SEBI Strengthens Regulations for SME IPOs

The Securities and Exchange Board of India (SEBI) has strengthened the regulatory framework for Initial Public Offerings (IPOs) targeting Small and Medium Enterprises (SMEs). During its board meeting on Wednesday, the capital markets regulator introduced profitability benchmarks and imposed restrictions on the volume of shares sold via the Offer for Sale (OFS) route.

SMEs will now need to demonstrate an operating profit of at least ₹1 crore in two out of the last three financial years prior to submitting their Draft Red Herring Prospectus (DRHP). Additionally, the size of the OFS component cannot exceed 20% of the overall issue size, and shareholders will be restricted to selling a maximum of 50% of their total holding during the IPO.

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Promoters face stricter lock-in requirements for holdings exceeding the minimum promoter contribution (MPC). Half of this excess holding will now be locked in for one year, while the remaining half will be subject to a two-year lock-in. On the allocation front, the methodology for allocating shares to Non-Institutional Investors (NIIs) in SME IPOs has been brought in line with the approach used in main board IPOs. Furthermore, the allocation for General Corporate Purposes (GCP) in SME IPOs is now capped at either 15% of the issue size or ₹10 crore, whichever is lower.

Under the new rules, funds raised from SME IPOs cannot be used to repay loans taken by promoters, promoter groups, or related parties. In addition, the public will have a 21-day window to review SME IPO DRHPs and provide feedback, with stock exchanges facilitating access to these documents through public notices and QR codes.

SEBI has also introduced post-IPO compliance measures. SMEs can continue raising capital without transitioning to the main board, provided they adhere to main board listing norms. Furthermore, Related Party Transaction (RPT) rules applicable to main board-listed companies will now extend to SME-listed firms, with a reduced threshold of 10% of annual consolidated turnover or ₹50 crore.

In a separate development, SEBI approved new regulations to ensure the timely utilization of funds raised by Mutual Funds through New Fund Offers (NFOs). This framework aims to encourage Asset Management Companies (AMCs) to raise only as much capital as can be deployed within a reasonable timeframe, typically 30 days.

Other reforms approved by the SEBI board include measures to simplify operations for Debenture Trustees, ESG rating agencies, Infrastructure Investment Trusts (InvITs), Real Estate Investment Trusts (REITs), and Small and Medium REITs (SM REITs). SEBI also plans to revamp norms governing investment banking.

The SEBI board has also decided to limit the scope of activities for merchant bankers or investment banks. Under the revised rules, merchant bankers will only be allowed to perform activities specified by SEBI. Any non-permitted activities must be segregated into a separate legal entity with a distinct brand name within two years.