What is a Sponsored ADR?

A sponsored ADR is a way for US citizens to own shares in a foreign company that trades on a US financial market. The ADR, or American Depositary Receipt, is the document and asset that the US citizen legally owns. A sponsored ADR means that a US bank is involved in the process and will grant the holder the same voting rights that come with the equivalent stock ownership.

Many foreign companies wish to have stock available for trade on the US market, as this can be a valuable source of investment. It can be difficult to have US citizens simply buy foreign stocks because of the problems of currency exchange. With a standard share issue, an investor would have to pay for the stock and receive dividends in a foreign currency. This brings both transaction costs and uncertainty about the effects of varying exchange rates.

The solution is the ADR. This is a security that is traded and pays dividends in US currency. An individual ADR will be considered equivalent to a share in the foreign company in a stated ratio. While one ADR can simply equal one share, it's possible for an ADR to be equivalent to multiple shares, or even a fraction of a share.

In its simplest form, the unsponsored ADR, a US bank's only connection is to issue the ADR. This type of ADR can be traded, but effectively exists as an asset in its own right. The connection with the foreign company's shares is loose, and the holder does not usually have the equivalent rights as if she owned the share.

A sponsored ADR works on a more formal basis. The holder of the ADR will normally have the same voting rights as if she held shares. In some cases, the holder may even have the right to exchange the ADR for the relevant shares, though usually US investors don't need to exercise this right.

There are three levels of sponsored ADR. Level I is an over-the-counter ADR, meaning it can only be traded by direct investor-to-investor deals, rather than through a stock exchange. Level II means the ADR can be listed on a stock exchange and traded in the same way as US company shares. Level III means the foreign company can create new stock and issue it in the form of the equivalent ADR. The company will need to comply with the US rules on new stock issues, and may even be more open and transparent about the details it releases to the public in an attempt to win over potentially skeptical investors.