Debt Financing - Charges & Debentures

Question 1

What is Debt Financing?

Answer 1

The borrowing of money that has to be repaid with interest to fund company operations

Question 2

What is a Debenture?

Answer 2

Chitty J, Levy v Abercorris Slab and Slab Co
Any document that creates or acknowledges a debt, used by large companies to borrow money at a fixed interest rate

Question 3

What is the borrowing power of directors according to Sec 98 TCA & Sec 94(1)b BCA?

Answer 3

Directors may issue, reissue, sell or pledge debentures without shareholder authorization

Question 4

What happens to a debenture when a company redeems it under Common Law?

Answer 4

It is automatically discharged and cancelled

Question 5

What options does a company have when redeeming its own debentures according to Sec 277(1) TCA?

Answer 5

• Cancel them
• Reissue, pledge or deposit them to secure current or future debts

Question 6

What differentiates different classes of debentures?

Answer 6

Different rights attached to them in respect of interest rates, payment dates, dates of instalments, powers of debenture holders, and rights to subscribe or convert

Question 7

What is a Debenture Stock?

Answer 7

Total debt treated as one large amount with investors given certificates for portions of that total

Question 8

What is a Trust Deed according to Sec 267 TCA?

Answer 8

A legal document allowing trustees to hold and deal with property for the debenture holders

Question 9

What are the duties of a trustee under Sec 278 TCA?

Answer 9

• Duty to furnish the list of debenture holders
• Duty of honesty and good faith
• Duty of care, diligence and skill
• Duty to give notice of events of default

Question 10

What rights do debenture holders have?

Answer 10

Interest Payment: Right to receive agreed-upon interest.
Principal Repayment: Right to get back the original investment at maturity.
Security: If secured, the right to claim company assets.
Information: Right to access financial information about the company.
Enforcement: Right to take legal action for payment defaults.
Priority in Liquidation: Right to be repaid before shareholders if the company goes bankrupt.
Fair Treatment: Right to be treated fairly in restructuring or special resolutions.
Conversion: If applicable, right to convert debentures into shares.
Action in Default: Right to take action if the company defaults.

Question 11

What are the benefits of Trust Deeds?

Answer 11

For Companies:

Credibility and Trust: The trust deed enhances the company’s credibility and provides a clear framework for debt issuance.
Efficient Management: Streamlines the administration of debenture issuance and ensures compliance with the terms.
Protection in Default: Provides a clear mechanism for handling defaults.
Facilitates Capital Raising: Easier for the company to issue debentures and raise funds.

For Debenture Holders:

Protection and Security: Offers legal protection and ensures timely payments of interest and principal.
Representation: The trustee represents the interests of debenture holders, ensuring their rights are protected.
Priority in Liquidation: Debenture holders often have priority over shareholders in case of liquidation.
Transparency: Provides regular updates and clarity on the company’s financial situation.
Clear Rights and Remedies: Clearly outlines debenture holders’ rights and available actions in case of default.

Question 12

What is a Charge?

Answer 12

A form of proprietary assignment given as security for a company’s debt

Question 13

What is the definition of a security interest according to Sec 4 TCA?

Answer 13

A security interest in or charge upon any property of the company created to secure the payment of an obligation

Question 14

What are the types of Security Interests?

Answer 14

• Mortgage
• Bond
• Lien
• Pledge

Question 15

What is the quality of a security interest?

Answer 15

A security interest may only arise from a
transaction intended to create or give
security

• A security interest is a proprietary right
exercisable against charged property. It is a
right in rem.

• The interest may only be created by grant
and not by reservation

• A security interest implies a restriction on
the company’s dominion over the property
concerned.

Question 16

What is the significance of the Rule of Construction regarding charges?

Answer 16

A charge may only arise from a transaction intended to create a charge

Question 17

What is a Fixed Charge?

Answer 17

A charge that attaches to a specific piece of property and gives the lender a legal right over that asset

Question 18

What is a Floating Charge?

Answer 18

An immediate equitable charge on the company’s assets that does not attach to specific property until crystallization

Question 19

What happens during crystallization of a floating charge?

Answer 19

The charge locks onto specific assets and the lender gains a legal interest in those assets

Question 20

What are the three aspects of Floating Charges?

Answer 20

• Nature of the Interest
• The Power to Carry On Business
• Crystallisation

Question 21

What is required for the registration of charges according to Sec 251 TCA & Sec 237 BCA?

Answer 21

Filing a statement of charge and the original or a true copy of the instrument that created the charge

Question 22

What must a Statement of Charge include according to Sec 252 TCA & Sec 238 BCA?

Answer 22

• Date the charge was created
• Type of charge
• Amount secured by charge
• Brief description of the property charged
• Person(s) entitled to the charge
• Any limits on the company’s power

Question 23

True or False: All debentures are charges.

Answer 23

False

Question 24

Fill in the blank: A _______ is a legal claim someone has on your property because you owe them money.

Answer 24

Lien

Question 25

What is an unsecured debenture?

Answer 25

an unsecured debenture is a loan where the company borrows money without offering any assets as security. It is riskier for investors because there is no collateral to back up the loan, but it often comes with a higher interest rate as compensation for that risk.

Question 26

Why do companies issue irredeemable debentures?

Answer 26

For Long-Term Financing: Companies use irredeemable debentures to raise long-term capital without the pressure of having to repay the principal. Stable Debt Obligation: The company gets a stable debt obligation that lasts indefinitely, making it easier to plan finances over the long term.

Question 27

How can a company redeem its own debentures?

Answer 27

Paying back the full amount at maturity. Buying back the debentures early. Setting up a sinking fund to gradually repay them. Using a call option if the debentures allow for early redemption. Converting debentures into shares (if the debentures are convertible). These methods ensure that the company meets its financial obligations and can reduce its debt over time.

Question 28

Trust deeds and debentures

Answer 28

A trust deed is often used when a company issues debentures (borrowed money). The deed will specify things like: What the company can and can’t do with the borrowed money. What happens if the company doesn’t repay the money. Who is in charge of managing the debenture holders’ interests (the trustee). Example: A company might create a trust deed when it issues debentures to investors, and the trustee makes sure the company follows the rules about paying back the money.

Question 29

Example of a debenture stock

Answer 29

Imagine a company needs to raise $1 million. Instead of taking a bank loan, it issues debenture stock to investors, offering 5% interest. Investors buy the debenture stock, and the company uses the $1 million. The company will then pay 5% interest every year to the investors and repay the $1 million (the principal) at the end of the agreed period.

Question 30

How does a debenture stock work?

Answer 30

Issued by a Company: Companies issue debenture stock to raise funds. Long-Term Investment: Debenture stock is usually a long-term debt (often 5 years or more). Fixed Interest: The company pays a fixed rate of interest, which is usually specified when the debenture stock is issued. No Ownership: Holders of debenture stock do not get any ownership in the company (they are not shareholders). Secured or Unsecured: Some debenture stocks are secured (backed by the company's assets) while others are unsecured

Question 31

What is a mortgage

Answer 31

when you borrow money to buy a house or land, and you promise the lender that they can take the property if you don’t pay back the loan.

Question 32

What is a bond

Answer 32

a way to borrow money where you give someone a written promise to pay them back later, usually with interest.

Question 33

What is a lien

Answer 33

a legal claim someone has on your property because you owe them money. They can use or sell the property if you don’t pay.

Question 34

What is a pledge

Answer 34

when you hand over something valuable (like jewelry or a car) to someone as a promise to repay a loan. If you don’t pay, they can keep or sell it.

Question 35

Explain the rule of construction

Answer 35

A charge may only arise from a transaction intended to create a charge.

Question 36

What is said in re bond worth ltd

Answer 36

in determining whether a charge is intended, the emphasis is on the substance or reality of the contract, not on the words used.

Question 37

What is said in agnew v irc

Answer 37

in order for the court to determine whether a charge is fixed or floating, it goes through a two-step process: #1: the wording of the charge agreement to figure out the parties’ intentions – what rights and responsibilities they meant to give each other over the assets #2: the court will decide whether the charge is legally a fixed or floating charge

Question 38

What is said in re spectrum plus ltd

Answer 38

it was held that in characterizing a charge as fixed or floating, the crucial determinant is the freedom of the company to use the assets in the ordinary course of business, not the nature of the asset charged.

Question 39

What is said in illingworth v houldsworth

Answer 39

A floating charge is more flexible as it hovers over a group of assets (like stock or inventory) that can change over time. It does not attach to any specific asset until something happens – like the company defaulting or going into liquidation – that causes the charge to ‘crystallise’ (meaning it becomes fixed on the assets at that point). With a floating charge, the company is still allowed to use, sell or replace those assets.

Question 40

What is said in evans v rival granite quarries

Answer 40

the court said that a floating charge is a present security – it applies right away to all the assets it covers – but it doesn’t give the lender ownership of those assets like a fixed charge would Some judges describe the lender’s rights before crystallization as just a “bundle of equities” meaning that they are weak and not full ownership rights

Question 41

Explain the power to carry on business

Answer 41

Companies are allowed to carry on business because the lender gives the company an implied license to use the charged assets in its business until the charge crystallises. The charge covers the assets, but it doesn’t actually attach to any specific asset until crystallization so the company can freely use or sell those assets until that happens.

Question 42

During crystallisation…

Answer 42

Once a floating charge crystallises, it locks onto specific assets of the company and the lender gains a legal interest in those assets.

Question 43

After crystallisation…

Answer 43

• The company can no longer use or sell the charged assets freely • The assets can now only be used to pay out the secured debts

Question 44

When crystallisation happens…

Answer 44

• The company goes into liquidation (whether forced or voluntary) • A receiver or receiver–manager is appointed • The company stops trading or is no longer a going concern

Question 45

What protections are available

Answer 45

• Debenture holders can appoint a receiver and can be confident that the charge is valid and won’t be challenged for lack of registration • Anyone buying property from the receiver can trust the certificate as proof that the receiver had the legal right to sell.

Question 46

Discuss competing interests

Answer 46

Where multiple creditors assert interests im the same asset, the priority is generally governed by: Time of creation of the interest Registration of the charge Actual or constructive notice to 3rd parties Nature of the interest (eg fixed or floating)

Question 47

Certificate of registration

Answer 47

The registrar will issue a certificate of registration which is considered final proof that the charge was properly registered.

Question 48

Questions to ask to decided when should a charge be registered

Answer 48

1. Is the arrangement a charge 2. Was the charge created by the company? Does the charge fall under statutory exceptions? – certain charges don’t need to be registered like possessory securities (eg plegdes, liens) and negotiable instruments (eg promissory notes, bills of exchange)

Question 49

what does Sec 252 TCA & Sec 238 BCA say

Answer 49

Statement of Charge must include: • Date the charge was created • Type of charge • Amount secured by charge • Brief description of the property charged • Person(s) entitled to the charge • Any limits on the company’s power (floating charge)

Question 50

what does Sec 251 TCA & Sec 237 BCA say

Answer 50

The company must file 2 documents: 1. A statement of charge 2. Original instrument that created or proves the charge or a copy with a statutory declaration stating that the copy is true and correct.