The perception that Initial Public Offerings (IPO) are cumbersome and costly affairs has deterred many smaller businesses from taking this route to raising capital. But in recent times awareness is growing about small and medium enterprises (SMEs) IPO in India that has far less onerous processes than regular IPOs. As a result, this year Bombay Stock Exchange (BSE) alone is going to see over 60 listings under SME IPO, compared to 16 last year.
Capital is the lifeblood of any business, big or small. The need for raising capital may arise at any stage during the life of a company. The fundraising route a company takes depends on a variety of factors and comes with its own merits and demerits.
Besides an IPO, businesses use debt financing and equity financing to raise capital.
Debt Financing: Raising funds by means of loans or debt funds is the traditional avenue that SMEs have taken. It is popular for a variety of reasons such as no dilution of ownership and no influence in decision-making by third parties. However, there is the responsibility of scheduled repayments, failure of which can negatively impact the credit score of a company. There is also the additional burden of giving collateral to the creditor. Moreover, funding applications often get rejected when the proposal is deemed to be too risky for a bank or there is a lack of understanding of the business.
Equity Financing: Often overlooked but an alternative form of financing is equity that overcomes many of the shortcomings of debt financing. Equity financing is achieved by the sale of shares of a company, thereby giving up a part of the ownership of the company. One of the biggest benefits is the lack of the need for regular debt repayments. There is also no need to keep collateral with the shareholders. The right investors can bring expertise and experience to the table.
Sources of raising equity depend upon the life stage of the company. The very first capital infusion is usually internal, by the founders, or by family and friends. Early-stage external investments usually tend to be smaller and take place through angel investors. Venture Capital (VC) firms invest closer to the breakeven stage. Finally, Private Equity (PE) firms invest in the growth and mature stages and usually carry a larger ticket size. The final stage is when a company decides to go public and lists itself on a stock exchange.
Stages of Raising Equity
Issues with Equity Financing
Equity financing can be a cumbersome experience for first-timers:
- Lack of experience: No clarity in the strategy, objectives, growth plan, rules, and regulations
- Inadequate preparedness: No internal expertise to create a pitch deck, business plan, and financial model to attract investors
- Limited reach: No access to investors through the traditional investment banking route and inability to find the right counterparty for M&A and joint ventures
Taking the Big Leap with an IPO
An IPO is the sale of new shares by a company to the public for the first time. It offers a company several benefits such as the ability to raise a large amount of capital, gain wider recognition in the market, provide an avenue for VC/PE firms to exit their investment in the company, and unlock the true value of the company.
However, IPOs have traditionally been a costly and cumbersome affair, with strict eligibility norms. A few years ago, the Security and Exchange Board of India (SEBI) decided to ease the criteria in order to help SMEs to take advantage of IPOs. Now SMEs and startups can list on the SME platforms of the National Stock Exchange, NSE Emerge, and the Bombay Stock Exchange, BSE SME. Special relaxations have been given to startups to list on the SME platform in terms of net worth requirements and profitability.
Some of the relaxed terms for SME IPOs are:
- Scaled-down requirements of track record
- Relaxed corporate governance norms
- Simpler reporting requirements
- The post-issue paid-up capital of Rs 25 crore is much lower than that of regular IPOs
- Vetting of the offer document by the stock exchange instead of SEBI
- A lower minimum number of allottees
SMEs stand to gain a lot with an IPO but they need guidance and advice while listing for it. With the right partner and handholding through the listing process, it will be a far less daunting exercise. We at Merger Domo, along with our network of impaneled investment bankers, can help your company in its IPO journey.