Why SEBI Allows Loss-Making Startups to Launch IPOs and How Retail Investors Get Trapped

By Niharika Doundiyal · Tier 2 · 2025-12-28

Normally, the rule says:

• A company must show profits from its main business for 3 years in a row before it can list on the stock exchange. But many new tech startups work differently. They focus on growing fast, not on making profits immediately.

• They spend a lot of money today to get more users, hoping to make profits later. Because of this, SEBI created a special rule called Regulation 6(2) that allows such companies to go for an IPO. But this permission comes with very strict conditions. 75% of the IPO shares must be sold to big investors like mutual funds, foreign banks, insurance companies, etc. (called Qualified Institutional Buyers) Only 10% of the shares are available for small retail investors like you and me. SEBI believes that big institutions understand risky and loss-making businesses better.

• If these institutions are ready to buy 75% of the IPO, SEBI feels the price is fair. This system also helps India in other ways. Big foreign investors need to invest large amounts at once. This 75% rule gives them enough shares to do that. It also helps venture capital (VC) investors. VCs invest in startups very early. After many years, they need a way to sell their shares and exit. IPOs give them a clear exit, so they are encouraged to invest in more Indian startups. But there is a dark side to this system, and it mostly hurts small investors.

What is the problem?

• At the time of IPO, most shares are held by founders and early investors. SEBI puts these shares under a lock-in period. For 6 months to 1 year, these big holders cannot sell their shares. Even institutions that buy in the IPO cannot sell immediately.

• This creates a shortage of shares in the market. Result? When the stock lists, there is huge demand because of hype. But there are very few sellers. Because of this imbalance, the stock price shoots up sharply on listing day. This is called a listing pop.

• Retail investors see the price going up and think the IPO is a big success. They rush to buy the stock at high prices. They don’t realise that this rise is due to artificial shortage, not real strength. The real problem starts when the lock-in period ends. Suddenly, founders and VCs are allowed to sell. These people bought shares very cheaply in the early days.

• They rush to book profits. Millions of shares enter the market at once. Demand cannot handle this sudden supply. Result? The stock price falls sharply. Many times, it falls below the IPO price.

• This happened with companies like Mobikwik, Mamaearth, and many others. The listing gains were not real. They disappeared once the supply became normal. So yes, this policy helps grow and mature the market. But often, it does so at the cost of retail investors. Smart money enters early and exits on time. Public money enters late during hype and gets stuck when prices crash.

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