What Is an Unsponsored ADR and How Does It Work?

Understanding American Depositary Receipts

American Depositary Receipts (ADRs) provide a pathway for U.S. investors to own shares of foreign companies without directly trading on international stock exchanges. Issued by U.S. depositary banks, these certificates represent a specified number of a foreign company’s shares held in custody. The primary purpose of an ADR is to simplify cross-border investing, allowing investors to buy, hold, and sell foreign company shares in U.S. dollars, through U.S. brokerage accounts.

This structure eliminates the need for investors to manage foreign currency conversions or navigate the complexities of foreign stock market regulations. The depositary bank plays a central role by holding the underlying foreign shares, processing dividends, and facilitating the trading of the ADRs. While all ADRs serve this fundamental purpose, their operational characteristics differ significantly based on how they are established. This article focuses on unsponsored ADRs, detailing their characteristics and functional aspects.

Distinguishing Unsponsored ADRs

Unsponsored ADRs are established by a U.S. depositary bank without any direct involvement or financial contribution from the foreign company whose shares are represented. The foreign company has no formal agreement with the depositary bank regarding the ADR program. This contrasts significantly with sponsored ADRs, where the foreign company actively participates in the program, often funding its establishment and ongoing costs.

The lack of company involvement has several implications. Their initiation stems from the depositary bank’s assessment of U.S. investor demand for a foreign stock, not the foreign company’s decision to list shares in the U.S. Consequently, the foreign company has no obligation to provide financial reports directly to the U.S. Securities and Exchange Commission (SEC) for these ADR holders, meaning investors must rely on the company’s home country disclosures.

Fees associated with unsponsored ADRs, such as custody or dividend pass-through charges, are borne entirely by the investor. This is because the foreign company does not contribute to the program’s expenses. Unsponsored ADRs primarily trade on over-the-counter (OTC) markets, like the OTC Pink or OTCQX tiers. These markets are less regulated than major U.S. stock exchanges where sponsored ADRs can be listed.

How Unsponsored ADRs Function

The creation of an unsponsored ADR begins when a U.S. depositary bank acquires shares of a foreign company from its home country’s open market. These shares are then deposited with the bank or its custodian, and the bank issues ADRs representing them. This process occurs without the foreign company’s input or approval, making it a unilateral action by the depositary bank in response to investor interest.

Once issued, unsponsored ADRs are primarily traded on over-the-counter markets. These markets facilitate transactions directly between parties or through broker-dealers, rather than a centralized exchange. This trading environment often results in less liquidity and wider bid-ask spreads compared to securities traded on major exchanges.

For investors holding unsponsored ADRs, the experience differs from owning shares directly or holding sponsored ADRs. Depositary banks collect dividends declared by the foreign company and convert them into U.S. dollars before distributing them to ADR holders. This process involves deducting various fees, which can include a service fee per share or a percentage of the dividend amount, as the foreign company does not subsidize these costs.

Unsponsored ADR holders do not possess direct voting rights for the underlying shares, as the depositary bank holds them, and the foreign company has no agreement to facilitate participation. Access to financial information is also limited; investors must rely on the foreign company’s public disclosures in its home country, which may not be in English or conform to U.S. Generally Accepted Accounting Principles (GAAP). Investors may incur various fees, including annual custody fees, dividend processing fees, and fees for converting ADRs back into foreign shares, as these are not covered by the foreign company.