Interested in foreign market investment but unsure how to proceed?
You must be aware of the challenges of participating in foreign financial markets. American Depository Receipts (ADR) make it easy to invest in those attractive stocks you have been eyeing for months.
ADRs allow US investors to invest in foreign companies without any complications. They no longer have to exchange US dollars for foreign currencies, open a foreign brokerage account, or make trades at odd hours due to different time zones.
Through this method, you can access the international market and participate in the growth of some of the world's largest corporations.
American Depository Receipt allows investors to protect their money from currency fluctuations while gaining access to global markets. Let's go through it in detail.
What is an American Depositary Receipt?
An American depositary receipt is a negotiable certificate issued by a US depositary bank that constitutes a certain amount of foreign company shares. American depositary shares are traded on US stock exchanges in the same way as any other domestic share.
US investors can access foreign companies' equity through American Depositary Shares. Foreign companies can access the vast American investor base by offering American depositary receipts without incurring the time and cost of getting listed on a US stock exchange.
If foreign corporations declare dividends, investors holding American depository receipts become eligible to receive payment. In addition, investors are safe from the inconvenience of dealing with foreign currencies. American depository receipts and dividend amounts are both priced in US dollars.
How do American Depository Receipts work?
A depositary bank issues American Depositary Receipts when a firm based outside the United States or an investor holding foreign securities delivers them to the bank.
Investors can get American Depositary Receipts from a bank in the United States. They can trade these ADRs on a US stock exchange or the over-the-counter market. In addition, ADR investors can redeem their ADRs for ordinary shares in a foreign business. Brokers and other investors who work in international securities markets typically carry out these trades.
Previously, US citizens who wanted to purchase shares in foreign firms had to open a Demat and trading account with a stockbroker in that country. They also had to convert foreign funds into local currency often. Fortunately, now, investors can avoid this by trading American Depositary Shares.
Types and Levels of American Depository Receipts
An organisation's goals for its ADR program and the resources it is willing to devote to it are critical considerations. Businesses have a wide range of programs and physical options to select from.
Sponsored Level 1 ADR Program
Sponsored American Depositary Receipts are issued at different levels, with Level 1 being the most basic. Only a single designated depositary and transfer agency exists for a company's sponsored ADRs.
Level 1 programs dominate the current trading activity in American depositary receipts. This is a simple route for an overseas firm to trade a stock in the United States.
Level 1 stocks are eligible for trading in over-the-counter markets only. They are subject to a few SEC reporting requirements. As a result, the corporation is exempt from filing the reports of the US Generally Accepted Accounting Principles (GAAP).
A company whose stock is already under a Level 1 program can choose to move up to a Level 2 or Level 3 program. This way, it can improve its visibility in the US financial markets.
Sponsored Level 2 ADR Program
An international organisation can participate in a Level 2 ADR program. Any foreign corporation wishing to go for a Level 2 program has to register with the SEC. It must adhere to either US GAAP or IFRS norms.
By advancing to Level 2, the company can have its shares traded on a US stock exchange. NYSE, NYSE MKT, and NASDAQ are examples of such markets. The firm must adhere to the standards of each exchange on which it is listed.
Sponsored Level 3ADR Program
A foreign company can sponsor a Level 3 ADR scheme, the highest possible level. For this, it has to follow the regulations imposed on US businesses.
The corporation must submit a prospectus in Form F-1 and Form 20-F and meet the US GAAP or IFRS standards.
The foreign firm issues shares to obtain money when establishing a Level 3 program. This allows American Depositary Shares to be traded in the home market of the United States.
Due to their reliance on funding from US shareholders, foreign businesses with Level 3 programs release more useful and informative documents to their shareholders. Generally, information on overseas companies having a Level 3 program is the most easily accessible.
Unsponsored ADR Program
Stocks trade on the over-the-counter (OTC) market when unsponsored by a company. Although there is no formal agreement between the foreign corporation and a depositary bank, these ADR shares are issued in response to market demand. Multiple depositary banks may issue unsponsored ADRs. Only ADRs published by a particular depositary will be serviced.
Through ADRs, Indian firms can gain investors in the United States and build a name for themselves in the American market. As cross-border investment has become less cumbersome, capital growth has improved in the Indian market. The demand for ADRs has also grown multifold.
Based on the number of clients actively trading on the NSE, Angel One is India's largest independent retail brokerage business. We are a technology-driven financial services provider. We offer a full range of brokerage and advisory services, margin funding, loans against shares, access to the US stock exchange, and more. Open a Demat account with Angel One and get started today.