Drafting Debenture Agreements: What You Need To Know

A debenture is either a medium or a long-term “debt” that a company borrows at a fixed rate of interest. It is a bond between the company and the creditor. Debenture agreement acts as a certification for the fact that the company is liable to pay interest on the debt that it has taken.

According to Canada Corporations Act, “debentures include bonds, debenture stocks, and any other securities of a company that constitutes or are entitled to the benefit of a charge on the assets of the company.”

A debenture agreement comes with some attributes to ensure the security of the debtor:

Movable Property

The shares or interest of any person mentioned in the agreement are considered to be movable property. They can be transferred on the basis of clauses mentioned in the article.

Lack of Security

Debenture bonds may not require the mention of any guarantee regarding the repayment of the debt and the interest. Agreements which include the mention of security are known as “Mortgage Bonds.”

Certificate of Indebtedness

Debentures act as a proof of the fact that the company is under the debt of a particular creditor, which is usually a bank. The debtors can use the system of ‘clipping their coupons’ to borrow money quarterly or in the period mentioned in the certificate of indebtedness.

Charge on the Assets

The creditor does not become the shareholder of the company by signing a debenture agreement. They may have the rights to discuss and modify the debenture agreement but are not liable to gain interest depending on the profit incurred by the company.

Convertible and Non-Convertible Agreements

These agreements may or may not be liable for conversion into equity shares. The convertible debentures are considered more profitable for the business as compared to the non-convertible ones as the latter charges the company higher interest rates.

Since a debenture agreement is a form of a written commercial transaction, one needs to be extremely careful while signing it. There are a few things that you need to ensure while the agreement is drafted. Hence, it is recommended to consult your business lawyer during the drafting process. A few key things to keep in mind while drafting debenture agreements include:

Check for the Security Offered

It is crucial to understand the security terms that the creditor has offered to the company. Make sure that the clauses discussed are as clear and crisp as feasible so that the creditor cannot tamper with the agreement while asking for interest.

Review the Rollover Terms Carefully

Be careful about the terms for which you are going to pay the interest. There are chances that the initial term gets increased if you do not contact the creditor before-hand. This is called a rollover. Read the terms for rollover carefully as there is no new distinct prospectus made for it.

Be Privy to the Risks Involved

Interest Rate Risk

The debenture agreement is unsecured and has a fixed interest rate. Once signed, the debtor cannot access the changes occurring in the market related to the interest rates. He is obscured from the new opportunities of the market.

Credit Risk

The debtor is not liable to lend the borrowed money to someone else. The debenture signees cannot use the funds on their will to benefit the financial circumstances of their company. They need to use funds according to the investor’s interest.

Liquidity Risk

The issuers cannot exit or break the agreement on their will. It is a mutual bond between the two. The investors can access their funds depending on certain circumstances.

There are various occasions when debenture issuers land up in trouble due to the clauses of the agreement. The lack of future prospectus makes them highly dependant on the investors. If the issuer fails in the project, he can end up with a huge financial loss.

It is highly advisable to hire a business lawyer while drafting and signing a debenture agreement. Prowse Chowne LLP offers you access to a highly skilled professional business lawyer in Edmonton, Alberta. With an experience of over 40 years, we offer you the best guidance and suggestion so that your company gets the best from the debt you are going to meet with. Book a consultation for all your legal services.