SME IPO Frenzy
In today’s edition of TOPICAL Wednesday, we’ll try to understand the current SME IPO market which has baffled a lot of people.
By now, we all have heard or read about the craze surrounding SME IPOs. If you haven’t, let me bring you up to speed. There is an ongoing outrage about SME IPOs which I think is mainly due to two main reasons. First, when people learned about the opening of Resourceful Automobiles Ltd.’s IPO in the SME segment to raise ₹12 crore, it caused a stir. While this IPO size is typical for the SME segment, what shocked people was the nature of the business. Resourceful Automobiles operates just two Yamaha dealerships in Delhi/NCR. That’s it! Beyond that, there is nothing else in the business—just two showrooms, one of which is likely a workshop rather than a showroom. Additionally, there is no exclusive dealership; the company is simply an ordinary Yamaha bike dealer, similar to hundreds of dealers you would find in any city.
The second reason why people are calling the current market a bubble and extreme euphoria is that while the company aimed to raise only ₹12 crore but it received bids worth ~₹4,800 crore. That’s a 400x subscription for a company with ~₹17 crore in revenue, ₹1.5 crore in profit, and negative cash flow, run by only 8 employees. What is more concerning is that the retail portion was subscribed 500x, and the HNI portion was subscribed ~316x.
This situation is pure meme material. We don’t quite know how to feel about it, do we? What is leading to this craze? Is the market losing its wits? Why is even such company receiving such a huge subscription?
(This also highlights the fact that the writer spends a lot of time on twitter😂)
All of this seems surreal. So, let’s try to understand the growing SME IPO market to gain some clarity.
The Evolution of SME IPOs
SMEs (Small and Medium-sized Enterprises) and MSMEs (Micro, Small, and Medium Enterprises) have historically faced hurdles in accessing capital, primarily due to financial institutions’ reluctance to lend. The small loan sizes, high servicing costs, and lack of collateral made it difficult for SMEs to secure affordable credit. To tackle these challenges, the Prime Minister’s Task Force in 2010 proposed a dedicated stock exchange for SMEs, leading to the creation of the BSE SME platform and NSE’s ‘EMERGE’ in 2012. This made the Indian capital markets in line with the global counterparts in the USA, UK, and China who have similar markets for their small businesses.
Initially, the Indian platforms struggled. SMEs were hesitant to list due to a lack of awareness and the perceived complexity and costs of regulatory compliance. Investor skepticism about smaller companies also raised concerns about liquidity and market depth.
But the tides are turning! Over time, regulators have simplified compliance norms and reduced listing costs, making it easier for SMEs to participate. Incentives for merchant bankers and market makers have been introduced to ensure liquidity and boost investor confidence.
These efforts are paying off, leading to increased acceptance and participation in SME IPOs. Now, SMEs have a viable pathway to raise capital and integrate into the formal economy.
One of the key advantages for SMEs is the relaxed framework for launching an IPO.
SME IPO Eligibility:
- The SME should be incorporated under the Companies Act, 1956.
- The SME should have a face value (post issue paid-up capital) of up to ₹25 Crore.
- The SME’s net tangible assets should be worth ₹1.5 Crore.
- The SME must have a track record of a minimum of 3 years as a ‘limited company’.
- The SME should have a website.
- The company’s promoters should not change for at least a year after filing the IPO.
- The SME should agree to trade in Demat securities.
- The SME should enter into a contract with the depositories.
An SME can proceed with an IPO if it meets the above requirements.
Here’s how it’s different from mainboard IPO:
The SME IPO framework has been tailored to meet the specific needs of small and medium enterprises, making it more accessible compared to main board IPOs. The regulatory framework is designed to be accommodating, with relaxed disclosure norms, lower listing fees, and simplified compliance requirements.
One of the standout features is that IPO approval is handled by stock exchanges rather than SEBI, allowing for a more streamlined process.
This makes it easier and more cost-effective for SMEs to launch an IPO. As a result, more businesses are waking up to this opportunity and taking advantage of the benefits it offers.
The SME IPO Boom
While some SMEs, like E2E Networks and Advait Infratech, have successfully transitioned to main boards and performed well, many others are still growing and finding their footing. Despite this, the influx of liquidity in the stock market has brought new money into the SME platform.
The interest in SME IPOs has reached unprecedented levels. The S&P BSE SME IPO index, which tracks the performance of these IPOs after listing, has seen phenomenal growth. Since its launch in 2012, the index increased ~54x over 9 years, with a CAGR of 58% till 2021. But in just the next 3 years, it surged by ~19.5x, registering a CAGR of about 160%.
With rising interest in SME companies and favorable market conditions, this is a golden opportunity for these businesses to tap into this nascent market.
And that’s exactly what they are doing.
SME IPOs: A Surge in Numbers
The SME IPO market is on fire, with a record number of companies going public, especially in the last 3 years. To give context, 596 SMEs went public from 2013-20 (8 years), while 519 companies have gone public in the previous ~3.5 years.
(*till date)
Just this July, 24 SME IPOs were listed, and August saw 15 more make their debut, with many more expected before the year’s end. This surge means the previous record for SME IPOs may be easily shattered before the year ends.
What’s fascinating is that all kinds of companies—great, mediocre, and not-so-great—are finding acceptance. The market’s appetite for these IPOs is insatiable, driven by a mix of investor enthusiasm and promising returns.
Consider the impressive subscription and gains of recently listed companies:
(Source: Moneycontrol)
Now let’s try to answer one of the most important question.
So, is this a bubble?
There’s no denying that we’re in a bull market, with SME IPO oversubscriptions reaching unprecedented levels. However, this phenomenon is still in its early stages.
SME platforms were created to provide alternative fundraising avenues for small businesses, which currently include 4.5 crore registered units, encompassing a vast number of MSMEs. However, today only 332 companies are listed on the BSE SME platform and 397 on NSE EMERGE. While many of these may include unscrupulous businesses, sick units, and companies that exist only on paper, the genuine ones entering the IPO space are still relatively small.
Oversubscriptions might seem concerning, but they’re not necessarily problematic. Investors, with funds in banks, bid on multiple IPOs to secure any allotment they can. This is often driven by the grey market premium (GMP), which can be influenced by, let’s say “external market factors”, outside of fundamentals. However, the money hasn’t left investors accounts.
In the long term, many of these companies will fail, while a few will succeed—this is the nature of business. Yes, it is clear that the markets are not aligned with the fundamentals here, but to think that we have reached the peak of bull market and are in euphoria is also a kind of…speculation!
This leads us to the question highlighted in the title. If promoters are profiting, investment banks underwriting these IPOs are profiting, brokers are profiting, and market makers are profiting, then who ends up being the greater fool? It will be the unfortunate individual left holding the bag when the music stops, hoping that an even greater fool will come along to buy it. Just make sure that you’re not one of them.
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