The Market Maker in an SME IPO: A Promoter's Planning Guide

A promoter preparing for a BSE SME or NSE Emerge listing typically budgets for the merchant banker's fee, listing costs and underwriting commission. Often left out is a recurring, three-year obligation that begins the day the stock lists: compulsory market making. Unlike most other IPO costs, this one does not end at allotment — it runs for three years afterward, and getting it wrong can leave a stock illiquid even when the business is sound.

Why SME listings need a market maker and mainboard ones don't

Mainboard companies attract institutional investors, analyst coverage and a retail base broad enough to generate natural two-way trading. Most SME scrips lack that depth. A single large sell order can move the price sharply if no one stands ready on the other side. SEBI addressed this by making market making compulsory for SME issues under Regulation 261 of the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018. A market maker, a SEBI-registered stockbroker with trading membership on the relevant SME exchange, continuously places two-way quotes around the prevailing price, buying slightly below it and selling slightly above it. When a buyer or seller cannot find a counterparty, the market maker steps in from its own inventory.

What Regulation 261 requires of a market maker in an SME IPO

The framework has several moving parts promoters should understand before the offer document is drafted:

• The market maker must be independent of the promoter group, and is barred from buying shares directly from them during the market-making period.

• A minimum of 5 percent of the issue size must be reserved as market maker inventory.

• Two-way quotes must be maintained for at least 75 percent of the trading day, with a minimum quote depth of Rs 1 lakh, and execution at the quoted price and quantity is guaranteed.

• No more than five market makers may operate on a single scrip.

• Where a shareholder's holding is smaller than the minimum tradable lot, the market maker must buy the entire holding in one lot.

• The obligation runs for a minimum of three years from listing, or from migration between SME platforms.

The merchant banker must disclose the market maker, its obligations and incentives in the offer document, and file the signed agreement with the exchange.

Inventory limits: why market maker support isn't unlimited

The obligation is not unconditional buying support. SEBI's framework sets inventory thresholds, calibrated to issue size, beyond which the market maker is temporarily excused from placing further buy quotes until its holding falls to a lower re-entry level. Smaller issues get wider thresholds than larger ones. In practice, if a stock faces sustained selling, the market maker's buying support is not limitless, and inventory-linked exemptions mean price can still fall once the maker's holding is saturated. Market making smooths ordinary illiquidity; it is not a floor under the stock.

What promoters and CFOs should plan for

• Treat the market maker appointment with the same diligence as the merchant banker mandate: check net worth (which scales with the number of SME companies the broker already services), track record and quoting discipline on existing scrips.

• Cost the arrangement into the IPO budget from the outset; the spread and incentive structure are part of the real cost of listing.

• Understand the exit mechanics: a market maker may withdraw with one month's notice, and the merchant banker must arrange a replacement within a month to keep the three-year commitment unbroken. A gap here is a governance and liquidity risk.

• If migration to the mainboard is part of the medium-term plan, factor the market-making tenure into that timeline.

Key takeaways

Market making is compulsory infrastructure for an SME listing, not a discretionary service layer. It changes the cost of listing, imposes a three-year commitment that survives well past the IPO itself, and comes with inventory-based limits that promoters and CFOs should understand before assuming it will always support the price. Selecting and monitoring the market maker deserves the same board-level attention as the merchant banker, because for most SME stocks it is the single biggest determinant of whether the share trades in an orderly market or barely trades at all.

This article is for general information and does not constitute investment, legal or tax advice. Regulations change; please verify the current position or speak to a qualified adviser before acting.