American Depository Receipts (ADRs) are a popular way for Canadian and American retail investors to invest in foreign corporations whose shares are not cross-listed on North American stock exchanges. They are convenient because they are denominated in U.S. dollars, they pay dividends in U.S. dollars and they trade on readily accessible exchanges such as the New York Stock Exchange or over-the-counter on the pink sheets.
This convenience does, however, come at a cost as ADRs are subject to hidden fees charged by the depository banks that create them. These fees can be substantial
and are, more importantly, recurring
. Because they recur on an annual basis, they are similar to MERs charged by mutual funds in that they have the potential to act as a drag on returns. Unlike MERs, they are a fixed fee per depository receipt and are not set as a percentage of the value of the asset. This means that they can have a substantial impact on investment returns if they are high relative to the current value of the depository receipts to which they apply. They are also charged by all ADRs, including those that are ‘sponsored’ by the issuer. Let’s take a look at a couple of examples to see the impact of these fees.
China Mobile is the largest telecommunications provider in the world (both by market capitalization and number of subscribers)1
. Its shares trade on the Hong Kong Stock Exchange (as a so called ‘red chip’). Most American and Canadian investors would likely not seek to purchase common shares of China Mobile directly through the Hong Kong Stock Exchange as doing so would require first purchasing Hong Kong dollars and then routing the order through that foreign exchange (which many retail investors might not even have access to through their discount broker). These investors would instead look to purchase China Mobile ADRs, which are traded on the New York Stock Exchange (ticker: CHL). Each of these ADRs represent 5 ordinary shares traded in Hong Kong. But these investors might not be aware of the fees being charged by the depository bank.
To find out what these fees are, we can look at the most recent F-6 document that the ADR has filed with the U.S. Securities and Exchange Commission. Looking at section 4.01 of the Deposit Agreement between China Mobile Limited and The Bank of New York (the depository bank), we see the following statement which clearly indicates that the holders of the ADRs will only receive what is left of any dividends paid by China Mobile after fees have been taken by the The Bank of New York:
SECTION 4.01 Cash Distributions.
Whenever the Depositary shall receive any cash dividend or other cash distribution on any Deposited Securities, the Depositary shall, subject to the provisions of Section 4.05, as promptly as practicable convert or cause to be converted such dividend or distribution into Dollars and shall as promptly as practicable distribute the amount thus received (net of the fees and expenses of the Depositary as provided in Section 5.09, if applicable) to the Owners entitled thereto, in proportion to the number of American Depositary Shares representing such Deposited Securities held by them respectively;
What are these fees? These are described in section 5.09 (recurring fees borne by the ADR holder are in bold):
SECTION 5.09 Charges of Depositary.
The Company agrees to pay the fees, reasonable expenses and out-of-pocket charges of the Depositary and those of any Registrar only in accordance with agreements in writing entered into between the Depositary and the Company from time to time. The Depositary shall present its statement for such charges and expenses to the Company once every three months. The charges and expenses of the Custodian are for the sole account of the Depositary.
The following charges shall be incurred by any party depositing or withdrawing Shares or by any party surrendering Receipts or to whom Receipts are issued (including, without limitation, issuance pursuant to a stock dividend or stock split declared by the Company or an exchange of stock regarding the Receipts or Deposited Securities or a distribution of Receipts pursuant to Section 4.03), whichever applicable: (1) taxes and other governmental charges, (2) such registration fees as may from time to time be in effect for the registration of transfers of Shares generally on the Share register of the Company or Foreign Registrar and applicable to transfers of Shares to the name of the Depositary or its nominee or the Custodian or its nominee on the making of deposits or withdrawals hereunder, (3) such cable, telex and facsimile transmission expenses as are expressly provided in this Deposit Agreement, to be at the expense of persons depositing Shares or Owners, (4) such expenses as are incurred by the Depositary in the conversion of foreign currency pursuant to Section 4.05, (5) a fee of $5.00 or less per 100 American Depositary Shares (or portion thereof) for the execution and delivery of Receipts pursuant to Section 2.03 or 4.03 and the surrender of Receipts pursuant to Section 2.05, (6) a fee of $.02 or less per American Depositary Share (or portion thereof) for any cash distribution made pursuant to the Deposit Agreement, except pursuant to Section 4.01 hereof, and (7) a fee for the distribution of securities pursuant to Section 4.02, such fee being in an amount equal to the fee for the execution and delivery of American Depositary Shares referred to above which would have been charged as a result of the deposit by Owners of such securities (for purposes of this clause 7 treating all such securities as if they were Shares) but which securities are instead distributed by the Depositary to Owners.
Here it is revealed that the holders of the ADR must pay a fee of $0.02 USD per ADR for each dividend payment. This is on top of any currency conversion charges incurred as the Hong Kong Dollar dividends are converted to U.S. dollars. Since China Mobile pays a dividend twice a year2
, ADR holders can expect to pay at a minimum a fee of $0.04 USD per ADR. These fees are subtracted from the dividend payments before they reach the accounts of the ADR holders.
At yesterday’s closing price of $51.31 USD per China Mobile ADR, this is equivalent to an annual fee of 0.078 %, which is on par with what a large broad-market domestic ETF might charge as an MER. It also represents 1.03% of the dividends distributed by the ADR over the past twelve months ($0.04 / $3.883 = 1.03%). This may be a reasonable fee to pay for the convenience provided by the ADR, but one should always find out what the fees are and how much of the value of the investment they represent. This is because sometimes these fees can be substantial relative to the price of the depository receipts.
For example, the Form of Deposit Agreement (F6) document for the Gazprom PJSC ADR (the world’s largest natural gas producer and one of the highest market cap stocks traded on the Moscow Stock Exchange) states the following:
The following charges shall be incurred by any party […] to whom Receipts are issued […] (4) such expenses as are incurred by the Depositary in the conversion of foreign currency pursuant to Section 4.05, […] (6) a fee of $.02 or less per American Depositary Share (or portion thereof) for any cash distribution made pursuant to this Deposit Agreement […] (7) a fee of $.01 or less per American Depositary Share (or portion thereof) per year to cover such expenses as are incurred for inspections by the Depositary, the Custodian or their respective agents of the Share Register maintained by the Russian Share Registrar (which fee shall be assessed against Owners of record as of the date set by the Depositary in accordance with Section 4.06 not more often than once each calendar year).
Given that the Gazprom ADR pays a dividend once a year, this is an annual fee of $0.03 ($0.02 + $0.01 = $0.03 USD) per year per ADR. At yesterday’s closing price of $4.56, this represents an annual fee of 0.66%, which is rather substantial and is more than retail investors are used to paying to cover the MERs of domestic exchange traded funds.
In our experience these fees generally range from $0.02 to $0.05 per ADR per year.
The conclusion here is that investors should be aware of these obscure ADR fees that are charged on an annual recurring basis and which can be substantial depending on the value of the American depository receipts that they are purchasing. Investors would be wise to examine the Form of Deposit Agreement to determine how high these fees are and how they compare to the value of the ADRs they are considering buying before placing their order. Investors can then decide for themselves if these fees are justified in exchange for the convenience provided by the ADR.