SME IPOs Promise Big Gains Alongside Bigger Risk, Higher Volatility: RBI Study

SME IPOs may offer impressive gains in favourable conditions but carry higher volatility and risk during downturns, making due diligence indispensable, cautioned a study by the Reserve Bank of India (RBI). Examining the performance and trends of SME IPOs during 2023-24 and 2024-25, the study published in the latest monthly bulletin of the central bank urged investors to carefully evaluate the company’s fundamentals, growth prospects, and risk factors before committing capital.

“While the buzz around SME IPOs may seem exciting, investing solely on market sentiment can be risky. During bullish phases in the market, enthusiasm and investors’ appetite may cause investors overlook due diligence,” the study said. 

In this phase, demand for IPOs surge, and expectations of substantial listing gains can lead to inflated valuations. However, market reversals can quickly dampen this optimism, it added.

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The analyses showed that mainboard IPOs consistently exhibit narrower and more stable return distributions, while SME IPOs present higher variability, with greater potential for both significant gains and losses, particularly over longer time horizons.

A notable trend in recent SME IPOs is the sharp listing gains, followed by negative returns within a short period. This decline is even more pronounced in IPOs that drew strong interest from retail investors.

Moreover, a comparison of the price-to-earnings ratios of 100 SMEs listed in FY 2023-24 and FY 2024-25 to their respective industry averages revealed signs of overvaluation in some of these stocks. Around 20 per cent of these stocks had price-to-earnings ratios in excessive multiples when compared to their industry peers.

Also, SME IPOs in India have been witnessing massive oversubscription, with listing at significant premiums. Some SME IPOs have surged by 100 per cent post-listing, attracting retail investors primarily seeking listing gains. 

During FY24 and FY25 (till October 15, 2024), 224 out of 255 SME IPOs on NSE listed at a premium, while 31 debuted at a discount. Similarly, on BSE, 91 out of 100 SME IPOs saw listing gains, with only 9 listing below issue price.

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The inability of many SMEs to sustain positive returns post-listing coupled with sharp listing gains following increased interest from retail investors in these stocks prompted SEBI to initiate regulatory measures aimed at restoring stability in the SME IPO segment.

For instance, it proposed to increase the minimum application size from Rs 1 lakh to Rs 2 lakh, so that only informed and skilled investors enter the SME IPO segment. Also, requirement of minimum allottees in SME IPOs was proposed to be increased from 50 to 200, to ensure that SMEs which have investors’ interest are only listed.

Also, SMEs are required to have a minimum operational profit (EBITDA) of Rs 1 crore in at least two of the preceding three financial years to be eligible for an IPO. Further, the portion of shares offered by existing shareholders in an IPO is capped at 20 per cent of the total issue size.