ADR Firms Research Articles

ADRs and Audit Pricing: Influence of disclosure and legal environment regime

AbstractCross‐listed firms natively operate in countries where regulations are less enforced, disclosure requirements and the legal environment are laxer than in the US. Thus, cross‐listed firms typically pay lower audit fees than US peer groups. Based on reported audit data of the cross‐listed firms in the US, this study explores how their home country's regulatory environment affects audit fees when they cross‐list on US stock exchanges. The empirical results indicate that the cross‐listed firms pay lower audit fees than their US counterparts. However, other regulatory environments in the home country, like disclosure requirements or anti‐director dictatorship, may require more audit efforts. Further, the cross‐listed firms that prepare reconciliation to US GAAP pay lower audit fees than other ADR firms that are using IFRS or US GAAP. However, still most of ADR firms pay lower audit fees than US counterpart firms.

Do investors care about earnings quality? The case of Chinese reverse mergers

This study examines a panel of U.S.-listed Chinese reverse merger firms to address the question whether, and to what extent, earnings quality is valued by investors. Empirical evidence indicates that U.S.-listed Chinese reverse merger firms tend to have much lower earnings quality as compared to both U.S.-listed Chinese IPO firms and ADR firms, as measured by both the absolute value of discretionary accruals and the accruals quality. This fundamental difference, however, is reflected in neither firm valuation nor stock performance, suggesting that investors do not pay enough attention to the integrity of financial information of foreign listings in general and reverse merger firms in particular.

The Local Market Perception of Firm Risks During Cross-Listing Events

To date, we know very little about how local market perceives the changes in risk structure for the firms listing in overseas market and specifically how relative firm-specific risks (ratio of firm-specific to total risks) vary by listing type and home market development. In this paper we examine the dynamic step-by-step transition of the local market perceptions of relative idiosyncratic risks around the cross-listing events. Using a sample of 606 ADR firms, we find that increases in cross-listed firms’ relative firm-specific risks on the local market around the listing date are only temporary and small for Level I ADRs. We observe the most variations in Level III ADRs. For exchange listed ADRs from emerging markets, we find that before the listing date, there is a significant decrease in relative firm specific risk in the year prior to listing which then increases during the cross-listing, but we do not find similar changes for developed market firms. For developed market firms we only observe significant increases in relative firm specific risks. We interpret these as evidences of negative relationship between firm opaqueness and relative firm specific risks (Jin and Myers, 2006, Journal of Financial Economics, 79, 257-292).

Source of IPOs’ Underperformance – Evidence on the Implication of Accrual Reversal

IPOs’ long-run underperformance has been well documented in prior studies. This paper examines earnings management and the implication of accrual reversals as the source of IPOs’ underperformance. I decompose earnings reported at the time of IPOs into accrual and cash components. I find that for US IPOs, only the cash component of earnings (not the accrual component) has significant predictive power for future stock performance; suggesting the level of accruals that makes up IPO earnings fails to sustain its performance in the post-issue period. For ADR IPOs, both the accrual and the cash components have significant predictive power for future stock performance. I further investigate whether the level of accrual reversal is associated with stock return in the post-issue period after controlling for earnings change. In the period subsequent to IPOs, after controlling for earnings change, I find that for US IPOs the larger the accrual reversal, the lower the stock performance. This result suggests that IPOs with inflated earnings are over-valued at the time of first going public. In the subsequent periods when accrual reversed against earnings, market penalizes firms with accrual reversal by revising their price valuation. For ADR firms, there is no significant association between accrual reversal and stock returns after controlling for earnings change, suggesting any change in accruals is due to changes in firm performance.

Cross-market information transfers of ADR firms: An investigation of emerging market economies

Level II and III ADRs permit issuers to be listed on the major U.S. exchanges with the stipulation that they comply with extensive SEC disclosure requirements. Foreign private issuers are compelled to file a set of audited financial statements prepared in accordance with U.S. GAAP, or alternatively, IFRS or Home Country Accounting Principles with attendant reconciliation to U.S. GAAP prior to 2008. Although the Form 20-F reconciliation is discontinued in 2008 for IFRS filers, non-U.S. issuers are required to satisfy other Form 20-F stipulations such as expanded Item 17 and Item 18 disclosures. We conjecture that non-U.S. firms choosing to be listed on the major U.S. exchanges will incur the added costs associated with the supplemental disclosure requirements in order to attract sufficient investor attention as to have the disclosures impounded in the home country equity share price in the manner described by Fishman et al. (1989). Because a prominent attribute of ADR firms is that they benefit from multiple-market trading, we investigate whether the Form 20-F disclosure cross-market information transfers are associated with emerging market economy status. We employ models of the cross-market ADR and equity security share returns and trading volume controlling for the emerging economy status and incremental firm-specific SEC Form 20-F accounting principles disclosures. Preliminary results indicate that (1) U.S. listed ADR firms from emerging economies experience greater cross-market information transfers associated with the SEC Form 20-F filing, and (2) that the increased cross-market information transfers associated with the SEC Form 20-F filing are proportional to the difference in quality of accounting principles employed for home country reporting purposes vis-à-vis the accounting principles employed for SEC Form 20-F reporting purposes. Results are consistent with a feedback process through which the new information disclosed by the SEC Form 20-F reporting requirements in the ADR market attenuates the price discovery process in the home country equity market when the difference in information environment quality is large.

Financial Reporting Quality of Chinese Reverse Merger Firms: The Reverse Merger Effect or the Weak Country Effect?

ABSTRACT In this paper, we examine why Chinese reverse merger (RM) firms have lower financial reporting quality than U.S. IPO firms. We find that the financial reporting quality of U.S. RM firms is similar to that of matched U.S. IPO firms, but Chinese RM firms exhibit lower financial reporting quality than Chinese ADR firms. We also find that Chinese RM firms exhibit lower financial reporting quality than U.S. RM firms. These results indicate that the use of the RM process is associated with poor financial reporting quality only in firms from China, where legal enforcement and investor protection are weak. In addition, we find that compared with Chinese ADR firms, Chinese RM firms have weaker bonding incentives (as measured by CEO turnover-performance sensitivity) and poorer corporate governance. These factors, in turn, contribute to the lower financial reporting quality of Chinese RM firms. Overall, our results suggest that the less scrutinized RM process allows the Chinese firms with weak bonding incentives and poor governance to gain access to U.S. capital markets, resulting in poor financial reporting quality. JEL Classifications: G15; G24; G34; G38.

Accounting principle choice by ADR firms and auditors' fees

This paper examines whether ADR issuers, selecting US GAAP, IFRS, or home-country accounting principles for the preparation of financial statements accompanying the Form 20-F filing, are paying different auditors’ fees. We employ the Heckman Probit decision choice model and two-stage OLS correction to estimate the impact of selection of Form 20-F accounting standards upon ADR firms periodic auditors’ fees. We find that firms choosing to present US GAAP financial statements incur the highest auditors’ fees, while firms choosing to present IFRS financial statements accompanying the Form 20-F filing incur the second largest auditors’ fees. They also find that ADR firms incur significantly greater costs (associated with Form 20-F filings) than non-US firms opting not to list on the major US stock exchanges in order to improve comparability with other firms listed on the major US exchanges.

The efficacy of regulatory intervention: Evidence from the distribution of informed option trading

A substantive body of equity-market academic research documents an extensive range of costs arising from the SEC’s October 2000 adoption of strictures on selective disclosure and insider trading; suggesting an unusual outcome, specifically, an increase in informed trading. We investigate the efficacy of the SEC’s regulations by examining informed trading in an attractive setting for exploiting private information; the options market. Using data on the S&P 1500 industrial firms, our analysis indicates that about 38% of firms exhibited symptoms of informed option trading prior to regulatory intervention. After regulatory intervention, we observe that only 19% of firms show symptoms of informed trading. In additional testing of ADR firms – explicitly exempt from complying with Reg FD, we find no evidence of a change in informed option trading from pre- to post-regulation; suggesting that the SEC’s strictures on US firms led a to a significant reduction in informed option trading. Notably, our proxies for large shareholder and financial analyst access are associated with the largest decreases in informed option trading. In developing a unique measure of informed trading based on option market data, we provide evidence on the efficacy of security regulation in limiting informed trading.

Investor protection and cash holdings: Evidence from US cross-listing

This paper examines (i) whether the level of firms’ cash holdings differ depending on the strength of investor protection, (ii) whether excess cash holdings are valued more with better investor protection, and (iii) whether cross-listed firms that improve investor protection through “bonding” hold relatively more cash than non-cross-listed firms. We analyze 1405 ADR firms and their corresponding matched firms from 39 different countries and document that ADR firms have significantly higher cash holdings relative to their non-cross-listed peers, especially in recent years. The increase in cash holdings is much higher for emerging market firms because of their transition from particularly poor home country investor protection and accounting standards before cross-listing to much higher standards after cross-listing. In addition, firms with level III ADR listing, which represents the strongest investor protection, have higher cash holdings relative to other types of ADR firms.

Investor Protection and Cash Holdings: Evidence from U.S. Cross-Listing

This paper examines whether the level of firms’ cash holdings differ depending on the strength of investor protection, whether excess cash holdings are valued more with better investor protection, and whether cross-listed firms that improve investor protection through ‘bonding’ hold relatively more cash than non-cross-listed firms. We analyze 1405 ADR firms and their corresponding matched firms from 39 different countries and document that ADR firms have significantly higher cash holdings relative to their non-cross-listed peers, especially in recent years. The increase in cash holdings is much higher for emerging market firms because of their transition from particularly poor home country investor protection and accounting standards before cross-listing to much higher standards after cross-listing. In addition, firms with level III ADR listing, which represents the strongest investor protection, have higher cash holdings relative to other types of ADR firms.

International Cross-Listings and Subsequent Security-Market Choices: Evidence from ADRs

We study the link between the attributes of ADR-listed firms and their post-listing security-market choices. We find that developed market firms are more likely to issue equity and debt than their emerging market counterparts. Moreover, we find that large firms are more likely to issue debt and less likely to issue equity. When we examine locations where ADR firms raise their capital, we find that firms originating from countries where the protection of minority shareholders is weak are more likely to issue debt on their home markets and less likely to issue debt on international markets (excluding U.S. markets). Moreover, ADR firms originating from developed (emerging market) countries are more (less) likely to issue their equity on their domestic markets and less (more) likely to issue equity on international markets (excluding U.S. markets).

Does Foreign Company’s Shortcut to Wall Street Cut Short Their Financial Reporting Quality? Evidence from Chinese Reverse Mergers

In this paper, we examine why Chinese reverse merger (RM) firms have lower financial reporting quality. We find that while U.S. RM firms have similar financial reporting quality as matched U.S. IPO firms, Chinese RM firms exhibit lower financial reporting quality than Chinese ADR firms. We further find that Chinese RM firms exhibit lower financial reporting quality than U.S. RM firms. These results indicate that the use of RM process is associated with poor financial reporting quality only in firms from China, where the legal enforcement is weaker than U.S. In addition, we find that compared to Chinese ADR firms, Chinese RM firms have lower CEO turnover performance sensitivity, a measure of bonding incentives, and poorer corporate governance, which in turn explains the lower financial reporting quality in Chinese RM firms. Overall the results suggest that the RM process provides Chinese firms with low bonding incentives and poor governance the opportunity to access the U.S. capital markets, resulting in poor financial reporting quality in Chinese RM firms.

Does Regulation FD work? Evidence from analysts' reliance on public disclosure

We examine how Regulation FD changed analysts' reliance on firms' public disclosure. Regulation FD is associated with a stronger analyst response to earnings announcements, management forecasts and conference calls—that is, analysts respond to these events more quickly, more frequently and with larger forecast revisions after FD. Further, following public disclosure, the decline in analyst forecast dispersion and forecast error accelerates after FD. We find no such changes either for foreign ADR firms or around several confounding events. Overall, Regulation FD levels the playing field between the analysts and individual investors, thereby promoting “fair game” property of the market.

The effect of Regulation Fair Disclosure on expectations management: International evidence

We examine whether Regulation Fair Disclosure (Reg FD) was effective in limiting the expectations management of US firms as well as ADR and foreign-listed firms to meet or beat analysts’ earnings forecasts. Domestic US firms are required to comply with Reg FD; however, ADR firms are explicitly exempted from its provisions. Thus, ADR firms are thought to represent a control against which US firm expectations management is measured. We find a decrease in expectations management for both US and ADR firms. We find that the post-Reg-FD changes for US and ADR firms are not significantly different. This suggests Reg FD was not effective in limiting forecast guidance or, alternatively, both US and ADR firms responded to Reg FD by reducing forecast guidance. We provide additional evidence that ADR firms experienced a significant decrease in expectations management relative to other foreign-listed firms suggesting that ADR firms voluntarily complied with Reg FD. Overall, our evidence suggests that Reg FD worked to reduce expectations management to meet or beat expectations for both US and ADR firms.

Management Earnings Guidance by Non-U.S. Firms Cross-Listed in the U.S.

We study management earnings guidance practices of non-U.S. firms that are cross-listed in the United States. Our investigation is motivated by the economic importance of voluntary disclosure practices, the limited prior evidence concerning disclosure choices made by foreign issuers, and mixed evidence on foreign firms’ functional convergence behaviors in U.S. We report several important findings. First, consistent with the notion that home country institutions continue to influence foreign firms after cross-listing, the likelihood, frequency, and quality of disclosure by foreign listings are lower than that of comparable U.S. firms. Second, the frequency and quality of guidance for both U.S. and ADR firms increases following Reg FD. However, the increase is significantly greater for U.S. firms. This analysis shows how regulations which differ in their treatment of foreign and domestic firms can limit convergence in disclosure policies. Third, firms from stronger legal environments (i.e., common law countries) are more likely to provide guidance and provide higher frequency and quality of guidance than those from weaker legal environments (i.e., code law countries). Finally, foreign firms that do not list on an organized U.S. exchange (and hence are not required to comply with or reconcile to U.S. GAAP) provide more frequent and higher quality earnings guidance than those that do list on organized exchanges. This finding suggests that certain cross-listing firms choose issuing earnings guidance as a less costly means of improving corporate transparency rather than subjecting themselves to costly U.S. GAAP compliance. Overall, our study shows that cross-listing does not yield complete convergence to the higher disclosure standards exhibited by U.S. firms. Furthermore, we show that functional convergence is affected by factors such as regulations and home-country institutions

Factors Influencing the Indian Firms' Foreign Listing Decisions: A Survey Based Approach

The growing internationalization of capital markets suggests that an increasing number of firms perceive the benefits of listing their securities abroad directly or in form of Depositary Receipts (DRs). Many other firms, however, still limit listing their securities to their domestic stock exchanges. The existing research has investigated the factors that influence foreign listing decision of firms either by taking a sample of firms from developed economies or by a mixed sample of firms from developed and emerging economies. So far there has not been any major study done specifically to investigate the factors which influence the foreign listing decision of firms from emerging markets. Therefore, no clear conclusions have emerged for firms from emerging markets regarding the factors that influence their foreign listing decision. This study fills this gap by taking a sample of firms from an emerging market like India. A survey of managers of foreign-listed Indian firms was conducted to know the factors that have influenced their foreign listing decisions. The managers of surveyed firms seem to be well motivated for the foreign listings and face very few barriers in their endeavours to list on the foreign markets. Foreign listings are perceived to: achieve a fair valuation for firm, increase the absolute number and proportion of foreign shareholders, increase the credibility of firms' financial statements, increase the firms' prestige and visibility, ease firms' future access to foreign capital markets and facilitate the firms' task of performing mergers and acquisitions in the foreign markets. While ADR firms perceive 'the increased possibility of getting involved in legal proceedings' to be the only significant barrier to their decision to list on the foreign exchanges, GDR listing firms perceive the firm's absolute size' to be the only significant barrier to their decision to list on the foreign markets.

Information Environment, Dividend Changes, and Signaling: Evidence from Adr Firms

While theory suggests that dividends can be an important signal for firm performance, prior studies have been unable to provide strong evidence of dividend signaling among publicly listed U.S. companies. One potential explanation for this inconsistency between theory and empirical evidence is that the cross-sectional variation in information asymmetry across U.S. firms is insufficient to provide adequate test power. In this study, we revisit the link between dividend signaling and firms’ information environment by examining the dividend behavior of foreign firms that cross-list on the U.S. stock market in the form of American Depository Receipts (ADRs). Our evidence suggests that ADR firms with poorer information environments have stronger incentives to adopt dividend increases as a signaling device. We also find that such firms experience an increase in one-year-ahead earnings and a decline in systematic risk following a dividend increase. Additional analysis shows that ADR firms have fewer other information channels compared to similar U.S. firms. Overall, we provide evidence consistent with the importance of dividend signaling, especially for firms with poorer information environments.

Re-examining the effects of regulation fair disclosure using foreign listed firms to control for concurrent shocks

We re-examine the effects of regulation fair disclosure (Reg FD) using ADRs (who are exempt from Reg FD) to control for confounding events which affected all traded firms. Tests based on public information metrics (returns volatility, informational efficiency and trading volume) and on analyst information metrics (forecast dispersion and accuracy) suggest that Reg FD did not uniquely affect the US information environment. However, analyst report informativeness declined for US firms relative to ADR firms, providing evidence consistent with Reg FD achieving one of its objectives–reducing private information flows to analysts.

Do Non-U.S. Firms Issue Equity on U.S. Stock Exchanges to Relax Capital Constraints?

AbstractThe positive market reaction associated with an ADR listing is frequently attributed to a reduction in market segmentation costs that improves access to capital. If so, the benefit should be greatest for ADR firms that face relatively high indirect barriers to capital access. Our paper directly tests this supposition. We document that, following a U.S. listing, the sensitivity of investment to free cash flow decreases significantly for firms from emerging capital markets, but does not change for developed market firms. Further, emerging market ADR firms mention the need for access to external capital markets in their filing documents more frequently than their developed market counterparts and, in the post-ADR period, tout their liquidity rather than a need for capital access. Finally, the increase in capital access following an ADR is more pronounced for firms from emerging markets. Our findings suggest that greater access to external capital markets is an important benefit of a U.S. stock market listing for emerging market firms and is less important for developed market firms.

Accounting Choice, Home Bias, and US Investment in Non-US Firms

This paper examines the relation between accounting method choice and investment by US institutional investors in non-US firms. Such a relation could be driven by two factors. First, home bias in US investment could result in preferences for accounting practices familiar to US investors. The use of accounting methods consistent with US GAAP reduces information processing costs for US investors, allowing for more thorough analyses and increasing the credibility of the financial information. Second, many sources consider US GAAP to be one of the highest quality sets of financial reporting standards in the world. Thus, US investors likely perceive firms that use accounting methods allowed under US GAAP as having higher accounting quality. We find that firms with higher degrees of conformity with US GAAP have greater levels of US institutional ownership. These associations are exhibited in levels and changes, and are robust to the inclusion of a number of control variables for other determinants of institutional investment. Lead/lag regressions suggest that increases in US GAAP conformity attract a higher level of US institutional investment in future periods, but changes in US institutional holdings do not lead to changes in accounting methods. In partition analyses, we find that the positive relation between US GAAP conformity and US institutional investment holds regardless of a firm's ADR status or other proxies for visibility (e.g., stock index listing, analyst following, and firm size). However, the relation is significantly stronger in the subsamples of ADR firms and more visible firms, suggesting that US GAAP conformity has greater impact among firms already somewhat visible to US investors.