Depositary Receipt

Depositary Receipt American Depositary Receipt Global Depositary Receipt International Investment
Depositary Receipts (DRs) are financial instruments representing a foreign company's publicly traded securities, enabling easier investment opportunities by circumventing several barriers in investing directly in foreign markets.
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Definition

Depositary Receipts (DRs) are a type of negotiable financial equity or debt instrument used to represent foreign company’s publicly-traded securities. They are issued by a depositary bank and allow investors to hold shares in equity of other countries outside their own. DRs facilitate easier investment in foreign-based companies, thus mitigating several tax, legal, and corporate governance barriers usually faced when directly investing in foreign securities.

Types of Depositary Receipts

  1. American Depositary Receipt (ADR) ADRs are the most well-known form of depositary receipt in the United States. They allow American investors to purchase shares in foreign companies in a US-based stock exchange like NYSE or NASDAQ.

  2. Global Depositary Receipt (GDR) GDRs represent a bank certificate issued in more than one country for shares in a foreign company. In most instances, the shares represented by GDRs are traded on multiple exchanges around the world.

  3. International Depositary Receipt (IDR) IDRs are depositary receipts traded in exchange markets outside the United States, typically in their home country’s market.

Examples

  1. Alibaba Group Holding Ltd. (BABA) Alibaba is listed on the NYSE and offers American Depositary Shares (ADSs), each representing a number of underlying ordinary shares trading in Hong Kong.

  2. Tata Motors Ltd. (TTM) Tata Motors is listed as ADRs on the NYSE, representing its equity shares trading in India.

  3. Vodafone Group Plc (VOD) Vodafone provides ADRs offered on NASDAQ, aligning with its ordinary shares traded on the London Stock Exchange.

Frequently Asked Questions (FAQs)

Q1: What is the primary purpose of depositary receipts?

  • The primary purpose of depositary receipts is to allow investors in one country to invest in foreign companies’ shares while trading conveniently on their local stock exchange.

Q2: How are ADRs and GDRs different?

  • ADRs are traded on U.S. exchanges and are issued by U.S. banks, while GDRs can be traded on international markets and may be issued simultaneously in multiple countries.

Q3: Are dividends on DRs taxed?

  • Yes, dividends received from DRs are typically subject to withholding tax from the country of the issuing company, but may also be subject to additional tax regulations based on the investor’s home country.

Q4: How are ADRs created?

  • ADRs are created when a broker purchases shares in the foreign company and delivers them to a U.S. depositary bank. The bank then issues ADRs that correspond to these shares, which can be traded on U.S. stock exchanges.

Q5: Can DRs be converted back to the original foreign shares?

  • Yes, DR holders have the option to convert their receipts back into the original foreign shares if needed, through a process handled by the depositary bank.
  1. Custodian Bank: A financial institution responsible for holding and safeguarding a company’s or individual’s financial assets.
  2. Dividend: A distribution of a portion of a company’s earnings, decided by the board of directors, to a class of its shareholders.
  3. Foreign Exchange Market: A global decentralized or over-the-counter (OTC) market for trading currencies.
  4. Public Offering: The sale of securities to the public in the primary market.

Online References

Suggested Books for Further Studies

  1. “Depository Receipts: Markets and Trading” by Unsal Ozdogan and Robin M. Sidel
  2. “International Finance” by Keith Pilbeam
  3. “Global Investments” by Bruno Solnik & Dennis McLeavey
  4. “The ADR Handbook” by Jane McFarland
  5. “Multinational Finance” by Kirt C. Butler

Fundamentals of Depositary Receipts: International Business Basics Quiz

### What is a primary characteristic of a Depositary Receipt? - [x] It represents shares of a foreign company traded on a local exchange. - [ ] It is a type of government bond. - [ ] It is always issued by the company's home country. - [ ] It is a non-transferable financial instrument. > **Explanation:** A Depositary Receipt represents shares of a foreign company but trades on local exchanges, allowing investors to bypass direct foreign investment complexities. ### What does an ADR stand for? - [ ] Active Depositary Receipt - [x] American Depositary Receipt - [ ] Auxiliary Depositary Receipt - [ ] Arbitrage Depositary Receipt > **Explanation:** ADR stands for American Depositary Receipt, representing shares of a foreign entity traded on U.S. exchanges. ### In which market are GDRs typically traded? - [ ] Solely in the United States - [ ] Solely in the issuing country - [x] In multiple international markets - [ ] Only in European markets > **Explanation:** GDRs, or Global Depositary Receipts, are traded in multiple international markets, unlike ADRs which are specific to the U.S. market. ### What financial entity typically issues Depositary Receipts? - [x] Depository Banks - [ ] Stock Exchanges - [ ] The issuing company directly - [ ] Government agencies > **Explanation:** Depositary Receipts are typically issued by depositary banks which hold the underlying shares of the foreign company against which receipts are issued. ### Which tax may apply to dividend payments from Depositary Receipts? - [x] Withholding tax from the issuing country - [ ] Capital gains tax only - [ ] Double taxation with no credits - [ ] They are generally tax-exempt > **Explanation:** Dividends received from DRs usually bear a withholding tax from the country of the issuing company, which also may comply with home country tax laws. ### Can Depositary Receipts be converted back to the original foreign shares? - [x] Yes, through a process managed by the depositary bank. - [ ] No, they are permanent and non-convertible. - [ ] Only under certain conditions. - [ ] Conversion depends on the host country's regulations. > **Explanation:** Holders of DRs can convert them back to the original shares through the process managed by the depositary bank, providing flexibility in holding and managing investments. ### What is an essential role of a custodian bank in the context of DRs? - [x] Holding the underlying foreign shares. - [ ] Issuing the receipts. - [ ] Regulating trading activities. - [ ] Providing investment advice. > **Explanation:** A custodian bank's essential role is to safeguard and manage the underlying foreign shares of the issuing company while the depositary issues the receipts. ### How do Depositary Receipts aid international investors? - [x] By simplifying investment in foreign markets. - [ ] By guaranteeing profit through currency arbitrage. - [ ] By eliminating all investment risks. - [ ] By reducing the need for market diversification. > **Explanation:** Depositary Receipts aid international investors by making it simpler to invest in shares of foreign companies without the complexities of dealing with foreign exchanges directly. ### Which market is primarily associated with American Depositary Receipts (ADR)? - [x] U.S. stock exchanges - [ ] European stock exchanges - [ ] Asian markets - [ ] Latin American markets > **Explanation:** American Depositary Receipts are associated with U.S. stock exchanges, allowing foreign companies' shares to be traded as ADRs in the United States. ### What is one principal benefit for foreign companies issuing ADRs? - [x] Access to U.S. capital markets. - [ ] Exemption from all market regulations. - [ ] Guaranteed increase in share price. - [ ] Avoiding home country regulations. > **Explanation:** One principal benefit for foreign companies issuing ADRs is access to U.S. capital markets, which provides greater potential for raising funds and enhancing market presence in the U.S.

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Wednesday, August 7, 2024
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