UNIVERSITY OF DURHAM

Durham Business School

A Critical Review of the Causes and the

Consequences of the Cross Listings

 
Dr Christodoulos Louca
 

JUNE 2009
 Outline of the Presentation

• Methods of Cross Listing.

• Importance of the Cross Listings.
• Characteristics of the American Depository Receipt
Programs.
• Why do Firms Cross List?
• Recent Trends in the Cross Listing Literature.
• Research questions.
 Methods of Cross Listings

• Direct Listing on the Stock Exchange (Canadian or Israeli

firms).
• Depositary Receipts (negotiable security that represents a
firms’ publicly traded equity or debt – GDRs vs ADRs).
• A broker purchase non-US firms’ shares on the home stock market and
delivers those to the depositary’s custodian bank.
• The depositary’s custodian bank instructs the depositary bank (i.e.
BNY, JP Morgan) to issue depositary receipts that are freely traded on US
stock exchanges i.e. OTC, NYSE, NASDAQ.
• BNY estimates that a DR investment can save 10 – 40 basis points
compared to the cost of holding shares outside the US.
 The Importance of Cross Listings

DRs in 2008 (source: Bank of New York)

• More than 2900 DR programs from 80 countries, up from
about 2200 a year ago.
• Nearly $4.4 trillion of DRs traded on US and non-US
markets, representing an increase of 34% year-over-year.
• 41 new IPOs and follow-on DR capital raising totalled $14.4
billion.
 Characteristics of the ADRs Programs

Characteristics of the American Depository Receipt Programs

         

  Level I Level II Level III 144A

NYSE, AMEX, NYSE, AMEX,
Primary Exchange OTC or 'Pink Sheets' NASDAQ NASDAQ PORTAL
Accounting Home Country Home Country
Standards Standards US GAAP US GAAP Standards

SEC registration Exempt Full Registration Full Registration Exempt

New Equity Capital New Equity Capital
Raised (public Raised (private
New Shares Existing Shares Only Existing Shares Only offering) offering)

Time to Completion 10 Weeks 10 Weeks 14 Weeks 16 Days

Between $200000 - Between $500000 - Between $250000 -
Direct costs Less than $25000 700000 2000000 500000
         
Source: Miller (1999)        
Characteristics of the ADRs Programs

Stock Exchange Requirements: NYSE Case

•Listing requirements (i.e. size, profitability, ownership etc.).
• Continued listing requirements (i.e. No of shareholders,
trading volume, revenues etc.).
• Governance requirements (audit committee, independent
directors etc.).

Stock Exchange requirements and investor protection.

 Characteristics of the ADRs Programs

Information Content of Accounting Standards

• Leuz and Verrechia (2000): German GAAP vs US GAAP.
• Bushee and Leuz (2005): OTC (do not use US GAAP) vs US
GAAP.
• Bartov et al. (2005): Value relevance of earnings prepared under
German GAAP vs US GAAP.

Increased disclosures vs Agency problem and cost of capital.

Characteristics of the ADRs Programs

Requirements Associated with SEC Registration

• Firms are subject to most of the rules of the exchange
regarding corporate governance.
• SEC authority to regulate the treatment of minority
shareholders in going private transactions.
Characteristics of the ADRs Programs

Requirements Associated with SEC Registration

•Shareholders have the right to sue for losses due to
fraudulent statements made by the company in the strict legal
environment of US.
• Firms have to report any person / group that beneficially
owning at least 5%.

SEC registration vs Investor protection.

 Characteristics of the ADRs Programs

Characteristics of the American Depository Receipt Programs

         

  Level I Level II Level III 144A

NYSE, AMEX, NYSE, AMEX,
Primary Exchange OTC or 'Pink Sheets' NASDAQ NASDAQ PORTAL
Accounting Home Country Home Country
Standards Standards US GAAP US GAAP Standards

SEC registration Exempt Full Registration Full Registration Exempt

New Equity Capital New Equity Capital
Raised (public Raised (private
New Shares Existing Shares Only Existing Shares Only offering) offering)

Time to Completion 10 Weeks 10 Weeks 14 Weeks 16 Days

Between $200000 - Between $500000 - Between $250000 -
Direct costs Less than $25000 700000 2000000 500000
         
Source: Miller (1999)        
 Why do Firms Cross List?

• Miller (1999) and Doidge et al. (2003)

• Firms can increase their value through cross listing.
 Why do Firms Cross List?

Market reaction to the Cross Listing Announcement

 Why do Firms Cross List?

Market reaction to the Cross Listing Announcement

 Why do Firms Cross List?

• Miller (1999) and Doidge et al. (2003)

• Firms can increase their value through cross listing.
• But why stock prices increase?
 Why do Firms Cross List?

• Firms can increase their value through cross listing (Miller

1999; Doidge et al. 2003). But why stock prices increase when
firms cross list?
a. Market segmentation hypothesis Investor Perspective
 Why do Firms Cross List?

Market Segmentation Hypothesis

• Breaks down market segmentation, removes investment barriers
such as taxes, regulatory restrictions, resulting in increased
liquidity (Jayaranum et al., 1993).
• Increases the shareholder base leading to a reduction in the
firm’s cost of capital (Merton 1987; Alexander et al., 1987;
Foerster and Karolyi, 1999).
• Inability to diversify globally induce a higher risk premium
(Errunza and Losq, 1985).
 Why do Firms Cross List?

• Firms can increase their value through cross listing (Miller

1999; Doidge et al. 2003). But why stock prices increase when
firms cross list?
a. Market segmentation hypothesis Investor Perspective
b. Bonding hypothesis
 Why do Firms Cross List?

Bonding Hypothesis (Coffee, 2002)

• Commits the listing firm to respect minority investor rights
and to provide fuller disclosure.
• Increased SEC enforcement
• Enhanced accounting disclosures
• More intensive analysis from market participants i.e.
analysts
 Why do Firms Cross List?

Bonding Hypothesis (Coffee, 2002)

Empirical Evidence:
• Lang et al. (2003)
• Charitou et al. (2007) Reputational Bonding
• Lel and Miller (2007)
• Doidge (2004)
• Siegel (2005) Legal Bonding
• Licht (2003)
 Why do Firms Cross List?

• Firms can increase their value through cross listing (Miller

1999; Doidge et al. 2003). But why stock prices increase when
firms cross list?
a. Market segmentation hypothesis Investor Perspective
b. Bonding hypothesis
c. Enhanced future opportunities Firm Perspective
 Why do Firms Cross List?

Enhanced Future Opportunities

Empirical evidence:
• Pagano et al. (2002)
• Reese and Weisbach (2002)
• Charitou et al. (2009)
• Baker et al. (2002)
• Torstila and Sami (2003) and Tolmunen and Torstila (2005)
 Recent Trends in the Cross Listing
Literature

Sarbanes-Oxley (SOX) 2002

• Reforms in accounting practices
• Reforms in corporate governance practice

Intends to give SEC the power to act against those who shake the
confidence to the US market (i.e. Enron, Worldcom etc)
 Recent Trends in the Cross Listing
Literature
Sarbanes-Oxley (SOX) 2002: Some aspects
• Rotation of audit partners.
• Exclude auditors from non-audit work.
• Eliminates conflicts of interest in the investment banking industry
(analysts vs investment banks).
• Executives should return any incentive-based compensation or
profits from stock sales following accounting restatements.
• Increases CEO and CFO responsibility for the quality of financial
statements and disclosures (criminally liable).
• Higher white-collar crime penalties.
 Research Questions

The CEOs of both NYSE and NASDAQ voiced their

concerns about the costs that foreign firms have to bear
to comply with SOX and the implications of these costs
on the flow of listings (Thain 2004; Greifelt 2006). In the
light of these concerns it will be interesting to examine:
• Whether the rate of the cross-listed firms that choose to list / delist
from US exchanges is decelerated / accelerated after the SOX.
• Which firms choose to delist from US stock exchanges (governance
quality, earnings quality, information environment).
• Has the SOX affected the type of firms that are attracted to a US
cross listing (governance quality, ownership structure, firms
characteristics)?
 Research Questions

SOX increase considerably investor protection and

protects them from a continuation of accounting scandals
we have seen in recent years (Enron, Worldcom etc). In
the light of the increase in investor protection it will be
interesting to examine:
• How SOX affects cross-listed firms returns?
• To what extent SOX really enhance the bonding role of the
cross listing and especially the legal aspect of the bonding
hypothesis (i.e. executive prosecutions).
 Research Questions

Other research questions:

• If dividends proxy for the degree of minority shareholders
expropriation (Faccio et al., 2001), how a cross listing in US
that is suggested to increase investor protection relate with
firms’ dividend policy?
• In August 2008, the Rule 12g-2(b) amended to exempts DR
issuers from registration under the Securities Exchange Act of
1934 (http://adrnymellon.com/files/S023046.pdf). Companies
use this rule to establish Level I DR program. Studies that
examine the market reaction to such cross listings and stock
market valuation will be very interesting.
 Suggested Reading List

• Review studies
• Coffee (2002) and Karolyi (2006)

• Seminal study
• Miller (1999)

• Further information
• Bank of New York Mellon:

http://www.adrbnymellon.com/home_university.js
p
• J.P. Morgan: http://www.adr.com