What is Global Depositary Receipts?
When an investor looks forward to holding shares in a foreign country the most suitable option available to him is depositary receipts. The depositary receipts are negotiable financial instruments issued by the bank which represent publicly traded shares in a local market of a foreign company. These depositary receipts are issued by the company as a part of an initial public offer so that there is a global trade taking place. depositary receipts increase the number of international investors investing in the shares and return acts as a basis for the international development of the company.
There 3 types of depositary receipts commonly traded in the market. They are:
- Global Depositary Receipt
- American Depositary Receipt
- European Depository Receipt
Let us take a closer look at the Global Depositary receipt.
Meaning of Global Depositary Receipts (GDRs)
Global depositary receipts are the most widely used form of depositary receipt. Global Depositary receipts consist of shares from a foreign company and are traded in the home country. These shares do not originate in the country in which it is usually traded.
These depositary receipts are mainly issued so that the company can trade beyond international borders. These shares are traded on the European as well as American stock exchanges. There is no limitation regarding which local market the shares are traded in.
The GDRs are usually traded in the local currency and the issuer company raises capital through these investments. Though the normal shares are converted to GDRs for trading in the international market, these instruments are negotiable and are traded in different markets simultaneously.
Each GDR’s value is dependent on the value of its underlying asset. Typically, when we calculate 1 GDR= 10 underlying assets though the number of ratios can be different in markets.
Mechanism of Global Depositary Receipt
The main transaction is the transfer of shares from a foreign public company to an outside investor. This trade takes place in local currency and enhances the international business of the foreign company. As this trade takes place between two persons beyond the physical border there is a depository custodian who acts as an intermediary who works for the protection of the two parties in the contract.
There are mainly 4 main parties that come under the trade of Global Depository Receipts.
- Domestic company: The company that issues the share.
- Custodian: They act as a local agent who receives and holds the underlying shares.
- Overseas depository: They act upon the agreement of issuance of the GDR and facilitate the transaction between the overseas investor and the domestic company.
- Overseas investors: They are the ones interested in investing in the GDRs. They are the ones that take help from the depositary for the buying of the shares.
Two contracts come under trading through GDR:
- Depository agreement
The domestic company that is planning to sell the shares to an overseas party comes into the depository agreement between the company and the overseas depository banks who acts as an intermediary for protection on behalf of the parties by the issuance of the GDRs.
- Custodial Agreement
This agreement is between the domestic custodian of the company, usually the broker,s and the overseas depository bank. The brokers are usually in charge of buying and selling the GDRs on behalf of the bank.
Under the GDR trade, the underlying shares are first received by the domestic custodian following the agreement of issuance of GDR among the normally issued shares. The custodian informs the depository bank, who bundles up a certain number of shares and these bundles are termed as GRDs. Then the underlying shares are traded in the market and overseas investors or foreign investors buy them.
Features of Global Depository Receipts
As we mentioned earlier GDRs are the most widely used mechanism by most companies to expand their business internationally. Let us look into the salient features of the Global Depository Receipts:
- GDR is a highly negotiable instrument which is denominated in the local currency.
- They can be traded freely in the local market.
- The depository bank has the power to convert any normal share into a Global Depository receipt to increase international funding for the company.
- Just as a normal share the investors are entitled to bonuses and dividends on the receipts held by them.
- GRDs are the main source through which investors diversify their portfolios internationally.
- As they are highly negotiable there is high liquidity for these instruments.
Depository receipts are the main source of international funds raised by the firm. GRDs are the most convenient form of depository recipients for the investor. Any ordinary share can be converted into a depository receipt by the depository bank. Global depository receipt is traded irrespective of which market they are traded in. They aid in spreading the initial public funding beyond borders. Any person looking forward to investing in international funds will always choose GRD so that they can trade in the local currency.