Fund Raising by SMEs in a Bear Market by Prof. Farzan Ghadially

‘Time for Excess Liquidity and Irrational Exuberance wherein Billions of Dollars were raised by companies at steep valuation without profitability or any clear sight of profitability in the near future would well be over. Investors would look at Profitability and Exit opportunity and Liquidity as the most important factors. Thereby making the SME exchange and Start-up Platform in India as one of the most important exchanges in the years to come.’

The Indian economy has witnessed a V-shaped recovery across sectors owing to the great support of the Central Government and the RBI. With interest rates at all time high and excess liquidity across the global, a large part of the money supply has been invested in the Indian markets both in the listed stocks as well as a very large portion has been invested in the unlisted early stage companies.

Large part of the early stage companies that have raised capital have done so encashing easy and excessive liquidity that the investors had and were in a hurry to deploy funds. In most cases the valuations were very challenging and high and majority of the companies were loss making and had no sight of profitability in the near future. The pitch and business plan itself were of the nature that there would be operational losses to the company not only for a few quarters but for many years to come with a sole aim to capture market share and increase sales. The aim and desire were to capture sales growth at the cost of profitability and continue bleeding for a long time with an eventually hope of turning into the green and making large profits.

A few start-ups like Zomato, Paytm, Nykaa till get listed post a mega IPO wherein retail as well as professional investors showed a lot of interest thereby resulting in a mega IPO success. However, post listing the new age companies due to lack of fundamentals in terms of overall profitability have crashed to a very large extent and most investors have realised that the key to a successful company is basic profitability and earnings rather than just a top line/ sales growth.

India is the land of SMEs. Lakhs of companies are doing business and have a huge potential in terms of overall growth but the only constrain is the lack of capital that they have. The banking channel in India is more collateral based rather than cashflow funding, hence most SMEs cannot raise loans beyond a point and thereby not growing their business even though they are profitable and have an order book potential which can help them grow their top line.

SME companies play a very significant role in the Indian economy contributing to almost 45% of the overall GDP and providing employment to almost 40% of the Indian population contribute to nearly a third of the GDP and also employ in excess of 110 million people. Having a total of over 60 million units across the country, accounting for about 45% of the manufacturing output and 40% of the total exports of the country.?31% of the SMEs are involved in the manufacturing sector, 36% in trade and 33% in services industry. Hence the manufacturing and service sector is of prime importance to the SME segment. With the significant weightage of the manufacturing sector in the overall SME segment which being a capital-intensive sector, the credit off-take in the overall economy is of prime importance.

Hence one of the greatest challenges faced by the SME sector is access to capital. In order to grow and continue their business, access to capital is of prime importance to the SME sector. Capital is required in two forms, mainly equity capital or capital from the promoters / owners’ side and debt which is normally obtained from banks and NBFCs. In most cases equity capital would be from the promoters’ side and some part could either come in from private equity funds or via public funds if the company is listed on the stock exchange.

An SME Exchange is a stock exchange dedicated for trading the shares/ securities of SMEs who otherwise find it difficult to get listed on the Main Board. The concept originated from the difficulties faced by SMEs in gaining visibility and attracting sufficient trading volumes when listed alongwith other stocks on the Main Board of Stock Exchanges. World over, dedicated SME trading platforms or exchanges are prevalent, which are known by different names such as 'Alternative Investment Markets' or 'Growth Enterprise Market', 'SME Board' etc. Some of the known markets for SMEs are AIM (Alternative Investment Market) in UK, TSX Venture Exchange in Canada, GEM (Growth Enterprise Market) in Hong Kong, MOTHERS (Market of the high-growth and emerging stocks) in Japan, Catalist in Singapore and the latest initiative in China-ChiNext. As a matter of fact, NASDAQ also started an SME exchange.

The stock exchange has a separate dedicated segment for SME companies to list known as the SME Exchange. The BSE SME segment has been a very successful segment with over 350 companies listed on the SME segment, having a combined market capitalization in excess of INR 47,000 crores. With India being the land of SMEs, the potential that the SME exchanges have in India is huge and within the next decade in excess of 2000 SME companies would be listed on the SME exchange in India thereby helping them tap capital and giving ample of liquidity to investors in such companies. ?

Just as the SME platform, BSE has a start-up platform, wherein start-up companies can list, raise capital and provide liquidity and potential exit to early stage investors. Start-up companies in the sector of IT, ITES, Bio-technology and Life Science, 3D Printing, Space technology, E-Commerce, Hi-Tech Defence, Drones, Nano Technologies, Artificial Intelligence, Big data, Enhance/Virtual Reality, E-gaming, Exoskeleton, Robotics, Holographic Technology, Genetic Engineering, Variable Computers Inside body computer technology and other Hi-tech based companies can list on this platform. The company should have a track record of atleast 2 years in any form, should be registered as start-up with DPIIT (Department for Promotion of Industry and Internal Trade). In case the company is not registered as Start-up with DPIIT then the company’s paid-up capital should be minimum INR 1 crore and a positive net worth and should preferably have an investment by a QIB/ Angel investor for a period of 2 years.

In these turbulent times wherein the stock market is in a Bearish phase, raising capital would become even more difficult for companies, especially early stage companies and SMEs. The SME exchange and Start-up platform is an avenue wherein companies that are genuine and have potential and work on the fundamental belief that profitability is the key to a successful business can list and attract investment from professional investors, High Net Worth Individuals. The listing provides much needed liquidity for investors, wherein they can exit / liquidate some portion of their initial investment at any given time as shares are traded on the stock exchange and have a market maker that provides liquidity in terms of buy and sell orders as per the provisions of listing. Investors also should look at good quality companies that are listed on these platforms as large number of companies have also migrated to the main board and given some fabulous returns to investors in the medium term.?

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