A Guide to American Depository Receipts (ADR) for Indian Investors

An American Depository Receipt (ADR) provides investors with a way to access shares of companies outside their domestic market. ADRs are traded in US dollars through US stock exchanges or, in some cases, over-the-counter markets.

For Indian investors, ADRs can provide exposure to Indian companies that trade in the United States. They can also help investors understand how global markets value and trade Indian businesses.

This comprehensive guide explains what an ADR is, how it works, its features and types, its comparison with a GDR, factors to consider, and its benefits and risks.

History and Introduction to ADR

The first ADR was created in 1927 by J.P Morgan for Selfridges, a British clothing company. This instrument allowed US investors to gain exposure to a foreign company without directly purchasing shares on a foreign exchange.

The ADR market expanded as international companies looked for ways to access US investors and capital markets. Over time, ADRs became an instrument for representing foreign securities in the United States.

Today, ADR can trade on major US exchanges such as the New York Stock Exchange (NYSE) and Nasdaq. Some ADRs also trade through over-the-counter (OTC) markets.

Indian companies such as Infosys, ICICI Bank, HDFC Bank, Wipro, Dr Reddy’s Laboratories, and others have used the ADR structure to establish a presence in the US stock market.

What are American Depository Receipts (ADRs)?

An ADR is a US-traded security that represents ownership in shares of a non-US company. The underlying shares are held with a custodian in the company’s home country.

A US depository bank issues ADRs against those underlying shares. The ADR trades in US dollars and can be bought and sold through brokers that provide ADR trading services.

The number of underlying shares represented by one ADR depends on the ADR ratio. One ADR can represent one ordinary share, several ordinary shares or a fraction of an ordinary share.

ADR holders may receive economic benefits such as dividends, subject to the terms of the deposit agreement and applicable fees.

How Do ADRs Work?

The ADR mechanism connects an overseas company’s ordinary shares with investors trading in the United States. Here is the step-by-step working process.

• Underlying Shares:

Ordinary shares of the foreign company are held with a custodian in the company’s home market.

• Depository Bank:

A US depository bank issues ADR against the underlying shares held with the custodian.

• ADR Ratio:

The depository determines how many ordinary shares are represented by each ADR.

• US Trading:

Investors trade the ADR in US dollars through the relevant US exchange or market.

• Corporate Actions:

The depository generally processes dividends, shareholder communications and other corporate actions for ADR holders.

• Conversion:

Depending on the programme terms, ADR holders can surrender ADRs and receive the corresponding underlying shares.

• Price Relationship:

The ADR price reflects the underlying share price, ADR ratio, currency exchange rate, fees and market demand.

For example, if one ADR represents three Indian company shares, the appropriate fair value depends on the Indian share price multiplied by three and converted into US dollars.

Note: The actual price can be different temporarily because Indian and US markets operate at different times. Liquidity, currency fluctuations and investor demand can also create short-term differences.

Types of ADRs

ADRs are commonly classified into two main types: Sponsored and Unsponsored. The term foreign company means a non-US company. For a US investor, an Indian company ADR is considered a foreign company.

Sponsored ADR

A sponsored ADR is established with the participation of the foreign company. The company enters into an agreement with a US depository bank responsible for services such as recordkeeping, dividend distribution and stakeholder communication.

Sponsored ADRs generally provide investors with greater access to company information and corporate participation. The foreign issuer determines the ADR structure and works with the depository institution.

Unsponsored ADR

An unsponsored ADR is established without a direct agreement between the foreign company and the depository bank. A broker or financial institution may establish such an ADR to facilitate US trading.

Unsponsored ADR are generally associated with OTC markets and have fewer issuer-supported investor relations arrangements. They can also involve different disclosure and information availability compared with sponsored programmes.

Levels in ADRs

ADRs are categorised into three levels, based on their regulatory and reporting requirements under U.S. securities laws, each offering a different level of liquidity and flexibility to investors:

Level 1 ADRs:

The Level 1 ADR programme provides foreign companies with a basic US trading presence. It cannot be used to raise capital and trades through over-the-counter markets rather than regulated stock exchanges.

They generally involve lower regulatory and reporting requirements than higher-level programmes. Level 1 is also the only ADR level that can be unsponsored.

Level 2 ADRs:

The Level 2 ADR programme allows a foreign company to establish an ADR presence on a US stock exchange. However, the programme cannot be used to raise new capital. The foreign issuer must meet additional regulatory and reporting requirements. Level 2 ADRs therefore provide greater market visibility and transparency than Level 1 ADRs.

Level 3 ADRs:

Level 3 ADRs provide the broadest traditional exchange-listed ADR structure. Foreign companies can establish a US trading presence and raise capital through the ADR programme.

The issuer must meet significant US securities disclosure requirements. Companies generally use Level 3 ADRs when they want deeper access to US investors and international capital markets.

Why Do Foreign Companies List ADR?

Foreign companies list ADRs to get access to a larger pool of institutional investors and improve their visibility in the US financial market. A listing on a US exchange can increase the company’s exposure among institutional investors, analysts, and global funds.

ADRs can also provide companies with access to international capital markets. A US presence may improve liquidity and make the company’s shares more accessible to investors who prefer trading in US dollars.

For companies with substantial international operations, ADRs can strengthen their global brand and provide a market valuation reference. They can also support employee compensation, acquisitions, and strategic transactions depending on the structure of the ADR.

List of Popular Indian ADR stocks

The term Indian ADR stocks refers to ADRs of Indian companies or companies with significant Indian business operations that are traded in the US market.

• Infosys ADR
• ICICI Bank ADR
• HDFC Bank ADR
• Wipro ADR
• Dr Reddy’s Labs ADR
• MakeMyTrip
• Yatra Online
• Sify Technologies
• Zoomcar Holdings
• Reliance Industries Ltd
• Axis Bank ADR
• Tata Motors Passenger Vehicles ADR

How to Invest in ADRs from India?

Indian investors can invest in eligible overseas securities, including ADRs, subject to applicable regulations, mainly through two routes: Liberalised Remittance Scheme (LRS) or permitted facilities through an International Financial Services Centre (IFSC).

Here is the process to invest in ADRs through LRS:

• Choose a broker:

Select an authorised broker that provides access to eligible US-listed securities and supports Indian resident investors.

• Complete KYC:

Complete the required identity, PAN, bank and regulatory documentation before making an overseas investment.

• Open an overseas investment facility:

Activate the international investing facility offered by the broker and complete required declarations.

• Fund the account:

Remit funds through permitted banking channels while complying with applicable FEMA and LRS requirements.

• Select the ADR:

Research the ADR ticker, underlying company, ADR ratio, exchange, liquidity and depositary arrangements before investing.

• Place the order:

Purchase the ADR through the US market using the broker’s international trading platform.

• Track currency:

Monitor both ADR performance and the US dollar to Indian rupee exchange rate.

• Maintain records:

Preserve transaction statements, dividend records, remittance documents and tax information for future reporting.

Benefits of Investing in ADRs

Here are several benefits of investing in ADRs:

• Global access:

ADRs provide access to foreign companies through US market infrastructure without requiring direct trading on overseas exchanges.

• Dollar trading:

ADRs are denominated and traded in US dollars, although the underlying shares may be denominated in the issuer’s home currency.

• Diversification:

ADRs can provide portfolio exposure to companies and economies outside the investor’s domestic market.

• Market accessibility:

US exchange-listed ADRs can provide convenient access to internationally recognised companies through familiar trading systems.

• Information availability:

Exchange-listed ADR programmes generally provide regulatory disclosures that help investors analyse foreign companies.

Risks Involved in ADR Investments

Here are the various risks involved in ADR investments:

• Currency Risk:

Changes in the US dollar and Indian rupee exchange rates can affect the returns for Indian investors.

• Market Risk:

ADR prices can fall because of company-specific developments, economic conditions, interest rates or market sentiment.

• Liquidity Risk:

Some ADRs trade with limited volumes, creating wider bid-ask spreads and greater execution risk.

• Regulatory Risk:

Changes in US, Indian or foreign regulations can affect trading, reporting, taxation and ownership requirements.

• Political Risk:

Political instability, policy changes and geopolitical developments in the company’s home country can influence valuation.

• Depositary Risk:

Fees, corporate actions, conversion procedures and programme changes can affect the investor’s overall experience and returns.

Factors to Consider Before Investing in ADRs

Here are some important factors to consider when evaluating ADRs:

• ADR ratio:

Check the number of underlying shares represented by one ADR because it directly affects valuation comparisons.

• Liquidity:

Examine trading volume and bid-ask spreads because lower liquidity can increase transaction costs.

• Currency movement:

Consider USD-INR fluctuations because currency changes can affect returns even when the underlying stock price remains stable.

• Company fundamentals:

Analyse revenue, earnings, debt, valuation and business prospects when evaluating the underlying company, instead of relying only on ADR price movements.

• Depositary fees:

Check the deposit agreement for custody and other charges because these costs can reduce overall investment returns.

Difference Between ADR and GDR

Here are the key differences between ADR and GDR:

ADR Fees

ADRs can involve certain fees for both the issuer and the investor. Here are some of the fees that may apply when buying or holding an ADR:

• Depository bank fees
• Brokerage fees
• Currency conversion fees
• Taxes
• Redemption fees.

Tax Implications for ADR Investors in India

For Indian residents, ADRs represent securities linked to companies outside India and may constitute foreign assets for Indian tax and reporting purposes. Therefore, transferring or repatriating funds related to ADR investments must follow the applicable Reserve Bank of India (RBI) rules for overseas transactions.

Investors may need to provide bank account details, complete KYC requirements with the broker or custodian, and submit relevant tax residency documents where applicable. These requirements help establish the investor’s identity, ownership and eligibility for overseas investments.

Income earned from ADR investments, including dividends and capital gains, may have tax implications in both India and the United States. Depending on the applicable tax rules and the relevant tax treaty, investors may be able to claim foreign tax credits to reduce the impact of double taxation.

Investors should accurately disclose their foreign investments, dividend income and capital gains while filing their tax returns in India. For example, foreign assets and foreign-source income may require reporting in the applicable income-tax return. Proper documentation and timely compliance can help investors avoid tax-related penalties and complications.

ADRs provide Indian investors with an opportunity to participate in global markets. However, investors should understand the applicable foreign exchange, taxation and reporting requirements before investing.

Termination of ADR

An ADR programme can be terminated for several reasons. The foreign company may decide to end the programme, or the depositary bank may terminate it according to the deposit agreement.

Regulatory requirements can also change, making continuation of the programme impractical. Mergers, restructuring, acquisitions, delisting or changes in corporate strategy can also result in ADR termination.

After termination is announced, the depositary normally provides a period during which ADR holders can surrender their ADRs and receive the underlying securities, subject to the programme’s terms.

If holders do not surrender the ADRs within the applicable period, the depositary may sell the underlying shares and distribute the proceeds after deducting relevant expenses.

The exact process depends on the deposit agreement. Therefore, investors should carefully review termination notices and understand the applicable deadlines.

FAQs

What is an ADR?

An American Depository Receipt, or ADR, is a US-traded security that represents shares of a foreign company. It allows investors to access securities of overseas companies through US markets.

How do ADRs work?

A depositary bank arranges for the underlying shares of a foreign company to be held with a custodian and issues ADRs against those shares. Investors can then buy and sell the ADRs in US dollars through eligible US markets.

Can Indian investors invest in ADRs?

Yes, Indian investors can invest in eligible ADRs subject to applicable overseas investment, FEMA, RBI and other regulatory requirements. They must comply with applicable tax and reporting requirements.

Are ADR investments taxable in India?

Yes, income from ADR investments can have tax implications in India. Dividends and capital gains may be taxable depending on the applicable provisions, while foreign tax credits may be available in certain circumstances to reduce double taxation.

What is the difference between ADR and GDR?

An ADR is primarily designed for trading in US markets, while a GDR is generally issued and traded in international markets outside the United States. Both represent shares of foreign companies.