Debentures
A debenture is a long-term debt instrument backed only by the issuer's general creditworthiness rather than specific collateral. In the US the term usually means an unsecured corporate bond; elsewhere it can have slightly different legal meanings.
Some bonds are secured by specific assets, like a mortgage on a building. Debentures aren't: investors rely purely on the issuer's ability to pay. That makes the issuer's financial strength all-important. This entry explains how debentures work, how they rank in default and how they compare with secured bonds.
- Category
- Bonds and Interest Rates
- Reading time
- 3 min
- Also called
- Debenture, Unsecured bonds, Debenture bonds
- Updated
Debentures in plain words
A debenture is a long-term debt instrument issued by corporations and governments to raise funds.1
It needs no collateral or physical assets as backing; the issuer's creditworthiness and reputation are enough.1
Corporate bonds are classed as secured, unsecured, guaranteed or convertible, depending on their place in the capital structure.2
How debentures work, step by step
The issuer sells debentures
To raise long-term funds. See Corporate Bonds.
No assets are pledged
Unlike secured bonds.
Coupons are paid
Regular interest. See Coupon Rate.
Principal is repaid
At maturity.
Covenants protect holders
Limits on extra borrowing.
In default
Rank behind secured creditors. See Debt Seniority.
Worked examples
Example 1 — Coupon income
$1,200 a year$20,000 of 10-year debentures with a 6% coupon.
| Annual interest | $20,000 × 6% = $1,200 |
Debenture holders receive interest based purely on the issuer's promise to pay.1
Example 2 — Secured vs unsecured yields
+80 bpsA company's secured bond yields 5.2%; its debenture yields 6.0%.
| Extra yield | 80 bps |
Lacking collateral, debentures usually pay more than the same issuer's secured debt. See Credit Spread.
Example 3 — Recovery in bankruptcy
25% recoveryA failed company has $300m of assets: $250m owed to secured lenders, $200m in debentures.
| Secured lenders | Paid $250m in full |
| Debenture holders | $50m of $200m (25%) |
Unsecured creditors are paid only after secured ones. See Bankruptcy.
Debenture vs secured bond
| Aspect | Debenture | Secured bond |
|---|---|---|
| Backing | Issuer's credit | Specific assets |
| Yield | Higher | Lower |
| Recovery in default | Lower | Higher |
| Variant | Convertible debentures | Mortgage bonds |
Where debentures appear
Strong companies
Borrowing on reputation alone. See Credit Rating.
Governments
Many government bonds are unsecured.
Convertibles
Debentures that can become shares. See Convertible Bonds.
Income portfolios
Higher coupons than secured debt.
Advantages and disadvantages
Advantages
- Issuers keep assets unencumbered.
- Investors earn higher yields.
- Common and liquid for strong issuers.
Disadvantages
- Lower recovery in default.
- Depend entirely on issuer strength.
- Definitions vary by country.
Going deeper
Read as far as you need. Each level builds on the one before it.
Trust, not collateral
Beginner
Because no assets back them, investors rely on the issuer's overall creditworthiness.1
Place in the structure
Intermediate
A bond's classification depends on its relationship to the company's capital structure.2 See Capital Structure.
UK and India usage
Advanced
In some countries "debenture" can refer to secured debt; always read the bond documents. See Bond.
Common mistakes
Assuming all bonds are secured
Many are not.
Ignoring covenants
They protect unsecured holders.
Chasing the extra yield blindly
Check the issuer's finances.
Assuming one definition
Terms differ by country.
Check your understanding
Test yourself before moving on. Each answer comes with an explanation.
Key points to remember
- Debentures are unsecured long-term debt.
- They rely on the issuer's creditworthiness.
- They yield more than secured bonds.
- They rank behind secured debt in default.
- Meanings vary by country.
Frequently asked questions
Is a debenture the same as a bond?
Are debentures risky?
What is a convertible debenture?
Further learning
- Convertible Bonds
Convertible debentures.
- Credit Rating
Judging the issuer.
Sources
This article is written in our own words. The sources below support the specific facts, rules and figures marked with a number in the text. Links open the original publisher’s page.
- Corporate Finance Institute. Debenture (opens in a new tab) Checked .
- FINRA. Bonds (opens in a new tab) Checked .
Educational content, not financial advice. Examples use hypothetical prices and simplified costs; actual fees, margin rules and regulations vary by broker, market and country. We are not affiliated with any publisher linked above. Last reviewed . Report an error or request a source credit.