Unsecured Corporate Bonds (Debentures)
Debentures are unsecured bonds, which means that bondholders have nothing but the corporation's promise that interest payments will be made on time, or made at all. This promise is often called "full faith and credit."
Debentures are not backed by equipment, securities portfolios, mortgages on real estate, or any other specific assets. Instead of guaranteed collateral, debenture-holders are secured in their principal investment by the general credit of the issuer. Thus, while secured bondholders have priority over debenture-holders in the event of default or bankruptcy, debenture-holders have the same priority as other general creditors, such as banks, insurance companies and other financial institutions, and greater priority than shareholders of common or preferred stock. Debentures usually offer higher yields than secured bonds, which is the expected trade-off for increased risk to the principal investment.
Companies sometimes issue debentures because they don't have enough assets to collateralize into a secured bond issue, or have already collateralized all their assets for secured bonds. Other companies are so successful and established that debenture-holders can trust them to repay their debts with future revenue, leaving specific assets free for financing in the future. The US government is the biggest issuer of debentures, but these instruments will be discussed in further articles.