American Depositary Receipt

The American Depositary Receipt (ADR) is a negotiable certificate issued by a US depositary bank. The same represents a specified number of shares. It is a single share that comes from a foreign company’s stock. American Depositary Receipt trades on the US stock markets just like other domestic shares. In other words, it trades with the American deposit shares. 

ADRs provide an opportunity for US investors to purchase stock in foreign companies. These are the stocks that would otherwise never be available. It benefits foreign firms as ADRs enable them to attract capital and American investors. They can do the same without any expense of listing on the US stock exchanges.

How does an American Depositary Receipt work?

A depositary receipt traded in America is always denominated in US dollars. The US financial institution holds the underlying security. Most of the time, it is done by an overseas financial bank. The holders of ADR do not have to transact a particular trade in a foreign currency. Moreover, they need not worry about exchanging currency in the forex market. All these securities are traded and priced in dollars. After that, they are cleared through the US settlement systems.

A US bank must purchase shares on foreign exchange to begin offering an American Depositary Receipt (ADR). The banks hold the stocks as inventories. After that, they issue an ADR meant for domestic trading. These ADRs are listed on Nasdaq or the New York Stock Exchange (NYSE). However, they are also sold over the counter or OTC.

Foreign companies are required to provide detailed financial information to US banks, which makes it easier for American investors to assess a company’s financial health.

Types of American Depositary Receipts

American Depositary Receipts (ADRs) are of two main categories:

• The first one is the sponsored ADR that a particular bank issues on behalf of a given foreign company. A legal agreement is signed between the bank and the business. The foreign company bears the cost of issuing the ADR and retains control over it. The bank is responsible for handling the investors’ transactions. The sponsored ADRs are categorised based on the extent to which a foreign company complies with the rules and regulations of the Securities and Exchange Commission (SEC).

• Next is the unsponsored ADR that is also issued by the bank. However, this certificate is not directly involved with or has the permission to participate from a foreign organisation. Theoretically, a foreign company can have multiple unsponsored ADRs. Several US banks may issue a depositary receipt traded in America. Different offerings account for different dividends at the end. However, with the sponsored programmes, one gets only a single ADR. A bank working with a foreign entity issues them.

The primary difference between sponsored and unsponsored American Depositary Receipts is where they trade. Sponsored ADRs register with the SEC and trade with the major stock exchanges of the US. Unsponsored ADRs, on the other hand, trade only over the counter. They never include any voting rights.

ADR levels

There are three different levels of American Depositary Receipts. These levels depend on the extent to which a company gets access inside the US market.

Level I

Level I accounts for the most basic type of ADR. This level includes foreign companies that are either not qualified or do not want to list their ADRs in the exchange. These ADRs are further used for establishing a trading capital. However, they cannot be used in the case of raised capital. Level I ADRs are limited only to over-the-counter markets and have the least number of requirements from the SEC.

Level I ADRs are highly speculative, and being a basic ADR, they have the highest risks. However, foreign companies find it easy and cheap to gauge investors’ interest levels in terms of securities. That applies mainly to the exchanges in the US.

Level II

People use level II ADRs for trading presence on a given stock exchange. However, just like the basic ADRs, they also cannot be used to raise capital. Level II ADRs have marginally more SEC requirements than level I ADRs. However, they are always above the basic terms with regard to visibility and higher trading volume.

Level III

These ADRs are the most prestigious among all the levels. An issuer can take their help to float public offerings on the US exchange. People use them to establish a substantial trading presence in the US financial markets. Unlike the level I and level II ADRs, they can be used to raise capital. However, they are also subject to reporting at the SEC.

American Depositary Receipt cost and prices

An American Depositary Receipt’s price closely tracks a company’s stock to that of a home exchange. It represents the underlying shares that come on a one-on-one basis. That accounts for a fraction of the share or multiple shares of the said underlying company. An ADR may deter investors if its value is too high. ADR holders realise any capital gains and dividends in US dollars.

Conclusion

An American Depositary Receipt (ADR) is a certificate that is traded in American stock exchanges. Both ADRs and their dividends are always priced in US dollars. American Depositary Receipts represent a liquid, easy way for US investors to invest in and own foreign stocks. These investments open all the investors for double taxation.

One can deal with ADRs only in the US banks and that too with US dollars. They prove to be beneficial both for the banks and the investors.