Retail investors at risk? Inside the alarming rise of SME IPOs

While the SME platform has helped more than 1,200 companies raise over ₹30,000 crore, governance concerns and investor protection are prompting calls for tighter regulations.

“SME issuances are meant for informed investors and not suited for uninformed retail investors who may have only limited or no awareness about research, due diligence capabilities, and risk appetite," Ramamurthy said.

He suggested that retail investors at the beginning of their journey would be better served by lower-risk products like large-cap or index funds, ideally through a systematic investment plan (SIP).

Push for transparency

The BSE has urged the Securities and Exchange Board of India (Sebi) to plug disclosure gaps, curb fund misuse, and untangle opaque deals between promoters and merchant bankers.

At the heart of the proposal reforms is the need for greater transparency.

Ramamurthy emphasised that disclosing private arrangements between issuers and third parties, such as merchant bankers, is crucial for empowering investors.

Arun Kejriwal, founder of Kejriwal Research & Investment Services, described the SME IPO space as rife with “hanky-panky." He noted that while mainboard issue costs range between 3–5% (depending on the issue size), SME deals often involve much higher costs. “Between the merchant banker and the company, there is one transaction that happens with no details," Kejriwal said, alleging some merchant bankers pocket 12–15% of the issue size.

"The mushrooming of merchant bankers is because everybody thinks this is a pot of gold," he added.

Data reviewed by Mint shows that there are 96 merchant bankers in the SME space as of 2025 and 104 in the main board space.

This financial drain has a direct impact on a company's health and, consequently, its investors. “If he has already paid through his nose... he will need 2-3 years to readjust his books," Kejriwal warns. “Where will he get that money from? He will take it out of the company and fill that hole."

Monitoring agencies on the table

To counter these issues, one of the key proposals by BSE is to mandate the appointment of an independent monitoring agency for all SME issues.

This agency would ensure that IPO proceeds are used for their stated purpose, as detailed in the offer document. Sebi found multiple instances of fund misuse and is currently probing nearly 20 SMEs for similar diversions.

Vishnu Agarwal, founder of stocks research platform Stock Knocks, strongly endorses this move. “Having a monitoring agency is a very good idea because in the main board, you already have monitoring agencies," he says. This body would verify that funds from the escrow account are spent correctly, for instance, by checking invoices for machinery purchases against the prospectus's objectives.

Kejriwal explains how companies currently bypass rules. “Repayment of bank borrowing is not permitted as the only object of the issue. So, what they have now started saying is 'working capital,'" he says.

A monitoring agency would scrutinise such claims to prevent funds from being indirectly siphoned off to repay loans. He said the goal is not to create red tape but to bring transparency and prevent “money laundering and cheating of investor."

Balancing act

Still, not everyone is convinced stricter compliance is the answer. Narinder Wadhwa, MD & CEO of financial services firm SKI Capital, cautioned that mandatory monitoring and disclosures could inflate costs and deter genuine SMEs.

Dismissing concerns that the new rules would create excessive red tape for small companies, Kejriwal was blunt: “There is no compliance right now. There is only statutory compliance." He pointed to companies launching IPOs with six-month-old financials to avoid audit costs, a practice he says is short-changing the investor.

Wadhwa suggests a middle path, such as mandating monitoring only for issues above a certain size, providing standardized disclosure templates to cut costs, and phasing in new rules to give smaller issuers time to adapt. “Protect investors without discouraging issuers," he advised, emphasizing that regulations should focus on smarter disclosures rather than excessive red tape.

Agarwal concurs that well-designed rules will improve market quality. “The regulation should always be such that the quality companies are not deprived and no hanky-panky or any such companies which do not qualify for the IPOs come for IPO," he said.

Informed vs. uninformed

The debate also hinges on defining the “informed investor." Raising the minimum lot size—from ₹1.2 lakh to ₹2.5 lakh, or even ₹5 lakh—is no solution, experts argue.

“That cannot be the basis of defining informed v. uninformed. The temptation will grow if you increase the size," Kejriwal said.

Agarwal noted that Sebi does not classify investors at all. “If you are an investor, the opportunity should be available to everyone," he said, calling instead for stronger disclosures and education. Wadhwa contends the real divide is ‘informed vs. uninformed’, not ‘retail vs. institutional’.

As regulators deliberate, experts urge retail investors to stay wary. “Unless you have access to meet the management, discuss with them in detail what they do, it’s a pitfall. You are going to suffer if you invest in a SME without due diligence," Kejriwal warned.