Royal Dutch is more active in trading within the markets of the Netherlands and the U.S. On the other hand, Shell focuses on trading mainly in the United States. As a result, both their relative prices with the Netherlands and U.S. markets increase but decrease with the U.K. market. This case study focuses on the causes of these differences and the ability to settle or resolve these differences.
Kenneth A. Froot; Andre F. Perold
Harvard Business Review (296077-PDF-ENG)
March 04, 1996
Case questions answered:
- Describe the structure of the Royal Dutch and Shell Group. Does it differ from the typical publicly listed firm?
- Why might companies find it attractive to issue American Depository Receipts (ADRs)? Why might investors find ADRs attractive?
- Are there price differentials between the different equity listings of Royal Dutch Shell? Identify them and then explain these price differences. What percentage of these price differentials can arise because of your suggested explanations?
- Is there an arbitrage opportunity in the price differentials that you identify? What transactions would you propose to exploit these opportunities? Calculate the net payoffs of the arbitrage transactions that you suggest. Would these transactions, if implemented, enforce market discipline?
- On the basis of your analysis and the case findings, what other factors might explain the observed prices? To what extent can these factors provide a satisfactory answer? Explain.
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Case answers for Global Equity Markets: The Case of Royal Dutch and Shell
Describe the structure of the Royal Dutch and Shell Group. Does it differ from the typical publicly listed firm?
In 1907, Royal Dutch Petroleum Company (referred to as “Royal Dutch”) incorporated in the Netherlands and the “Shell” Transport and Trading Co. PLC (referred to as “Shell”) incorporated in the UK merged their interests at a 60/40 ratio, respectively. However, the two companies remained separate from each other after the merger as shown in Exhibit 2 of the case.
According to the agreement, the ownership of all subsidiaries of the Holding Group is split at a 60/40 ratio. Furthermore, all cash flows from and to shareholders are distributed in the same ratio.
The structure of Royal Dutch and Shell is a perfect example of a dual-listed company (DLC) structure where two companies incorporated in different countries operate as a single economic entity while remaining legally distinct from each other. In contrast to a regular merger, this entails separate stock market listings (Pastermack 2015). Compared to a joint venture, the group is much more similar to a single company with two classes of equity. There is no transfer of assets during the process of DLC arrangement and although shareholders of the two parent companies retain their existing shares, they have an economic interest in the combined assets of both companies.
As a result, one share of Royal Dutch was entitled to the same cash flows of 9.2744 shares of Shell, which theoretically implies that one share of Royal Dutch should trade at 9.2744 times the price of Shell stocks. Issues regarding legal and economic rights distribution including the 60/40 ratio were determined in the “equalization agreement” signed by both parties (De Jong, Rosenthal and Van Dijk 2009).
A major difference between DLCs and typical publicly listed firms is that although both structures can entail listings on multiple exchanges, the shares of DLCs, in this case, the shares of Royal Dutch and Shell, are not…