Understanding the similarities and differences between shares and debentures is very important to the investors when contemplating the investment options to include in their portfolio for diversification. Both are investment options and they are different in features and returns. Companies used both shares and debentures to raise capital. The decision to invest in stock or debenture depends on the market condition, risk appetite, and your investment goals. This article explains the similarities and differences between shares and debentures.
A share is the company’s capital divided into small parts. Shares are owned capital. The purchase of shares from a company makes the holders become the owners of that company. Shares give the shareholders the right to receive the dividend from the company’s profit in a year and also the voting right in the company. The price pays to purchase a share of a company is share price and this depends on factors such as macroeconomic factors, the company’s performance, market conditions, and others. Share is an equity instrument and highly liquid. Shareholders rank last for settlement at the time of the company’s liquidation.
Type of Shares
There are 2 major types of shares
- Equity shares
- Preference shares
Equity shares are also known as ordinary shares. An ordinary share is the most common type of shares and gives its owners the right to dividend and vote in the company annual general meeting.
preference share gives its holders a preferential treatment to receive their dividend ahead of equity shareholders. The preference shareholders receive a fixed amount as a dividend. At the time of the company’s liquidation, preference shareholders have ranked ahead of equity shareholders. However, preference shareholders have no right to vote in the case of a public company. Preference shares may have voting right in the case of private companies through their articles of association. Preference shares can be cumulative or non-cumulative, redeemable or non-redeemable, and convertible or non-convertible preference shares.
This is a long-term debt instrument that a company issue for the public members to subscribe. The debenture is a borrowed capital to the issuing company. Therefore, debenture holders are creditors to the company. The holders entitle to the fixed interest and principal amount at the due date. They receive their interest irrespective of whether the company makes a profit or not and ahead of payment of dividend to the shareholders. They rank ahead of shareholders for settlement during the company’s liquidation. However, the debenture holders are not receiving dividends and also don’t have voting right.
Types of debentures
The major types of debentures include:
- Redeemable and non-redeemable debentures
- Convertible and non-convertible debentures
- Secured and unsecured debentures
Redeemable and non-redeemable debentures
Redeemable debentures repaid at the agreed time. While irredeemable debentures are not repaid during the lifetime of the company unless the company is liquidated.
Convertible and non-convertible debentures
Convertible debentures can convert into shares based on the agreed terms and conditions while non-convertible debentures cannot convert into shares.
Secured and unsecured debentures
Secured debentures secured by underlying assets of the company. However, unsecured debentures are not secured by any asset of the company. Therefore, unsecured debentures receive higher interest than secured. An unsecured is also called a naked debenture.
The similarity between shares and debentures
- Both shares and debentures are financial instruments.
- Both are means of raising capital from the public.
- The investors can trade them in the capital market.
- They are both can issue at par, premium, or discount.
Which one is the preferred investment option between shares and debentures?
The preferred investment option between shares and debentures depends on the investor’s personality and risk appetite. Share is a higher risk investment option with a higher return while debenture is a low-risk investment option with low return. You can include both in the portfolio for diversification purposes.
In conclusion, both shares and debentures are similar in certain areas but they have different and unique features which make them different from each other. They have their unique advantages as well as disadvantages. However, your choice between the two depends on your personality, risk appetite, and investment goals.
Afeez is one of the founding partners of Marasas Consulting limited. He consults for both individuals and entities in the area of accounting, management, audit, tax, and investment. He has a wide range of experience both online and offline which allows him to provide relevant and timely professional advice and assistance to business owners with their accounting, tax, management, audit, and investment plans.
Afeez is a member of the Institute of Chartered Accountants of Nigeria (ICAN) and a member of the Nigerian Institute of Management (Chartered). He is a certified Google analyst and strategist. He earned his Bachelor degree in Management and Accounting from Obafemi Awolowo University, Ile-Ife, Nigeria, and earned an ordinary national diploma in Accountancy from The Polytechnic of Ibadan, Oyo State, Nigeria. He earned certification in “Excel Crash Course” and “Reading of Financial Statement” from Corporate Finance Institute, Canada.
Afeez is dedicated to helping clients achieve business success by helping them to establish solid and sound accounting, tax, and financial processes.