SME Stocks Are Creating Wealth!

We have seen in the past one year that several SME stocks have been catching investors’ attention. Is it the right time to consider such stocks? Yogesh Supekar shares a fresh perspective on SME stocks and suggests how one can deal with them profitably while also highlighting the challenges that lie therein. 

If you believe in the adage ‘small is beautiful’ as applied to the equity market, you must be talking about micro-cap companies. Micro-cap investing is luring investors with high-risk appetite with unmatched returns. The downside in micro-caps can be huge and at times there is lack of liquidity in the stocks, which essentially means that it may be difficult to liquidate the position. Now that is something called ‘known risk’ while investing in micro-cap companies. Investors who participate in equity markets are usually believed to understand the risks involved in investing. The question is whether all the investors who participate in illiquid stocks accurately understand the risks involved. 

Investors tend to focus on the return aspect more than the risks and hence end up getting disappointed with their investing experience. It is important to be an informed investor. SME investing, like micro-cap investing, has its own challenges and risk-reward equation. We have seen the action getting thicker, louder and broader as an increasing number of participants are getting active in the SME investing game. Recently, we have seen the market capitalisation for the SME stocks cross ₹ 60,000 crore on the BSE SME platform. This is quite a big achievement for the platform that was flagged off only in 2012. 

The total number of stocks on the BSE SME platform as of today is 405. So far, 247 companies are listed on NSE Emerge and the total market capitalisation is about ₹ 35,375 crore for SME stocks listed on this platform. There are some unique promising stories in the SME space and then there are some boring and dull stories too that have destroyed wealth for investors. The perception is that very few people make money investing in equity markets and a lesser percentage of investors actually make money investing in SME stocks. Unless the rewards outweigh the risks, the investing theme will not work in the long term. 

Comments Chetan Tupe who has successfully been investing in SME stocks, “I happened to invest in SME stock by chance. I started by allocating not more than 5 per cent of my portfolio. Today, however, 40-45 per cent of my portfolio consists of SME stocks and I am comfortable while investing in SME stocks. However, when I first set foot in this space I was super-cautious, and I did miss several lucrative opportunities. What interests me in SME stocks is the fact that there is less competition and most of the investors are not looking at SME stocks for portfolio allocation and investments. In fact, a majority of investors just don’t scan opportunities in the SME space.” 

“That is also one of the reasons why some of the SME stocks are available at attractive prices and are not fully priced in. In fact, at times the valuations are dirt cheap and you can perceive huge opportunities in SME stocks. When I bet on SME stocks I do it only after I am convinced about the promoter(s) credentials. Betting on a small company generally implies that the promoters do not have an established track record and cannot boast about balance-sheet size and huge profits. I have made some bets looking at the promoters’ capabilities after judging what the promoters have said about their company and after understanding the company’s vision and mission statements. It is important to understand the business model the promoters have in mind and also understand the growth potential.”  

“In my hunt for quality SME stocks, I have come across companies where the single order book is 4-5 times the total annual turnover. When you understand such growth triggers it becomes irresistible to avoid such growth stocks. A top-down approach also helps. For instance, there is no doubt that huge capital expansion is happening in India’s railways sector. As such, it was easy to identify huge potential in Jayant Infratech which stands to gain from the increase in government spending for the railway sector. Similarly, looking at the overall positive scenario for the renewable energy sector in India, it was not difficult to focus on SME stocks that promised to deliver green energy solutions,” he further states. 

According to Hitesh Oberoi, a long-term investor with penchant for SME stocks, “I found Solex, Gensol Engineering, Insolation Energy, Advait Infratech and Kotyark Industries aligned with the renewable energy goals that India has set for itself. I looked at these SME stocks with a bullish view. The common thread between all the successful SME companies has been visionary promoters with strong execution capabilities and skills. Another common thread connecting some of the wealth-creators in the SME space is that the entrepreneurs are high on innovation index and are ready to disrupt the markets with their products and technology offerings. Some of the companies have been creating a new market while some SME stocks are benefiting from the shift in broader trends." 

“If you get it right i.e. if you are able to bet big on any of the quality SME stocks and you are able to invest at the right time before other investors have laid their eyes on them, chances are very good that you will multiply your money in quick time. As of today, I am holding on to my high conviction SME stocks even after the stocks have turned out to be 5-10 baggers in less than one year. While there are lots of potential stocks with great management and promoters who have their story to tell, I must confess the task of differentiating the ones with true potential is not easy at all,” says Amit Khabia, a sub broker who tracks SME stocks closely. 

Khabia further adds, "In fact, the whole drill of choosing and identifying a quality SME stock can be a tiring process as the information is not easily available on public platforms. The key to SME investing is to build your own conviction on the basis of information you have gathered. This requires original research and at times plant visit and meeting promoters. You have got to be willing to travel and meet the key decision-makers i.e. the management executives to understand the business growth potential. I am bullish on the SME space in India and can definitely recommend it to long-term investors who have patience and can face volatility without shifting focus." 

Nuances of SME Investing

The SME space is indeed getting interesting. However, most investors are not aware about the nitty-gritty of SME investing. What are SME stocks and what are the BSE SME and NSE Emerge platforms? Emerging economies across the world have realised the critical role that small and medium enterprises (SMEs) play in their growth. Apart from direct contribution to the economic output of the country, the range of products and services offered by SMEs helps create a significant downstream impact. This impact is in the form of generating growth opportunities, creating direct or indirect employment and driving technological progress as well as innovation. In India, SMEs employ almost half the workforce. A key challenge that SMEs face is access to capital via the public market due stringent IPO regulations.

To solve this problem, separate trading platforms were incorporated for SMEs to raise money via IPOs from the public through the capital markets and get listed on the exchange by selling equity stake in the company. In an attempt to pave the way for a diverse range of SMEs to get listed, SEBI has eased regulatory requirements, such as a lower minimum paid-up capital, fewer numbers of allottees, high minimum investment amount, etc. Also, relatively speaking, the compliance requirements that such companies are required to grapple with are fewer. In India, BSE and NSE operate SME exchanges called BSE SME and NSE Emerge, respectively. 

Ergo, investors who transact stocks through regular exchanges can automatically purchase shares on SME exchanges. These SME platforms allow new, early-stage ventures with paid-up capital of up to ₹ 25 crore to raise capital. It offers opportunities to informed investors with high-risk appetite to invest in emerging businesses with exciting growth plans, innovative business models and commitment towards good governance as well as investor interest. Additionally, these platforms bring into the limelight companies that otherwise would have remained in the shadows despite their excellent performance. As such, investors now get a chance to focus on these companies and study how their products and solutions could create disruptive models and offer growth opportunities. 

Target Audience for SME Stocks

A good stock is a good stock whether it is a Large-Cap or a Mid-Cap or a Small-Cap or for that matter an SME stock. Then why is special consideration required while investing in SME stocks? That is because there is a lot size and one cannot allocate a small quantity to SME stocks. For example, if you were to buy RMC Switchgears with a lot size of 2,000 with a market price of ₹ 284 per share, the capital requirement would be ₹ 568,000. Not many investors can afford to invest such big amounts in a single share. For investors with limited capital, it becomes very difficult to take position in SME stocks. 

According to Ahmednagar-based Ashok Patwa, a popular share broker who has been involved in the stock market since 1981, “Very few of my clients deal in SME stocks. Even I do not advise my clients to deal in such illiquid stocks. One of the biggest problems with SME stocks is that you have to pay 100 per cent margin upfront and then take position. Most of the clients don’t want to do that. It is easier to take position in liquid blue-chip scrips. You can take heavy position this way. Besides, the brokerage costs are relatively higher for SME stocks. Also, the spreads are very high which may impact the expected returns negatively. One must consider all such factors before deciding to buy SME stocks.” 

Clearly enough, investing in SME stocks is not for everyone. Certain practical implications need to be taken into consideration while investing in such stocks. The most important consideration when investing in SME stocks is about the action to be taken when the SME stock starts hitting the lower circuits. For example, the recently listed SME stock Agri Green Power looks flat since it got listed on the bourses at ₹ 24 per share. However, its latest price of ₹ 23 per share was arrived not before it dropped to ₹ 17 per share and then climbed to ₹ 41 per share to eventually land where it is now i.e. ₹ 23 per share. All this action has been witnessed since August this year. It is almost impossible to make a profitable entry and exit. 

One cannot apply technical analysis studies to SME stocks as the counters are illiquid. Hence, the entry and exit decision looking at chart patterns in a traditional manner is just not wise. Those investors who are independent thinkers and have a higher risk appetite as well as the ability to conduct their own due diligence can and should delve into SME stocks. Essentially, such investors need to have the patience to keenly observe the performance of the chosen SMEs and understand the long-term value of their products, solutions and services before taking an investment decision. Also, needless to say, the portfolio size has to be large to be able to participate in a diversified manner in SME stocks. 
 

I N T E R V I E W 

Dhaval Gupta
Managing Director, Cyber Media Research & Services Limited 
 

"There are Large and Exciting Opportunities Ahead" 
 

Why did you decide to list your company on the NSE Emerge platform? How has the listing experience been so far?
 

The industry that Cyber Media Research and Services Limited (CMRSL) operates in is digital marketing and data analytics. These are fast growing sectors with rapidly evolving technology. We believe that CMRSL has unlocked shareholder value by listing on the NSE Emerge platform. Furthermore, as a rapidly growing entity, CMRSL has higher working capital needs. We are looking at utilising the funds raised towards investment in technology, strengthening our business development and considering inorganic growth opportunities as well. Our experience with NSE Emerge has been very positive. The NSE team has been responsive and supportive throughout the process, which has been conducted with thorough and fair due diligence. Such institutional bodies are a great sign for the future of the Indian markets.
 

What are your products and services and who are your clients and competitors?
 

CMRSL operates in four areas of business starting with advertiser-focused brand marketing, programmatic media buying, publisher monetisation and data analytics. Our presence across these areas creates a strong ecosystem play, at the core of which is data. There is a large and growing market need for these digital marketing solutions and we are excited about the opportunity the future holds. The industry continues to grow at an estimate 30 per cent year-on-year and we believe our products will allow the organisation to continue growing for the long term. Our customers include advertisers across industries including education, FMCG and technology, among others. We also work with a large set of publisher networks from around the world.
 

What is the growth outlook for CMRSL? What are your growth drivers?
 

CMRSL is now among the first few digital marketing-focused businesses listed on the Indian stock exchanges. In comparison with other mature economies, there is a long way for the Indian markets to continue their evolution. CyberMedia as a trusted brand, with experienced management and robust technology products, is in a good position to build a long-term growth story. CMRSL’s key drivers include a continuous shift towards technology-driven digital marketing, products that leverage data and an emphasis on expanding the company’s international customer base. Our goals are directly aligned with our customer success via their marketing campaigns.
 

What are your top three strategic priorities at this moment? Where do you see CMRSL in five years from now?
 

Our three priorities include data enrichment and monetisation, establishing a larger international customer base and continuously improving and expanding the team. CMRSL is fortunate to be based in a forward moving economy like India and in an industry that is growing rapidly. Five years out we see significant innovations in personalised content, Metaverse, connected TV, wearables and many more areas. These are large and exciting opportunities. Given the current scenario, we feel we are in a good position to capitalise on some of these opportunities.
 

Performance of SME Stocks 

The performance of SME stocks on the bourses has been mixed. However, the performance of some of the top performing stocks has been mind-boggling. It is common to find some of the top performing stocks that multiply in value by 10 times. SME IPO is one area where select investors have been able to generate above average returns. If we were to simply consider the average listing gains for all the 88 SME IPOs of 2022, it comes to around 28.70 per cent, which is more than double the average returns generated in the main board IPOs of 2022. The average listing gains for the 22 IPOs has been 12.71 per cent so far. The average returns for the 22 IPO stocks post listing have been ~25 per cent so far while the average returns post listing for all the SME IPO stocks of 2022 is seen at 48 per cent. The table below summarises the performance of SME IPOs in 2022.

Conclusion
 

The opportunities in the SME segment are multiple, large and cannot be ignored by those investors who are independent thinkers and believe in conducting their own research to build conviction in the stocks they own. The under-pricing of SME IPOs is also attracting several investors. The main board IPO performance versus SME IPO performance explains the reason why SME investing needs to be taken seriously. While the returns can be above average in SME stocks in general, if the entry level is not perfect the waiting period can be really long unlike in the case of main board stocks. There is very little room for error in SME stock investing, be it in terms of timing the entry and exit or even as regards identifying the stocks to invest in. 

Only a quick decision-maker can survive and make money in SME stocks. However, given all the concerns and negatives, there is no doubt that there has been a huge amount of traction gained in the SME space in the past five years. During this period the BSE SME IPO index has gained by a whopping 1,079.94 per cent while in the past one year itself the index has gained by 162.82 per cent. Such is the kind of momentum we have seen in the past few years in the SME listed space. However, the same SME index had fallen by 43 per cent from January 2022 to March 2022 and that is an indication of the inherent nature of SME stocks. In short, investing in SMEs requires a lot of diligence and maybe even some good practice and experience.