Role of depositary receipts

							3
Role of depositary receipts
Michael Cole-Fontayn and Christopher Kearns,
The Bank of New York Mellon


The Bank of New York Mellon explains the effectiveness of
depositary receipts as a capital-raising tool for Chinese companies
                                                                                                                             Role of depositary receipts




Launching a depositary receipt program is an       the market, representing companies from             the market in which the depositary receipts
effective option for non-US companies seeking      76 countries.                                       trade: generally American depositary receipts
to list on NASDAQ with a global equity offering.       Depositary receipt liquidity substantially      are publicly available to US investors on a
Issuers that establish depositary receipt          increased in 2007, with depositary receipt          national stock exchange (the New York Stock
programs can:                                      trading reaching an all-time high of $3.3           Exchange, NASDAQ or the American Stock
                                                   trillion. Depositary receipts listed on the New     Exchange) or on the over-the-counter market,
• broaden their investor base;
                                                   York Stock Exchange and NASDAQ continued            while global depositary receipts are generally
• gain increased liquidity for their shares; and
                                                   to be the most liquid by a significant margin,      issued under Rule 144A and/or Regulation S of
• elevate the profile of their products and
                                                   comprising 88 per cent of 2007's worldwide          the Securities Act of 1933, and are privately
  services in the US and international
                                                   depositary receipt trading value. A record          placed and sold only to qualified institutional
  markets.
                                                   76.4 billion depositary receipts, valued at $2.9    buyers in the United States or investors outside

    Depositary receipts are also beneficial to     trillion, traded on the US-listed markets during    the United States. Global depositary receipts

investors for many reasons. They are often         2007, compared with 52.6 billion depositary         are often listed on the London or Luxembourg

the most cost-effective way to invest              receipts, valued at more than $1.5 trillion, at     Stock Exchange.

internationally and, depending on the              year-end 2006.
                                                                                                       How do depositary receipts trade?
structure, are considered standard US or               Depositary receipt issuers from China
                                                                                                       Similar to the shares of US companies,
European securities for clearance, settlement,     posted the most notable increase as they
                                                                                                       depositary receipts are traded on major
transfer and ownership purposes.                   grew from fourth place globally in 2006 to first
                                                                                                       stock exchanges or on the over-the-counter
    The unwavering popularity of depositary        place in 2007. In aggregate, the trading value
                                                                                                       market. It is just as easy for an investor to trade
receipts as both an issuance tool and an           of Chinese depositary receipts rose 345 per
                                                                                                       depositary receipts of Vodafone or Toyota as it
investment vehicle is evident from current         cent year on year.
                                                                                                       is to trade shares of AT&T or General Motors.
market figures. In fact, 2007 was a banner         What are depositary receipts?                       In addition, depositary receipts can be created
year for depositary receipts, with record          A depositary receipt is a negotiable certificate    or cancelled to satisfy investor demand in
levels of program establishment, trading and       issued by a US bank, referred to as a               either the US or the local trading market. A
investment. During 2007, companies from 33         depositary bank, that represents interests in       depositary receipt is created when an investor
countries launched 160 new depositary receipt      shares of a non-US company’s equity. They           contacts a broker to make an investment in a
programs. Issuers from India and China were        trade freely on the US and European markets         non-US company. The broker can purchase
the market’s most active, each establishing 28     and can be listed on major stock exchanges          depositary receipts in the secondary market or
per cent of all new sponsored depositary           including the New York Stock Exchange,              can create depositary receipts by purchasing
receipt programs. Companies                        NASDAQ and the London Stock Exchange.               the company’s shares in the local stock
from Brazil followed, issuing 20 per cent              Many depositary receipt structures are          market and then delivering them to the
of new sponsored depositary receipts.              available to suit a company’s particular capital    depository’s local custody bank. The broker
Today there are approximately 2,060                market needs. American depositary receipts          who initiated the transaction converts the US
sponsored depositary receipt programs on           and global depositary receipts typically identify   dollars received from the investor into the




                                                                             A guide for Chinese companies to listing on the US securities markets 27
Role of depositary receipts




corresponding foreign currency and pays the         marketplace, unsponsored depositary receipts       in the United States or make a US acquisition
local broker for the shares purchased.              are infrequently established due to the lack of    using securities establish sponsored Level II
     The custodian bank instructs the               issuer involvement.                                or Level III depositary receipt programs.
depositary bank to issue the depositary receipts                                                       These depositary receipt programs require
                                                    Sponsored Level I depositary receipts
and deliver them to the initiating broker, who                                                         SEC registration and adherence to the
                                                    A sponsored Level I depositary receipt program
then delivers the depositary receipts to the                                                           applicable requirements of the US Generally
                                                    is the simplest method for companies to
investor. Conversely, when depositary receipts                                                         Accepted Accounting Principles. The
                                                    access the US public capital markets; however,
are sold, the underlying shares held outside the                                                       companies must also meet the listing
                                                    it cannot be used to raise capital. In a Level I
United States can be released into the home                                                            requirements of the applicable stock
                                                    program a non-US company does not issue
trading market through a cross-border                                                                  exchanges, the New York Stock Exchange,
                                                    any new securities in connection with the
transaction. In this case, the depositary receipt                                                      the American Stock Exchange or NASDAQ.
                                                    establishment of the depositary receipt
is cancelled and the shares held with the local                                                            Structurally, Level II and Level III
                                                    program and the depositary receipts are traded
custodian bank are delivered to the broker                                                             depositary receipts are very similar and both
                                                    in the US market and on some exchanges
within the home trading market.                                                                        types of programs are used for listing on a US
                                                    outside the United States. depositary receipts
                                                                                                       stock exchange. Level II depositary receipts do
Types of depositary receipt facilities              are created as investor demand forces creation
                                                                                                       not raise capital at the time of the initial listing
There are two general classifications of            of depositary receipts from the shares traded
                                                                                                       and Level III depositary receipts do raise
depositary receipts and four basic types of         in the local market.
                                                                                                       capital at the time of the listing. Both Level II
facilities, as follows.                                 Level I issuers qualify for an exemption
                                                                                                       and Level III programs generally attract
                                                    under Rule 12g3-2(b) from the reporting
Sponsored depositary receipts                                                                          significant US investor interest.
                                                    requirements of the Securities Exchange Act of
Sponsored depositary receipts are generally
                                                    1934 and need only provide the Securities          Private placement (Rule 144A and
issued by one depositary bank appointed by
                                                    Exchange Commission (SEC) with disclosures         Regulation S) depositary receipts
an issuer company under a service contract
                                                    that are required in their home country.           A non-US company can also access the US
called a deposit agreement. Sponsored
                                                    Furthermore, changes in the issuer’s corporate     and European capital markets through
depositary receipts offer issuer input and
                                                    accounting are not required. Because Level I       restricted Rule 144A and/or Regulation S
cooperation with the facility and can provide
                                                    facilities are easy to establish and lack          depositary receipt facilities that do not require
the flexibility to list on a US stock exchange
                                                    substantial ongoing requirements, they             full SEC registration. Rule 144A programs
and the ability to raise capital.
                                                    comprise the majority of sponsored depositary      provide for raising capital through the private
Unsponsored depositary receipts                     receipt programs currently available.              placement of depositary receipts with qualified
Unsponsored depositary receipts can be                                                                 institutional buyers in the United States.
                                                    Sponsored Level II and III
issued by one or more depositary banks in                                                              Regulation S programs provide for raising
                                                    depositary receipts
response to market demand for particular                                                               capital through the placement of depositary
                                                    Companies that wish to list their securities
securities without a formal agreement with an                                                          receipts offshore to non-US investors in
                                                    on a US stock exchange, raise public capital
issuer company. In today’s depositary receipt                                                          reliance on Regulation S.




28    A guide for Chinese companies to listing on the US securities markets
                                                                                                                                   Role of depositary receipts




    These programs, generally known as                participate in the offering. Private placement        2008, depositary receipts were used to
global depositary receipts, are not eligible to be    offerings are generally a bit lower, between          complete the merger of Sims Group Ltd
purchased by US retail investors, nor can they        $10 and $30.                                          and Metal Management Inc, creating the
be listed on US stock exchanges, but they can                                                               world's largest metal management company.
                                                      Liquidity and investor demand
be listed in London or Luxembourg. A Level I                                                                In addition, in November 2006 depositary
                                                      Liquidity is enhanced when there is a
program can also be established alongside a                                                                 receipts were used to complete the
                                                      significant number of depositary receipts
Rule 144A program or Regulation S program                                                                   $11 billion Alcatel-Lucent merger, creating
                                                      eligible for trading in the United States. In a US
and outstanding depositary receipts may be                                                                  one of the world's leading communications
                                                      public offering, retail and institutional investors
merged into a Level I program after the                                                                     solutions providers.
                                                      are more likely to buy depositary receipts that
respective restricted periods have expired.
                                                      are perceived to be liquid and fairly priced.         Benefits to an issuer
Depositary receipt equity                                                                                   Establishing a depositary receipt program
                                                      Investor psychology
offering mechanics                                                                                          allows an issuer to raise capital and expand
                                                      While the fundamentals may be the same, a
With depositary receipts, a ratio of ordinary                                                               the market for its shares through broadened
                                                      US investor typically prefers to buy 100 shares
shares to depositary receipts can be employed                                                               exposure, which may improve liquidity and
                                                      of a $30 stock instead of 10 shares of
to bring the company’s local share price in line                                                            ultimately share valuation. A depositary
                                                      a $300 stock.
with the share price of its US-based peer group.                                                            receipt program also heightens the visibility
While many successful depositary receipt              The role of depositary receipts in mergers
                                                                                                            of the company’s products or services in
programs are established with a ratio of one to       and acquisitions
                                                                                                            a marketplace outside its home country.
one (one depositary receipt equals one ordinary       For years, non-US companies have been
                                                                                                            Additionally, depositary receipts can enable
share), many issuers with low home market             successfully using depositary receipts to
                                                                                                            employees of US subsidiaries to invest in the
prices have ratios of one to five, one to 10 or       finance mergers and acquisitions.
                                                                                                            parent company more easily.
even one to 100. Reverse ratios can also be               A US-listed depositary receipt program
                                                      allows acquisitive non-US companies to                Benefits to an investor
employed if an issuer’s local price is considered
                                                      establish a dollar value for their equity to be       Depositary receipts offer tangible benefits to
too high for the US markets.
                                                      issued in connection with an acquisition. This        investors seeking to diversify their portfolios
    Companies deciding on a depositary
                                                      helps to remove potential objections by US            globally, including that they:
receipt price and the corresponding depositary
receipt-to-ordinary-share ratio should consider       owners to receiving foreign non dollar-               • are quoted in and pay dividends in US
the following.                                        denominated shares. In short, depositary                 dollars;
                                                      receipts offer flexibility to non-US companies        • clear and settle according to international
Initial public offerings
                                                      acquiring US companies as they make the                 standards, reducing the risk of settlement
The average price of an initial public offering
                                                      equity component attractive and viable.                 failure; and
in the US public equity markets is generally
                                                          More and more non-US firms are using              • typically eliminate global custodian
between $15 and $35. This range encourages
                                                      depositary receipts to complete mergers with             safekeeping charges.
both retail and institutional investors to actively
                                                      US corporations. For example, in March




                                                                                 A guide for Chinese companies to listing on the US securities markets 29
Role of depositary receipts




Conclusion                                          The Bank of New York Mellon difference           receipt issuers’ unique requirements and to
Depositary receipts present a win-win               As the world’s leading depositary bank,          maximize the market performance of their
proposition for the global financial markets,       acting in partnership with leading companies     depositary receipts.
offering measurable benefits to issuers and         from over 60 countries, our depositary receipt
investors alike. Depositary receipts offer          experience is second to none. We have a          This information and data are provided for

ready access to capital, broad exposure and         deep knowledge of local markets, a global        general informational purposes only. The

a vehicle for establishing commitment to the        perspective and an unmatched, singular           Bank of New York Mellon does not warrant

US and global markets. At the same time, US         focus on the depositary receipt business.        or guarantee the accuracy, timeliness or

and global investors use depositary receipts            Working closely with the worldwide           completeness of this information or data. We

to access a wider range of companies and            issuers whose depositary receipts we serve,      provide no advice nor recommendation or

industries than they can domestically, without      we offer the strategic, administrative and       endorsement with respect to any company or

the typical hassles associated with international   customized investor outreach programs that       security. We do not undertake any obligation

investing. As a result, the depositary receipt      issuers need to keep their depositary receipts   to update or amend this information or data.

market appears well positioned for continued        at the forefront of the market. Our products     Nothing herein shall be deemed to constitute

expansion in the future.                            and services are designed to meet depositary     an offer to sell or a solicitation




30   A guide for Chinese companies to listing on the US securities markets