A debenture is a corporate bond that is not secured by a claim on a specific asset or group of assets, instead it is backed only by the general credit and reputation of the issuer and relies principally on the issuer’s operating cash flows for repayment.  As the bond is not supported by collateral, holders have no recourse to any specific assets of the issuer in the event of default on the debenture.  However, to protect holders of debentures, who are unsecured creditors of the issuer, the indenture usually contains covenants limiting the future issuance of secured debt or any additional debentures.  Debentures are the most common kind of funded debt issued by large, well‑established corporations.

Debenture = Unsecured Bond

Subordinated and junior subordinated debentures are frequently comprised of guaranteed bonds and income bonds:

  • Guaranteed bond – A debenture issued by one firm but guaranteed as to interest and principal by one or more other firms or government entities.  They are contingent liabilities of the guarantors, on whose credit rating the price of the bond depends.

Guaranteed Bond ≠ Secured Bond

  • Income bond – Typically, a junior subordinated debenture that pays interest only when and if earned by the issuer and if the payment is declared by the board of directors, it commonly being cumulative, with the requirement that any unpaid interest accumulate and be paid out when earnings permit.  Income bonds represent a claim (lien) on the issuer’s income and usually replace other bonds during the reorganization of failing firms.  Due to the uncertainty of interest payments, they normally trade “flat” (without accrued interest).

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