What is GDR? | Definition, Working, Pros and Cons

There are several mechanisms through which companies can raise capital. Depository receipts are one of them. Truth to be told, these are probably the most convenient instruments of raising funds from international investors for businesses.

Investors, on the other hand, get the rare opportunity to diversify their portfolio by purchasing shares in foreign companies and that too using their domestic currency.

Ideally, Depository receipts are of two kinds. Global Depository Receipt or GDR is one of them.

Definition

So far, its fundamental purpose is concerned; a Global Depository Receipt is very much similar to that of an American Depository Receipt. GDRs are primarily negotiable instruments which enable investors in more than one country to purchase stocks in a foreign company.

The critical difference between a GDR and an ADR is that the latter is issued by an American bank and is specific to American stock markets. In contrast, the former is issued by the overseas branches of an international bank and is traded in multiple countries.

That is precisely why Global Depository Receipts are also known as International Depository Receipts.

How does Global Depository Receipt work?

For the issuance of a GDR, a company enters into an association with an international bank. The bank then makes a custodian agreement with the concerned company’s domestic custodian. As per the instructions of the domestic custodian, the international depository bank issues stocks to foreign investors.

The denominations used for GDRs generally tend to be US dollars or euros. When euros are used as the normalised currency for GDRs, the nomenclature changes from GDR to EDR.

This entire process is carried out by following a strict set of guidelines, and the GDR prices are premised on the values of the underlying shares. However, trading and settlement of the GDRs are done independently of the underlying securities.

Salient features of Global Depository Receipt

The following are some significant features of GDR:

  1. They can be traded in the domestic markets, just like any other security instruments.
  2. In India, companies with robust financial health for three consecutive years can tap global markets through GDRs. However, they need to get clearances from the Foreign Investment Promotion Board (FIPB) and the finance ministry.
  3. These are issued to interested investors across countries due to its ability to be denominated as multiple types of free convertible currencies.
  4. The owner of the GDR is eligible for the bonus and dividend related to the value of the securities underlying the GDR.
  5. Even though the GDR can be denominated in any convertible currency, the denomination of the shares underlying the GDR is based on the GDR issuer’s local currency.
  6. The holder of the GDR is entitled to sell the GDR through a local custodian by converting it into equity shares.

Advantages of Global Depository Receipt

GDRs have several benefits for the investors as well as the issuing companies. The following table will make this claim more discernible to you.

Issuing CompanyInvestors
GDRs enable companies to gain access to international markets with minimal cost.1. GDRs are more transparent and easy to track as competitors’ share can be compared.
They help in increasing the visibility of a company in the global market.2. The sale of GDRs helps investors to gain capital.
It helps in raising the capital reserves of companies as more and more foreign investors purchase GDRs.3. They help in diversifying one’s portfolio.

Disadvantages of Global Depository Receipt

Even though GDRs benefit both issuers and investors, they have some significant disadvantages:

  1. Issuance of GDRs entails following some strict regulations, contravening which the company may have to face some serious repercussions.
  2. Dividends generated from GDRs are paid in a local country’s currency, which is subject to the forex market turbulences.
  3. Mostly, High Net-Worth Individuals are benefitted from GDRs as they are costly.
  4. There are no provisions for voting rights in GDRs.

References

  1. https://www.sciencedirect.com/science/article/pii/S0929119910000398
  2. http://www.lifesciencesite.com/lsj/life1106s/097_24370life1106s14_464_468.pdf
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