Global depositary receipts are financial instruments that allow an investor to purchase a stock that trades on an exchange in a foreign country. An American Depositary Receipt (ADR) is an instrument that represents a share in a public corporation that trades on an exchange outside the United States. American Depositary Receipts provide investors with a cheap method of purchasing foreign stocks, according to the University of Massachusetts, Boston.
American Depositary Receipts provide a foreign corporation an alternative to cross listing the company. Multinational corporations that require large amounts of money for investment often register stocks on exchanges in several countries. The multinational corporation then has to meet the requirements to trade on each nation's exchange, including the financial reporting and disclosure requirements and the regulations which apply to offering shares. According to the University of Massachusetts, Boston, foreign corporations are less willing to sell shares on American stock exchanges because of laws that regulate financial instruments.
Exemptions from the Securities and Exchange Act apply to some American Depositary Receipts. According to the University of Cincinnati, a foreign corporation may not have to register stock shares in the United States if less than 300 Americans hold shares in the company. American Depositary Receipts allow people in the United States to invest in the company without going through the full registration and reporting process. The corporation must still follow the registration and reporting requirements for the main exchange on which its stock trades.
American Depositary Receipts provide U.S. investors the opportunity to diversify their portfolios. Some organizations, such as government agencies, pensions, and other firms that are required to make conservative investments, might not want to directly purchase stocks on foreign exchanges. With an ADR, the U.S. investor makes a contract to purchase a claim on the ownership of a foreign stock from a United States bank, which is subject to U.S. regulations.
Stocks that trade using American Depositary Receipts have more liquidity than stocks that trade on the foreign exchange alone, which means there are more opportunities to buy and sell claims on these shares. According to the University of Houston, many exchanges in foreign countries are subject to restrictions on the inflows and outflows of foreign capital. Since the stock never changes ownership on the foreign stock exchange when trading through an American Depositary Receipt, traders can bypass foreign investment restrictions.
- University of Cincinnati: Exemptions for American Depository Receipts and Some Foreign Securities
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Eric Novinson has written articles on Daily Kos, his own blog and various other websites since 2006. He holds a Bachelor of Science in business administration from Humboldt State University.