13.6 : The Bond Indenture

A bond indenture is a detailed legal agreement between a bond issuer and its bondholders that defines the terms and obligations of the bond issuance. It establishes the framework for the bond, specifying key details such as the interest rate, maturity date, face value, and the total issuance amount.

The indenture specifies the repayment terms, detailing whether repayment will be a lump sum at maturity or through systematic contributions to a sinking fund. It also clarifies whether the bonds are secured by collateral or issued as unsecured debt.

Key provisions often included in an indenture are call provisions, which allow the issuer to repurchase bonds before maturity under certain conditions, and protective covenants, designed to safeguard bondholders' interests. Protective covenants may limit additional debt issuance, restrict dividend payouts, or require the issuer to maintain specific financial metrics.

A trustee, usually a bank or trust company, administers the indenture, ensuring adherence to its terms, managing sinking funds, and representing bondholders in the event of default. Covenants can be restrictive (prohibiting certain actions) or affirmative (requiring specific actions), ensuring the issuer operates in ways that protect bondholders.

Bond indentures are essential for ensuring transparency, defining responsibilities, and minimizing conflicts between issuers and bondholders. They provide a structured framework that fosters trust and accountability throughout the bond's lifecycle.