Definition
A depositary receipt is a financial instrument issued by banks which represents a foreign company’s publicly traded securities. It allows investors to hold shares in the equity of other countries. These are typically used for individuals to invest in foreign companies without the complexities of dealing with cross-border trading laws.
Key Takeaways
- A Depositary Receipt is a negotiable financial instrument that banks issue to represent a foreign company’s publicly traded securities. It allows investors in their home country to buy and sell these shares as if they were domestic shares.
- Depositary Receipts are often used by companies to attract foreign investment. They help to overcome obstacles related to trading foreign shares in overseas markets such as exchange rate issues, differing settlement practices, and regulatory requirements.
- There are primarily two types of Depositary Receipts, American Depositary Receipts (ADRs) and Global Depositary Receipts (GDRs). ADRs deal specifically with US markets while GDRs allow companies to access multiple markets around the world.
Importance
A Depositary Receipt (DR) is a significant instrument in the finance world as it allows investors to hold shares in foreign companies, making it easier and more financially feasible to invest in foreign markets.
They act as negotiable securities, representing securities of a foreign company that are purchased on a local stock exchange, mitigating the complications of dealing with foreign laws and currency issues.
DRs, which can be either American Depositary Receipts (ADRs) or Global Depositary Receipts (GDRs), play a key role in increasing global trade and investment, promoting diversification, and adding depth to the capital markets.
Hence, these are important instruments for global and savvy investors seeking diversification through foreign investments.
Explanation
A Depositary Receipt (DR) forms a significant component of the global financial system, providing an avenue for investors to hold shares in equity of foreign countries. Its main purpose is to simplify the process of investing in foreign stocks, making these potentially lucrative opportunities more accessible to a broader pool of investors.
By holding a Depositary Receipt, investors essentially have ownership of a foreign company’s shares. This gives them the rights to dividends and capital gains related to those shares, while mitigating some of the risks and complexities involved with directly investing in foreign markets.
In addition to offering more accessibility, Depositary Receipts also offer convenience. They are traded, cleared, and settled in the same fashion as any domestic stocks, and investors can easily buy and sell them on the local market during local market hours without the need for cross-border transactions.
Some DRs even provide investors with the right to vote on important company matters. Essentially, Depositary Receipts exist to facilitate and increase global investing, which helps diversify an investor’s portfolio and spread investment risk, while also potentially exposing the investor to growth opportunities in emerging markets.
Examples of Depositary Receipt
A Depositary Receipt (DR) is a physical certificate that allows investors to hold shares in an equity of a foreign country. Here are three real-world examples of DRs:
Alibaba Group Holding Limited: The Chinese multinational conglomerate specializes in e-commerce, technology, and various other sectors. Although based in China, the company issues American Depositary Receipts (ADRs) for American investors who want to invest in the company, but are unwilling or unable to buy shares directly on the Hong Kong Exchange where Alibaba’s shares are listed primarily.
Nokia Corporation: This Finnish telecommunications company was once famous for its mobile phones. It is now focusing on large-scale telecommunications infrastructures. Finnish shares are hard to purchase due to restrictions for certain investors, so Nokia issues ADRs for those who want to invest in the company through the New York Stock Exchange (NYSE).
BP PLC: The British multinational oil and gas company operates in all areas of the oil and gas industry. However, for overseas investors, handling UK-based equity isn’t always easy, hence BP issues ADRs on the NYSE to help U.S investors invest in it, easing out the process of cross-border investing.
FAQ Section – Depositary Receipt
What is a Depositary Receipt?
A Depositary Receipt (DR) is a negotiable financial instrument issued by a bank to represent a foreign company’s publicly traded securities. It allows investors to hold shares in equity of other countries. It is a physical certificate that allows investors to hold shares in the equity of other countries.
What are the types of Depositary Receipts?
There are two main types of Depositary Receipts: American Depositary Receipts (ADRs) and Global Depositary Receipts (GDRs). ADRs are issued in the United States for the shares of a foreign company, while GDRs are issued in international markets.
What are the advantages of Depositary Receipts?
The advantages of Depositary Receipts include diversification, dividend conversion, and convenience. Diversification because it allows investors to invest in foreign companies. Dividend conversion as dividends would be given in the local currency of the investor. And convenience because it reduces the complexity of holding foreign shares.
How do Depositary Receipts work?
A Depositary Receipt works as a vehicle for a foreign company to allow foreign investors to buy shares. The foreign company deposits shares of its stock to the depositary bank that then issues receipts of that stock in a foreign currency to foreign investors.
Where can I trade Depositary Receipts?
Depositary Receipts can be traded on major exchanges like the New York Stock Exchange, London Stock Exchange, and other international exchanges. They can also be traded over-the-counter (OTC).
Related Entrepreneurship Terms
- Euroclear & Clearstream: They are the two main institutions where Depositary Receipts are mainly held.
- ADR (American Depository Receipt): This refers to a negotiable certificate issued by a U.S. bank representing a specified number of shares in a foreign stock traded on a U.S. exchange.
- GDR (Global Depository Receipt): A bank certificate issued in more than one country for shares in a foreign company, often used by foreign firms to raise capital in either U.S. or European markets.
- Custodian Bank: This is a financial institution that holds customers’ securities for safekeeping to minimize the risk of their theft or loss.
- Deposit Agreement: A legal document outlining the terms and conditions between the issuing company and the Depositary Bank relating to a depositary receipt program.
Sources for More Information
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