Earlier this year, HSBC won a case against HM Revenue and Customs involving the payment of stamp duty on ADRs as part of its ill-fated purchase of US sub-prime lender Household in 2003. It wasn’t exactly a high-profile case and I only stumbled across it recently while searching for something completely different. But looking at legal commentary on it, the judgment raised an awkward question about the legal status of American depository receipts (ADRs).
ADRs in brief
An ADR provides a way for shares in a foreign company to be traded on US exchanges. The underlying foreign shares traded on the overseas exchange are deposited in a custodian bank and the depository bank issues a receipt giving the buyer rights over these shares. This receipt can be traded in the US markets – either on exchange or off-exchange depending on the nature of the ADR – just like a normal share. See here for a fuller explanation of how ADRs work.
The buyer of the ADR is not recorded on the company’s shareholder register, but they are entitled to all the economic benefits from them and we usually work on the basis that the investor is the beneficial owner. This is actually how most domestic shares are held these days anyway – rather than the individual investor being on the shareholder register, they are held “in street name”/”in nominee”, which means the legal owner is a non-trading subsidiary of your broker, but you are the beneficial owner (English law, and systems derived from it, allowing strict legal title to be separated from beneficial rights).
Crucially, beneficial ownership separates the shares from the assets of the stock broker, meaning that in the event the firm fails, they are not available to the broker’s creditors – the investor still has rights over them. So HSBC’s case against HMRC was interesting because the tribunal found itself considering the question of whether an ADR actually carries a beneficial ownership in the underlying shares.