A direct growth driver: The benefits of listing on SME Exchange
This has been recognized by the economies across the globe leading to construction of the SME Exchanges in various developed and developing economies.
In our previous article ( Tapping the bourses: The procedure for filing for an IPO with SME exchanges) we discussed the listing requirements for SMEs on the SME Exchanges and also highlighted the importance of the relaxed norms which have played an important role in encouraging companies to list on these platforms. In this article, we emphasize on the benefits of listing on the SME Exchange, comparison of the two exchanges, valuation challenges faced by the SMEs, challenges faced by startups while listing and what can be done to encourage companies explore the possibility of listing on such exchanges.
There is no denying that SMEs play a vital role in the growth of an economy both, as a job creator and a contributor to the national income. This has been recognized by the economies across the globe leading to construction of the SME Exchanges in various developed and developing economies. Listing on SME Exchanges has the following key advantages:
Firstly, it provides access to capital by equity infusion which is a direct growth driver. The funds so raised are company's own and the company is at complete liberty to utilize it for any purpose such as expansion, diversification, acquisition or even loan repayment, all of which leads to a healthy balance sheet. Once listed, these companies are now well equipped to exploit other avenues of raising capital such as rights issue, preferential issues, qualified institutions placements (QIP) and other international fund raising instruments, such as FCCBs, ADRs and GDRs etc. Banks and financial institutions also prefer to extend finance to listed companies as against unlisted ones.
Secondly, it simultaneously provides a convenient exit route to private equity investors, stock option holding employees and other investors, by providing liquidity to these shareholders and maximizing value. Liquidity in shares also enables the existing shareholders to trade in their own shares leading to better valuation than through private transactions.
Thirdly, a major reform lead by listing is good governance. Benefits accrue at the time of listing as the companies prepare themselves for this event and also throughout the life of the company. Regulatory supervision and governance controls in the form of routine compliances become a part of the company's day-to-day existence. Timely disclosure of material information not only leads to improved governance but also protects investors' interest.
Fourthly, listing on an SME Exchange enhances the visibility of these companies, which would otherwise be lacking due to little or no exposure. As a listed entity, these companies now have a real platform to showcase themselves, helping them deal directly with their competitors and simultaneously getting the opportunity to market themselves, thereby creating business opportunities. Listing leads to enhanced public awareness due to media coverage and publicly available information; this leads to improved credibility of these companies.
Also Read – Why SME IPO may be a good choice for small businesses (Raising capital: SME IPO may be a good choice for small businesses)
Fifthly, the sale of listed securities attracts short term capital gains tax of only 15% and a long term capital gains of only 10%, making it tax efficient as well, as against sale of shares of an unlisted company, which attracts tax of 30% short term capital gains and 20% long term capital gains.
Lastly, a striking feature of listing on an SME Exchange is the advantage of seamlessly migrating to the main board, i.e. the BSE or the NSE. If the paid-up capital of the company exceeds Rs.10 crores and is up to Rs.25 crores, a company may transit to the main board.
BSE SME v/s NSE Emerge
In our previous article, we discussed how the two exchanges differed in terms of the eligibility criteria. We reproduce the same for a quick reference:
Clearly, the eligibility criterion for BSE SME was relaxed, as compared to NSE Emerge. Companies, which could not comply with the NSE eligibility criteria, obtained listing on the BSE SME Platform. Recently, however, the BSE SME revised and upgraded their listing criteria, bringing it more in line with that of NSE Emerge. The existing and revised norms for the BSE listing are captured in the table below:
The new listing criteria is effective from July 12, 2018. While the intent behind the amendment is to facilitate the listing of growth oriented companies by making the filtering process more stringent, the revised norms may perhaps lead to a shortage of companies aspiring to list on the SME platform.
Valuation challenges in SMEs
In recent times, we have witnessed SME IPOs with a higher valuation demonstrating a higher demand. Higher valuation is also closely linked to companies listed peers motivating investors to pay the same value for stocks in similar industry. Valuation also depends on the company's financials, profitability and future prospects in relation to the business for which the price is paid.
With the unrelenting rise in the SME IPOs, a common question raised is with regard to the valuation of these companies with many of these companies failing to set the returns chart on fire. Tightening liquidity and poor operational performance could shrink the valuation of these companies with the result that many of these companies fail to reward the investors despite a higher valuation. Hence, if the IPO is overpriced, chances of making gains are lesser in the long run as compared to the IPOs that are underpriced.
Challenges faced by startups while listing on SME Exchanges
The challenges faced by startups while listing on SME Exchanges may be attributed to the struggles of being a startup itself. A slowdown in the growth of SMEs will almost automatically impact the popularity of an SME listing as a pillar of fund raising. With many roadblocks in their growth, listing alone cannot ensure success. Moreover, the absence of any benefit or incentive as a result of listing often fails to motivate the start-ups to list. Many of these startups often lack the experience and technological capabilities to sail through the whole listing process. These weaknesses are further deepened due to lack of human resources, preparedness, non-compliances and a general lack of awareness among the young entrepreneurs about the listing process. Limited knowledge of the stock markets and listing procedure is a major deterrent for these start-ups who traditionally have only depended on banks for raising capital.
Despite measures put in place by the regulator, the outcome is far from satisfactory. Most startups perceive the relaxed listing norms to be no less burdensome than listing on the main board and would rather wait a few more years and get listed on the main board itself. The exemptions available to the companies listed on the SME Exchange may be miniscule and the fear of penalties on account of non-compliances could make these companies less keen on listing.
Promotional programmes by the stock exchanges to increase awareness among these startups could go a long way to overcome many of the challenges discussed above. Secondly, stock exchanges have to market the SME platform as a product. This can be done through proper advertisement, both in print as well as through online portals. Currently, there is less media coverage of SME issues as compared to the main board issuances. Scrips of the SME Exchanges usually do not find space on many famous capital markets sites. Providing incentives for listing may also help the growth of these exchanges.
The best possible way to promote the SME Exchange is not just by creating awareness among the investors or by removing the listing barriers but by creating a knowledge ecosystem for these start-ups. The stock exchanges could indulge into interactive sessions with these companies which could help reduce hurdles and provide a much needed impetus to the SME growth story.
(Sangeeta Lakhi, Partner, Rajani Associates and Ms. Sulakshna Sinha, Head of Department – Domestic Capital Market, Rajani Associates.)