By Nitin Potdar
A few weeks ago, I sat across the table from a promoter who runs a 280-crore auto component business outside Pune. We were discussing a buyout, clean books, institutional governance, and a public listing in four years. The strategy was sound, and the investor was credible. But the promoter looked exhausted.
He said something that has stayed with me: “In India, staying mid-sized and slightly grey is comfortable. Going large and 100% compliant is a corporate crossfire.”
I have heard versions of this sentence in Surat, in Rajkot, in Coimbatore, and in Ludhiana. It has made me question one of the most cherished assumptions of Indian corporate advisory: that every SME wants to grow, and the only thing stopping it is capital.
That assumption is wrong. The Indian SME is not anti-growth. He is responding rationally to three traps the system has built around him.
The First Trap: Compliance and the Geography of Growth
Let me say plainly what a corporate lawyer must. Provident Fund, ESI, GST, effluent treatment and pollution control are statutory obligations, and rightly so. They are the legitimate price of being a responsible employer, taxpayer and industrial citizen.
The substance of the law is right. The problem lies in the machinery around it. Multiple registrations, monthly and quarterly returns, reconciliations across mismatched systems, working capital trapped in refund queues like the inverted duty structure, software subscriptions, professional fees, and rules that change every quarter. The substance is what every citizen should pay. The machinery is what is choking the SME.
The moment our Pune promoter formalises, his unit economics shift by 12 to 15%, partly because of the legitimate statutory cost he now bears in full, and partly because of the administrative weight that compliance imposes.
His competitors, smaller, unorganised units in Aurangabad and Nashik, continue to operate in the grey, paying neither the substance nor the machinery. They undercut him by 18% overnight. A textile processor in Surat tells the same story: nine months after formalising, his margins had collapsed, while three unorganised dye-houses across the road did the same work at 22% less.
Then the second blade of the same trap closes. The institutional infrastructure growth demands, top PE funds, senior bankers, Tier-1 lawyers, marquee independent directors and NCLT principal benches, sits almost entirely in Mumbai, Bangalore and Delhi.
The promoter in Pune, Surat, Rajkot or Coimbatore quickly discovers that scaling up means physically moving his centre of gravity to a metro where he has no standing. Meanwhile, his factory, suppliers, workforce, banker of twenty years and chartered accountant remain rooted in his home city.
His operational ecosystem took thirty years to build. It cannot be replicated in BKC or Whitefield at any price.
The Second Trap: Capital Is Not the Same as Wisdom
When the PE investor walks in, he comes with capital, a timeline and a playbook. The capital is real. The timeline is binding. However, the playbook is often imported from global templates that assume formal markets, English-speaking middle management and metro logistics.
Within eighteen months of entry, the SME is asked to hire a CFO from Mumbai who lasts six months. The cost discipline mandated by the fund drives out the supplier goodwill that had kept input costs low for two decades.
Professionalisation sometimes drives away the very managers and customer relationships the business was built on. Unit economics worsen before the brand or distribution can absorb it. Then the fund, locked into a five-year exit, begins to push harder.
The promoter remembers his father’s line: outsiders bring money, but they do not bring judgment about your market.
This is not an argument against private equity. It is an argument against the pretence that capital alone solves the SME’s problems. India needs patient capital that understands a Surat textile cluster as well as it understands a Bangalore SaaS firm.
The Third Trap: The Customer Will Not Pay for Excellence
Suppose the promoter survives the first two traps. He has formalised, accepted the PE money, and professionalised his team. He turns to the market, and here the third trap closes.
In Tier-2 and Tier-3 India, the customer is acutely price-conscious. He does not want the perfectly engineered ceiling fan or the precision-machined submersible pump. He wants the one that works at 30% less and that the local mechanic can repair.
In this market, over-engineering is commercial suicide.
This is what we casually call chalta hai. The phrase is usually thrown around as a cultural failing of the producer. It is no such thing. Chalta hai is the customer’s stance. Jugaad is the producer’s brilliant response, a cost-engineered, locally repairable product that survives in a market unwilling to pay for excellence.
But there is one part of this story where I want to push our SMEs hard. The same Indian SME that ships chalta hai domestically often manufactures genuinely world-class goods. The product is excellent. The presentation is not.
Walk through any international trade fair and the contrast is striking. Chinese exporters arrive with beautifully designed packaging, sharp brochures and professional websites. The Indian exporter, often making a technically superior product, lets himself down with amateur packaging, dated brochures and a website that looks twenty years old.
The foreign buyer pays for what he sees, and a poorly packaged Indian product loses 15 to 20% on price purely because the wrapping does not match the contents.
Investing in world-class packaging, brochures and digital presence is not vanity. It is one of the highest-return investments an Indian SME can make today, and it does not require PE capital to begin.
The Road Ahead: Three Things That Must Change
The Indian SME is caught between an administrative machinery that punishes him, a capital structure that misunderstands him, and a customer base that will not pay him a premium. Of course he hesitates. Three changes would alter that calculation.
One: A Ten-Year Compliance Runway for SMEs and MSMEs
The single most important reform is to dramatically reduce the administrative cost of compliance, not the substance of it. The PF must still be paid, the GST collected, and the effluent treated.
But for SMEs below a defined turnover threshold, the country should commit to a ten-year runway of simplified processes: single-window filings across PF, ESI, GST, ROC and labour, presumptive computation where possible, near-automatic refunds where the system owes the SME, lighter inspections, and predictable rules with at least three years of stability before any change.
Successive governments have spoken of “Ease of Doing Business” for over a decade. The rankings have improved on paper. However, the SME on the ground will tell you the burden has not. The red tape has changed form, not disappeared.
A ten-year, time-bound, SME-specific simplification, with a clear sunset, would give the next generation of Indian businesses a real chance to stand on their own feet, just as the IT industry was given a defined runway thirty years ago.
Two: Private Equity Must Rethink Its Playbook
For the PE industry, the message is simple: re-engineer your timelines and your playbooks. An Indian SME cannot absorb a 12 to 15% cost shift in eighteen months and still defend its market share.
The professionalisation runway must be five years, not eighteen months. Also, the playbook must respect that the operational “mess” of a successful SME is often a calculated survival mechanism. Strip it away too quickly, and you remove the moat.
Three: Promoters Must Choose Their Battlefield
For the promoter, the message is equally important: pick your battlefield deliberately, and invest in how you present yourself.
Not every SME needs to chase scale through PE and an IPO. Some thrive by deepening their export mix, where the global customer pays for quality. Others grow steadily through internal accruals at a pace the domestic market actually rewards.
Every SME with global ambition must invest seriously in world-class packaging, brochures and digital presence. It is the most under-priced lever for better margins available to Indian exporters today.
Choose the path that fits your business, your market and your family, not the one a pitch deck draws for you.
A Closing Question
If the administrative machinery punishes him for being honest, if the capital offered to him misunderstands his market, and if his own customer will not pay him for excellence, what exactly do we expect the Indian SME to do?
That is the question every promoter, every investor and every policymaker in this country needs to sit with.
Until we answer it honestly, we will keep writing pitch decks that look brilliant on paper and watching them stall in practice. We will keep wondering why the engine of the Indian economy refuses to shift into higher gear, when the answer has been sitting in front of us, exhausted, for years.
The author is a Senior Corporate & M&A Lawyer. Email: nitin@nitinpotdar.com