Study Notes: Business Finance & Accounting

Loan capital

The three main methods of raising loan capital are:

• Bank overdrafts
• Bank loans
• Debentures

Bank loans and overdrafts ware covered in separate revision notes.

Debentures are a long-term source of finance.  A debenture is a form of bond or long-term loan which is issued by the company.  The debenture typically carries a fixed rate of interest over the course of the loan.

Debentures exist as an alternative form of investing in a company that is more secure than investing in shares because interest payments must be made by the company. They can also include a security that will guarantee the investment even if it defaults and there are two different ways for the debenture to be secured. However, debenture holders have no share in the company itself.

If a company borrows money, it will give its creditor a document to evidence the existence and terms of the loan. This document is called a debenture. Under the debenture, the capital sum borrowed is repayable at a future date.

During the period of the loan, the company has to pay interest to the creditor. In order to improve their chances of recovering the debt from the company in the event of its collapse, a creditor may take a charge over some or all of the assets of the company. This increases the creditor's chance of being repaid on the insolvency of the company.

Accordingly, although there is no requirement that a debenture must be secured by a charge over some or all of the company's assets, most debentures will include some form of security for practical reasons.