American Depositary Receipts
American Depositary Receipts or ADRs are receipts that grant someone ownership of a certain number of shares in a foreign company.
What do Nissan Motor and food giant Nestlé have in common? Aside from having names that start with the letter “n”, they both have stocks that trade on American exchanges in the form of American Depositary Receipts, or ADRs.
ADRs are receipts that represent a certain number of shares of a company -- so when you buy one, you instantly become the owner of that designated number of shares. The actual shares of the foreign company represented by the ADRs are held in a bank vault somewhere. The ADRs are then issued against those shares.
Before ADRs were created in 1927, investing in overseas companies used to be a real chore. It meant having to wrestle with foreign currencies and exchanges, in addition to paying extra fees. But thanks to the ADR, we can now invest in these businesses just like we do U.S. companies.
Say, for example, that you’re super happy with your Nissan Altima and want to invest in Nissan Motor. The Japanese company trades on the Nasdaq as ticker NSANY. In this case, you’ll put an order in to your broker to buy a certain amount of NSANY, just as you would if you were purchasing a regular stock. When the time comes to sell, you’ll follow the same process you would for selling a stock.
Several companies have recently de-listed their ADRs from American exchanges and either put them back on foreign exchanges or on the Pink Sheets. This is because many want to avoid paying the listing fees, legal fees, and the cost of maintaining the ADR, not to mention the accounting fees required to make sure the company remains compliant with SEC requirements.
If you’re holding an ADR when it gets de-listed from the NYSE or NASDAQ, this doesn’t mean that you’ll suddenly lose the money you’ve invested. Rather, your ADRs will typically be converted to foreign shares or new ADRs that are listed on the over-the-counter exchange or Pink Sheets. Here's a rundown of the different types of ADRs:
Types of ADRs
Level 1 ADR
A Level 1 is the most basic type of ADR. Level 1 ADRs trade on the over-the-counter (OTC) market and aren't required to issue quarterly or annual reports, making them slightly more difficult to follow. But even though an investor needs to dig a bit more for information for these, this doesn't mean the company is inferior -- a number of well-known businesses are available as Level 1 ADRs for the reasons given above.
Level 2 ADR
A Level 2 -- or listed -- ADR is traded on the NYSE, Nasdaq, or Amex. Companies with this classification have to file an annual report (Form 20-F) with the SEC each year. They also must meet the requirements of the stock exchange on which they are listed.
Level 3 ADR
A Level 3 ADR is the crème de la crème of the ADR world. This classification obligates a company to meet all the requirements of a Level 2 ADR, file a prospectus, and file with the SEC any material information given to shareholders in the company's local market. A Level 3 ADR is used when companies wish to issue new shares to raise capital.