Hemant Sood, Ludhiana
This initiative stems from a rise in cases of stock manipulation by some SME promoters and observed deficiencies in audit diligence.
We reached out to Hemant Sood, a veteran in the finance domain and currently acting as Managing Director at Findoc Investment, Ludhiana.
He helped us understand the rationale behind these developments and shed light on the possible impacts these changes may affect on the market and on investors.
Small and Medium Enterprises (SMEs) are playing a very crucial role in India's economic growth story. Forming the backbone of Indian economy, they contribute nearly one-third to India's GDP, fueling growth and bringing stability.
They represent about 90% of all industrial units in India, accounting for nearly 45% of India's total industrial output and around 40% to the country's manufacturing value addition.
Likewise, in the segment of foreign trade, they account for around 50% of total manufacturing exports, thereby strengthening India's trade balance and global market presence.
In addition to this, they play a critical part in fostering innovation and providing employment opportunities. First, they create a conducive environment for experimentation and entrepreneurship. Aspiring entrepreneurs give traction to their business ideas with relatively low capital investment which also bring numerous job opportunities.
SMEs stand as the second-largest employment sector after the agriculture sector, employing around 62 million people and generating over 8 million new jobs annually.
Given this crucial role of SMEs in the Indian economy, they benefit from a strong support framework established by the government and regulatory bodies. This includes financial assistance, targeted policy initiatives, and a business environment that facilitates easy access to capital, notably through SME Initial Public Offerings (IPOs). However, concerns around fraudulent activities in the segment and market manipulation have also been bothering the market regulator.
The SME segment has been facing challenges on multiple fronts - misleading presentations, price manipulations, and high speculation. All of these were topped by the lack of investors' awareness.
SEBI, itself, cautioned investors about certain SME promoters presenting a misleading picture, inflating their evaluation. Then, capitalizing on the momentum, they were offloading their own holdings and making significant personal profits.
In June 2024, SEBI Chairperson Madhabi Puri Buch stated that some entities were misusing the SME segment for price manipulation. As per her statement, "The reality is that these are relatively small entities, the market capitalisation is small, and the free float is small. It is relatively easy to manipulate both at the IPO level and the trading level,".
This is because small market capitalization and free float made it easy to manipulate prices at both the IPO and trading levels
Also, the lenient listing and disclosure norms for SMEs led to high speculative activity. Many companies' valuations were found to be unreasonably high.
It is in this context that the new norms by the market regulator aim to make adjustments.
As per the finance expert, "Going by SEBI's recent announcements, the regulatory framework for these IPOs is about to become more stringent. This may sound challenging but is important for a more transparent and secure market, protecting investors and bringing them confidence.".
As per the announcement made by SEBI, the capital markets regulator is concerned about the ease with which micro companies raise capital and potentially exploit the system. Hence, it is planning to tighten listing norms for SME IPOs and will issue a consultation paper on the same by the end of this year.
The paper will detail the proposed changes, including adjustments to
This announcement indicates a move towards curbing manipulation and bringing transparency in the SME IPO sector.
Sharing his analysis of the announcement, Hemant Sood said, "The new norms will lead to high-quality SMEs entering the market, having solid financials and genuine business models. It will also raise the entry barrier, requiring SME to meet higher transparency and financial health standards if they are to access public funds."
As these regulatory changes will filter out underprepared SMEs, this will curb the increasing instances of stock manipulation. There has been an increase in the instances of company promoters presenting an overly optimistic view of their businesses, thereby inflating stock prices. Subsequently, they divert funds and divest their holding, undermining investors' interest and market integrity.
"While they may seem tough, it is necessary to make sure that only thoroughly vetted enterprises have access to public funds," said Mr. Sood.
Adding further, Hemant Sood said, "I would advise SMEs to prepare for the compliance as their key strategy for successful listings, if they want to make it big." To investors, he said, "Shareholders need to be more diligent about their investment and focus on long-term potential of SMEs, not on short-term gains."
SMEs are significant part of Indian economy with considerable contribution towards Indian GDP and job opportunities. Hence, it deserves the pampering that it gets. However, this has led to some overindulgences and infusing market discipline was certainly in the offing.
SEBI's reinforcement of the guardrails for IPO listings and financial reporting is a much needed and progressive step. It will foster a healthier economic environment where both SMEs and investors thrive securely.
