When a foreign company such as Nintendo(NTDOY), Alibaba(BABA), or Baidu(BIDU) wants to be listed in the US, without directly listing on a US-based exchange, they must go through a US depository bank, and this bank is responsible for issuing the shares to US investors. The US depository bank ensures the following for US investors:
- The shares will be denominated in US Dollars (no currency exchange will be needed by investors)
- They can be bought and sold just like any other domestic stock.
ADRs also come in 2 varieties: Sponsored and Unsponsored.
Sponsored is when the foreign company actually reaches out to a US depository bank and works with them to issue shares such as BABA works directly with JP Morgan to issue their shares.
Unsponsored when a US depository bank issues stock of a foreign company with no interest in being listed in the US. As a result, multiple US depository banks can issue an ADR for the same company, leading to confusion since they are priced differently and pay dividends at a different rate. An example of this would be Volkswagen with an ADR under VWAGY issued by JP Morgan, but Volkswagen did not formally make this arrangement.
Be mindful that ADR's may have additional fees:
All of the work previously mentioned done by the US depository bank comes with a fee, and this fee is forwarded to the investor.
- ADR fees are typically charged annually at 1 to 3 cents per share
- If investing in ADRs, please be sure to have a small amount of cash in the account to cover any ADR fees and avoid any account disruptions.
- ADRs dividends are subject to foreign tax withholding. The amount of withholding is based on the ADR's home country's tax treaty with the US.