Sponsoredadr

What Are Sponsored ADRs and How Do They Work?

Key Takeaways:

A sponsored ADR is an American depositary receipt issued by a bank representing equity in a foreign company.
Sponsored ADRs can be listed on major U.S. exchanges, providing more visibility and potential liquidity.
There are three levels of sponsored ADRs, with Level I trading over-the-counter and Levels II and III requiring more regulatory compliance.
Sponsored ADRs allow investors to access foreign companies in local currencies while trading in U.S. dollars.

What Is Sponsored ADR?

A sponsored American depositary receipt (ADR) is a financial mechanism that allows American investors to hold shares of foreign companies in the U.S. financial markets. These ADRs are issued by a bank that partners with a foreign company, allowing U.S. investors to buy shares in international companies without needing to trade on overseas exchanges.

Sponsored ADRs provide a straightforward way for American investors to access stock from global markets, and they differ from unsponsored ADRs in several key respects. We'll explain the advantages of sponsored ADRs and their impact on global investment opportunities.

How Sponsored ADRs Work and Their Benefits

Foreign companies use ADRs to tap into foreign capital markets. Investors who may typically focus on domestically listed companies are given the opportunity to obtain returns from higher growth emerging markets, such as those in China or India. Despite being listed in America, a company using a sponsored ADR will still have its revenue and profit denominated in its home currency.

There are three levels of sponsored depositary receipts. A Level I sponsored ADR can only be traded over-the-counter (OTC) and cannot be listed on a U.S. exchange. However, this type of ADR is easier to set up for foreign companies, does not require the same disclosures, and does not require the company to abide by generally accepted accounting principles (GAAP). Thus, there is less information available for these securities.1

Level II sponsored ADRs can be listed on an exchange and are thus visible to a wider market. Level II ADRs, however, require the company to comply with the SEC. Level III sponsored ADRs permit the company to issue shares to raise capital but require the highest level of compliance and disclosure.

Sponsored ADRs and Other Foreign Investment Options

Foreign investing can bring significant rewards but often at a higher risk. Typically, investors gain exposure to foreign stocks in their portfolio through purchases of foreign-based equities. However, another option to gain exposure is via foreign direct investing (FDI). This occurs when a company expands its operations into new and emerging economies. FDI can take the form of opening new franchises or regional headquarters in a developing country and relying on a mix of local and expatriate employees.

Companies may also open a subsidiary or associate company. This can involve acquiring a controlling interest in an existing foreign company or merging or creating a joint venture with a foreign company.

In general, companies engage in FDI in more open economies that offer a skilled workforce and strong prospects for growth, fewer regulations, and less political instability. In 2018, the Brookings Institution published “Competing in Africa: China, the European Union, and the United States,” which stated that the United States is the largest investor in the African continent with a total FDI of $54 billion.2

U.S. Securities and Exchange Commission. "Investor Bulletin: American Depositary Receipts." Accessed Feb. 15, 2021.

Brookings Institution. "Competing in Africa: China, the European Union, and the United States." Accessed Feb. 15, 2021.

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