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AMERICAN DEPOSITORY RECEIPTS
ADRs were primarily created to increase investment access to widely known and often multinational companies. They are typically formed by a depository bank depositing ordinary shares of a foreign company into a trust and issuing receipts of interest in the underlying shares on a domestic exchange. The bank will act as a custodian for the trust handling dividend distribution, currency exchange, proxies, tax reporting, and regulatory filings. It receives a management fee for these services, either from the shareholders or the issuing company. Trading of ADRs occurs by brokers purchasing/selling outstanding ADRs in the domestic market, or on the foreign markets if no shares are available domestically. In the case of purchases in the foreign market, the broker then deposits the foreign shares with the bank in exchange for newly created ADRs. In the case of sales in the local market, the broker will cancel the ADR causing the depository bank to sell the shares in the foreign market and deliver the proceeds in the investor’s currency. Units in the trust are listed on large exchanges primarily in countries with developed capital markets, as if they were shares of a company domiciled in the same country as the exchange. The listing company of the ADR must adhere to the same regulatory requirements and disclosures as the other listed issuers on the exchange. In effect, shares of a foreign company can be purchased on a U.S. stock exchange in the same manner as stock of a U.S. company. So why have the middlemen (trust)? Many investors do not have efficient means of diversifying into foreign companies because of the administrative and implementation issues. Often, trading in foreign markets is more expensive relative to U.S. exchange transaction costs, as well as difficult to execute due to time zone differences. Also, foreign exchanges do not usually have the same regulatory requirements that investors are familiar with here in the U.S., and custody of the assets is costly. Currency exchanges will also have to be utilized in order to purchase ordinary shares of foreign companies. ADRs trade easily and pay dividends in U.S. dollars and settle through U.S. clearinghouses. These implementation barriers coupled with the desire of investors to diversify internationally created a market for underwriters of ADR trusts. There are also Global Depository Receipts (GDRs), International Depository Receipts (IDRs), and European Depository Receipts (EDRs), which accomplish the same benefits already stated but trade in one or more international markets.
ADRs are issued by a U.S. bank that functions as a depositary, having ADR being backed by a specific number of shares in the non-U.S. company. ADRs can be traded on any of the US stock exchange (NYSE, NASDAQ, or AMEX) and over-the-counter. In the case of Rule 144A, they are privately placed and traded. The same concept for ADR has been spread into other regions with the creation of the global depositary receipts (GDRs), international depositary receipts (IDRs), and European depositary receipts (EDRs), which are generally traded or listed in one or more international markets. As of February 2005, this instrument is used by around 2,100 non- US issuers from approximately 80 countries. About 500 of those ADRs are listed in the US exchanges.
ADAVANTAGES OF USING ADRs • The main advantage of buying an American Depositary Receipt rather than the foreign stock itself is the ease of the transaction. • ADRs are a great way to invest abroad without having to convert U.S. dollars to many different currencies • Another advantage offered by an ADR is that if the foreign stock does pay dividends, the investment bank will convert the dividends to U.S. dollars and remit the payment to you. In addition, if the dividend is subject to foreign tax, the investment bank will withhold the tax so you dont have to worry about it • Therefore, if exchange rates were to move against you, it would hurt the value of your ADR. If you are considering investing in foreign stocks, ADRs should be part of your investment decision; however, you should become familiar with all the risks associated with foreign investing before making an investment decision. Advantages to Issuers • Provides a simple means of diversifying a company’s shareholder base and accessing important U.S. market • • May increase the liquidity of the underlying shares of the issuer ADRs can be used as an equity financing tool in both M&A transactions and ESOPs for
U.S. subsidiaries Helps increase a non-U.S. company’s visibility and name recognition in the U.S. investor community
May raise capital in the U.S. market through some types of programs
Advantages to Investors • • • • Offers a convenient means of holding foreign shares Simplifies the trading & settlement of foreign securities; ADRs trade and settle just like U.S. securities Offers lower trading & custody costs when compared with shares bought directly in the foreign market DISADVANTAGES OF USING ADRs Despite all the described advantages, the ADRs do represent the same asset as local shares but may not be “fully fungible” in several countries (meaning they cannot be seamless exchanged with its home market security). For example, until 2001 there was no two-way fungibility for Indian ADRs; in that environment, investors could convert ADRs into local shares but they could not reconvert them back to ADRs. This and other capital control regulations prevent risk less arbitrage opportunities to exist between ADRs and the underlying stock and are one of the reasons that premiums/discounts exist in the ADR market.
PROCEDURES AND MECHANICS OF ISSUING ADRS • ADRs are issued by a US bank, such as J. P. Morgan or The Bank of New York, which functions as a depositary, or stock transfer and issuing agent for the ADR program. • The foreign, or local shares, remain on deposit with the Depositary’s custodian issuer’s home market.
Each ADR is backed by a specific number of an issuer’s local shares (e.g. one ADR representing one share, one ADR representing ten shares, etc.) This is the ADR ratio, which is designed to set the price of each ADR in US dollars.
Financial information, including annual reports and proxies are delivered to US holders on a consistent basis by the Depositary. The dividends are converted into dollars and paid to ADR holders by the Depositary.
KEY COMPONENTS OF A SUCCESSFUL ADR PROGRAM Successful ADR programs are actively traded and widely held. They typically share the following attributes:
• • • •
Attractive market, industry and equity story Active communication of the story to US investors Investor friendly ADR structure (ratio of shares to ADRs) Research and market-making by US investment banks and brokers
FOLLOWING ARE A FEW INDIAN ADRs TRADING IN US HDFC BANK LTD ICICI BANK LTD INFOSYS TECHNOLOGIES LTD VIDESH SANCHAR NIGAM LTD WIPRO LTD REDIFF.COM INDIA LTD
HOW ARE ADRs PRICED? • Let us assume that Russian Vodka Ltd, trades on a Russian stock exchange at 127 Russian roubles • This is equivalent to US$4.58 – assume this for simplicity • Now, a US bank purchases 30 million shares of Russian Vodka Ltd. and re-issues them in the US at a ratio of 10:1 • This means that each ADR you purchase is worth 10 shares on the Russian stock exchange • A quick calculation tells us that each ADR should have an issue price of US$45.80 (US$4.58 per share X 10 shares) – since 10 shares equal 1 ADR • Once an ADR is priced and sold, its subsequent price is determined by supply and demand factors, like any ordinary share
PROCEDURE FOR ISSUE OF ADRs/GDRs
GLOBAL DEPOSITORY RECEIPTS
A negotiable certificate held in the bank of one country representing a specific number of shares of a stock traded on an exchange of another country. To raise money in more than one market, some corporations use global depositary receipts (GDRs) to sell their stock on markets in countries other than the one where they have their headquarters. The GDRs are issued in the currency of the country where the stock is trading. For example, a Mexican company might offer GDRs priced in pounds in London and in yen in Tokyo. Individual investors in the countries where the GDRs are issued buy them to diversify into international markets. GDRs let you do this without having to deal with currency conversion and other complications of overseas investing. The objective of a GDR is to enable investors in developed markets, who would not necessarily feel happy buying emerging market securities directly in the securities’ home market, to gain economic exposure to the intended company and, indeed, the overall emerging economy using the procedures with which they are familiar. Global Depository Receipt (GDR) - certificate issued by international bank, which can be subject of worldwide circulation on capital markets. GDR’s are emitted by banks, which purchase shares of foreign companies and deposit it on the accounts. Global Depository Receipt facilitates trade of shares, especially those from emerging markets. Prices of GDR’s are often close to values of related shares. GDRs are securities available in one or more markets outside the company’s home country. The basic advantage of the GDRs, compared to the ADRs, is that they allow the issuer to raise capital on two or more markets simultaneously, which increases his shareholder base. They gained popularity also due to the flexibility of their structure. GDRs are typically denominated in USD, but can also be denominated in Euros. GDRs are commonly listed on European stock exchanges, such as the London Stock Exchange (LSE) or Luxembourg Stock Exchange, or quoted on SEAQ (Stock Exchange Automated Quotations) International, and traded at two other places besides the place of listing, e.g. on the OTC market in London and on the private placement market in the US. Large part of the GDR programs consists of a US tranche, which is privately placed and a non-US tranche that is sold to investors outside the United States, typically in the Euro markets.
Two different GDR structures When GDRs are structured with a Rule 144(a) offering for the US and a "Regulation S" offering for non-US investors, there are two possible options for the structure. Unitary Structures Under a unitary structure, a single class of DRs is offered both to QIBs in the US and to offshore purchasers outside the issuers domestic market, in accordance with Regulation S All DRs are governed by one Deposit Agreement and all are subject to deposit, Withdrawal and resale restrictions. Bifurcated Structure Under a bifurcated structure, Rule 144(a) ADRs are offered to QIBs in the US and Regulation S DRs are offered to offshore investors outside the issuer’s domestic market. The two classes of DRs are offered using two separate DR facilities and two separate Deposit Agreements. The Regulation S DRs are not restricted securities, and can therefore be deposited into a "side-byside" Level I DR program, and are not normally subject to restrictions on deposits, withdrawals or transfers. However, they may be subject to temporary resale restrictions in the US. ADVANTAGES OF GDR/EDR • • EDRs/GDRs can be launched as part of a private or public offering. They allow a single fungible security to be placed in one or more international markets, thus giving access to a global investor base. • • They may allow the issuer to overcome local selling restrictions to foreign share ownership. GDRs are eligible for settlement through Clearstream, Euroclear.
DISADVANTAGES If the US tranche of a GDR is structured as a Rule 144(a) private placement, the disadvantages of an RADR program will apply. If it is structured as a Level III program, the reporting and cost features of such programs will apply.
WHO CAN ISSUE ADR/GDR? A company can issue ADR/GDR, if it is eligible to issue shares to person resident outside India under the FDI Scheme. WHO CANNOT ISSUE ADR/GDR? • An Indian listed company, which is not eligible to raise funds from the Indian Capital Market including a company which has been restrained from accessing the securities m arket by the Securities and Exchange Board of India (SEBI) will not be eligible to issue ADRs/GDRs. • Erstwhile OCBs who are not eligible to invest in India through the portfolio route and entities prohibited to buy, sell or deal in securities by SEBI will not be eligible to subscribe to ADRs / GDRs issued by Indian companies. END USE RESTRICTIONS No end-use restrictions except for a ban on deployment / investment of such funds in Real Estate or the Stock Market. LIMIT OF OFFERINGS There is no monetary limit up to which an Indian company can raise ADRs / GDRs. VOTING RIGHTS Voting rights on shares issued under the Scheme shall be as per the provisions of Companies Act, 1956 and in a manner in which restrictions on voting rights imposed on ADR/GDR issues shall be consistent with the Company Law provisions. RBI regulations regarding voting rights in the case of banking companies will continue to be applicable to all shareholders exercising voting rights. PRICING OF ADR/GDR The pricing of ADR / GDR issues should be made at a price not less than the higher of the following two averages: (i) The average of the weekly high and low of the closing prices of the related shares quoted on the stock exchange during the six months preceding the relevant date; (ii) The average of the weekly high and low of the closing prices of the related shares quoted on a stock exchange during the two weeks preceding the relevant date.
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