SEBI Revealed Tighter Norms For SME IPOs

Cat: Market Updates

The capital market regulator, the Securities and Exchange Board of India (SEBI) has introduced a series of reforms to strengthen the regulatory framework for Small and Medium Enterprise (SME) IPOs. The new regulations come in response to a growing number of SME IPOs and the significant rise in investor participation in this segment.

Key Changes in the Regulatory Framework

Profitability Requirement for SMEs

One of the most significant changes is the introduction of a profitability requirement for SMEs wishing to launch an IPO. As per the new rules, SMEs must demonstrate a minimum operating profit (earnings before interest, depreciation, and tax or EBITDA) of ₹1 crore for at least two out of the three preceding financial years. This will ensure that only financially stable companies with a proven track record can access public funds.

Cap on Offer-for-Sale (OFS) Component

The regulations also impose a 20% cap on the Offer-for-Sale (OFS) component of an SME IPO. This means that only 20% of the total issue size can be offered for sale by existing shareholders. Additionally, the new rules specify that no shareholder can offload more than 50% of their existing holdings in the IPO, ensuring that the company retains a significant portion of its equity base.

Lock-in Period for Promoters

Another key provision is the introduction of a phased lock-in period for promoters’ shareholding. Any excess promoter holding over the Minimum Promoter Contribution (MPC) will be subject to a lock-in period, with 50% being released after one year and the remaining 50% after two years. This ensures that promoters retain a long-term interest in the company’s performance.

Restrictions on Use of IPO Proceeds

SEBI has also placed restrictions on how SME IPO proceeds can be used. The regulations specify that the funds raised cannot be used for repaying loans taken from promoters, promoter groups, or related parties—whether directly or indirectly. Furthermore, the allocation for general corporate purposes (GCP) in SME IPOs is capped at 15% of the total issue size or ₹10 crore, whichever is lower. This ensures that IPO funds are used primarily for the company’s growth and not to settle past debts.

Enhanced Transparency for IPO Documentation

The new rules also require SMEs to make their Draft Red Herring Prospectus (DRHP) publicly available for comments for 21 days before the IPO. Companies must publish announcements in newspapers and include a QR code for easy access to the DRHP. This ensures greater transparency and enables investors to make more informed decisions.

Conditions for Post-Issue Capital Increase

SEBI has also outlined provisions for situations where the post-issue paid-up capital exceeds ₹25 crore due to further capital issuance. In such cases, the issuer may continue to be listed on the SME exchange without migrating to the main board, provided they comply with the Listing Obligations and Disclosure Requirements (LODR) Regulations applicable to main board companies.

Compliance with Related Party Transaction Norms

In line with the requirements for main-board listed companies, SME-listed entities will now have to comply with related party transaction (RPT) norms. This ensures that any transactions between the company and its promoters or related entities are conducted with transparency and fairness.

Conclusion

These new reforms by SEBI are a step in the right direction toward strengthening the SME IPO segment in India. By introducing stricter regulations around profitability, OFS, and IPO proceeds, SEBI aims to create a more transparent and stable market environment.

Disclaimer: This blog has been written exclusively for educational purposes. The securities mentioned are only examples and not recommendations. This does not constitute a personal recommendation/investment advice. It does not aim to influence any individual or entity to make investment decisions. Recipients should conduct their own research and assessments to form an independent opinion about investment decisions.