American Depository Receipts

American depository receipts (ADRs) are shares of stock of an investment in a non domestic corporation. The actual shares of this non U.S. corporation share overseas on a non U.S. exchange, so what these ADRs do is provide a vehicle that can be traded on domestic exchanges. This setup makes it very simple for an American investor to buy into a foreign stock. American depository receipts were first issued back in the 1920s.

How ADRs Work

In most cases two different banks are involved in the process of trading ADRs on a U.S. exchange such as the American Stock Exchange. The first is an investment bank, and the second a depositary bank. The investment bank handles the purchase of the foreign shares of stock in the company and offers them for sale in the United States. The depositary bank, in turn, takes care of issuing and canceling American depository certificates backed by shares of domestically held stock based on the orders of investors. Depositary banks do other things as part of the process of issuing these receipts, but they are not directly involved in selling them.

In order to establish an ADR, the investment bank involved in the process makes arrangements to go ahead and buy a certain number of shares of some foreign stock in a non domestic company, and then issues the ADRs on domestic markets. A bank might purchase some set number of these shares of foreign stock in preparation for issuing the ADRs. The bank would have to first register with the SEC before going ahead and offering the ADRs on the market. The SEC is involved because part of its jurisdiction is over the involvement of foreign companies in the domestic markets.

These shares of ADRs are valued in dollars, and the investment bank which holds them may apply to the New York Stock Exchange or other domestic stock exchange to offer them for sale and list them. What they basically constitute are repackaged shares of the foreign stock. They are backed by the foreign shares owned by the investment bank.

How Banks Profit from ADRs

These ADRs once they are accepted will trade on the NYSE just like any other stock there. The investment bank that went through the trouble of buying the foreign stock and working with the depositary bank to issue the ADRs would charge a fee for their efforts. This is where investment banks make their money on the deal. They basically take a mark up on a product they did not create insinuating ownership in a company they have nothing to do with. Sometimes the foreign companies actually contract with domestic investment banks to make these kinds of purchase and get ADRs on the NYSE. They pay an additional fee to the investment bank in hopes of increasing interest of U.S. investors in their company and its wares. It can be sort of like putting a few toes in the water for a foreign company to see what kind of interest U.S. investors might have without having to risk a whole lot to find out.

American depository receipts are an interesting way that foreign companies have to get their shares traded on United States domestic exchanges. Though these are not the direct shares of the companies in question, nevertheless ADRs do represent a certain number of shares or a portion of a share in those companies. Investors who are interested in American depository receipts should contact a local financial advisor and inquire about foreign shares that might currently be trading in United States financial markets. Situations like this represent unique portfolio building opportunities.

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