What it means
The mechanics are simpler than the name suggests. A depositary bank buys or takes delivery of the underlying shares, parks them with a custodian in the home market, and issues receipts against them that trade abroad.
Each receipt is a claim on a set number of the underlying shares, and that number is called the ratio. The ratio exists to make the receipt trade at a sensible price.
If a company's home shares trade at the equivalent of $6, the depositary might bundle ten shares into one receipt so it trades near $60, which suits institutional investors better. Ratios can also be fractional, with one receipt representing half a share for a very high-priced stock.
Depositary receipts matter to companies because they widen the investor base. A business in an emerging market can reach US pension funds that are restricted from holding foreign-listed securities directly, and it can raise fresh capital through a sponsored programme that involves issuing new shares.
That is the difference between a sponsored receipt, set up with the company's cooperation, and an unsponsored one created by a bank without it. For investors the appeal is convenience, but the risks travel with the receipt.
You still bear the currency risk, because the receipt's value moves with both the home share price and the exchange rate, and you still face the home market's disclosure standards and political risk. Dividends are converted into your currency, usually after home-country withholding tax and a small depositary service fee.
Prices stay in line through arbitrage. If a receipt trades meaningfully above the value of the underlying shares, traders buy the shares, deposit them and sell new receipts, closing the gap.
Persistent premiums usually signal a restriction on that conversion rather than genuine mispricing.
In practice
Real-world examples.
Example
A US pension fund wants exposure to an Indian information technology firm but its mandate forbids holding securities that settle outside the United States. It buys the company's ADRs on a US exchange instead, getting the same economic exposure in dollars with familiar settlement.
Example
A Brazilian mining group launches a sponsored programme that issues new receipts to raise capital abroad, alongside its existing home listing. The dual presence gives it access to a deeper pool of investors and a valuation benchmark set by two different markets.
Example
A London-based fund buys Global Depositary Receipts in a Middle Eastern bank because direct foreign ownership of the local shares is capped. The receipts give it economic exposure within the ownership limits the regulator allows.
Formula
Calculation
Theoretical receipt price = Local share price x Shares per receipt x Exchange rate (home currency per unit of local currency)
Dividend per receipt = Local dividend per share x Shares per receipt x Exchange rate - Depositary fee
A German engineering company's ordinary shares trade at EUR 60.00 in Frankfurt. Its ADR ratio is two ordinary shares per receipt, and the exchange rate is $1.10 per euro. Theoretical ADR price = 60.00 x 2 x 1.10 = $132.00. If the ADR actually trades at $133.50, the premium is $1.50, or about 1.1%, which an arbitrage desk can close.
The company pays a dividend of EUR 1.80 per ordinary share. Gross dividend per ADR = 1.80 x 2 x 1.10 = $3.96, less a depositary service fee of $0.02, giving $3.94 per ADR before any withholding tax. Note the currency effect: if the euro weakened to $1.05 with no move in Frankfurt, the theoretical ADR price would fall to 60.00 x 2 x 1.05 = $126.00, a decline of about 4.5% for a US holder who saw no change at all in the underlying business.Case study
Seen in the real world.
Andaman Foods is an illustrative and entirely fictional packaged-food producer used to show how a receipt programme raises capital. Listed at home but starved of domestic institutional demand, it decided to create a sponsored programme aimed at US investors.
It issued 6,000,000 receipts at $30.00 each, raising $180,000,000 gross, with each receipt representing four local shares, so 24,000,000 new shares were created. Underwriting and listing costs came to 5% of the gross proceeds, or $9,000,000, leaving $171,000,000 of net proceeds for a new processing plant.
Two years later the receipts traded at a persistent 3% premium to the underlying shares because local rules limited how quickly investors could convert receipts back into ordinary shares. This fictional example shows both sides of the trade: real access to foreign capital, paired with a price link that only holds when conversion is genuinely free.
Watch out
Common mistakes.
- Assuming a depositary receipt removes currency risk because it is priced in dollars, when the receipt's value moves directly with the exchange rate as well as the share price.
- Comparing a receipt's price to the home share price without applying the ratio, which makes an ordinary receipt look wildly overvalued or undervalued.
- Overlooking depositary service fees and home-country withholding tax, which together can take a noticeable bite out of the dividend actually received.
Questions
People also ask.
What is the difference between sponsored and unsponsored receipts?
Sponsored programmes are set up with the company's agreement and usually carry better disclosure, while unsponsored ones are created by a bank without company involvement.
Do receipt holders get voting rights?
Sometimes, through the depositary bank passing on instructions, but the process is slower and more limited than voting as a direct shareholder.
Can a receipt be converted into the underlying shares?
Usually yes, by instructing the depositary to cancel the receipt and release the shares, though home-market rules and fees can make it slow or costly.
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