In this article
The question behind this article
Two manufacturing businesses, same industry, same town, both profitable.
The first does ₹40 crore of turnover and generates net cash of ₹3 to ₹4 crore a year. Steady, low growth, a generic product. Over five years it will have thrown off a reasonable amount of cash for the family that owns it. If it were put up for sale, it would fetch somewhere around ₹20 crore, after the discounts a buyer applies for lack of marketability and small-business risk.
The second does ₹20 crore of turnover and generates net cash of ₹2 to ₹3 crore. Half the revenue, less cash. It carries a valuation of ₹50 crore, and in a good market considerably more.
The second business is worth two and a half times the first while doing half its revenue and generating less cash today.
Most promoters, on first hearing this, assume something has been left out. Nothing has. The difference is in three things: the scalability of what the second company sells, the quality of the people running it, and whether the business has a defensible position that will still be there in five years.
This article sets out what separates the two, why the gap widens over time, and what a promoter-run business can actually do about it. It is written for owners of businesses in the ₹10 crore to ₹200 crore range who have built something real and suspect it is worth less than it should be.
What value actually is
Strip away the methods and the spreadsheets, and the value of any business is a function of three things.
- The size of the cash flows. Larger cash flows, larger value. This is the only one most promoters track.
- The growth in those cash flows. Higher growth, larger value. Growth itself has a driver sitting behind it: how much the business reinvests in building capacity. A business that reinvests nothing cannot grow, whatever the market is doing.
- The risk attached to generating those cash flows. Riskier cash flows, lower value. Risk here means concentration in one customer, dependence on one person, an unprotected product, a volatile input cost or an unresolved tax position.
Revenue does not appear on that list. Nor does the size of the factory, the number of employees, or how long the business has been running. Those things matter only to the extent they show up in cash flows, growth or risk.
This is worth sitting with, because most promoter conversations about value start with turnover.
Profile A: the business run traditionally for profit
Most Indian SMEs of this size share a recognisable set of traits. None of them is a moral failing. Each of them was a rational decision at some point in the company's life. Together, they cap what the business can ever be worth.
Ownership and management are the same people
The owners are the top management. Every critical function sits with one person or a small group from the family. Decision-making is centralised, and positions follow family dynamics rather than what the business needs.
The consequence is that there is no hire-and-fire discipline at the top. A family member heading a function cannot be moved for underperformance the way a professional can. Accountability at the senior level becomes informal, and informal accountability is no accountability at all.
The business is shy of professionals
Good people cost money, so the business settles for adequate people. The saving is visible in the salary line. The cost is not.
It shows up as work missing deadlines, which becomes interest, penalties and occasionally litigation. It shows up as decisions taken without process or consultation, because nobody thinks to consult. It shows up as the same mistakes recurring, consuming time that should have gone into the business.
The largest cost is the one nobody measures. A company without the people to execute a large project cannot bid for a large project. The opportunity never appears on any statement, so it is never counted.
There is a further effect. The competent people who are there end up carrying the load of those who are not, and eventually either burn out or leave.
Roles at the top are undefined
Senior functions are held by people who often lack the training or experience for them. This produces errors of judgement that are only visible after they have cost money, and it makes the company unattractive to exactly the professionals it needs, because few good people want to report to someone less qualified than they are.
Financial decisions are taken to solve today's problem
Without a framework, financial decisions get made to relieve whatever pressure is most immediate. Professional advice is often overruled, on the reasonable-sounding basis that the promoter knows the business best. Sometimes he does. The decisions that go wrong tend to be the ones where knowing the business was not the relevant expertise.
There is no plan and no control system
No three-year plan. No monthly profitability review. No system for testing whether costs are moving in line with revenue, whether material consumption is drifting, or whether expenses have crept in that have nothing to do with the business.
Business happens as it comes.
Profit is decided backwards
This is the trait that does the most damage, and it is almost universal.
The promoter decides how much tax he is willing to pay. The reported profit is then built to land there. Personal and household expenses ride on the company. Promoter remuneration runs well ahead of the contribution behind it.
The result is a set of financial statements that understate the business. The family feels prosperous. The company, on paper, is marginal.
Surplus leaves the business
Whatever is left after tax tends to be drawn out. Cars, property, personal investments, lifestyle.
The money is real, and the promoter has earned it. The problem is what it costs, which is covered below in its own section because the arithmetic is the single most important thing in this article.
The slow consequence is that when an opportunity does appear, a new line, a large order or an acquisition, the capital to take it is not there. The balance sheet will not support fresh borrowing. The opportunity goes to someone else. This is not a dramatic failure. It is a gradual narrowing that most promoters only notice once the business has stopped moving.
What this does to the valuation
Run a modern valuation over a business growing at 10% a year on reported margins of 2% to 3%, and the number that comes out is close to the net assets. In many cases below them.
Consider a manufacturer doing ₹20 crore of revenue. At an asset turnover of 1 to 1.5 times, which is typical for this profile, the business is carrying ₹12 to ₹15 crore of assets to produce that revenue. A high-growth business in the same industry will run 3 to 4 times.
If the valuation comes out at around ₹13 crore against assets of ₹12 to ₹15 crore, the business is worth its book and no more. Everything the promoter built, the customer relationships, the process knowledge, the supplier network, is worth nothing in the calculation, because none of it is producing cash-flow growth.
The listed market shows the same pattern in public. A low-growth chemicals business can trade below its book value while a high-growth pharmaceutical business trades at close to three times book. Same rupee of assets. Very different price. The difference is what the market believes the next ten years look like.
What happens at exit
This is where the theory becomes concrete, and where most promoters get their first real shock.
A business without growth economics does not get valued on a multiple of earnings. It gets valued on what its assets would realise.
Plant and machinery rarely realises book. Second-hand industrial equipment has a thin market and a specific buyer. Receivables and payables are either excluded from the deal or taken at a haircut. What is left is usually land and building, and factory land is a restricted-use asset with limited buyers, so it does not price like commercial or residential property.
So a book value of ₹15 crore might realise ₹12 crore, and the buyer then deducts every liability from that. Loans, creditors, advances received, tax liabilities, salaries and expenses payable.
Unless the business is genuinely prosperous, the exit happens close to liquidation value. Thirty years of work, priced as a collection of assets.
The reinvestment arithmetic
If you take one thing from this article, take this.
Assume a business generating ₹1.68 crore of cash surplus in a year, after tax and after the reinvestment needed simply to stand still. To an individual, that is a significant sum. It is the sum that usually leaves the business.
Same ₹1.68 crore. The gap between option two and option three is ₹25 crore of turnover, and every year it compounds, because next year's surplus is calculated on a larger base.
This is what growth companies do, and it is the entire reason they command the valuations they do. They are not smarter. They are running option two while the business next door runs option three.
There is a second-order effect worth naming. A business that reinvests and pays its taxes builds a balance sheet that banks can lend against. Financial ratios stay inside CMA norms, which is not a bureaucratic detail, because a bank is not permitted to lend meaningfully outside them. Ploughing back profits funds growth only to a point. Beyond that, external capital is unavoidable, and external capital goes to businesses whose numbers support it.
Value grows when cash flows become larger, grow faster and carry less risk. Reinvestment, management depth and credible numbers are how a promoter-run business gets there.
Profile B: the professionally managed business
The contrast is not about size. Companies of the same turnover run very differently.
Ownership and management are separated
Owners sit on the board, set the vision, review performance and involve themselves in strategic decisions. Professionals run the business day to day. Where family members are in management, they have earned the position and have usually trained under professionals first.
This is the structure at the top of Indian industry, and in Silicon Valley too. It is not a loss of control. It is control exercised through a different mechanism.
Goals and objectives are distinguished
A goal is broad: “We want the company to be worth ₹500 crore in five years.”
An objective is a measurable step towards it: “We will reach ₹200 crore of revenue by year three, selling products A, B and C at these volumes, at these prices, in these markets.”
Most SMEs have goals. Very few have objectives.
There is a written business plan
A business plan converts the objectives into numbers and produces a walkthrough of the business for the next three to five years. Sales, product mix, material cost, direct overheads, manpower, fixed costs, EBITDA, tax, profit after tax, capex, working capital, and how all of it gets funded between debt and equity.
Building one forces decisions that otherwise get made reactively. What to make in-house versus job work. When to hire, and whom. What capacity is needed to support the revenue. How much working capital the plan actually requires.
Three years can be planned with reasonable confidence. Five with some. Beyond five is largely wishful, given how fast the environment moves, so the plan gets revisited as assumptions change. In good companies this is a continuous activity with people assigned to it, not an annual event.
The best people are hired and kept
Great companies understand that the single largest differentiator between an average business and an exceptional one is who works there. Everything else is downstream of that.
So they pay at the upper end of the market, they invest in developing people, and they accept that senior professionals arrive with their own egos and idiosyncrasies that have to be managed. In weaker companies, management makes an ego contest of it and loses the talent.
There is a retention argument that is rarely quantified. An employee with five years in a business is a repository of operating knowledge. When they leave, the replacement cost is not the recruitment fee. It is lost productivity during the learning period, a supplier relationship that cools, a customer who was loyal to a person, and pricing that was available because of a rapport. None of it appears in any account.
A related point cuts the other way: a disgruntled employee who leaves causes a one-time loss that the business recovers from. A disgruntled employee who stays causes a continuing one, drawing full remuneration at reduced output while blocking the position and affecting everyone around them.
The financials reflect the business
Promoter remuneration is modest relative to the professional team. No personal expenses sit in the P&L. Which means the reported profit is the actual profit, and the business can be read accurately by a bank, an investor or a buyer.
Paying tax is treated as a cost of growth rather than a leakage to be minimised. A company that pays tax is visible, creditworthy and fundable. A company that does not is none of those things, whatever its actual cash position.
The lifecycle is understood
Management knows which stage the business is in, and understands that different stages need different leadership. Startup, high growth, stable growth, maturity, decline. A leader suited to one stage is often wrong for the next.
The strongest companies keep multiple products or businesses at different points of the cycle, so that something emerging is always compensating for something declining.
The habit that now has a regulatory price
For decades, deciding profit by reference to the tax the promoter was willing to pay was a valuation problem and a funding problem. It has become an eligibility problem.
Under the SEBI (Issue of Capital and Disclosure Requirements) (Amendment) Regulations, 2025, the SME IPO framework requires an issuer to have operating profit, measured as earnings before interest, depreciation and tax, of at least ₹1 crore from operations in any two of the three preceding financial years.
The test looks back three years. Which means the profit being decided in this year's closing meeting can decide eligibility for a filing three years out.
Several accompanying conditions land on the same structure. The offer for sale is capped at 20% of the issue size, and no selling shareholder may offer more than 50% of their pre-issue holding. Issue proceeds cannot be used to repay loans from promoters or the promoter group. General corporate purposes are capped at 15% of the raise or ₹10 crore, whichever is lower.
Listing is not the point here. Most businesses reading this will never file. The point is that the rules now formalise what buyers, banks and investors were already doing informally. The financial statements have to be true for the business to be fundable, and there is no longer a version of the story where the real numbers live somewhere other than the books.
Where to begin
None of this changes in a quarter. It changes over about three years, and the sequence matters more than the speed.
Year one: make the numbers true
Take personal and household expenses out of the P&L. Set promoter remuneration at a defensible level for the role, and pay tax on the rest. Reported profit will rise, the tax outgo will rise, and for the first time the financial statements will describe the business.
Separate the promoter current account from the funding structure. Replace it with a proper loan on written terms, or with equity.
Start a monthly close with a real review. Profitability by product or by line, costs against revenue, and a short list of things to fix before the next review.
Year two: build the plan and the team
Write a three-year plan with the numbers in it, and revisit it every quarter as assumptions move.
Identify the two or three functions that genuinely need a professional and hire properly for them, at market rates. Usually finance, and usually sales.
Decide what the promoter should stop doing. Most promoter time in businesses of this size goes into decisions that no longer require the promoter, and that is the binding constraint on growth more often than capital is.
Year three: redirect the surplus
Move from drawing the surplus to deploying it. Working capital first, since it is the fastest turn, then capacity.
Bring the balance sheet inside CMA parameters so that bank funding becomes available at scale.
Document the related-party transactions, clean up the statutory registers, and get the corporate record into a state that survives someone else reading it.
Then the value follows. Not because of a valuation exercise, but because by then the cash flows are larger, growing and less risky, which were the only three things that ever mattered.
A closing thought
Most promoters of businesses this size are not underperforming. They built something from nothing, survived cycles that killed their competitors, and support families and employees on the strength of it. The traits described above are not failures of character. They are what worked in an earlier phase.
What changes is that the earlier phase has ended. Capital is more available than it has ever been, buyers are more active, and the SME exchange has made an exit route real for companies that would never have contemplated one. The businesses that will capture that are the ones whose numbers are honest, whose teams are deeper than one person, and whose surplus goes back in.
The rest will continue to be profitable, and continue to be worth their assets.
This article is general in nature and does not constitute advice on any specific business. The illustrations use indicative figures to demonstrate the arithmetic. The regulatory position is stated as at 22 September 2026 and should be verified against the current regulations before being relied upon.