WHAT IS THE DEPOSITORY TRUST COMPANY AND HOW IS IT IMPORTANT

The Depository Trust Company represent the final step before a private company which has  undertaken its own IPO to become public and tradable. In addition, for private companies doing a reverse merger into an already public company, care must be exercised to make sure that the company’s securities are “DTC eligible.”

That Depository Trust Company can best be viewed as a cooperative for clearing securities transactions in the United States. It is a quasi-governmental entity owned by the United States clearing firms.

When securities trading first began, in the shade of the buttonwood tree in lower Manhattan, the purchase and sale of securities involved the physical delivery of money against a piece of paper representing the securities. As the trading market became more national, physical certificate transfers became inefficient for the public market. Currently, when a shareholder of a public company sells shares, though shares must be delivered in three days. Correspondingly, payment for those shares also must be delivered in three days. It would be impossible for  the selling shareholder to send the certificate to the transfer agent and deliver it back with the new shareholders name on it within three days.

The DTC and its predecessors were born in order to remedy this issue. The process goes like this. A shareholder has a piece of paper representing his shares in a public company. He delivers that certificate to his broker, in order to have the shares deposited in his account. That broker in turn sends a certificate, either directly, or through his clearing broker, to the DTC. DTC then takes that stock certificate and in times past, literally placed it in a physical location with all the other stock certificates of that one issuer.

A clearing broker is a stockbroker or in some cases bank which is a member-owner of DTC and has an account with them. Since not all brokers are legally or financially permitted to be clearing brokers, those who are not clearing brokers enter into an agreement with the clearing broker to act on their behalf. The DTC maintains a record, updated daily, of how many shares of every issuer and of every class of securities  of that issuer is deposited with them.

On the face of every stock certificate or certificate representing any kind of securities is a CUSIP number. The CUSIP number has nine digits. The first six digits represent the issuer. The final three digits vary depending on what specific security of that issuer it involves. For example, if an insurer has two classes of common stock, each class of common shot stock will bear a CUSIP number identifier identical as to the first six digits but the last three digits will be different. Securities with the identical CUSIP number are fungible in the DTC system, that is, they are like grains of wheat in the silo.

Now that the shareholder has his shares deposited with his broker, can sell those shares on the public market. He places a sell order in and the order is accepted. The clearinghouse through which he owns those securities on deposit with  DTC informs DTC that fact and the DTC’s ledger is adjusted every day, to transfer those shares to the clearing firm representing the person who purchased the  securities.

There are more advanced electronic systems now, resulting from the fact that transfer agents and the DTC are moving away from the paper certificate system and going into a pure book entry form. Thus, an issuer can issue securities, hold them in book entry form, and transfer them electronically into the DTC without a paper certificate ever being generated.

In order for an issuer to obtain approval of the class of securities to be deposited in DTC there is a procedure. Only clearing firms can make an application for an issuer. The typical cost for this application ranges from $10,000-$15,000 and requires one week or more. Usually, the process takes a month. Not only is there the issue of the cost, but there’s also an issue of uncertainty, because the DTC has not promulgated any standards for when it will accept a company for approval on DTC. There is no appeal for a rejection.