SEBI SME IPO paper: 10 proposed rule changes in 2024

What SEBI’s consultation paper is about

SEBI released a consultative paper dated 19 November 2024 on reviewing the SME segment framework under SEBI (ICDR) Regulations, 2018 and expanding the applicability of corporate governance provisions under SEBI (LODR) Regulations, 2015 for SME companies. The regulator’s stated intent is to strengthen both pre-listing checks and post-listing compliance for SMEs raising money from public markets.

The paper flags several regulatory concerns observed in past SME IPOs, including high oversubscription, governance weaknesses, and instances of misuse of IPO funds. SEBI has invited public comments on the proposals by 04 December 2024.

Why SEBI says the SME IPO framework needs review

SEBI highlighted a sharp rise in participation, noting investor participation in SME IPOs increased to 46x in 2024. Higher retail interest, SEBI noted, can amplify risks in a segment where liquidity may be limited and disclosures can be harder for smaller investors to assess.

The regulator also flagged structural issues it has observed in the SME pipeline. The paper points to SME IPOs being mostly family companies, with a limited presence of sophisticated investors. It also notes significant related party transactions (RPTs) in SME IPO candidates.

More seriously, SEBI referenced certain cases involving diversion of SME IPO proceeds to related parties, connected parties or shell companies, along with instances of inflation of revenue. These concerns, along with risks of promoters or investors exiting soon after listing, form the core rationale behind the proposed overhaul.

Proposal 1: Minimum application size raised to ₹2 lakh (and a ₹4 lakh option)

A key proposal is to increase the minimum application size in SME IPOs from ₹1 lakh to ₹2 lakh per application. SEBI’s rationale is that a higher entry ticket can limit participation by smaller retail investors and attract investors with higher risk appetite and capacity.

SEBI also sought feedback on an alternate, more stringent threshold of ₹4 lakh per application. The consultation paper notes that the ₹1 lakh limit was set over 14 years ago, and in that period the Nifty and Sensex have grown by around 4.5 times, which SEBI cited as context for considering a higher threshold.

If the threshold is moved to ₹4 lakh, the paper notes this could make the current retail category redundant and require reworking reservation rules by merging the retail allocation into the non-institutional category.

Proposal 2: “Draw of lots” for NIIs and revised NII allocation

SEBI proposed introducing a draw of lots system for non-institutional investors (NIIs) in oversubscribed SME IPOs, similar to the retail allotment approach used in main-board IPOs. At present, SME IPOs use proportionate allotment for NIIs.

The paper links this change to concerns that proportional allotment can encourage over-leveraging and overstatement of demand, which may contribute to mispricing. SEBI also proposed that the NII share allocation be divided, with one-third reserved for smaller applications and two-thirds for larger applications.

Proposal 3: Cap Offer For Sale (OFS) at 20% of issue size

SEBI recommended limiting the Offer For Sale (OFS) portion in SME public issues to 20% of the total issue size. The stated direction is to keep SME IPOs focused on raising growth capital, while still allowing promoters some partial exit within a defined cap.

The paper also referenced restricting selling shareholders from offloading more than 20% of their pre-issue shareholding (on a fully diluted basis), tightening how much can be sold through the IPO route.

Proposal 4: Minimum number of allottees raised to 200

Under current rules, an SME public issue is considered “successful” if it has at least 50 allottees. SEBI proposed increasing this requirement to 200 allottees.

The regulator’s rationale is that a broader shareholder base can support post-listing liquidity and improve market depth for SME counters, where trading can otherwise be thin.

Proposal 5: Promoter lock-in extended to five years with phased release

SEBI proposed extending the promoter holding period after an IPO from one year to five years for the minimum promoter contribution (MPC), aiming to ensure longer-term commitment.

The proposals also allow promoters to sell in stages for holdings beyond the required minimum contribution. As outlined in the paper, promoters could sell half of the shares after one year and the remaining half after two years, rather than allowing a quicker full exit.

Proposal 6: Monitoring agency threshold cut to ₹20 crore, plus auditor certificates

SEBI proposed making the appointment of a monitoring agency mandatory for SME IPOs raising more than ₹20 crore. The paper notes that currently a monitoring agency is required only above ₹100 crore.

Additionally, even when a monitoring agency is not mandated, SEBI suggested a control mechanism through a certificate from the company’s auditor every six months on the utilisation of proceeds. The consultative paper also contemplated monitoring agency requirements for certain specific uses of proceeds such as funding subsidiaries, loan repayment, or acquisitions.

Proposal 7: Minimum SME IPO issue size set at ₹10 crore

SEBI proposed introducing a minimum issue size of ₹10 crore for SME IPOs. The consultative summary notes that currently there is no minimum issue size requirement.

The paper frames this as an entry barrier meant to filter for companies with a stronger scale and to standardise the quality of SME issuers accessing public capital.

Proposal 8: Profit filter - ₹3 crore operating profit in two of three years

Another proposed eligibility condition is a profitability requirement. SEBI proposed that an issuer should have an operating profit of at least ₹3 crore in two out of the three financial years preceding the filing of IPO papers.

The consultative material described this as a filtration step aimed at improving issuer quality and limiting listings by companies without a proven operating track record.

Proposal 9: Corporate governance and disclosure - quarterly reporting for larger SMEs

On post-listing obligations, SEBI proposed tighter corporate governance reporting for SME-listed companies. As per the proposals, SMEs with paid-up capital above ₹10 crore and net worth above ₹25 crore would need to submit quarterly reports covering board composition, committee meetings, and governance.

The paper also proposed that shareholding patterns and financial results be filed quarterly instead of half-yearly, along with reporting of discrepancies, to strengthen transparency and accountability.

Proposal 10: RPT materiality threshold and other disclosure-related changes

The consultative summary also referenced a related party transaction rule where the materiality threshold for shareholder approval would apply to transactions exceeding 10% of annual consolidated turnover.

Separately, SEBI proposed making SME IPO offer documents public for at least 21 days, compared with current practice where documents are made public closer to IPO opening after exchange vetting.

Snapshot of key proposals

Market impact: what changes for issuers and investors

For investors, the higher minimum application size and proposed shift to draw-of-lots for NIIs are designed to reduce excessive leverage-driven bidding and curb demand distortions. Increasing the minimum allottees to 200 targets better liquidity, which is a recurring risk in SME listings.

For issuers and promoters, the proposals add tangible compliance and fundraising constraints. A minimum issue size of ₹10 crore and the operating profit filter of ₹3 crore in two of three years can reduce the pool of eligible SME issuers. The monitoring agency threshold reduced to ₹20 crore also adds process and cost, alongside the suggested half-yearly auditor certification when monitoring is not mandatory.

Market participants have also publicly reacted to the trade-offs. Vineet Arora, MD, NAV Capital, was quoted as saying many proposals can make the SME segment healthier from a market perspective, while also noting that a higher minimum subscription amount could be restrictive for capital raising and wider participation.

How to read the paper and send comments

SEBI said the consultation paper can be read on its website: https://www.sebi.gov.in/reports-and-statistics/reports/nov-2024/consultation-paper-on-review-of-sme-segment-framework-under-sebi-icdr-regulations-2018-and-applicability-of-corporate-governance-provisions-under-sebi-lodr-regulations-2015-on-sme-companies-to-_88627.html

Public comments were invited until 04 December 2024 through: https://www.sebi.gov.in/sebiweb/publiccommentv2/PublicCommentAction.do?doPublicComments=yes

Conclusion

SEBI’s 19 November 2024 consultation paper proposes a tighter SME IPO rulebook, spanning entry thresholds, allotment mechanics, OFS limits, promoter lock-ins, proceeds monitoring, and quarterly governance disclosures. The regulator’s stated objective is to improve SME market credibility and investor protection, in response to concerns such as related party dealings and diversion of funds. The next milestone is the closing date for public feedback on 04 December 2024, after which SEBI may decide the final shape and timeline of these reforms.