Companies need to use debentures to raise money without reducing their equity. In turn, investors view debentures as a structured method of reducing risk and earning fixed returns. There are two main categories of debentures: convertible and Non-Convertible Debentures (NCD). Investors can optimize their portfolios and make well-informed decisions by knowing the differences between the two. The differences, advantages, dangers, and suitability of these financial products are examined in this blog.

Understanding Convertible and Non-Convertible Debentures 

What Are Convertible Debentures? 

Companies may issue convertible debentures, which are long-term debt instruments that have the option to be converted into equity shares at a later date. These types of debentures give investors the chance to participate in equity while also earning fixed interest during the holding period.

What are Non-Convertible Debentures? 

Debt instruments known as non-converting debentures (NCDs) are those that cannot be exchanged for stock in the issuing business. NCD investors get principal payments at maturity along with fixed interest payments for the duration of the debenture. Many investors who seek steady income and reduced market risk favor NCDs.

Also Read: Importance of Contributory Asset Charges (CACs) in Valuation

Key Difference Between Convertible and Non-Convertible Debentures 

The ability to be converted into equity is the primary factor that separates convertible debentures from non-convertible ones. NCDs only serve as debt instruments, guaranteeing fixed returns without equity exposure, but convertible debentures offer the opportunity to become shareholders.

Features and Benefits of Convertible Debentures  

• Dual Benefit of Fixed Interest and Capital Appreciation – Investors may earn periodic interest payments from convertible debentures. If the company’s share price increases over time, investors may profit from possible capital appreciation upon conversion.

1. 1. Lower Interest Rates Compared to NCDs – Companies offer convertible debentures at lower interest rates than NCDs because they have the option to convert into equity, which lowers the cost of borrowing for businesses.

• Attraction for Risk-Tolerant Investors – Convertible Debentures are preferred by investors with a higher risk appetite, as the potential conversion of these instruments into equity at a later point provides them with an opportunity for higher returns. 

Features and Benefits of Non-Convertible Debentures  

• Predictable Returns and Fixed Interest Payouts – One of the biggest advantages of NCDs is the guarantee of returns. Because investors receive principal at maturity in addition to periodic interest payouts, they are ideal for those seeking Financial stability.

• Lower Market Volatility Exposure – Unlike convertible debentures, NCDs are not affected by changes in the stock market. NCDs are a safer option for cautious investors because they eliminate the need to worry about the volatility of equity prices.  

• Higher Interest Rates Than Convertible Debentures – Companies makes up investors with higher interest rates than convertible debentures because NCDs do not offer conversion into equity, which makes them a desirable choice for investors who prioritize income.

Risk Factors Associated with Convertible and Non-Convertible Debentures  

Convertible debentures’ main risk is that they are subject to changes in the market. Investors may find conversion unappealing if the company’s share price drops, missing out on the expected capital growth. Non-convertible debentures are subject to credit risk, which means that the issuing business could stop making principal or interest payments if it suffers from financial difficulties. Prior to making an investment, investors need to evaluate the company’s credit rating. There may be liquidity concerns with both convertible and non-convertible debentures, especially if the secondary market does not actively trade them. Investors who wish to sell before maturity may have to do so at a discount.

How to Choose Between Convertible and Non-Convertible Debentures?  

Convertible debentures may be preferred by investors seeking both fixed interest payments and capital appreciation, whereas NCDs are more likely to attract to those looking for steady income free from market risk. Convertible debentures may be relevant to risk-tolerant investors who are willing to be exposed to the stock market. However, NCDs would be a better option for investors who are risk averse. NCDs offer better fixed returns than convertible debentures, making them the better choice if earning higher interest is your number one goal.

Also Read: Your Go-to Guide for Complex Securities 

Latest Trends in Non-Convertible Debentures  

Rising interest rates and investor preference for fixed-income securities have led to a rise in demand for NCDs. NCDs with attractive yields are being actively issued by companies. In recent years, a number of corporations and financial institutions, including banks and NBFCs, have issued high-yielding NCDs, offering those unwilling to take risks a profitable investment option. In order to ensure that investors make well-informed decisions, Valuation Advisory Firms helps investors in evaluating the creditworthiness of NCD issuers. To offer thorough investment recommendations, they examine market risks, interest rate trends, and issuer credibility.

Conclusion  

Different investment goals can be achieved by convertible and non-convertible debentures. While NCDs guarantee uniform, certain returns, convertible debentures have the potential for capital growth but also carry market risk. Before selecting between both of them, investors must assess their financial objectives, risk tolerance, and market conditions.

FAQs  

1. How do I evaluate the best Non-Convertible Debentures to invest in?

Investors should evaluate elements like the issuer’s credit rating, interest rates, tenure, and NCD liquidity. By examining issuer credibility and market conditions, consulting Valuation Advisory Services can also assist in making an informed choice.  

2. Are there any sub-types in debentures? How does that impact investment decisions?

Yes, both convertible and non-convertible debentures can be issued as secured or unsecured instruments.

• Secured debentures are backed by company assets and provide additional safety to investors, often preferred for non-convertible variants due to their fixed-income nature.
• Unsecured debentures carry higher risk and are typically offered with higher interest rates to compensate. Investors should always assess the nature of security and the company’s credit profile before investing, often with the help of a valuation advisory firm.

3. How do convertible and non-convertible debentures affect a company’s capital structure?

Convertible debentures can potentially dilute equity upon conversion, affecting ownership and earnings per share (EPS) over time. They are often used by companies aiming to delay equity dilution while still raising capital. On the other hand, non-convertible debentures increase a company’s debt burden without affecting equity, which may impact credit ratings and interest coverage ratios. A careful Valuation Advisory analysis helps balance growth needs with capital efficiency.