Debentures are the bonds that are not backed by or secured by a property or certain collateral. Instead of backing debentures with collateral or any kind of property the issuer back debentures by trust and faith on the issuer. The bond holder or the debenture holder has a claim on the assets of the issuer that are not pledge to any other kind of debt.
To understand the concept of debentures let’s take an example of a company XYZ that issues a $100 million bond for the investors. Now if the company is backing these bonds with its assets of worth $100 million this will make these bonds a secure investment that is backed by the assets. This kind of investment gives an assurance to the investors that they will be paid back. However if the company XYZ is a credit worthy company and have significant cash flows the company don’t need to back the bonds with assets as they will attract the investors even if the bonds are not secured. These types of bonds that are not backed up by assets or some other kind of surety are known as debentures.
One thing must be kept in mind while investing in debentures is that even they are not secured by any kind of property or assets still they have a general claim over the property and the assets of the issuer. Therefore if the issuer is to be liquidate the investors holding debentures also have the claim over the property of the issuer.