With money flowing into Indian small- and mid-cap funds, Aditya Khemani, Head - Equity at Invesco Mutual Fund, urged investors to examine earnings growth, return on capital employed and operating cash flow. His comments came in an interview with The Economic Times published Oct. 21.
Small-cap mutual funds recorded ₹9,038.57 crore in net inflows in September, while mid-cap funds took in ₹7,834.84 crore, the Association of Mutual Funds in India (AMFI) reported. At Sept. 30, the Nifty Smallcap 100 had a price-to-earnings ratio of 37.71, compared with 27.98 for the Nifty Midcap 100 and 19.14 for the Nifty 100, according to NSE Indices.
Khemani said strong fund flows had fueled fear of missing out in some market segments, stretching valuations. He cautioned that some emerging businesses, including recent initial public offerings, may be priced for growth their financial results do not yet support.
Among the warning signs he identified were heavy debt, weak operating cash flow and repeated capital raising to finance organic growth. He also pointed to longer working-capital cycles, a high proportion of receivables outstanding for more than six months, significant related-party transactions and promoter share pledges.
Those measures require context for younger companies, Khemani said. Their financial performance may improve as their businesses grow, making the direction of change relevant alongside current results. His comments distinguish a company still developing its operations from one whose growth depends on repeated outside financing.
Khemani cited import substitution, indigenisation and India's manufacturing cost advantage over developed markets as potential drivers for the sector. He also pointed to earlier wealth creation in financial services, healthcare and consumption, alongside private equity activity in those areas. Smaller-company investments can bring greater volatility, he said, leaving investors to weigh potential growth against the risks reflected in company finances and share prices.
