CS Executive Notes of Company Law

CS Executive Notes of Company Law – Chapter 4 (Debt Capital)

CS Executive Notes of Company Law

Debt Capital Chapter 4  notes  are updated for June 2023 and Dec 2023 Exams. These notes are beneficial for CS Executive New Syllabus of ICSI.  

Debt Capital and Deposits

CS Executive Notes of Company Law

According to Section 179, the Board of Directors of a company shall be entitled to exercise all such powers, and to do all such acts and things, as the company is authorised to exercise and do:

Provided that in exercising such power or doing such act or thing, the Board shall be subject to the provisions contained in that behalf in this Act, or in the memorandum or articles, or in any regulations not inconsistent therewith and duly made thereunder, including regulations made by the company in general meeting:

Provided further that the Board shall not exercise any power or do any act or thing which is directed or required, whether under this Act or by the memorandum or articles of the company or otherwise, to be exercised or done by the company in general meeting.

The Board of Directors of a company shall exercise the following powers on behalf of the company by means of resolutions passed at meetings of the Board, namely: —

  • to issue securities, including debentures, whether in or outside India;
  • to borrow monies;

Restrictions on Powers of Board [Section 180(1)(c)]
The Board of Directors of a company shall exercise the following powers only with the consent of the company by a special resolution, namely:—

  • to borrow money, where the money to be borrowed, together with the money already borrowed by the company will exceed aggregate of its paid-up share capital and free reserves and securities premium, apart from temporary loans obtained from the company’s bankers in the ordinary course of business:

Provided that the acceptance by a banking company, in the ordinary course of its business, of deposits of money from the public, repayable on demand or otherwise, and withdrawable by cheque, draft, order or otherwise, shall not be deemed to be a borrowing of monies by the banking company within the meaning of this clause.

Explanation.—For the purposes of this clause, the expression “temporary loans” means loans repayable on demand or within six months from the date of the loan such as short-term, cash credit arrangements, the discounting of bills and the issue of other short-term loans of a seasonal character, but does not include loans raised for the purpose of financial expenditure of a capital nature;

Section 180(2)
Every special resolution passed by the company in general meeting in relation to the exercise of the powers referred to in clause (c) of sub-section (1) shall specify the total amount up to which monies may be borrowed by the Board of Directors.

Section 180(5)
No debt incurred by the company in excess of the limit imposed by clause (c) of sub-section (1) shall be valid or effectual, unless the lender proves that he advanced the loan in good faith and without knowledge that the limit imposed by that clause had been exceeded.

Doctrine of Ultra Vires

Ultra vires means an act or transaction of a company, which though it may not be illegal, is beyond the company’s powers by reason of not being within the objects of the memorandum of association.

According to Doctrine of Ultra Vires, every activity of company which is beyond the ambit of MOA (objects clause) is ultra vires and hence beyond the powers of company. Therefore such activity is void (not having any existence or effect in the eyes of law). Such activity cannot be rectified (allow) even if all the shareholders give their consent to such activity.

Company cannot be made liable for any such activities. Neither the company nor the other contracting party can sue on it.

Leading Case Law: Ashbury Railway Carriage and Iron Co. Ltd. v. Riche

Ultra Vires acts can be of 2 types:

  • Ultra Vires the company
  • Ultra Vires the directors

Ultra Vires the company
Ultra Vires the company means any activity beyond the powers (object clause of the MOA). Such act is void and has no legal effect in the eyes of law. Even the entire body of shareholders cannot ratify such acts in the general meeting.

Ultra Vires the directors but Intra Vires the Company
Ultra Vires the directors but Intra Vires the Company means any activity beyond the powers of Board of Directors (BOD) but within the powers of company. The shareholders can ratify such acts in the general meeting by passing proper resolution in this regard.

Effects of ultra vires Transactions

  1. Void ab initio
    The ultra vires acts are null and void ab initio. The company is not bound by these acts. Even the company cannot sue or be sued upon. Ultra vires contracts are void ab initio and hence cannot become intra vires by reason of estoppel or ratification.
  1. Injunction
    The members can get an injunction to restrain the company wherein ultra vires act has been or is about to be undertaken
  1. Personal liability of Directors
    It is one of the duties of directors to ensure that the corporate capital is used only for the legitimate business of the company and hence if such capital is diverted to purposes which are not allowed in the memorandum, the director will be personally liable to replace it.

    In case of deliberate misapplication, criminal action can also be taken for fraud.
  1. Company’s right to the property acquired for Ultra Vires purpose
    Where a company’s money has been used ultra vires to acquire some property, the company’s right over such property is held secure and the company will be the right party to protect the property. This is because, though the property has been acquired for some ultra vires object it represents the money of the company.
  1. Only jus in rem remedy is available
    Ultra vires borrowing does not create the relationship of creditor and debtor and the only possible remedy in such case is jus in rem (against any property or thing) and not jus in personam (against any person).


Instruments can be classified as follows:

  1. Pure instruments – instruments which are issued in the original form with their basic characteristics (like equity shares, preference shares, debentures etc.)
  2. Hybrid instruments – instruments which are created by combining the characteristics of different pure instruments (like by combining the characteristics equity shares and debentures etc.)
  3. Derivatives – instruments which are derived from other types of instruments. They are actually in the form of contracts. These contracts are basically based on one or another type of instruments or indexes. Such base instruments/indexes are called underlying (Example:- Future and Options)

According to Section 2(30) of Companies Act 2013 “debenture” includes debenture stock, bonds or any other instrument of a company evidencing a debt, whether constituting a charge on the assets of the company or not.

Thus, debentures covers both secured and unsecured debentures.

The usual features of a debenture are as follows:

  1. A debenture is usually in the form of a certificate (like a share certificate) issued under the common seal of the company.
  2. The certificate is an acknowledgement by the company of its indebtedness to a holder.
  3. A debenture usually provides for the payment of a specified principal sum at a specified date.
  4. A debenture usually provides for payment of interest until the principal sum is paid back.
  5. A debenture is one of a series, although a single debenture is not uncommon. There may be a single debenture issued to one person.
  6. A debenture generally contains a charge on an undertaking of the company, or on some class of its assets or on some part of its profits. Again, this is not an essential element. A debenture which creates no such charge is perfectly valid.
  7. The debentures carry no voting rights at any meeting of the company (Section 71).
  8. Fixed deposit is not debenture.

Judicial Pronouncement about Debentures
The following kinds of documents have been held to be treated as debentures

  1. A legal mortgage of freehold and leasehold land;
  2. A series of income-bonds by which a loan to the company was repayable only out of its profits;
  3. A note by which a company undertook to pay a loan but gave no security;
  4. A receipt or a certificate for a deposit made with a company (other than a bank) when the deposit was repayable after a fixed period after it was made.
  5. The definition of debenture is so wide as to include any security of a company whether constituting a charge on the company’s assets or not.

Kinds of Debentures

Debentures are generally classified into different categories on the basis of:

  1. Convertibility of the instrument
  2. Security of the Instrument
  3. Redemption ability
  4. Registration of Instrument

On the basis of convertibility

  • Non-Convertible Debentures (NCD)
    These instruments retain the debt character and cannot be converted into equity shares.
  • Partly Convertible Debentures (PCD)
    A part of these instruments are converted into Equity shares in the future at notice of the issuer. The issuer decides the ratio for conversion. This is normally decided at the time of subscription.
  • Fully convertible Debentures (FCD)
    These are fully convertible into Equity shares at the issuer’s notice. The ratio of conversion is decided by the issuer. Upon conversion the investors enjoy the same status as ordinary shareholders of the company.
  • Optionally Convertible Debentures (OCD)
    The investor has the option to either convert these debentures into shares at price decided by the issuer/agreed upon at the time of issue.

On basis of Security

  • Secured Debentures (Covered debentures)
    These instruments are secured by a charge on the fixed assets of the issuer company. So if the issuer fails on payment of either the principal or interest amount, his assets can be sold to repay the liability to the investors.
  • Unsecured Debentures (Naked debentures)
    These instrument are unsecured in the sense that if the issuer defaults on payment of the interest or principal amount, the investor has to be along with other unsecured creditors of the company.

On basis of Redeemability

  • Redeemable Debentures
    It refers to the debentures which are issued with a condition that the debentures will be redeemed at a fixed date or upon demand, or after notice, or under a system of periodical drawings. Debentures are generally redeemable and on redemption these can be reissued or cancelled. The person who has been re-issued the debentures shall have the same rights and priorities as if the debentures had never been redeemed.
  • Perpetual or Irredeemable Debentures
    A Debenture, in which no time is fixed for the company to pay back the money, is an irredeemable debenture. The debenture holder cannot demand payment as long as the company is a going concern and does not make default in making payment of the interest. But all debentures, whether redeemable or irredeemable become payable on the company going into liquidation.

On the basis of Registration

  • A Registered Debentures
    Registered debentures are made out in the name of a particular person, whose name appears on the debenture certificate and who is registered by the company as holder on the Register of debenture holders. Such debentures are transferable in the same manner as shares by means of a proper instrument of transfer duly stamped and executed and satisfying the other requirements specified in Section 56 of the Act.
  • Bearer debentures
    Bearer debentures are made out to bearer, and are negotiable instruments, and so transferable by mere delivery like share warrants. The person to whom a bearer debenture is transferred become a “holder in due course” and unless contrary is shown, is entitled to receive and recover the principal and the interest accrued thereon.

Pari Passu Clause in case of Debentures

Debentures are usually issued in a series with a pari passu clause and it follows that they would be on an equal footing as to security and should the security be enforced, the amount realised shall be divided prorata, i.e. they are be discharged rateably. In the event of deficiency of assets, they will abate proportionately. The expression ‘pari passu’ implies with equal step, equally treated, at the same rate, or at par with. When it is said that existing debentures shall be issued pari passu clause, it implies that no difference will be made between the old and new debentures.

If the words pari passu are not used, the debentures will be payable according to the date of issue, and if they are all issued on the same day, they will be payable accordingly to their numerical order. However, a company cannot issue a new series of debentures so as to rank pari passu with prior series, unless the power to do so is expressly reserved and contained in the debentures of the previous series.

Difference between Debenture and Debenture Stock

Debenture is the description of an instrument, while ‘debenture stock’ is the description of a debt or sum secured by an instrument. In the words of LORD LINDLEY, it is “borrowed capital consolidated into one mass for the sake of convenience”.

Distinction between Debenture and Loan

A debenture means a document which creates or acknowledges a debt. A loan creates a right in the creditor to demand repayment, and the substance of a debt is a liability upon the debtor to repay the money [Ram Ratan Karmarkar v. Amulya Charan Karmarkar].

Distinction between Debentures and Shares

  Debentures Shares
1 Debentures constitute a loan. Shares are part of the capital of a company.
2 Debenture holders are creditors. Shareholders are members/owners of the company.
3 Debentures holder gets fixed Interest which carries a priorities over dividend. Shareholder gets dividends with a varying rate.
4 Debentures generally have a charge on the assets of the company. Shares do not carry any such charge.
5 Debentures can be issued at a discount without restrictions. Shares cannot be issued at a discount.
6 The rate of interest is fixed in the case of debentures. Whereas on equity shares the dividend varies from year to year depending upon the profit of the company and the Board of directors decision to declare dividends or not.
7 Debenture holders do not have any voting right. Shareholders enjoy voting right.
8 Interest on debenture is payable even if there are no profits i.e. even out of capital. Dividend can be paid to shareholders only out of the profits of the company and not otherwise.  
9 Interest paid on debenture is a business expenditure and allowable deduction from profits. Dividend is not allowable deduction as business expenditure.
10 Return of allotment is not required for allotment of debentures. Return of allotment in Form PAS-3 is to be filed for allotment of shares.

Provisions of Companies Act 2013 related to the Issue of Debentures [Section 71]

Conditions for issue debentures with an option to convert into shares [Section 71(1)]
By passing Special Resolution in the general meeting, a company may issue debentures with an option to convert such debentures into shares, either wholly or partly at the time of redemption

Debenture shall not carry voting rights [Section 71(2)]
No company shall issue any debentures carrying any voting rights.

Conditions for issue of secured debentures [Section 71(3)]

Secured debentures may be issued by a company subject to such terms and conditions as may be prescribed.

Rule 18(1) of Companies (Share Capital and Debentures) Rules, 2014

The company shall not issue secured debentures, unless it complies with the following conditions, namely:-


An issue of secured debentures may be made, provided the date of its redemption shall not exceed 10 years from the date of issue.

Provided that

  • a company engaged in the setting up of infrastructure projects
  • Infrastructure Finance Companies
  • Infrastructure Debt Fund Non-Banking Financial Companies
  • Companies permitted by a Ministry or Department of the Central Government or by Reserve Bank of India or by the National Housing Bank or by any other statutory authority

may issue secured debentures for a period exceeding 10 years but not exceeding 30 years;

b.Such an issue of debentures shall be secured by the creation of a charge on the properties or assets of the company or its subsidiaries or its holding company or its associates companies, having a value which is sufficient for the due repayment of the amount of debentures and interest thereon.
c.The company shall appoint a debenture trustee before the issue of prospectus or letter of offer for subscription of its debentures and not later than 60 days after the allotment of the debentures, execute a debenture trust deed to protect the interest of the debenture holders; and
d.the security for the debentures by way of a charge or mortgage shall be created in favour of the debenture trustee on-
(i)any specific movable property of the company or its holding company or subsidiaries or associate companies or otherwise; or
(ii)any specific immovable property wherever situate, or any interest therein.


  • In case of any issue of debentures by a Government company which is fully secured by the guarantee given by the Central Government or one or more State Government or by both, there is no requirement for creation of charge under this sub-rule.
  • In case of any loan taken by a subsidiary company from any bank or financial institution the charge or mortgage may also be created on the properties or assets of the holding company.

Provisions related to creation of debenture redemption reserve account [Section 71(4)]

Where debentures are issued by a company, the company shall create a DRR account out of the profits of the company available for payment of dividend and the amount credited to such account shall not be utilised by the company except for the redemption of debentures.

Rule 18(7) of Companies (Share Capital and Debentures) Rules, 2014

The company shall comply with the requirements with regard to Debenture Redemption Reserve (DRR) and investment or deposit of sum in respect of debentures maturing during the year ending on the 31st day of March of next year, in accordance with the conditions given below:-
(a) DRR shall be created out of profits of the company available for payment of dividend;
(b) the limits with respect to adequacy of DRR and investment or deposits, as the case may be, shall be as under;-
  (i) DRR is not required for debentures issued by All India Financial Institutions regulated by RBI and Banking Companies for both public as well as privately placed debentures;
  (ii) For other Financial Institutions, DRR shall be as applicable to Non -Banking Finance Companies registered with RBI.
  (iii) For listed companies (other than AIFIs and Banking Companies as specified in sub-clause (i)), DRR is not required in the following cases –
    (A) in case of public issue of debentures –
      A. for NBFCs registered with RBI and for Housing Finance Companies registered with National Housing Bank;
      B. for other listed companies;
    (B) in case of privately placed debentures, for companies specified in sub items A and B.
  (iv) for unlisted companies, (other than AIFIs and Banking Companies as specified in sub-clause (i))
    (A) for NBFCs registered with RBI and for Housing Finance Companies registered with National Housing Bank, DRR is not required in case of privately placed debentures.
    (B) for other unlisted companies, the adequacy of Debenture Redemption Reserve shall be 10% of the value of the outstanding debentures;
  (v) In case a company is covered in item (A) of sub-clause (iii) of clause (b) or item (B) of sub-clause (iv) of clause (b), it shall on or before the 30th day of April in each year, in respect of debentures issued by a such company, invest or deposit, as the case may be, a sum which shall not be less than 15%., of the amount of its debentures maturing during the year, ending on the 31st day of March of the next year in any one or more methods of investments or deposits as provided in sub-clause (vi): Provided that the amount remaining invested or deposited, as the case may be, shall not at any time fall below 15% of the amount of the debentures maturing during the year ending on 31st  day of March of that year.
  (vi) for the purpose of sub-clause (v), the investments, as the case may be, are as follows: –
    (A) in deposits with any scheduled bank,
    (B) in unencumbered securities of Central Government or any State Government;
    (C) in unencumbered securities mentioned in sub-clause (a) to (d) and (ee) of section 20 of the Indian Trusts Act, 1882;
    (D) in unencumbered bonds issued by any other company which is notified under sub-clause (f) of section 20 of the Indian Trusts Act, 1882
Provided that the amount invested or deposited as above shall not be used for any purpose other than for redemption of debentures maturing during the year referred above.
(c) in case of partly convertible debentures, Debenture Redemption Reserve shall be created in respect of non-convertible portion of debenture issue in accordance with this sub-rule.
(d) the amount credited to Debenture Redemption Reserve shall not be utilized by the company except for the purpose of redemption of debentures.
DRR Requirements
DRR Requirements

Appointment of Debenture Trustees [Section 71(5)]

No company shall

  • issue a prospectus or
  • make an offer or invitation to the public or to its members exceeding 500

for the subscription of its debentures, unless the company has, before such issue or offer, appointed one or more debenture trustees and the conditions governing the appointment of such trustees shall be such as may be prescribed.

Rule 18(2) of Companies (Share Capital and Debentures) Rules, 2014

The company shall appoint debenture trustees under sub-section (5) of section 71, after complying with the following conditions, namely:-

(a)the names of the debenture trustees shall be stated in letter of offer inviting subscription for debentures and also in all the subsequent notices or other communications sent to the debenture holders;
(b)before the appointment of debenture trustee or trustees, a written consent shall be obtained from such debenture trustee or trustees proposed to be appointed and a statement to that effect shall appear in the letter of offer issued for inviting the subscription of the debentures;
(c)A person shall not be appointed as a debenture trustee, if he-
 (i)beneficially holds shares in the company;
 (ii)is a promoter, director or key managerial personnel or any other officer or an employee of the company or its holding, subsidiary or associate company;
 (iii)is beneficially entitled to moneys which are to be paid by the company otherwise than as remuneration payable to the debenture trustee;
 (iv)is indebted to the company, or its subsidiary or its holding or associate company or a subsidiary of such holding company;
 (v)has furnished any guarantee in respect of the principal debts secured by the debentures or interest thereon;

has any pecuniary relationship with the company amounting to

  • 2% or more of its gross turnover or total income or
  • Rs. 50 Lakhs or

whichever is lower, during the 2 immediately preceding financial years or during the current financial year;

 (vii)is relative of any promoter or any person who is in the employment of the company as a director or key managerial personnel

the Board may fill any casual vacancy in the office of the trustee but while any such vacancy continues, the remaining trustee or trustees, if any, may act:

Provided that where such vacancy is caused by the resignation of the debenture trustee, the vacancy shall only be filled with the written consent of the majority of the debenture holders.

(e)any debenture trustee may be removed from office before the expiry of his term only if it is approved by the holders of not less than 3/4th in value of the debentures outstanding, at their meeting.

Duties of debenture trustees [Section 71(6)]

A debenture trustee shall take steps to protect the interests of the debenture-holders and redress their grievances in accordance with such rules as may be prescribed.

Rule 18(3) of Companies (Share Capital and Debentures) Rules, 2014

It shall be the duty of every debenture trustee to-

(a)satisfy himself that the letter of offer does not contain any matter which is inconsistent with the terms of the issue of debentures or with the trust deed;
(b)satisfy himself that the covenants in the trust deed are not prejudicial to the interest of the debenture holders;
(c)call for periodical status or performance reports from the company;
(d)communicate promptly to the debenture holders defaults, if any, with regard to payment of interest or redemption of debentures and action taken by the trustee therefor;
(e)appoint a nominee director on the Board of the company in the event of-
 i.two consecutive defaults in payment of interest to the debenture holders; or
 ii.default in creation of security for debentures; or
 iii.default in redemption of debentures.
(f)ensure that the company does not commit any breach of the terms of issue of debentures or covenants of the trust deed and take such reasonable steps as may be necessary to remedy any such breach;
(g)inform the debenture holders immediately of any breach of the terms of issue of debentures or covenants of the trust deed;
(h)ensure the implementation of the conditions regarding creation of security for the debentures, if any, and debenture redemption reserve;
(i)ensure that the assets of the company issuing debentures and of the guarantors, if any, are sufficient to discharge the interest and principal amount at all times and that such assets are free from any other encumbrances except those which are specifically agreed to by the debenture holders;
(j)do such acts as are necessary in the event the security becomes enforceable;
(k)call for reports on the utilization of funds raised by the issue of debentures;
(l)take steps to convene a meeting of the holders of debentures as and when such meeting is required to be held;
(m)ensure that the debentures have been converted or redeemed in accordance with the terms of the issue of debentures;
(n)perform such acts as are necessary for the protection of the interest of the debenture holders and do all other acts as are necessary in order to resolve the grievances of the debenture holders.

Exemptions clauses in the trust deed [Section 71(7)]

Any provision contained in

  • a trust deed for securing the issue of debentures, or
  • in any contract with the debenture-holders secured by a trust deed,

shall be void in so far as it would have the effect of exempting a trustee thereof from, or indemnifying him against, any liability for breach of trust, where he fails to show the degree of care and due diligence required of him as a trustee, having regard to the provisions of the trust deed conferring on him any power, authority or discretion.

But debenture holders may exempt any liability of the debenture trustee by passing a resolution at a meeting held for that purpose, if such resolution is agreed by majority of debenture-holders holding not less than 3/4th in value of the total debentures.

Meeting of Debenture Holders [Rule 18(4)]

The meeting of all the debenture holders shall be convened by the debenture trustee on-

(a) requisition in writing signed by debenture holders holding at least 1/10th in value of the debentures for the time being outstanding;

(b) the happening of any event, which constitutes a breach, default or which in the opinion of the debenture trustees affects the interest of the debenture holders.

Relevant Provisions with regard to trust deed and its inspection

  • Rule 18(5) states that for the purposes of sub-section (13) of section 71 and sub-rule (1) a trust deed in Form No.SH.12 or as near thereto as possible shall be executed by the company issuing debentures in favour of the debenture trustees within 3 months of closure of the issue or offer.
  • Rule 18 (8) states that a trust deed for securing any issue of debentures shall be open for inspection to any member or debenture holder of the company, in the same manner, to the same extent and on the payment of the same fees, as if it were the register of members of the company. Further a copy of the trust deed shall be forwarded to any member or debenture holder of the company, at his request, within 7 days of the making thereof, on payment of fee.

Remedies Open to Debenture-holders

  • A company shall pay interest and redeem the debentures in accordance with the terms and conditions of their issue. [Section 71(8)]
  • Where at any time the debenture trustee comes to a conclusion that the assets of the company are insufficient or are likely to become insufficient to discharge the principal amount as and when it becomes due, the debenture trustee may file a petition before the Tribunal and the Tribunal may, after hearing the company and any other person interested in the matter, by order, impose such restrictions on the incurring of any further liabilities by the company as the Tribunal may consider necessary in the interests of the debenture-holders. [Section 71(9)]
  • Where a company fails to redeem the debentures on the date of their maturity or fails to pay interest on the debentures when it is due, the Tribunal may, on the application of any or all of the debenture-holders, or debenture trustee and, after hearing the parties concerned, direct, by order, the company to redeem the debentures forthwith on payment of principal and interest due thereon. [Section 71(10)]
  • A contract with the company to take up and pay for any debentures of the company may be enforced by a decree for specific performance. [Section 71(12)]

Disqualification on the directors of a company which has failed to redeem its debentures on due date

Section 164(2)(b) imposes a disqualification on the directors of a company which has failed to redeem its debentures on due date and such failure continues for one year or more. Such person shall not be eligible to be re-appointed as a director of that company or appointed as a director of any other public company for period of five years from the date from which the company has failed to redeem the debentures.

Unsecured debentures amount to deposits

The unsecured debentures amount to deposits under Section 73 of the Act.

Section 186(8) provides that no company, which has defaulted

  • in the repayment of any deposits or
  • in payment of interest thereon

shall give any loan or give guarantee or provide any security or make an acquisition till such default is subsisting.

Note: Rules related to Debentures (Rule 18 of Companies (Share Capital and Debentures) Rules, 2014) shall not applicable in the following cases:

  • any amount received by a company against issue of commercial paper or any other similar instrument issued in accordance with the guidelines or regulations or notification issued by the RBI.
  • any offer of foreign currency convertible bonds or foreign currency bonds issued in accordance with the Foreign Currency Convertible Bonds and Ordinary Shares (Through Depository Receipt Mechanism) Scheme, 1993 or regulations or directions issued by the RBI

Rupee denominated bonds issued exclusively to overseas investors.

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