SME Financing: IPO ISSUE AND POST-IPO ANALYSIS

Effulgence
Vol. 16 (Special Issue)
January - June, 2018
Rukmini Devi Institute of Advanced Studies
E-mail : [email protected], Website : www.rdias.ac.in
http://effulgence.rdias.ac.in/user/default.aspx
https://dx.doi.org/10.33601/effulgence.rdias/v16/iSpl1/2018/article0.8

Ashish Sharma, AIMA AMU Phd Scholar, [email protected]

Prashant Gupta, Associate Professor at IMI, Delhi, [email protected]

ABSTRACT

Small Medium Enterprises (SMEs) are an engine of growth for any nation in the world. As per estimates of
World Bank, 45% of total employment is created by formal SMEs and approximately up to 33% of national
income (GDP) in emerging economies. This calculation may further inflate if contribution of informal SMEs is
included. As per estimates ~600 million jobs will be required in the coming 15 years to provide employment to
the growing manpower worldwide, primarily in Asia and Sub-Saharan Africa. In emerging markets, SMEs
provide most of the formal jobs. Therefore, access to finance is a key constraint to SME growth; without it,
many SMEs suffer and stagnate.

Recently, an initiative has been taken for the capital financing of SMEs via IPOs, wherein the response has been
very good and encouraging. Also, the performance of secondary market of SME IPOs has been very good. But
the low level of liquidity and turnover makes the whole process risky for investors. This is why SEBI (market
regulator in India) has issued directives that while investing in SME IPOs, small investors should be kept away.
SEBI further reiterates that merchant bankers should act as investors in such companies for at least three years.
On the flipside, if these three years goes on in only settling the whole business, the interest of these shareholders
may vanish and they may withdraw their investment. This will lead to liquidity crunch again. This paper focuses
on measuring the effectiveness of SME financing through IPO and analysing how successful companies have
been after raising finance through this route. Also, examining how the involvement of stock exchanges, where
these companies are listed, may provide sustained support to the managements of these companies.

Keywords: BSE SME IPO, SME Exchange, SME Employment, SME growth

INTRODUCTION funding requirements such as IPO, FPO, private

placement, debt financing etc., whereas SMEs
Contribution to different economic factors such as don’t have such advantages. History holds enough
GDP, industrial growth, employment, and exports, evidence that SMEs have always struggled to meet
make small and medium enterprises (SMEs) a part their financing needs. In past alternate funding
and parcel of our economy. SME sector acts like an methods have been adopted such as the
insulin to emerging economies of the world and establishment of Over the Counter Exchange of
hence their role and contribution become more India (OTCEI) in 1990 and the INDO NEXT
important similar to a large corporation. Despite Platform of the BSE started in 2005, but these did
such an important factor, it suffers from various not prove to be successful in their aim (SEBI
challenges such as lack of funds, availability of 2008). This led to the formation of BSE SME
credit and limited access to equity. They have been platform by BSE in March 2012 and SME platform
dependent on bank lending to a large extent to meet ‘Emerge’ by NSE in September 2012.
their day to day requirements of funds. Although
some of the help is provided by Small Industries The objective of this paper is to analyse the
Development Bank of India (SIDBI) in terms of performance of SME exchanges in India and find
equity capital. This assistance acts as a temporary out if IPO as a route of financing for SMEs is
heal rather than having a permanent solution for successful or not. This paper throws light on the
capital. In such a case, a common platform is international scenario of SME exchanges,
required where fund takers and fund providers can regulatory guidelines regarding equity resource
meet and serve as complementary to each other. mobilization by SMEs through IPOs, the
Large corporations have many options to meet their importance of the primary & secondary market in

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recently launched SME platforms and a financial
overview of listed companies. Keshab Das (2007) has studied that in spite of
descriptive and active policy framework in India,
LITERATURE REVIEW the growth of SMEs continues to be slowed down
by fundamental problems such as poor availability
One of the interesting phenomena in SME of funds, low levels or obsolete technology, which
financing is the role of IPO and its effect on affects the quality of product and hence lesser
companies’ performance. Since SME’s role has exports. He stressed on the fact that it would be too
been accepted worldwide by various countries as a early to judge the effectiveness of new policies. He
reason of boost to economy and trade, a lot of says that much of the potential of small firms to
research and whitepapers have been written in this grow and develop innovativeness is formed by the
field. In the opinion of C B Bhave (2010) (speech type of infrastructure, both physical and economic,
delivered at FICCI), SMEs are a catalyst in the available and can be accessed at reasonable costs.
majority of the economies and form a significant The MSMED ACT gives more importance to
part of industrial activity. He further reiterates that networking with stakeholders both upstream and
since SMEs in most of the cases come across downstream in the entire global value chain,
financial crisis, therefore, he anticipates that the starting from obtaining of raw material,
formation of SME Exchange will be an important handling/production to marketing and customer
step to provide support in terms of capital, services.
enhanced credibility and other benefits.
Bhatendra Kumar Gupta (2008) and Tarak Shah
Review of literature explains that banks are the (2011), in their research study, said that after
primary source of capital for SMEs in both agriculture, the SME sector is the second largest
developed and developing countries (Vera & Onji, employer in India. For making anything successful,
2010; Ono & Uesugi, 2009; Zhou, 2009; Wu et al., the role of financing or funding is eminent and this
2008; Carey & Flynn, 2005; Cole & Wolken 1995). calls for a need of a dedicated stock exchange for
Also, everybody had been focussing on the concern the MSME sector to cater to their requirements.
that similar to large corporations, SMEs should be This problem of insufficient financing to SMEs
promoted as an active participant in IPO to ease needs serious attention amongst the others to
availability of finance. ensure adequate credit delivery to SMEs, better risk
management, and technological up gradation. The
R. K. Jain, Avdhesh Kumar Shukla and Kaushiki SMEs sector is considered to be an unexploited
Singh (2013), in a whitepaper at RBI, have market for financial organizations in India. The
analysed the importance of IPO and some of the only way out of the mire is that the Indian
financial attributes of listed companies. While manufacturing sector could be supported by the
measuring the performance of companies after IPO, current rural systems and by making them self-
most of the research carried out harmonizes with sufficient. This is only possible by helping small &
research in the US by Moonchul and Ritter (1999) medium enterprises and the rural artisans (people
that after IPO, companies performance generally with innate skills and talents) in becoming effective
either remains stagnant or underperform in terms of and competitive enough to face the future. A
revenue and market capitalisation in the market. number of problems and business practices of
However, Loughran and Ritter (1995) presents a global players and markets can be witnessed, learnt
different picture that underperformance is not and adjusted for ensuring the competitiveness of
something that is inherent post-IPO, there have Indian SMEs.
been instances when their market capitalisation has
shown consistent Compounded annual growth RESEARCH PROBLEM
(CAGR) viz-a-viz net income.
It was observed that there is a body of literature in
While citing the importance of SMEs Y.Srinivas the SME financing through IPO in foreign markets
(2005), mentioned in an article in ICAI journal that and their effects on companies. However, it
SMEs play an important role in the economy remains unknown the extent to which these
bringing parity between balanced and sustainable initiatives are beneficial in Indian scenario and how
growth, employment generation, entrepreneurial this route has succeeded in addressing the needs of
skills development and contribution to export funding and enhanced visibility of companies listed
earnings. However, in spite of their significance to on these exchanges. Through this paper, we aim to
the economy, most SMEs face the brunt of understand the benefits of launching SME
globalisation, primarily due to problems in the area exchanges and how companies are reaping
of financing. He further emphasized that since advantages of this initiative. Hence, this research is
globalisation in 1991, it has become very important useful in understanding the importance of SME
to smoothen up the flow of credit to this sector.

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exchanges, and measuring the effect of IPO on 1) Alternative Investment Market – AIM (London
SMEs. Stock Exchange, London): Established in 1995 as a
sub-market of the London Stock Exchange. Over
METHODOLOGY 3,600 companies have chosen to join AIM since
inception. It helps companies from Canadian oil
The research conducted is descriptive in nature. explorers to Chinese tech start-ups. Also, a number
From a total of 207 companies listed as of 19 flexibility is provided in this exchange such as no
October 2017 on BSE SME exchange, financial minimum size requirements for listing and shares
data of at least last three financial years for only can be traded in any freely-available currency, etc.
169 companies was available. The probable reason 2) NASDAQ OMX First North (NASDAQ OMX
could be that either few companies have stopped Group): Designed for small and growing
trading or migrated to main exchange or listed at a companies, where every company has a Certified
later date. BSE SME exchange was started in Jul Adviser, who is responsible for carrying out the
2012. In the initial years, there was only handful of whole process of listing. This exchange is very
companies which were listed and data availability much suitable for small, young or growth
was scarce. Therefore, data of 169 companies has companies. NASDAQ OMX First North integrates
been used throughout the paper. On the other side, the advantage of becoming public without any
~88 companies are listed at NSE Emerge, therefore, hassle and is mainly considered as the first step
volatility at NSE Emerge is less than BSE SME. In towards the main market. (NASDAQ OMX
this case, an index having high volatility makes website).
more sense to be taken for study.
3) NYSE Alternext (NYSE-Euronext Group):
To carry out the study, data has been collected from Formed in 2005 by Euronext to meet the needs of
annual reports of listed companies, journals, and small and midsized companies. Here the rules are
different stock exchange websites. as easy with a minimum free float requirement of
€2.5m only for IPO. On the other side, for a private
SME FINANCING CONCERNS placement, the company can apply for listing on
Alternext and must prove that they have placed at
In a discussion paper by SEBI, several factors have least €5m with five or more investors.
been identified which highlight the need for SME
financing rising role of an exchange as under: 4) Euro MTF (The Luxembourg Stock Exchange,
Luxembourg): Acts as a major listing centre of
• High cost of raising capital international bonds, equities, and other funds. The
• As compared to large corporations, SMEs Luxembourg Stock Exchange functions through
do not have access to funds from angel two markets: European regulated market (opened in
investors, VCs, and PE players May 1929) and Euro MTF (opened in July 2005
• In case of smaller issues, the costs of and is a multilateral trading facility regulated by the
raising capital as per current guidelines are exchange itself.
fixed, which become troublesome for
smaller issues (SMEs) 5) Mothers (Tokyo Stock Exchange, Tokyo):
• A strong framework is required for SMEs Established in 1999 under Mothers name (market
to fasten the process of raising capital at a of the high-growth and emerging stocks), to meet
low cost early stage funding requirements of venture
• Due to small size and less affordability, companies and offer investors with more
the eligibility norms, listing requirements, diversified investment products. Here the lead-
corporate governance norms and other underwriter submits a written, TSE-designated
formalities may need to be relaxed for format statement, to TSE called ‘Sponsor’s Letter
SMEs of Recommendation’ on behalf of an applicant,
stating the fact or reason as to why the applicant
INTERNATIONAL SCENARIO meets the eligibility criteria of strong growth
potential and in which of its primary field of
Globally, separate exchanges have been established business such high growth potential is observed.
to cater to the needs of SMEs and facilitate their
growth and funding requirements. From a total of 6) TSX Venture Exchange (TMX Group, Canada):
192 countries known globally, 149 have their own This exchange was formed to provide public
stock exchange. And among those countries venture capital to expedite the growth process of
roughly 57 have an alternative markets for SME new ventures. Listing in the current exchange
companies to raise funds. Some of the examples opens up the opportunity to access larger pools of
are: capital.

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7) The Alternative Exchange (Johannesburg Stock Indonext: BSE IndoNext was established in
Exchange, South Africa): Caters to the January 2005 to benefit small & medium size
requirements of a large number of companies in all companies, the investors in these companies & the
sectors including young & fast-growing businesses capital market as a whole. Basic features are as
(such as start-ups) and family-owned businesses. follows:
• The concept is based on the Euronext
8) Growth Enterprise Market (Hong Kong, China): exchange, which was formed in 1999 by
The Growth Enterprise Market does not require merging the Paris, Amsterdam, Lisbon &
growth companies to fulfil the requirements to have Brussels stock exchanges
achieved the minimum profit levels as a condition • Investors & the companies, which are
of listing. listed only on Regional Stock Exchanges
(RSEs) have been impacted severely, as
If we look at the listing requirements of SME the volatility at RSEs is very low and they
exchanges, almost all the markets adopt an easy record insignificant trading volumes.
process of listing and maintenance requirements Investors who make investments in such
than the main market, in terms of various small & medium companies feel helpless
parameters: operating history, the minimum to take their money out due to less
number of shareholders, past financial performance volatility & unable to realize the fair value
and number of free-float shares, etc. To maintain of their investments.
sufficient liquidity, many exchanges have put • The companies listed only at RSEs face
across alternative arrangements such as market difficulty in raising finance from the
makers for liquidity. While making policies related capital markets due to improper price
to the SME Exchange in India, several of the global discovery of securities in the secondary
practices have been adopted. market. New small & medium enterprises
(SMEs) have not been able to use the
DOMESTIC SCENARIO markets to fund their plans.

OTCEI – Over the Counter Exchange of India: REGULATORY REQUIREMENTS ON

Started in 1990 & initiated trading two years later LISTING OF SMES IN INDIA
to provide a gateway for small & medium
enterprises entry into capital markets. Listing India has developed its SME platforms after
requirements & other charges at OTCEI is as learning serious lessons from the global platforms.
follows (Yogendra Sisodia, SME Exchanges Difficulties faced by global SME exchanges,
Platforms 2009): OTCEI’s & Indonext’s experience, as well as
• OTCEI is the only exchange in the country domestic conditions of capital market, have
that allows listing of company with a provided an important base for the formation of
paid–up equity capital of at least Rs.30 SME exchanges in India (BSE 2011). According to
lakhs, whereas no higher limit has been SEBI, SME exchanges should be set up as
fixed on the capital to be raised corporatized entities (bodies with a structure found
• OTCEI is preferably suitable for start-up in publicly traded firms) with a minimum net worth
enterprises as 3-year track record is not of Rs.1,000 million. These guidelines stipulate that
mandatory an issuer with post-issue face value of up to Rs.100
• Listings on OTCEI do not require startup million will be invariably covered under the SME
companies to have 10% equity / debt exchange whereas issuers with post-issue face
participation by banks / financial value capital between Rs.100 million and Rs.250
institutions. million may get listed either on the SME exchange
• OTCEI charges Rs.7500/- for initial or on the main board (Table 1) (Yogendra Sisodia,
listing, besides an annual fees depending SME Exchanges Platforms 2009).
upon the paid up capital

Table 1: Listing Criteria – Main Board and SME Exchange

Parameters SME Exchange Main Board

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Basis of Difference BSE SME Exchange BSE Main Board
Post-issue paid up capital Minimum post issue capital of 1 crore Minimum post issue paid up capital of 10
(face value) and maximum 25 crores crores
Minimum Allottees in IPO 50 1000

IPO Grading Non- Mandatory IPO Grading Mandatory IPO Grading

Mandatory (100% underwritten with Non- Mandatory (Under 50% compulsory
IPO Underwriting
Merchant Banker underwriting 15%) subscription to QIB’s)
Track Record Relaxed norms Stringent norms

Offer Document Vetting By Stock Exchange By SEBI

IPO Application Size Min Rs.1,00,000/- Rs.10,000 – Rs.15,000

IPO Timeframe 3 to 4 months 6 months onwards

Reporting Requirement Half yearly Quarterly

Source: BSE SME Website

There are two important distinguishing attributes BENCHMARK: SME IPOS PERFORMANCE
between OTCEI and present SME exchanges: IN THE SECONDARY MARKET
1) Unlike OTCEI, which was standalone, now
SME exchanges are completely integrated with a Along with SME platform, BSE has set up a
particular exchange and allow easy migration from barometer index under the name BSE SME IPO to
the SME platform to the primary exchange keep a track on the performance of SME IPOs in
2) There is a 100% provision for underwriting of the secondary market. The BSE SME IPO Index is
the issue and market maker for three years after the calculated with free float methodology in line with
listing to provide liquidity (SME World 2014). other BSE indices. The number of scrips included
in the index is variable. However, at any point of
SEBI has worked hard to decide upon relaxed time, a minimum of 10 companies should be
norms regarding listing on the SME Exchange such maintained in the index. All newly listed
as issuers need not have a track record of companies are incorporated in the index and a
distributable profits. As of now, the present company which has completed three years after
procedures set up by SEBI is based on following listing is automatically excluded from it. The index
objectives: a) to protect investor’s interest by was launched on 14 December 2012 and started
keeping larger lots, to limit the participation only to trading on 18 Jan 2013. From a period of trading
informed investors, b) maintaining sufficient till 19 Oct 2017, the BSE SME index witnessed a
liquidity by provision of market making and c) huge rally of about 1085.2% which is significantly
involving a merchant banker to file red herring higher than gains in other stock indices in India.
prospectus (RHP) with due diligence certificate The performance of BSE SME Index can be seen in
with the exchange, this will reduce the time Figure 1 below, showing comparison with and
involved in the processing of issue (BSE 2011). primary index BSE Sensex:

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 Figure 1: BSE SME IPO Performance

Source: BSE SME & BSE Website

SECTORAL DISTRIBUTION OF COMPANIES AND FINANCIAL EFFECTS ON PERFORMANCE

OF COMPANIES LISTED ON SME PLATFORMS

Approximately there is a list of 207 companies’ scrips available on BSE SME website (as of 19 Oct 2017). A
snapshot of company details is available below:

Table 2: BSE SME Market Statistics (as on 19 Oct 2017)

No. of companies listed on SME till date 207

No. of companies migrated to main board 34
No. of companies listed as of date 173
No. of companies suspended 4
No. of companies eligible for trading 169
Mkt Cap of BSE SME Listed Cos. (Rs.Cr.) 11,590.7

Source: BSE SME Website

Since the opening of BSE SME and NSE Emerge listed firms is important from the risk management
exchanges, BSE SME has been able to establish point of view of SME platforms as well as for
itself as a preferred platform for listing. Below investors.
graph shows the sector wise breakup of companies
listed at BSE SME. Sectoral distribution of 207 The volatility is more at BSE SME than NSE
companies reveals that primarily financial Emerge. Only half of the companies have been
companies (16, including other financial services listed at NSE Emerge till now. Here for the purpose
companies), Textiles (11) and Comm. Trading & of analysis, companies at BSE SME have been
Distribution (10) have shown interests to mobilize taken. From a total of 207 companies, ~169
resource from the market. Further, a most of the companies have been taken for the purpose of
companies belong to the services sectors which are financial analysis because the financial data of only
considerably diversified. This diversification of 169 companies for four years was available.

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 Figure 2: Sector-wise Distribution of Listed Companies

Source: BSE SME Website

Following are the primary financial attributes which have been analysed for companies listed in BSE SME:

1. Market Capitalisation: Since these companies operate at a small level, market capitalisation
stands at an average of Rs.676m with highest being Rs.10,232m. Around 24 companies had a
market capitalization between Rs.1,000-10,500m, constituting ~14% of the total companies under
consideration. The large market cap is an indication of the size of the company. Companies with
large market capitalization usually have more assets, capital and higher revenues than those having
smaller market capitalization. Top five companies with highest market capitalisation have been
shown below:

Table 3: Top Five Companies with Highest Market Capitalisation

Companies Market Cap (Rs. million)

Vishal Fabrics Ltd 10,232
Esteem Bio Organic Food Processing Ltd. 7,931
HPC Biosciences Ltd. 7,286
Channel Nine Entertainment Ltd. 5,287
Eco Friendly Food Processing Park Ltd. 5,275

Source: Author Analysis

2. Price-earnings ratio (P/E): A comparison of the P/E ratio of SME companies as on 19 Oct 2017,
24 companies had P/E ratio of greater than 100, which is an average of all companies. Investors are
generally willing to pay a higher P/E for companies whom they think will be growing at a higher
rate than the normal growth. High P/E ratio of these companies shows confidence in the investors
that these companies are on the verge of growth. Top 24 companies having high P/E ratio are:

Table 4: Top 24 Companies with Highest P/E ratio

Companies P/E ratio
Pure Giftcarat Ltd 261
Manas Properties Ltd 224
Stellar Capital Services Ltd 182
Shiva Granito Export Ltd 179
Anisha Impex Ltd 178

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 Prime Customer Services Ltd 165
Suncare Traders Ltd 160
R&B Denims Ltd 159
Veeram Ornaments Ltd 157
Unishire Urban Infra Ltd 156
Relicab Cable Manufacturing Ltd 150
O. P. Chains Ltd 148
Amrapali Fincap Ltd 137
VMV Holidays Ltd 131
Karnimata Cold Storage Ltd 127
Amrapali Capital and Finance Services Ltd 126
Captain Pipes Ltd 117
Zeal Aqua Ltd 117
Poojawestern Metaliks Ltd 116
B.C. Power Controls Ltd 115
Jet Infraventure Ltd 111
Vaksons Automobiles Ltd 110
Aditya Consumer Marketing Ltd 107
Polymac Thermoformers Ltd 101

3. Revenue growth: For a number of companies listed in last three years (i.e. 2017, 2016 & 2015),
average growth in revenue from the time of listing till 2017 had been tremendous.
Listing Year No. of Companies Average Growth in Revenue
2015 32 2,088%
2016 43 1,326%
2017 44 352%

The above analysis clearly shows that post-IPO, the majority of the companies have witnessed
unprecedented growth in revenue. Difference between is a maximum of three years and such a drastic
growth is spectacular for all companies. It means that by raising finance through IPO, they have been
able to see a significant rise in their revenue. It is also an evidence of the fact that post-IPO, the
companies gain visibility in the eyes of consumers too.

4. Institutional Holdings: Mostly in 58% of sampled companies, the promoters have held more than 50%
stake in their companies. A major holding by financial institutions confirms good governance and
greater answerability, which was primarily absent in most of the enterprises. Involvement of
institutional investors, who usually take investment decisions after carefully analysing the feasibility of
business prospects of the issuers, will propel more retail investors to come and invest in SME issues
with confidence.

Listing Year No. of Companies Average Growth in Net Income

2015 32 612%
2016 43 231%
2017 44 558%
5. Net Income: For a number of companies listed in last three years (i.e. 2017, 2016 & 2015), average
growth in Net Income from the time of listing till 2017 had been commendable.

Net Income CAGR of ~119 companies The above analysis of publicly available financial
witnessed an average growth of 467%. attributes emphasizes the fact that there has been a
This implies that SMEs have more significant effect of IPO on companies’
opportunity with them to expand further. performance. Most of the players had sought
finance for meeting working capital requirements.

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Here the role of exchange increases in terms of research support in partnership with various
transparency. Exchanges may also provide brokerage houses on the financial attributes of
handholding to the companies listed with them. these companies on a regular basis which will
They may also provide fundamental and technical reduce information irregularity about them.

RESEARCH IMPLICATIONS and opens up an encouraging scenario for fresh

SMEs thinking to get listed. One important thing
The present analysis helps us in understanding how was observed that only investors who have proper
SMEs are benefitted by IPO issue. The study has knowledge and understanding of the market and its
been conducted for the 169 companies for which benefits are only taking steps to come forward and
data was available. The post-IPO issue is on the participate in IPO process. In this case, the role of
rise as awareness is increasing amongst SMEs. The exchange becomes very important to educate them
study reveals that primary objective of reaching out and act as a facilitator when they are involved in
to market is to raise capital for meeting the the IPO process.
requirements of working capital, gain visibility, and
favourable treatment when borrowing from a The increasing role of merchant bankers as a major
financial institution. These were some of the factors participant in the process makes whole process
which primarily affect the desire for SMEs to seek market driven and ensures liquidity in the market.
finance from the market. In future, as more However, the ownership involvement should be
companies get listed, factors motivating companies increased from three years to five years so that
to get listed may also increase or decrease. These confidence of SMEs is maintained. SME exchanges
factors could be raising finance to make themselves role is of utmost importance to ensure overall
lucrative for venture capitalists to invest money and transparency and sustainability in the system.
enhance visibility as a target company for buyers.
This study can be further extended to include more The study was limited to companies whose
companies and analyse more variables under the financials for at least three years were available
ambit of research and study their effect on the post-IPO. As more companies are listed scope of
companies listed on the market. this study can be extended further to measure the
effectiveness of SME exchanges in India and
CONCLUSION measure post-IPO performance.

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