Non-Convertible Debentures 101: A Complete Guide To NCD Investment
NCD investment provides an attractive path for those seeking steady income and portfolio diversification. But what sets NCD (non-convertible debentures) apart from other financial instruments?
With distinct characteristics that shine in the fixed-income avenue, they offer more than just predictable returns. These debt securities present unique advantages that can not be overlooked. Are you curious if they are the right fit for your portfolio? Let us explore non-convertible debenture meaning, their key aspects and find out how they could align with your broader strategy.
What Are Debentures?
Before we explore NCDs, it is important to understand debentures first. The instruments allow organisations to raise capital without giving up ownership like stocks. These instruments are commonly issued by governments for periods exceeding ten years, while businesses use them for long-term financing1.
They provide regular payments to investors, known as coupon payments. The terms, such as the payment schedule and interest rate, are outlined in a contract called an indenture. Companies favour these tools due to their lower costs and extended repayment periods.
There are different types of debentures. One key type is the NCD.
What Are Non-Convertible Debentures In India?
As noted earlier, NCDs are a form of debentures issued by corporates to raise funds from investors. The issue of non-convertible debentures comes with fixed terms and fixed interest rates that mature and cannot be converted to equity shares of their issuing company.
Investors who purchase NCDs typically enjoy regular interest payments at a fixed rate over the term of the Debenture. This makes NCDs an appealing investment choice for investors seeking predictable returns.
NCDs are issued both publicly and privately and are rated by credit rating agencies based on the issuer's creditworthiness. These ratings help investors assess risk before making their investment decision.
Convertible debentures allow investors to exchange debt for company shares, providing equity potential. In contrast, non-convertible options focus purely on fixed interest, offering higher returns without equity conversion.
Features Of Non-Convertible Debentures
Here are features of non-convertible debentures you must keep in mind before making your decision:
1. Fixed Interest Rates
Non-convertible debentures interest rates are fixed, making them an effective way of guaranteeing returns from investments over their duration. You will know exactly how much interest will accrue over its lifespan.
2. Fixed Tenure
NCDs come with fixed tenures, meaning you know exactly when you will receive interest payments and when your principal amount will be returned back to you - can be perfect for investors seeking an established investment horizon.
3. No Equity Ownership
In contrast with convertible debentures, which may be exchanged for equity shares of a company at any point in time, NCDs do not confer any equity ownership and consequently do not confer voting rights or ownership stake in the said business.
4. Tradable On Stock Exchanges
NCDs can often be traded on stock exchanges, giving investors easy and flexible investment solutions. Having these securities readily tradable provides both liquidity and flexibility in portfolio planning.
5. Credit Rating
Nearly all NCDs come equipped with a credit rating from an external agency that assesses their issuer company and offers investors an accurate indication of risk and return in each investment opportunity.
Types Of Non-Convertible Debentures
NCDs can be categorised into two main types. Each has distinct qualities, offering varying levels of risk and reward.
- Secured Non-Convertible Debentures
These are protected by the company’s assets, which act as collateral. If the company defaults, holders of these instruments have a legal claim on the pledged assets. This reduces risk, so the interest rates are generally lower. Investors looking for stability often prefer this option. - Unsecured Non-Convertible Debentures
Unlike the secured type, these lack collateral backing. This means there is no asset to fall back on if the company fails to repay. However, they tend to offer higher returns due to the increased risk. Those willing to take on more uncertainty in exchange for better yields may find unsecured debentures appealing.
Choosing between these two depends on your tolerance for risk and your financial objectives.
Things An Investor Should Consider Before Investing In NCDs
Below are the factors that you must consider checking twice before proceeding ahead with NCDs:
1. Interest Rates
An important element when investing in non-convertible debentures (NCDs) is their interest rates. However, it is wise to assess both return potential as well as risk.
2. Credit Rating
A better issuer credit rating (AAA being the highest) indicates lower risks of default for investors. Before making your NCD investments, it is wise to investigate and confirm they have met all financial obligations as required by investors.
3. Liquidity
Liquidity refers to how easily an investment can be purchased or sold without impacting its price, making NCD investing especially susceptible.
4. Tax Implications
NCD investments have tax repercussions that need to be carefully considered prior to investing. Any income earned on NCDs is considered taxable income and needs to be factored into your investment strategy.
5. Maturity Date
NCDs offer investors a maturity date that determines when issuers will repay the principal amount of investments to investors.
6. Market Conditions
Market conditions have an influence over NCD investments. Rising interest rates could reduce their value over time and reduce any return you see from them.
Regulatory Framework And Investor Protection
1. SEBI Guidelines
To protect investors, SEBI has issued guidelines on non-convertible debentures (NCDs), such as disclosure requirements and monitoring issues financials. These regulations detail requirements such as disclosure, credit rating, and monitoring of the issuer's financials.
2. Credit Rating
A key part of investor protection lies with credit ratings. SEBI mandates issuers obtain one from an approved rating agency so as to provide investors with an independent assessment of an issuer's ability to repay NCDs timely.
3. Disclosure Requirements
Issuers must disclose all pertinent details surrounding an NCD offering, such as terms and conditions, credit rating, use of proceeds, and financials - to give investors full access to relevant data before investing. This ensures investors receive accurate advice before purchasing NCDs.
4. Listing on Stock Exchanges
SEBI has mandated that NCDs must be listed on recognised stock exchanges to provide investors with liquidity and transparency, as the prices and trading volumes for NCDs can be seen publicly. This offers investors access to liquidity as their investments become available for public scrutiny.
Now that you have understood what are NCDs and how they offer fixed returns, you must be wondering what difference it has from corporate fixed deposits as they are also safe and offer fixed returns. Let’s understand this with the comparison below:
Corporate Fixed Deposit Vs Non-Convertible Debentures
Feature | Corporate Fixed Deposits (FDs) | Non-Convertible Debentures (NCDs) |
Source | Offered by businesses and financial institutions. | Raised by corporations to gather funds from the public. |
Return Type | Provides a fixed payout, typically higher than regular bank deposits. | Can have fixed or variable rates, influenced by the terms of the offer. |
Exposure | Generally low-risk, but credit risk depends on the financial stability of the issuing entity. | Market-driven, especially sensitive to interest rate changes. Secured ones are safer, while unsecured carry higher uncertainty. |
Market Volatility | Very little connection to market changes. | Can fluctuate with market conditions, affecting pricing and resale value. |
Protection | Not backed by any form of insurance like DICGC- Deposit Insurance and Credit Guarantee Corporation. | Secured variants are backed by assets; however, neither type is insured. |
Liquidity | Cannot be sold in secondary markets, limiting flexibility. | Easily traded on stock exchanges, offering better liquidity options. |
Potential Gains | Typically offers lower yields compared to higher-risk products. | Higher potential earnings, especially for unsecured options, reflecting added risk. |
Conclusion
Non-convertible debentures offer companies reliable long-term capital without conversion options into equity shares. While they do not feature interest rate guarantees or maturity dates like convertible debentures do.
Overall, non-convertibles make an essential financial tool used both by companies as well as investors - potentially creating an advantageous situation all around for all involved!
If you desire to make an investment in NCDs (Corporate Bonds), sign up on Grip Invest now and explore corporate bonds!
Reference
1. The Economic Times, Accessed from: (https://economictimes.indiatimes.com/definition/debenture)
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Disclaimer: This communication does not constitute advice relating to investing or otherwise dealing in securities and is not an offer or solicitation for the purchase or sale of any securities. Grip Invest Technologies Private Limited ("Grip", formerly known as Grip Invest Advisors Private Limited) is not registered with SEBI in any capacity and does not advise, encourage, or discourage its users to invest or not invest in any securities. Grip is solely an execution-only platform and does not guarantee or assure any return on investments made by you in any opportunities sourced by Grip and accepts no liability for consequences of any actions taken based on the information provided. Your investment is solely based on your judgement. Investments in debt securities are subject to risks. Read all the offer-related documents carefully.
