Raising capital in emerging markets with restricted Global Depositary Receipts

Abstract

Despite serious governance concerns revealed in Rule 144A and/or Regulation S Global Depositary Receipt (GDR) circulars, institutional investors voluntarily purchase these illiquid securities. Like issuers of Level III American Depositary Receipts (ADRs), GDR issuers exhibit strong pre-offer performance, with higher average Tobin's q ratios, sales growth rates, sales levels, returns on equity, and dividend payout ratios than their home-market counterparts. However, GDRs are issued predominantly by firms in emerging markets, while ADRs are issued mostly by firms in developed markets. After controlling for country and industry effects, we find that ADR issuers are larger and that they employ more reputable underwriters than GDR issuers do, but no other significant differences emerge. Notwithstanding their similarities, GDRs have larger discounts than ADRs, suggesting that legal bonding provides benefits that reputational bonding cannot fully replicate. However, within the sample of GDRs, pre-offer performance attributes also influence pricing. Specifically, discounts vary inversely with issue size but directly with firm size, suggesting that economies of scale exist in the GDR issue process and that potential agency costs are higher in larger firms. GDR discounts also vary inversely with incremental returns on equity in all partitions of the data, indicating the importance of pre-offer profitability in establishing the reputation of the issuing firm and in increasing the GDR offer price.