An American Depository Receipt, or ADR, is a negotiable certificate which is issued by a US bank. It represents a specific number of shares or just one share on a foreign stock on the American exchange.
Because the underlying security of the certificate is held by a US financial institution, duty and admin costs are much lower than they would be without the ADR.
Banks in the United States tend to purchase large quantities of foreign shares. Then they repackage those shares and place them into a price range that generally falls between $10-$100. American Depository Receipts have been in the financial markets since 1927.
Despite being around for nearly a century, finding unbiased news and information about ADRs can be difficult.
Why Choose an ADR For Your Portfolio?
Diversification is the best way to insure your financial future against the daily ups and downs of the marketplace. An ADR might have a higher growth rate because it is in an emerging market, which gives the investor a chance to earn a better return on their investment when compared to standard stocks, bonds, or money market accounts.
Here are some answers to frequently asked questions about American Depository Receipts (ADR’s):
Are all ADR’s the same?
No. There are actually three different levels of ADR’s:
- Level I – most ADR’s are issued at Level 1. This means that they can only be traded over the counter, but there are only basic associated SEC obligations. The company must be listed on at least one foreign stock exchange. Although annual and quarterly submissions in accordance with U.S. GAAP are not required, an annual report must be published in English in the format mandated by regulations where the company is based.
- Level II ADRs: Level 2 have more obligations but give better visibility in the US because the shares are permitted to be listed on a U.S. stock exchange. A basic form of the 10-K Annual report must be filed, and financial statements also need to be filed in compliance with US Generally Accepted Accounting Principles or International Financial Reporting Standards.
- Level III ADRs: Level 3 is geared towards entities that are seeking to make shares available in order to raise money, rather than merely to trade existing shares. More onerous rules must be complied with, similar to those expected of U.S. companies, in order to achieve Level 3 status. For example, the company must file a prospectus with the SEC as well any important data that has been publically disclosed in the home market. Because of this, information relating to Level 3 companies is the most readily available.
Can a company decides to terminate an ADR program? If so, what happens then?
A termination can occur in certain situations, in the same way that regular shares can be de-listed from an exchange. In the case of an ADR, it could be the foreign issuer or the bank which causes a termination, but usually this is driven by the issuer – a common reason is that the entity is undergoing some kind of merger or perhaps a corporate reorganization.
When an ADR agreement is terminated, all the ADR’s are cancelled and then de-listed from whichever exchange they are listed on (assuming that the ADR is Level 2 as was discussed earlier).
Usually, holders of ADRs are informed in writing no less than thirty days before the termination occurs. The holder then has two options – they can take direct ownership of the underlying foreign shares represented by the ADR or they can take no action. If they take direct ownership, there is no certainty that the shares will be able to trade on any US exchange and in that case the holder would need to partner with a broker who is able to do business wherever the shares are traded.
If the holder opts to take no action and then holds the ADR beyond the date that the termination comes into effect, the bank will keep holding the foreign shares and collect the related dividends, but it will stop passing on the dividends to the holders of the ADR’s – on a temporary basis. The normal practice is that the bank will liquidate and distribute the monies to the multiple holders, usually no later than twelve months from the time of termination.
Christopher has an MBA from a top Canadian University and a decade of Big 5 banking experience plus another decade of marketing knowledge. She has a passion for writing about financial topics and has founded and developed the brand of Underbanked®.