The conversion of debentures into shares is a commonly used corporate restructuring mechanism that allows companies to convert debt into equity. This process helps reduce interest burden, strengthen the capital structure, and align the interests of debenture holders with those of shareholders. Governed primarily by the Companies Act, 2013, the conversion requires compliance with statutory provisions, approval of stakeholders, and adherence to prescribed procedures.
This article explains the meaning of debenture conversion and provides a clear, step-by-step overview of the legal procedure involved.
Introduction
One of the most common tools for raising funds is the use of debentures because it enables an organisation to access funds without necessarily having to dilute its ownership. In some instances, however, companies can decide to convert debentures to equity shares either compulsorily or voluntarily as per the terms of issue. This conversion will convert the holders of debentures to shareholders and change the capital structure of the company.
The conversion of debentures into shares is a regulated process under Indian company law and must be carried out strictly in accordance with the Companies Act, 2013, and the terms laid down in the debenture issue documents. Understanding the procedure is crucial for companies, directors, and investors alike.
Meaning of Conversion of Debentures
Conversion of debentures is the conversion of debentures into equity shares of the company. The conversion can be complete or partial, and it might be mandatory or optional based on the terms and conditions when issuing it.
Having been turned into debentures, these latter no longer remain debt, and the holder of them is made a shareholder, with the rights and liabilities of a shareholder. The conversion assists companies in cutting down on liabilities as well as enhancing their debt-to-equity ratio.
Laws that Regulate Conversion
The conversion of debentures into shares is regulated by the Companies Act, 2013, in relation especially to the issue of the debentures, the change of the share capital and the allotment of the shares. Conversion terms should be well-spelt out in the offer document or debenture trust deed during its issue.
In case a debenture is obligatorily convertible, no additional approval of the debenture holders is typically necessary during conversion. But under optional conversion, it is obligatory that the consent of the debenture holders should be obtained.
Varieties of Convertible Debentures
There are two broad categories of convertible debentures, namely fully convertible debentures and partly convertible debentures. Fully convertible debentures are completely transformed into equity shares after a stipulated time, but the partly convertible ones are only transformed into a specific part, and the rest remains as debt.
The type and the date of conversion are determined by the conditions that the shareholders gave and taken by the debenture holders during the issue date.
Procedure for Conversion of Debentures into Shares
The initial point of the conversion process is to check the terms of issue of the debentures. The company should make sure that the conversion is not prohibited by the debenture agreement and that all requirements of conversion have been met.
A Board of Directors meeting is then summoned, where the conversion of debentures to equity shares is to be discussed and approved. The allotment of shares under conversion is approved by the board resolution, and the price and the ratio during issue are approved, where necessary.
In the event that shareholder approval is a sought-after provision in the Companies Act or the articles of association of the company, an extraordinary general meeting is convened. The conversion and any resulting change in the share capital are approved by a special resolution.
Upon the approvals, the company then goes ahead and allots equity shares to the debenture holders. This allocation should be done within the legal periods of time and under the accepted terms.
The company shall submit the required returns to the Registrar of Companies after allotment. This involves the submission of the return of allotment, and the register of the members is updated to show the new shareholders.
Issue of Share Certificates
After the allotment, the company has the duty of issuing share certificates to the holders of the debentures within the stipulated time. Where shares are dematerialised, they are credited to the holders’ demat accounts.
The transformed debentures are cancelled, and the conversion of the debt into equity is recorded in the books of accounts of the company.
Accounting and Tax Implications
From an accounting perspective, conversion of debentures results in a reduction of long-term liabilities and an increase in share capital and reserves. This can positively impact the company’s financial ratios and balance sheet strength.
Tax implications may vary depending on the nature of the debentures and the terms of conversion. Companies and investors should seek professional advice to ensure proper tax treatment.
The Benefits of Debenture Conversion
Debenture conversion assists businesses in cutting down the interest rate and enhancing the cash flow. It also builds up the capital base and boosts investor confidence. In the case of debenture holders, the conversion will offer them an opportunity to be a part of the growth of the company as shareholders.
Conclusion
Debenture conversions into shares are a key move that favours companies and investors when properly implemented. Nevertheless, it is a procedure that is regulated by law and should be followed with a lot of consideration of the Companies Act, 2013, and the conditions of the issue of debentures.
With proper procedures followed and the required approvals obtained, companies can easily convert debentures to equity and strengthen their financial structure.
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