What advantages does issue of debentures provide over the issue of equity shares?
The issue of debentures provides several advantages over the issue of equity shares:
Firstly, debentures do not dilute control of equity shareholders over management. Since debentures do not carry voting rights, financing through debentures ensures that the existing equity shareholders retain their control over the company's management, unlike equity shares which provide voting rights to new shareholders.
Secondly, financing through debentures is less costly as compared to equity capital. The interest payment on debentures is tax deductible, which provides tax savings to the company. In contrast, dividend paid on equity shares is not deductible from profits as an expense, resulting in no tax saving.
Thirdly, debentures are fixed charge funds and do not participate in the profits of the company. While equity shareholders have a claim on profits, debenture holders are paid only a fixed stated amount of interest at specified intervals, regardless of the company's profitability.
Fourthly, debentures are preferred by investors who want fixed income at lesser risk. This makes them an attractive source of funds for companies, especially when sales and earnings are relatively stable.
Lastly, debenture holders are creditors of the company and have a prior claim on assets over equity shareholders in case of winding up, making them a safer investment option for risk-averse investors.
Explanation
The answer draws directly from the merits of debentures listed in the textbook context. Key advantages over equity shares include: (i) no dilution of control since debentures don't carry voting rights, (ii) lower cost due to tax deductibility of interest, (iii) fixed charge nature meaning debenture holders don't participate in profits, (iv) suitability for stable earnings situations, and (v) preference by investors seeking fixed income at lower risk. The context also clarifies that unlike dividends on equity shares, interest on debentures is tax deductible, providing a significant cost advantage.