Eye On IPOs: Why Are Indian SMEs Going Public?

Even after major jolts from the Covid-19 pandemic and supply chain disruptions from the geopolitical crisis, India's small and medium-sized businesses (SMEs) have emerged as key drivers of the economy, creating a large number of jobs and promoting innovation.

Now, as the SME industry moves forward post the Covid-19 era, several businesses are aiming to access the capital markets for business expansion and growth prospects. In recent times, Initial Public Offerings (IPOs) have grown in popularity as a means of funding, raising awareness and gaining access to a larger investor base for Indian SMEs. 

Experts told BW Businessworld that the spike in SME IPOs indicates the growing trust of these companies in the capital market environment, opening the way for their continuous growth and development as the Indian government continues to prioritize the development of the SME sector.

In 2022, SME IPOs witnessed a major increase, with 109 SME IPOs which raised a total of Rs 1,874 crore in comparison to 59 IPOs in 2021, which collected Rs 746 crore, as per the Prime Database. 

The data from market tracker Chittorgarh.com revealed that the number of SME IPOs hitting stock exchanges increased to 84 per cent from 59 IPOs raising Rs 787 crore in the CY 2021 to 109 raising Rs 1,980 crore in 2022. 

The Prime Database data revealed that in 2023, a total of 49 offerings by SME firms will have raised Rs 930 crore. Interestingly, this is about nine times the market value of the five mainboard issuances. Also, Rs 5,824 crore is raised by these five main board IPOs. In 2023, SME IPOs saw 33 of 49 stocks trading above the offer price. 

As India has seen several Indian SMEs going public, one question arises- are SMEs demonstrating to be compelling engines of economic growth in the vivacious environment of India’s financial markets?

"The gating criteria allow businesses with a post-issue paid-up capital of between Rs 1 to Rs 25 crore and positive operating cash flows for the preceding two years, making it a great avenue for cash-generating SMEs to raise anywhere between Rs 10 to Rs 50 crore in a reasonable time frame by diluting a minimum of 25 per cent of their post-issue paid-up capital," said Karan Desai, Founder, Interface Ventures. 

Desai added that this platform now gives both retail and an emerging crop of smaller institutional investors the chance to bet on the India growth story by investing in profitable traditional and emerging businesses that are typically too small to list on the main board or attract typical private equity (PE)/ venture capital (VC) interest.

Notably, of the over 160 issues on the SME board since January 2022, the average listing day returns are 25 per cent. The issues were subscribed to over 50 times on average. There are stories like Droneacharaya, which gave a listing day return of almost 90 per cent and Phantom Digital the VFX company, which gave a listing day return of over 200 per cent.

"The subscription levels of SME companies have surpassed those of large-cap companies, indicating a strong public interest in SMEs. The institutional, high-net-worth individual (HNI) and retail subscriptions for SME companies are beyond expectations. In contrast, many large-cap and mainboard companies do not witness such high subscription levels as seen in SMEs, said Kulbhushan Parashar, Founder and Managing Director, Corporate Capital Venture. 

Parashar indicated that investors are actively seeking opportunities for potential growth and diversification, and the market is indeed prepared to participate in SME IPOs.

Industry leaders also told BW Businessworld that regulatory reforms and increased investor protection measures have boosted investor confidence in the Indian capital markets. Retail investors now have greater trust in the transparency, governance, and regulatory framework surrounding IPOs, making them more willing to participate in SME IPOs.

Desai stated that the strong return profile, coupled with good liquidity on the exchange, has created great anticipation among investors for the next interesting SME listing. "As always, promoters and Bankers should try and price the issue fairly to ensure that investors make good returns, rather than cash in on the euphoria and price the issue absurdly, leading to post-listing losses," he mentioned. 

Investors want more

Indian investors seek diversification in their investment portfolios as well as exposure to companies with significant growth potential. As investors become more aware of the untapped potential and attractive growth possibilities of these small and medium-sized businesses, the market is becoming more accepting of SME IPOs.

"SMEs frequently operate in specialized markets with significant room for expansion, providing distinctive goods or services that address particular market demands. Retail investors can take part in these companies' growth narrative and potentially see significant returns on their investments by investing in such SMEs," stated Suresh Mansharamani, Founder, Tajurba Business Network. 

Notably, by diversifying their portfolios, investors can obtain access to a wider variety of businesses and industries while reducing their exposure to large-cap stocks by making investments in SMEs. This diversity increases the possibility of greater profits while assisting in risk distribution.

"Retail investors are drawn to SME IPOs as well because of the possibility of capital growth. Investors may see financial gains if these businesses thrive and meet their growth objectives as a result of rising values. Retail investors can profit from these price appreciation possibilities, particularly when SMEs are engaged in high-growth industries or have revolutionary business models," added Mansharamani. 

The major scope

To a large extent, the covid-19 effect is now over, and normal operations have started in SME companies apart from that, there is a strong appetite for SME IPOs as investors are looking at strong growth. However, experts believe that there is still a major scope for these businesses to thrive in order to significantly contribute to the progress of SME IPOs in India. 

"Liquidity in SME IPOs needs to be looked at closely. This measure will increase retail and investor participation here. Also, more information and timely dissemination of companies' news have to be updated for investors on a regular basis, which will further help the ecosystem of SMEs in India," said Avinash Gorakshakar, Research Analyst, Profitmart. 

Notably, the Covid-19 pandemic caused substantial hurdles to the SME sector, as it did to many other sectors. SME enterprises were severely impacted by lockdowns, interruptions in the global supply chain, and decreased consumer spending. 

Numerous SMEs were forced to temporarily halt operations, reduce their workloads, or possibly close permanently. SME owners are, however, taking advantage of possibilities to repair and develop their businesses as the situation gradually improves and economic activity picks back up.

"A smart move for SMEs to get financing and support their growth ambitions is to go public through IPOs. It shows that SMEs have reclaimed their confidence and are upbeat about their futures in the wake of the pandemic. SMEs can attract investments, raise money for expansion, and increase their awareness among investors and clients by participating in the capital markets," Mansharamani asserted.  

Way forward 

India often faces challenges in securing the necessary capital to boost their expansion plans, but SME exchanges both on the BSE and NSE are hailed for providing a strong platform for SME Promoters to raise capital decades ago, when SME IPOs were unheard of. Each month, five to ten SME IPOs are launched, indicating a healthy market response. Currently, there are around 750 to 800 listed SME companies. 

However, Gorakshakar added, "The only link missing is that liquidity in SME companies needs to improve significantly. Currently, SME stocks are traded in lot sizes which are large in size. If the lot sizes are made smaller, this will bring in more liquidity and encourage a bigger audience to participate in SME IPOs."

Parashar added that in the next five years, SME IPOs are expected to overrun mainboard IPOs. There is significant interest from retail investors, HNIs, and institutional investors in SMEs. "To further enhance the ecosystem, the focus should be on investor education, regulatory reforms, improved access to finance, and investor protection mechanisms," he said. 

The market's acknowledgment of the potential for SMEs to recover and thrive may be seen in investors' interest in SME IPOs. Even while SME IPOs send a positive message, it's critical to keep an eye on larger economic indicators and SMEs' long-term performance to gauge the sector's overall health.