The Indian SME IPO market has witnessed remarkable growth, with 266 small and medium enterprises (SMEs) going public since the beginning of 2024. However, despite strong initial subscription levels, one in three of these companies now trades in the red. This stark reality underscores the critical importance of pricing IPOs moderately to ensure long-term success and investor confidence.
The Current Landscape: A Tale of Overpricing and Disappointment
Of the 266 SME IPOs in 2024, 88 are trading below their offer price. Notably, 36 of these under-performers had subscription rates exceeding 100 times. Magenta Lifecare, oversubscribed by over 1,000 times, is now down by more than 30% from its offer price. This pattern reveals the inherent risks of aggressive pricing strategies.
Why Do SME IPOs Get High Subscription?
SME IPOs have consistently attracted high subscription levels due to several factors:
- Low IPO Size: These offerings’ smaller size makes them accessible to a broader investor base.
- Active Grey Market: The grey market activity often inflates perceived demand, creating a misleading picture of the IPO’s potential.
- Concentrated Holdings: Limited free float helps sustain higher prices temporarily.
However, these same factors contribute to pricing distortions, leading to disappointing post-listing performance.
The Misleading Influence of Grey Market Premiums (GMPs)
The grey market premium, a widely watched indicator before an IPO, has frequently failed to predict market performance. For instance, many IPOs that showed promising GMPs either listed at a discount or fell below their offer prices shortly after listing. 18 of the last 20 SME IPOs saw oversubscription rates of over 50 times, yet eight debuted with returns below 6%.
Market Trends and the Performance Conundrum
Despite these setbacks, the broader SME IPO index has outperformed major indices. The BSE SME IPO index surged by 75% in the past year, significantly outpacing the BSE IPO index (3.5%), the BSE Small-cap index (7.4%), and the Sensex (8%). This growth is driven by the stellar performance of 62 IPOs that more than doubled investors’ money.
However, this overall success masks the underlying issues of overpriced offerings that struggle post-listing.
SEBI’s Intervention: A Step Towards Stability
Recognizing the risks of aggressive pricing, the Securities and Exchange Board of India (SEBI) recently tightened its IPO eligibility norms. Firms must now report an operating profit of at least ₹1 crore in two of the three preceding financial years to qualify for an IPO. This move aims to filter out weaker firms and foster more sustainable growth.
The Case for Moderate IPO Pricing
Given the volatile performance of recent SME IPOs, companies should adopt a more conservative pricing strategy. Here are some critical considerations:
- Focus on Fundamentals: Base valuations on realistic growth prospects and peer comparisons.
- Avoid Relying Solely on GMPs: While GMPs can gauge market sentiment, they are unreliable long-term performance indicators.
- Engage Institutional Investors: A diversified investor base ensures more stability post-listing.
- Transparent Communication: Communicate the growth strategy and financial health to potential investors.
Long-Term Success Over Short-Term Gains
While the allure of high IPO pricing may seem tempting, the long-term success of an SME IPO hinges on investor trust and sustainable growth. Moderately priced IPOs are more likely to attract stable investors, perform well post-listing, and contribute to the company’s long-term market credibility. As the market matures and regulatory frameworks tighten, businesses must prioritise realistic valuations over short-term listing-day euphoria to ensure lasting success in the dynamic world of SME IPOs.
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