SMALL AND MEDIUM ENTERPRISES (SMEs) ROAD MAP TO INITIAL PUBLIC OFFERING (IPO) LAUNCH

Introduction

Like Large-cap companies, SMEs also need funds for the growth and expansion of their businesses. However, most SMEs are relatively less experienced and small in terms of their business activity, they have certain difficulties when it comes to seeking conventional funding or issuing conventional IPOs.

To offset this disparity and to ensure SMEs including start-up companies have an equal opportunity for public fundraising, the Securities and Exchange Board of India (SEBI) has formulated a set of regulations/frameworks for IPOs in the SMEs. These regulations/frameworks were formulated pursuant to the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009, and the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015, as amended, read with circulars issued time to time. These regulations/frameworks differ materially from those applicable to listings on the main board of stock exchanges.

In furtherance of this initiative, both the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE) have introduced specialized platforms; (i) NSE Emerge and (ii) BSE SME. Such platforms were created to support the trading of securities of SMEs’ shares, coupled with the idea of providing a specific environment for small businesses to have access to public funds.?

SME IPOs can be classified between private equity financing and large-cap IPOs, which help smaller companies including startups to raise capital from the public domain for their growth.

?In this way, the regulatory requirements combined with such specific small-venture platforms ensure that SMEs finally have equal opportunities in the availability of both private and public funds for their development.

Eligibility Criteria

To sustain the market and credibility of SME IPOs, there are standard eligibility criteria set by SEBI and the stock exchanges that must be met by the companies interested in going public on SME platforms, which are detailed hereinbelow:

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A.????? Eligibility Criteria for listing on SME Platform of BSE

• Post Issue Paid-up Capital: Not more than Rs. 25 crores
• Net worth: At least Rs. 1/- Crore for 2 preceding full financial years. (Note: In cases in which a company is formed pursuant to the conversion of a registered Proprietorship /partnership/LLP then the partnership firm/LLP needs to have Net Worth of Rs. 1 crore for the preceding 2 (full) financial years)
• Net Tangible Asset: Rs. 3/- Crores in the last preceding (full) financial year.
• ?Track Record: The track record of the applicant company seeking listing should be at least 3 years. Where the applicant company has taken over a proprietorship concern/ registered partnership firm/ LLP, then the track record together with such proprietorship concern/ registered firm/ LLP should be at least 3 years. Provided, the applicant company seeking listing should have a track record of operations for at least one full financial year and audited financial results for one full financial year. Or Where the applicant company does not have a track record of 3 years, then the Project for which IPO is being proposed should be appraised and funded by NABARD, SIDBI, Banks (other than cooperative banks), and Financial Institutions. Provided, the applicant company seeking listing should have a track record of operations for at least one full financial year and audited financial results for one full financial year.
• Earnings before Interest, Depreciation, and tax: The company/ proprietorship concern/ registered firm/ LLP should have operating profit (earnings before interest, depreciation, and tax) from operations for 2 out of 3 latest financial years preceding the application date. Provided the company should have operating profit (earnings before interest, depreciation, and tax) from operations for one full financial year preceding the application date. For companies seeking listing where the project has been appraised and funded by NABARD, SIDBI, Banks (other than co-operative banks), and Financial Institutions, it shall have positive operating profit (earnings before interest, depreciation, and tax) from operations in one full preceding financial year.
• Leverage Ratio: Leverage ratio of not more than 3:1. Relaxation may be granted to finance companies.
• Disciplinary action: 1. No regulatory action of suspension of trading against the promoter(s) or companies promoted by the promoters by any stock Exchange having nationwide trading terminals. 2. The Promoter(s) or directors shall not be promoter(s) or directors (other than independent directors) of compulsory delisted companies by the Exchange and the applicability of consequences of compulsory delisting is attracted or companies that are suspended from trading on account of non-compliance. The director should not be disqualified/ debarred by any of the Regulatory Authority.
• Default: No pending defaults in respect of payment of interest and/or principal to the debenture/bond/fixed deposit holders by the applicant company, promoters/ promoting company(ies), Subsidiary Companies.
• Name change: 1. Incase of name change within the last one year, at least 50% of the revenue calculated on a restated and consolidated basis for the preceding 1 full financial year has been earned by it from the activity indicated by its new name. 2.0 The activity suggesting name should have contributed to at least 50% of the revenue, calculated on a restated and consolidated basis, for the preceding one full financial year.

Additional Criteria for broking companies applying for SME IPO:

• ·?????? Networth and profit: Net worth of minimum Rs. 5 crores with profit before tax of at least Rs. 5 crores in any 2 years out of 3 financial years.

Or

Net worth of at least Rs. 25 crores in any 3 years out of 5 financial years.

Note: The Financial year should be for a period of 12 months. Extraordinary income will not be considered for the purpose of profits.

• Net Tangible Assets: Net Tangible assets of at least Rs. 3 Crores as per the latest audited financial results.

• Post-issued Paid up capital:Post issue paid-up capital of the Broking Member should be minimum Rs. 3 crores.

Additional Criteria for Micro Finance Companies:

Micro finance companies, in addition to the existing criteria for all SME companies, should have an Asset Under Management of at least Rs. 100 Crores, client base of 10000 & above and it should not have accepted/held public deposit.

Other Requirements (for all companies):

• It is mandatory for a company to have a functional website.
• 100% of the Promoter’s shareholding in the Company should be in Dematerialised form.
• It is mandatory for the company to facilitate trading in demat securities and enter into an agreement with both depositories.
• There should not be any change in the promoters of the company in the preceding year from the date of filing the application to BSE for listing under the SME segment.
• The composition of the board should be in compliance with the requirements of the Companies Act, 2013 at the time of in-principle approval.
• The Net worth computation will be as per the definition given in SEBI (ICDR) Regulations
• The Company has not been referred to NCLT under IBC.
• There is no winding up the petition against the company, which has been admitted by the court.

Note: Cooling off period, i.e. Gap of at least 6 months from date of withdrawal/ rejection of issue from SEBI/Exchanges.

B.????? Eligibility Criteria for listing on SME Platform of NSE (“NSE EMERGE”)

1. Post-issue paid-up capital: The post-issue paid-up capital of the company (face value) shall not be more than Rs. 25 crores.
2. Track record: a. Track record of at least three (3) years of either

?????????????????? i.??????????? the applicant seeking listing; or

????????????????? ii.??????????? the promoters[1]/promoting company, incorporated in or outside India or

??????????????? iii.??????????? Proprietary / Partnership firm and subsequently converted into a Company (not in existence as a Company for three years) and approaches the Exchange for listing

b. The company/entity should have operating profit (earnings before interest, depreciation, and tax) from operations for at least any 2 out of 3 financial years preceding the application, and its net worth should be positive.

3. Other listing conditions: a. The applicant company has not been referred to the erstwhile Board for Industrial and Financial Reconstruction (BIFR) or No proceedings have been admitted under the Insolvency and Bankruptcy Code against the issuer and Promoting companies

b. The company has not received any winding-up petition admitted by an NCLT / Court.

c. No material regulatory or disciplinary action by a stock exchange or regulatory authority in the past three years against the applicant company.

Issuer seeking listing shall ensure that none of the merchant bankers involved?in the IPO should have?instances of any of their IPO draft offer documents filed with the Exchange being returned in the past 6 months from the date of application. For this purpose, the left lead merchant banker and any other merchant banker if applicable who shall be responsible for due diligence?activity?and drafting?of the draft offer document / offer?document in terms of the Lead Managers' Inter-se Allocation of Responsibilities?shall be considered.?

4. Disclosures: The following matters should be disclosed in the offer document:

1.?????? Any material regulatory or disciplinary action by a stock exchange or regulatory authority in the past one year in respect of promoters/promoting company(ies), group companies, companies promoted by the promoters/promoting company(ies) of the applicant company.

2.?????? Defaults in respect of payment of interest and/or principal to the debenture/bond/fixed deposit holders, banks, FIs by the applicant, promoters/promoting company(ies), group companies, companies promoted by the promoters/promoting company(ies) during the past three years.

3.?????? The applicant, promoters/promoting company(ies), group companies, companies promoted by the promoters/promoting company(ies) litigation record, the nature of litigation, and status of litigation.

4.?????? In respect of the track record of the directors, the status of criminal cases filed, or the nature of the investigation being undertaken with regard to the alleged commission of any offence by any of its directors and its effect on the business of the company, where all or any of the directors of the issuer have or has been charge-sheeted with serious crimes like murder, rape, forgery, economic offences.

Rejection cooling off period: The application of the applicant company should not have been rejected by the Exchange in the last 6 complete months.

Phases Leading Up to IPO Launch

After having an in-depth understanding and knowledge of the eligibility criteria, the next step is to ascertain how and what steps are to be taken to prepare for an SME IPO.

The Journey to an SME IPO is a complex process comprising several critical phases. Understanding these stages is crucial for companies considering public listing on SME trading platforms.

This section outlines the key phases that a company typically undergoes in preparation for an SME IPO, providing a roadmap for an enterprise to navigate the transition from an unlisted to a listed entity.

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Phase I: Due Diligence

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Under this phase, the following are the broad steps involved in the Due Diligence process:

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• Carry out a preliminary background check;
• First-level due diligence based on the preliminary information/documents to be provided by the Company and publicly available information;
• Visit the Company office(s) and Sites, if required;
• Hold discussions with the management, auditors, and legal advisors on the Issue; and
• Finalizing the due diligence process.

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PHASE II - Pre IPO-Preparatory Assistance

The Pre-IPO phase main comprises of the following steps:

• Devising appropriate capital restructuring plan;
• Setting up minimum corporate governance practices expected by a listed company from the perspective of the Companies Act, listing agreement/LODR Regulations applicable for SMEs, listing norms, SEBI ICDR Regulations, etc.;
• Appointment of and coordination with market intermediaries and other parties including the Underwriters, Market Makers, Registrars to Issue, Legal Advisor to the Issue, Bankers to Issue, PR Agency, Printer, etc.
• Devising a complete IPO plan and strategy including the likely post-issue shareholding distribution pattern;
• Obtaining ISIN from the Depository(ies) and dematerializing pre-IPO shares of the Firm;

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Phase III: Valuation / Issue Pricing

Under this phase, a valuation exercise is carried out and consists of mainly the following steps:

• Ratio analysis such as EPS, BVPS, RONW etc., as may be required under SEBI ICDR Regulations;
• Industry analysis from a valuation perspective;
• Identification of peer comparable;
• Peer analysis and pricing of peers listed on the stock exchange; and
• Determining issue pricing and size for discussion with the management

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Phase IV: Prospectus and Other Documents

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Under this phase, the draft IPO Offer Document is prepared along with other important agreements, documents, and resolutions necessary for an SME IPO process. An indicative list of important documents is as under for easy understanding:

• IPO Offer Document;
• Tripartite Agreement with NSDL, CDSL and Registrar to Issue;
• Underwriting Agreement;·??????
• Market Making Agreement;
• Agreement with Bankers to Issue;
• Agreement with Registrar to Issue;
• Board / Shareholders’ Resolutions;
• Certificates, Letters of Representation etc.
• Draft of public advertisements, notices etc.
• Forms / Applications to be filed with Stock Exchange, RoC and other regulatory office(s).

Phase V: Issue Management

This phase mainly includes the following activities:

• Filing of IPO Offer Document with SME Exchange(s) and other regulatory offices like SEBI and ROC;
• Coordinating and assistance in interviews with the SME Exchange Listing Advisory Committee;
• Follow-up with SME Exchange(s) and ROC for their approvals;
• Execution of agreements with other market intermediaries;
• Assistance in the launch of IPO and coordination with other parties including PR Agency, Printers for adequate public advertisement, and distribution of application forms as required statutorily;
• Monitoring the flow of applications and timely updating the management of the Company; and
• Coordinating with bankers and registrars for finalization of the Basis of allotment list in consultation with the stock exchange.

Tentative IPO Timeline

This section outlines the tentative timeline involved in the IPO process, which is further subject to the additional requisition being raised by the regulatory bodies/stock exchange and certain other conditions.

Tentative Timeline Involves are enumerated as below:

Post - IPO Activities

Following the successful launch of an SME IPO, the company enters a new phase of operations as a publicly traded entity. This transition involves a set of crucial steps and continuous obligations to meet legal demands, report to the shareholders, and utilize the advantages of getting listed on the exchange.

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This section explains the most important activities that SMEs should perform with a high level of commitment after the IPO, as a way of managing their operations as new players in the capital market.

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Post-IPO Closure Assistance

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Finally, post IPO closure and finalization of allotment, the activities for a listing of equity shares of the Company on SME Stock Exchange are initiated are as under:

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• Completing allotment of shares to the successful allottees;
• Preparing & submission of listing application with SME Exchange
• Follow-up with SME Exchange and obtain listing approval;
• ?Trading formalities and obtaining Exchange trading approval; and
• Making required statutory public disclosures

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Conclusion?

In summary, SME IPOs are a life-changing moment for growing enterprises that can avail public funds, uplift their profile, and build the organic growth path. The advantages of going public are tremendous as it boosts the company's liquidity comparable to the international standards, credibility and enhanced funding facilities but it is clear that going public comes with lots of difficulties and legalities. Understanding the twists and turns of legalities, account disclosures, and such compliance issues is something that only an expert can begin to comprehend.