Introduction Depositary Receipts are:• Issued by a Depositary• Negotiable instruments• Sponsored and unsponsored• Book-entry or physical form• Represent ownership in home market shares whichDepositary holds in custody• Outstanding DR amounts can rise or fall• Pricing and arbitrage issues
Contd.•Depositary Receipt represents ownership of equity sharesin a foreign company.•These shares are issued against ordinary shares held incustody in the issuers home market.•The stock of many non-US companies trades on USstock exchanges through the use of ADRs. ADRs aredenominated, and pay dividends, in US dollars, and maybe traded like shares of stock of US-domiciled companies.•The first ADR was introduced by J.P. Morgan in 1927 forthe British retailer Selfridges. There are currently fourmajor commercial banks that provide depositary bankservices: BNY Mellon, J.P. Morgan, Citi, and DeutscheBank.
Contd.• DRs enable domestic investors to buy the securities of a foreign company without the accompanying risks or inconveniences of cross-border and cross-currency transactions.• Resembling an ordinary share certificate, the DR certificate contains the general terms and conditions of the depositary receipt that apply to DR holders.• DRs can be listed on a major exchange (e.g., NYSE, AMEX, NASDAQ in the U.S.; London, Luxembourg, or Singapore outside of the U.S.). DRs may also be unlisted, and trade in the over-the- counter (OTC) markets, or be privately-placed with Qualified Institutional Buyers and trade via the PORTAL system.
• DR Ratio-Each depositary share issued represents a certain number of underlying shares held in custody in the issuers home market. Ratios will vary based upon the share price of the underlying shares and the US share price of other companies in that industry• Settlement- DRs trade and settle in accordance with market practice in the markets in which they are traded. For example, ADRs (available in the U.S.) settle via the DTC while Reg S DRs in Europe settle via Euroclear and Clearstream.
Parties involved Issuer Company Company that plans to tap the foreign market through the global issue mechanism. Domestic Custodian Bank (DCBs)• A Banking Company which acts as a Custodian for the ordinary shares or FCCBs of an Indian Company which are issued by it against GDRs or Certificates. Overseas Depository Bank (ODBs)• Bank authorised by the Issuer Company to issue Certificates/ GDRs against issue of FCCBs or ordinary shares of the Issuer Company.• Overseas agent of the Issuer Company .• Registered owner of shares. Its name appears in the Register of Members of the Issuer.• Prepares and issue deposit certificates• Advices on ratio of DRs to common shares,• Appoints custodian,• Assist with stock exchange compliance,• Registration and reporting requirements.
Contd. Lead Manager• Responsible for marketing the issue,• Advising the Issuer on the type of security to be issued i.e. E.g. Equity, Bonds, FCCBs, the rate of interest, price of the security, etc. and• Decides on the nature of investment i.e. GDR/ADR, coupon rate on bonds, conversion price, bonds, etc. Underwriter• Manage the entire transaction, including overall co-ordination• Advice on type of program, listing venue, DR ratio and all capital markets issues• Co-ordinate due diligence process• Line-up participating underwriting syndicate and sell securities• Introduce company to institutional investor client base• Conduct road show with management• Pricing and general marketing of the offer Accountants/Auditors• Prepare financial statements in accordance with recognized GAAP• Prepare and review financial sections, stock exchange disclosure filings and offering circulars
Contd. International Counsel• Prepare and file required documents for securities commission of listing venue• Manage compliances with Securities Laws, Rules & Regulations• Prepare offering circular/prospectus with the working parties• Review research, road show and investor communication materials Legal Advisors/ Indian Counsel• Assistance in preparation of prospectus, depository agreement, indemnity agreement and subscription agreement.• Enabling the Issuer to comply with proper disclosures relating to the issue• Provide legal opinion on DR issuance• Advise Company/underwriters on compliances with domestics regulation relating to DR issuance Other Parties• Printers• Stock Exchange• Custodian
Salient Features• Regulatory Mechanism- Governed by Issue of Foreign Currency Convertible Bonds and Ordinary Shares (through Depository Receipt Mechanism) Scheme, 1993. Reckoned as part of FDI in India. Thus they require to be regulated through ‘Press Notes that publicly state the Government’s position on FDI Policy.• Underlying shares- issued by Issuer Co. to Depository (who is the Registered Owner of shares), in whose name the shares are registered. It is the Depository who subsequently issues the GDRs/ ADRs to the Underwriters for final placement with investors. Physical possession of equity shares is entrusted to Custodian, who is an agent of the Depository.• Denomination– Dollars or some other freely convertible currency. Underlying shares are however denominated in rupees.• Dividend– In Rupees only but Depository converts rupees and pays dividend to ultimate investor in US dollars. Thus, no exchange rate risk for Issuer
Salient Features• Listing–listed and traded on foreign Stock Exchange.• ADRs -NYSE, NASDAQ etc.• GDRs -Luxembourg, London Stock Exchange, Over the counter market in London.• Voting-No voting rights• Transfer–Freely transferable and tradable in the overseas market• Redemption and Sale-GDR/ADR holder has an option to redeem the GDRs/ADRs into the equity shares underlying it.• In the case of redemption, the Depository will request the Custodian to get the corresponding underlying shares released in favour of the non-resident investor. A copy of the same will be sent to the Issuer Company for information and record.• The shares will then be handed over to the non-resident directly and such person will become a member of the Issuer Company and its name will be entered in the Register of Members of the Issuer Company.
Why do they exist?Mutually beneficial to issuers and investorsIssuersCapital Raising ValuationCost of capital Profile issuesDiversification of shareholder base InvestorsTrade locally DisclosureLiquidity aspects Priced in investors’ currencyLow cost of custody Income processing
Advantages to Investors• GDRs/ADRs are designated in foreign currency which is more acceptable to global investors.• Global investors/holders of GDRs/ADRs do not need to be registered with the Securities and Exchange Board of India (the "SEBI").• The identity of GDR/ADR holders is kept confidential since they are freely transferable and in the records of the Issuer Company, the name of the Overseas Depository appears as Registered Owner of shares.• Quick settlement of GDRs/ADRs due to the existence of international systems like, Euroclear and Cedelin Europe and the Depository Trust Company in the U.S.
Advantages to the Issuer• The Issuer Company collects the issue proceeds in foreign currency and is thus able to utilize the same for meeting the foreign exchange component of project cost, repayment of foreign currency loans, etc.• Large amounts can be raised in the global market at cheaper rates.• Dividend payable by the Issuer Company is in Rupees only. The Depository Bank converts Rupees and pays dividend in US Dollars.• There is certainty of raising new capital and the issue terms are much better than those which can be obtained in the local market.• Owing to the restrictive voting rights in the Depository agreement, control is not affected immediately.• It is possible for the Issuer Company to float more than one foreign equity issue in a year
Sponsored Level I ADRs - OTC facility• Lowest level of sponsored ADRs.• When a company issues sponsored ADRs, it has one designated depositary who also acts as its transfer agent.• Can only be traded on the OTC market and the company has minimal reporting requirements with the SEC.• Company not required to issue quarterly or annual reports.• Can upgrade their program to a Level 2 or Level 3 program for better exposure in the United States markets.
Sponsored Level II ADRs- Listing facility• More complicated for a foreign company• Required to file a registration statement with the U.S. SEC and is under SEC regulation• And also Form 20-F which is equivalent of an annual report (Form 10-K) for a U.S. company.• Advantage - shares can be listed on a U.S. stock exchange like NYSE, NASDAQ etc.
Sponsored Level III ADRs – Offering facility• Highest level a foreign company can sponsor• Stricter rules similar to those followed by U.S. companies.• Company is actually issuing shares to raise capital.• Required to file Form F-1 and Form 20-F and must adhere to U.S. GAAP or IFRS standard• Issue materials that are more informative• Examples – Vodafone , Petrobras
Rule 144-A and RegS Rule 144-A• Grants exemption form US registration• Private placement• Holders limited to Qualified Institutional Buyers (QIBs) qualifications• Rationale for creation RegS• Exempt from US registration• Available only to non-US persons
Regulatory Mechanism Foreign Investment Promotion Board (‘FIPB’), Ministry of Finance• Foreign Investment in the Issuer Company within specified Sectoral Cap -No approval from FIPB i.e. Automatic Route of Foreign Investment.• Foreign Investment exceeds specified sectoral cap, -FIPB approval required• However, in the following cases, even though Foreign Investment is within the specified sectoral cap and falls under the automatic route, FIPB approval is required: Indian Company is being established with foreign investment and is owned or controlled by a non-resident entity or The control/ ownership of an existing Indian company, currently owned or controlled by resident Indian citizens/ Indian companies, will be/is being transferred to a non-resident entity due to amalgamation, merger, acquisition etc. or
Contd. Filings with SEBI• Issue of shares requires the filing of an Offering Circular with SEBI for its information and records. Stock Exchanges Approval• In principal approval from the Stock Exchanges in India where the shares of the Company are listed, is required to be obtained prior to listing on the Overseas Exchange. Other Approvals• Issuer must obtain the consent of the financial institutions/banks if it has obtained any financial facilities (term loans, guarantees etc.).
Reporting requirements after issuing ADRs/ GDRs The Issuer to furnish the following information to RBI within 30 days of the close of issue :• Details of the purpose for which the GDRs/ADRs have been raised. If funds are deployed for overseas investment, details thereof;• Details about the Depository, Lead Manager, Sub Details Sub-Mangers to the Issue, Indian Custodian;• Details of the FIPB Approval or the relevant NIC Code in case of Details of automatic route;• Details of Authorized, Issued and paid up capital before and after the issue In case of private placement, details of investors and ADRs/GDRs issued to each of them: Number of GDRs/ADRs issued, their ratio to the underlying shares Details of Issue related expenses Details of listing arrangements Amount raised and the amount repatriated Further, a quarterly return in a specified form to be sent to RBI within 15 days of the close of the quarter.
Pricing of the Receipts• The pricing of Global Depositary Receipt and ADR issues to be made at a price not less than the Average of the weekly high and low of the closing prices of the related shares quoted on a Stock Exchange during the two (2) weeks preceding the relevant date.• The “relevant date" means the date of the meeting in which the board of the company or the committee of directors, duly authorised by the board of the company, decides to open the proposed issue.• Issue related expenses subject to a ceiling of 4% in case of GDRs & 7% in case of ADRs.
Indian DR Scenario• The first ADR was issued by Infosys Technologies in 1999. After that 18 more companies have issued ADRS.• All Indian ADRs are sponsored one and majority of them are either Level II or Level III.• ADR to domestic Share ratio indicates how many domestic share is equivalent to one ADR. For e.g. ICICI Bank’s ratio of 1:2 indicates that 2 domestic shares are equivalent to one ADR.
Contd.• India has the distinction of issuing maximum numbers of depository receipts.
Indian companies have issued the maximum numbers ofDRs while Russian companies have issued the highestvolume of capital
Performance of Indian ADRs/GDRs• Instanex Skindia GDR index measures the performance of Indian ADR/GDR.• The base of the Skindia GDRIndex is April 15, 1994 with the index set consisting of 21 actively traded GDRs and ADRs.• The Index is a market value weighted index.
Two way fungibility• Two-way fungibility means investors (foreign institutional or domestic) in any company that has issued ADRs/GDRs can freely convert the ADRs/GDRs into underlying domestic shares. They can also reconvert the domestic shares into ADRs/GDRs, depending on the market movements for the stock.• In the past, only one-way fungibility was allowed. This effectively meant that once the ADRs/GDRs were converted into domestic shares, they were redeemed by the depository. Only a fresh issue of ADRs/GDRs could reinstate that loss of liquidity in the overseas markets.• The move augurs well for the ADR/GDR holders, who can now take an active part in the buoyant M&A markets in Indian corporate world and enhances liquidity.
End uses of the proceeds include:• financing capital goods imports;• capital expenditure;• prepayment or scheduled repayment of earlier external borrowings;• equity investments in JVs/ WoSsin India.• However end use of the proceeds is not permittedf or: -on-lending or investment in capital market or acquiring a company (or a part thereof) in India by a corporate, -real estate, -working capital, general corporate purpose and repayment of existing Rupee loans.
Arbitrage Between DRs and underlying shares• As both shares and DR receipts trade in different market denominated in Indian Rupee sand USD respectively, it gives rise to arbitrage opportunity• For example, suppose an Indian Mutual fund is holding 1000 ADRs of ICICI Bank. As each ADR has two domestic shares as underlying, mutual fund holding is equal to 2000 shares. Let us on a given day, Each ADR is quoting at USD 36.55. Suppose USD/INR rate on that day is INR46.15/USD. That means each ADR is trading at INR 1687. Suppose ICICI Bank is quoting at Rs. 998 on that day. Value of two domestic shares is INR 1996. This gives rise to clear cut arbitrage opportunity. Indian mutual fund can convert its ADR holdings to domestic shares and sell it in the domestic market. On the other hand, if ADR price is at premium to the domestic market, the reverse will happen – Indian shares getting converted to ADRs and ADRs being sold in the US market.
IDR• similar manner as that ADRs and GDRs. In an IDR, a foreign company lists its shares in Indian domestic market in INR terms while the underlying shares are listed and traded in any foreign exchange.• In the past, though many foreign companies have shown interest to list IDRs, till date only one company has done so – Standard Chartered Bank. 10 IDRs represent one share of Standard Chartered Bank PLC’s share listed in London Stock Exchange.
Eligibility criteria for a foreign company to issue IDRs are:• The foreign company must have pre-issue paid-up capital and free reserves of at least $50 million and have a minimum average market capitalization (during the last 3 years) in its parent country of at least $100 million.• The foreign company’s shares must have a continuous trading record or history on a stock exchange in its parent country for at least three immediately preceding years.• The foreign company must have a track record of distributable profits for at least three out of immediately preceding five years;• The foreign company has not been prohibited to issue securities by any regulatory body and has a good track record with respect to compliance with securities market regulations.