What is a Debenture?
A debenture is one of the most powerful tools in UK business finance. It helps lenders feel secure and gives SMEs access to larger funding options. But it also comes with rules, risks, and public visibility. This guide breaks it all down in plain English for founders and finance teams.
What is a Debenture?
A debenture is a legal document that shows a company owes money. It gives a lender rights over the company's assets. In the UK, it must be filed at Companies House. This makes the debt visible to the public. Debentures are common in business loans, especially from banks and alternative lenders. They create a contract that protects the lender and defines what happens if the borrower defaults. Note: While UK debentures are typically secured, in global finance the term can also refer to unsecured debt backed only by the issuer’s creditworthiness, particularly in the US and Canada.
How a Debenture Works
Most UK debentures include two types of security and are set out in an indenture, a legal agreement that outlines the terms of the loan, interest (coupon) rate, maturity date, convertibility, and other conditions.
A fixed charge is tied to a specific asset, like a commercial building or key equipment. Once in place, the asset can’t be sold, leased, or transferred without the lender’s consent. In contrast, a floating charge covers assets that change daily, such as stock or receivables. The company can continue trading with these assets, but if it defaults, the floating charge crystallises and locks down the assets. At that point, the lender can enforce their rights. They may also need to set aside a prescribed portion of the proceeds for unsecured creditors, as required by UK insolvency law.
Types of Debentures Explained
Why Lenders Rely on Debentures
Lenders favour debentures because they offer structured security. If a borrower fails to repay the loan, the lender has the legal right to recover funds by seizing the pledged assets. The first lender to file a debenture at Companies House generally has priority in repayment, which adds another layer of safety.
Debentures also help lenders manage risk. They often include restrictive terms that prevent the borrower from taking on more debt or selling assets without approval. This control lets lenders maintain confidence and justify offering better interest rates or larger loans.
Why SMEs Agree to Debentures
For small and medium-sized enterprises, debentures are often the gateway to funding. Many lenders won’t approve large loans unless the company provides security. By offering a debenture, the business can unlock bigger sums at better rates compared with unsecured business loans.
The flexibility of floating charges allows daily operations to continue normally, letting companies trade, collect payments, and manage cash flow without interference, until a breach or default occurs. This balance between freedom and accountability makes debentures a popular choice in UK SME finance.
Debenture Risks for SMEs
Debentures are not without downsides. One major issue is that they limit future borrowing. Once a debenture is in place, other lenders may refuse to issue new loans unless they accept a second priority position or negotiate a deed of priority. Every debenture is publicly recorded, which means competitors, investors, and suppliers can see that a company has secured borrowing. While not always negative, it can signal financial vulnerability. Additionally, most debentures include strict covenants that limit business activities. For example, a company may need lender approval before selling key assets or changing its financial structure. And in the event of default, lenders can move quickly to appoint administrators or liquidate assets, potentially without court approval. Only limited companies and LLPs can issue debentures, which excludes sole traders and partnerships from this funding route.
Real-World SME Use Cases
- Invoice Finance: A wholesaler borrows £500k against unpaid invoices. The lender files a floating charge over receivables and a debenture covering all current and future assets. If invoices stop paying, the lender can seize other business assets.
- Asset Finance: A construction firm finances £300k of equipment. The lender places a fixed charge on the diggers and backs it up with a debenture to cover the firm’s remaining assets. Learn more.
- Convertible Debenture: A SaaS startup secures a £1m loan through a venture lender. The agreement includes a convertible debenture, allowing the lender to take equity if the company hits certain milestones. Explore equity finance.
Debenture vs Other Types of Security
Debentures in Capital Markets and Financial Reporting
Outside SME lending, debentures also exist as tradable securities. Large corporations and governments may issue them to investors as long-term debt instruments. These debentures do not always involve asset security but instead rely on the creditworthiness of the issuer. Investors receive interest payments, known as coupons, and repayment of principal at maturity.
The indenture document for market-issued debentures contains details such as loan amount, coupon rate, payment schedule, maturity, convertibility options, credit rating, and seniority in repayment. Convertible debentures may be exchanged for shares, while non-convertible ones remain fixed debt. Redeemable debentures specify a maturity date, whereas irredeemable (perpetual) debentures have none.
On company balance sheets, debentures appear as long-term liabilities. For SMEs, this usually falls under loans and borrowings. For larger issuers, debentures may be listed separately, particularly if they are market-traded or convertible. In either case, they represent a financial obligation that must be serviced through regular interest payments and eventual repayment of capital.
Lifecycle of a Debenture
- Loan agreement: Borrower signs terms; lender issues the debenture contract.
- Registration: Lender files the debenture with Companies House within 21 days.
- Ongoing business: SME continues to trade under the conditions set by the debenture.
- Repayment or refinance: Once the loan is cleared, the debenture is marked as satisfied and removed from the register.
- Default event: If the borrower breaches terms, the lender enforces the debenture and may seize control of business assets. Floating charge assets may also be subject to a prescribed part reserved for unsecured creditors.
Final Thoughts
A debenture is the backbone of secured lending in the UK. It gives lenders confidence and helps SMEs raise money at better rates. But it comes with trade-offs, mainly around flexibility and public exposure. If you’re considering a business loan, understanding how debentures work is key to making the right call for your company. Find out how to qualify for a business loan.
