Global depository receipt

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What Is a Global Depository Receipt?

A global depository receipt (GDR) is a negotiable financial instrument issued by a depository bank, representing ownership in a foreign company's shares. These receipts trade on international stock exchanges, allowing companies to raise capital in global capital markets outside their home country. GDRs fall under the broader category of international finance and are designed to simplify cross-border investment. They provide investors with a way to gain exposure to foreign equity shares without directly trading on a foreign stock exchange. Each global depository receipt represents a specific number of underlying shares held by the depository bank.²⁶

History and Origin

The concept of depositary receipts originated in the 1920s with American Depositary Receipts (ADRs), which were created to facilitate U.S. investment in foreign companies.²⁵ As global financial markets became more interconnected, the need for a similar mechanism that could be traded on exchanges outside the U.S. emerged. This led to the development of the global depository receipt. GDRs expanded upon the ADR framework, enabling companies, particularly those from emerging markets, to tap into a wider pool of international investors and list their shares on major stock exchanges like the London Stock Exchange or the Luxembourg Stock Exchange.,²⁴ This evolution helped international companies raise capital globally and encouraged international investment.²³

Key Takeaways

• A global depository receipt (GDR) is a negotiable certificate representing shares of a foreign company, traded on international exchanges.
• GDRs enable foreign companies to raise capital from a broader base of international investors.
• For investors, GDRs offer a convenient way to diversify portfolios internationally without direct foreign stock market transactions.
• GDRs are typically denominated in major international currencies such as U.S. dollars or Euros.
• Investing in GDRs carries risks, including market risk, currency risk, and geopolitical risks.²²,²¹

Interpreting the Global Depository Receipt

A global depository receipt simplifies investment in foreign companies by allowing investors to trade these securities on their local exchanges. When interpreting a global depository receipt, it is essential to understand that its price generally correlates with the value of its underlying asset, which are the shares of the foreign company. However, the GDR's trading price can also be influenced by the currency exchange rates between the GDR's denomination currency and the home currency of the underlying shares. Investors often use GDRs for portfolio diversification and to access growth opportunities in foreign markets.

Hypothetical Example

Consider "TechInnovate," a rapidly growing technology company based in India seeking to raise capital from international investors. Instead of listing its shares directly on multiple foreign exchanges, TechInnovate decides to issue Global Depository Receipts.

1. TechInnovate partners with a depository bank, which purchases a large block of TechInnovate's shares.
2. The depository bank then issues GDRs, with each GDR representing, for example, five ordinary shares of TechInnovate. These GDRs are denominated in U.S. dollars and listed on the London Stock Exchange.
3. An investor in the United Kingdom can now purchase these TechInnovate GDRs through their local broker, in U.S. dollars, without needing to open a brokerage account in India or deal with Indian market regulations.
4. If TechInnovate declares dividends, the depository bank receives the dividend payments in Indian Rupees, converts them to U.S. dollars, and then distributes them to the GDR holders, net of conversion expenses and foreign taxes.²⁰

This hypothetical example illustrates how GDRs bridge the gap between foreign companies and international investors, facilitating cross-border capital flow.

Practical Applications

Global depository receipts are widely used for several practical applications in global finance. One primary use is for companies, particularly those in emerging markets, to raise capital from a broader international investor base.¹⁹ Issuers can utilize GDRs through a private placement or a public offering to access foreign capital markets efficiently.¹⁸ For investors, GDRs offer a convenient avenue for international investment, enabling them to gain exposure to foreign companies and markets without directly trading on foreign exchanges, often simplifying the settlement process.¹⁷,¹⁶ GDRs can also enhance the liquidity of a company's shares by listing them on major global exchanges.¹⁵ For example, Infosys and Tata Motors have successfully used GDRs to raise capital from international investors via the Luxembourg Stock Exchange.¹⁴

Limitations and Criticisms

Despite their benefits, global depository receipts come with certain limitations and criticisms. One significant concern is the exposure to foreign exchange risk. While GDRs are typically denominated in a major currency like the U.S. dollar or Euro, the value of the underlying shares is in the foreign company's local currency. Fluctuations in currency exchange rates can impact the returns for GDR holders.¹³ Furthermore, GDRs are subject to the political and economic conditions of the foreign company's home country, introducing country-specific risks.¹² Some academic research also suggests that GDRs can be inefficient and transmit various risks, including sovereign credit risk and geopolitical risks, potentially distorting investor cognition due to differences in trading and listing rules.¹¹ Investors should also be aware of potential administrative and custodial fees, and sometimes cumulative taxes, associated with depositary receipts, which can affect overall returns.¹⁰ Additionally, GDR holders typically do not carry direct voting rights, as these rights accrue to the depository bank.⁹

Global Depository Receipt vs. American Depositary Receipt

The primary distinction between a global depository receipt (GDR) and an American Depositary Receipts (ADR) lies in where they are traded. ADRs are specifically designed for U.S. markets, representing shares of foreign companies and trading on U.S. stock exchanges like the NYSE or NASDAQ.⁸ In contrast, GDRs are broader, representing shares of a foreign company and trading on international stock exchanges outside the United States, such as the London Stock Exchange or the Luxembourg Stock Exchange. While both are negotiable financial instruments issued by a depository bank to facilitate investment in foreign companies, ADRs face stricter U.S. Securities and Exchange Commission (SEC) disclosure rules, whereas GDRs generally have less stringent requirements.⁷,⁶ Both serve the purpose of allowing companies to raise capital internationally and providing investors with exposure to foreign markets without direct foreign stock transactions.

FAQs

What is the main purpose of a global depository receipt?

The main purpose of a global depository receipt (GDR) is to enable companies to raise capital from international investors by allowing their shares to be traded on foreign stock exchanges. It also provides investors with a convenient way to invest in foreign companies without navigating complex foreign markets.⁵,⁴

Are global depository receipts less risky than direct stock investments in foreign markets?

While global depository receipts can simplify access to foreign markets, they do not eliminate all risks. They are still subject to market volatility of the underlying shares, foreign exchange risk, and the political and economic risks of the issuing company's home country.³

How do global depository receipts pay dividends?

When the foreign company pays dividends on its shares, the depository bank that issued the global depository receipt receives these dividends in the local currency. The bank then converts the dividends into the currency in which the GDR is denominated (typically USD or EUR) and distributes them to the GDR holders, usually after deducting conversion expenses and any applicable foreign taxes.,²

Can global depository receipts be converted into actual shares?

Yes, a global depository receipt is convertible into the actual underlying shares of the foreign company. This conversion process is handled by the depository bank and allows GDR holders to take direct ownership of the shares if they choose to do so, although this may involve dealing with foreign market regulations and custody.,¹