Sebi, stock exchanges discussing revamp of rules for market makers of SME IPOs

Revamp of rules for market makers of SME IPOs, SEBI and exchanges in discussion say sources.

Capital market regulator Sebi is considering reviewing various norms for SME IPO market makers, or brokers who provide act as facilitators to provide liquidity for the newly-listed securities on the platform by quoting both buy and sell rates, people familiar with the development told Moneycontrol.

Market making is a mandatory function for all securities listed and traded on the SME Exchange.

Sources said Sebi, exchanges, and other market participants are deliberating on whether there should be a networth criteria for market makers on the SME platforms, which is currently not there.

Market makers are registered on the exchange where an issue is listed, and as per Sebi’s stock broker regulations, a minimum networth base of Rs one crore is required to become a trading member of an exchange.

“The discussion is if the networth criteria can be fixed in a range of Rs 1 crore to Rs 5 crore. The limit to handle the SME IPOs for market making will depend on this networth criterion. The higher the networth, the higher the number of IPOs they will be allowed to handle,” said one source aware of the developments.

Another person familiar with the discussions said, “The penalty structure is also being discussed. If the market makers don’t give a quote on the SME stock, they are penalized by the exchange, so a review on that is also being discussed.”

Email sent to Sebi seeking comments did not elicit any response at the time of the publishing of the story.

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Merchant bankers are penalized for not doing market-making activities. Mostly, the penalty structure is linked to the number of days they have not participated in a particular stock.

This penalty keeps increasing with the number of inactive days. If they are not active in the stock for more than 15 days in a month, then the merchant banker is asked to appoint a new market maker in the stock, besides the penalty. Market makers are also sometimes barred from taking new assignments if they violate the exchange rules. Market makers are appointed by merchant bankers as per their choice.

Sebi had received several complaints against SME issues, and has thereafter tightened the norms through stock exchanges. In March, Sebi had notified stricter norms for SME IPOs, including the mandatory profitability clause and a tighter limit for offer for sale (OFS) by promoters.

As per the new rules, SME companies need to have a minimum profitability of Rs one crore in at least two of the last three financial years for filing an IPO.

The OFS component in SME IPOs has been limited to 20 percent of the issue size, and selling shareholders have been restricted from offloading more than 50 percent of their shareholding in the offering. The size of the lots was also increased, and the usage of IPO proceeds was also streamlined.

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The concept of promoter lock-in was also introduced for SME IPOs. Promoter stake exceeding the minimum promoter contribution will be in a phased lock-in, that is 50 percent of the excess shares will be released after one year, and the remaining 50 percent after two years. Related party transactions rules too have been extended to SME public issues.

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Restrictions were placed on how SMEs can use the funds raised through IPOs. General corporate purposes were limited to 15 percent of the total issue size or Rs 10 crore, whichever is lower. Companies have been prohibited from using IPO proceeds to repay loans taken from promoters, promoter groups, or related parties.