential for making informed investment and financing decisions.
Meaning of Debentures
A debenture is a debt instrument that companies issue to raise funds from investors. When a company issues debentures, it is simply taking money from the public with an undertaking to pay a fixed interest rate periodically and eventually repay the principal sum after the completion of the term. While not secured by any specific assets except in the case of secured debentures, debentures are considered an obligation of the company. They do not give any ownership rights, and the return comes in the form of interest rather than sharing any profit or giving any dividend. This highlights a key difference between equity shares and debentures regarding ownership and returns.
Key features of debentures include
- Fixed interest payments are made, regardless of the profitability of the company.
- There is no equity ownership or the right to vote for a debenture holder.
- At the end of the maturity period, the principal will be returned.
- In liquidation, debenture holders have a first charge over shareholders.
- Debentures are a way for companies to raise funds flexibly without issuing shares.
Meaning of Shares
Shares represent ownership in a firm. Once the person or institution acquires shares, they become part-owner of a firm with a share of its earnings in the form of dividends. Further, one represents the shareholders by bestowing rights to vote on specific issues concerning the firm, such as the election of directors or approval of significant business activities. The value of the shares varies with the company’s performance, market conditions, and investor sentiment. This forms a primary difference between shares and debentures since shareholders participate in ownership while debenture holders do not.
Key features of shares include
- Ownership rights, or rights of shareholders to take a vested interest in a company’s decisions.
- The Company would benefit through possibly earning dividend returns; however, this is not assured and cannot be ascertained using the business’s profitability.
- This investment is risky because if a shareholder loses money in the company, they have lost some or all of their investment.
- Shareholders have the last claim on assets in case of liquidation after the creditors and debenture holders have been paid.
Types of Shares
Companies issue two main types of shares: common shares and preferred shares. Every kind of share provides different rights and benefits to shareholders.
Equity Shares (Common Shares)
Equity shares are the owners’ main shareholding in a firm and carry voting powers. In equity shares, the equity holders wield the company’s voting power and elect board members. They have the right to receive dividends, but the amount is not guaranteed and is distributed depending on the firm’s profits. If the firm is facing financial weakness, then owners of equity shares don’t get a single penny as pay. Since equity shares have a claim on the company’s assets at the final stage of liquidation, it is, therefore, a riskier investment vehicle than other forms of capital. This highlights another difference between equity shares and debentures — equity shares involve higher risk and variable returns.
Preference Shares
Preferential shares do not carry voting rights but precede equity shares regarding dividends and liquidation. The dividend on preference shares is usually fixed, which means preference shareholders are entitled to a fixed percentage of dividends before any goes to equity shareholders. Preference shareholders in liquidation cases are paid before equity shareholders but after debenture holders.
Types of Debentures
Debentures fall under several heads on different criteria, such as security, convertibility, and tenure. Some of the most common types of debentures are the following:
- Redeemable Debentures: Secured by the company’s assets, or in case of company default, the holders of the debentures can claim the securities attached to the debentures.
- Undated Debentures: Neither is asset-guaranteed. They are also more dangerous to investors, as it depends on the strength of the financial capability and creditworthiness of the issuing company alone.
- Convertible Debentures: The debentures can be converted into equity shares after a specified period or on certain specific conditions and thus may offer the holder an opportunity to take advantage of upward pressure on the share price.
- Non-Convertible Debentures (NCDS): They cannot be converted into equity shares; they exist only as a debt instrument. Typically, NCDS carries more interest as redemption is not possible.
- Irredeemable Debentures (Perpetual Debentures): There is no specified maturity date. The company may not be liable to pay the principal, although interest is paid periodically.
Debentures vs Shares: Which is the Better Investment?
An investor can opt to invest in debentures or shares, depending on their level of tolerance for risk, financial goals, and the involvement they desire in the company they want. Here is a comparative analysis to understand the difference between shares and debentures more clearly:
Difference Between Shares and Debentures
By examining this table, investors can better understand the difference between shares and debentures and between equity shares and debentures, allowing them to make informed decisions based on their financial goals.
Criteria | Debentures | Shares |
Nature | Debt instrument | Ownership instrument |
Risk Level | Lower risk, as debenture holders are paid interest regardless of the company’s profits | Higher risk and returns depend on company performance |
Return Type | Fixed interest | Dividends (if declared) and capital appreciation |
Security | Secured or unsecured | No security. Value depends on company performance |
Voting Rights | No voting rights | Voting rights for equity shareholders |
Priority in Liquidation | Higher priority than shareholders | Last claim on assets |
Convertibility | Convertible into shares (optional) | Not convertible |
Difference Between Shares and Debentures FAQs
Q1. What is the difference between shares and debentures in terms of ownership?
Shares provide ownership in a company and voting rights, while debentures are loans to the company with no ownership or voting rights involved.
Q2. How does the return differ in shares and debentures?
Shares offer dividends and capital gains depending on company profits, whereas debentures provide fixed interest regardless of performance.
Q3. Which is riskier: shares or debentures?
Shares are riskier due to market fluctuations and company performance; debentures are less dangerous as they offer fixed income and have priority in liquidation.
Q4. What is the difference between equity shares and debentures?
Equity shares represent company ownership with voting rights and variable returns, while debentures are debt instruments with fixed interest and no ownership.
Q5. What is the difference between shares and debentures in liquidation?
Debenture holders are paid before shareholders during liquidation, making them more secure in fund recovery.