Basic Understanding of Indian Depository Receipts (IDR)

Basic Understanding of Indian Depository Receipts (IDR)

Standard Chartered Bank created history in the Indian Capital Market by becoming the first foreign company to come up with an IDR issue. This IDR issue prompted me to study the subject the subject.

Standard Chartered Bank’ IDR: First IDR issue in the history of Indian Capital Markets

Standard Chartered Bank (SCB) took about 18 months of planning before coming out with its Indian depository receipt (IDR) issue and creating history in the Indian capital markets on May 25, 2010.

SCB had to work out a number of issues in terms of establishing the regulatory framework around the issue and obtaining the necessary clearances from the Securities and Exchange Board of India and the Reserve Bank of India. The biggest challenge was to explain to investors how IDR works and how to make investors think about it as an investment proposition.

In this case, Standard Chartered Bank, Mumbai was the domestic depository, and it has appointed Bank of New York, Mellon as its overseas depository.

Indian Depository Receipts (IDR)

IDR stands for Indian Depository Receipts. As per the definition given in the Companies (Issue of Indian Depository Receipts) Rules, 2004, IDR is an instrument in the form of a Depository Receipt created by the Indian depository in India against the underlying equity shares of the issuing company.

An IDR is a way for a foreign company to raise money in India. In an IDR, foreign companies would issue shares, to an Indian Depository, which would in turn issue depository receipts (IDR) to investors in India. The actual shares underlying the IDRs would be held by an Overseas Custodian, which shall authorize the Indian Depository to issue the IDRs. To that extent, IDRs are derivative instruments because they derive their value from the underlying shares.

IDR are issued by a domestic depository in India and denominated in Rupees. It represents an ownership interest in a fixed number of underlying equity shares of the Issuing Company. These shares are called Deposited Shares.

IDRs has the following features:

a) Overseas Custodian: It is a foreign bank having branches in India and requires approval from Finance Ministry for acting as custodian and Indian depository has to be registered with SEBI.

b) Approvals for issue of IDRs: IDR issue will require approval from SEBI and application can be made for this purpose 90 days before the issue opening date.

c) Listing: These IDRs would be listed on stock exchanges in India and would be freely transferable.

d) Eligibility conditions for overseas companies to issue IDRs:

a)      Capital: The overseas company intending to issue IDRs should have paid up capital and free reserve of atleast $ 100 million.

b)      Sales turnover: It should have an average turnover of $ 500 million during the last three years.

c)      Profits/dividend: Such company should also have earned profits in the last 5 years and should have declared dividend of at least 10% each year during this period.

d)      Debt equity ratio: The pre-issue debt equity ratio of such company should not be more than 2:1.

e)      Extent of issue: The issue during a particular year should not exceed 15% of the paid up capital plus free reserves.

f)        Redemption: IDRs would not be redeemable into underlying equity shares before one year from date of issue.

g)      Denomination: IDRs would be denominated in Indian rupees, irrespective of the denomination of underlying shares.

h)      Benefits: In addition to other avenues, IDR is an additional investment opportunity for Indian investors for overseas investment.

i)        Minimum issue size: $500 million

e) Dividends related to IDR

1 IDR stands for a particular percentage share of one equity share. The dividend declared by the IDR issuer will be apportioned according to the IDR holdings, and distributed to the IDR holder by the depository.

f) Taxation related to IDR

The current tax provisions put IDRs at a distinct disadvantage when compared with other shares listed on Indian stock exchanges.

Dividend tax will be assessed at 30% (plus 10% surcharge) on all the dividends from IDRs.

Short term capital gains: On Indian stocks, the short term capital gains is charged at 15%, however in the case of IDRs, the short term capital gains will be charged at 30%.

Long term capital gains: On stocks in India, there is no tax on long term capital gain. But in the case of IDRs – investors will need to pay a 20% long term capital gains.

The Direct Tax Code which is expected to be implemented next year will change a lot of things and eliminate most of the above referred differences.

Some FAQ on IDR:

1) Why should a Foreign company issue an IDR?

A foreign company which cannot go through the listing process in India but wanting to share the risk and rewards of the issue with Indian shareholders issues an IDR.

2) Is it just like buying shares of Standard Chartered Bank in the UK?

More or less Yes. However the investor will also run the currency risk because the price of the IDR price will move in tandem with the underlying shares of the issuer’ shares in the country where they are listed.

3) What are Indian Depository Receipts (IDRs)?

IDRs are like American Depository Receipts or Global Depository Receipts, except that the issuer is a foreign company raising funds from the Indian market. IDRs are rupee-denominated and created by a domestic depository against the underlying equity shares of a foreign company.

4) Who can issue IDRs?

Any company listed in the country of incorporation can issue IDRs. Besides, the issuer needs to fulfill the other conditions as prescribed above.

5) How will the issue of IDR happen?

The process is similar to an initial public offering where a draft prospectus is filed with the Securities and Exchange Board of India.

Shares underlying IDRs will be deposited with an overseas custodian who will hold shares on behalf of a domestic depository. IDRs will be issued through a public offer in India in the demat form and will be listed on Indian exchanges. Trading and settlement will be similar to those of Indian shares.

6) Will Indian investors get equal rights as shareholders?

Except attending annual general meetings and voting on resolutions, other rights are available.

7) Are there tax issues?

IDRs are not subject to securities transaction tax. However, other disadvantages in terms of dividends and capital gains will continue till DTC is implemented.

8) What are the benefits for the issuing company?

The main benefit is in terms of branding, besides allowing foreign companies to access Indian capital. It is also seen as the platform for creation of acquisition currency and a management talent pool. Issuers have the option to reserve a proportion of the issue for employees.

9) Which are all the legislations governing IDRs?

Central Government notified the Companies (Issue of Indian Depository Receipts) Rules, 2004 (IDR Rules) pursuant to the section 605 A of the companies Act. SEBI issued guidelines for disclosure with respect to IDRs and notified the model listing agreement to be entered between exchange and the foreign issuer specifying continuous listing requirements.

10) Which intermediaries are involved in issuance of IDRs?

a) Overseas Custodian Bank is a banking company which is established in a country outside India and has a place of business in India and acts as custodian for the equity shares of issuing company against which IDRs are proposed to be issued in the underlying equity shares of the issuer is deposited.

b) Domestic Depository who is a custodian of securities registered with the as SEBI and authorised by the issuing company to issue Indian Depository Receipts;

c) Merchant Banker registered with SEBI who is responsible for due diligence and through whom the draft prospectus for issuance of he IDR is filed with SEBI by the issuer company.

11) Whether IDRs can be converted into underlying equity shares?

IDRs can be converted into the underlying equity shares only after the expiry of one year from the date of the issue of the IDR, subject to the compliance of the related provisions of Foreign Exchange Management Act and Regulations issued thereunder by RBI in this regard.

12) Who is responsible to distribute the corporate benefits to the IDR holders?

On the receipt of dividend or other corporate action on the IDRs, the Domestic Depository shall distribute them to the IDR holders in proportion to their holdings of IDRs.