Private ruling: Early stage innovation company eligibility
Date of advice: 30 September 2021
Published: December 2021
Ruling period: Year ending 30 June ZZZZ
Date scheme commenced: During the year ending 30 June YYYY

Ruling: Q1: Does the Company satisfy the criteria of an Early Stage Innovation Company (ESIC) under subsection 360-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997) for the period 1 July YYYY to 30 June ZZZZ? | A1: The Company satisfies the criteria of an Early Stage Innovation Company (ESIC) under subsection 360-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997) for the period 1 July YYYY to 30 June ZZZZ.

Relevant facts and circumstances: The applicant ('the Company') was incorporated in Australia and registered on the Australian Business Register during the year ending on 30 June ZZZZ. Its equity interests are not listed for quotation in the official list of any stock exchange in Australia or overseas. The Company has no subsidiaries and is not part of a consolidated group. The Company's director is Individual A. The Company's registered office and principal place of business is in Australia. The Company was incorporated in the income year ending 30 June ZZZZ. As it did not exist in the prior income year, it did not derive any assessable income or incur any expenses in the income year before the current income year, being the income year ending 30 June YYYY. The Company has been created as a new online technical entity (OTE) and technology company with a mission to be Australia's leading digital specialist within its industry. The Company states that it has an experienced team who believe there is a unique market opportunity in the industry. The company will initially focus on the market for Australian customers (based on activity in the industry growing in the near future) and state that they are taking a new approach to the industry. The Company is developing an online digital platform ('Platform') which will use data science methodologies it believes will be able to provide customers with a superior experience, based on: • personalisation for consumers throughout their experience • 'always avaialable' packages recommended for consumers or with components selected by them and priced dynamically • access to competitive pricing which can only be achieved through dynamic packages and value bundling. The company believe that their approach will not only improve the customer experience but will also enhance revenue and margin management through dynamic pricing. The Company state that their approach and underlying technology is different to other traditional OTEs and competitors due to its technical, data and digital advantages, including: • UI (user interface) / UX (user experience) Personalisation: This will create new and unique technology and IP (intellectual property) (eg concierge model, gamification, use of AI / NLP (natural language processing) across bots and searches, internal and external data based ML, auto upsell capabilities, human backup). • Dynamic Packaging & Cache: This will create new and unique technology and IP for both their dynamic packaging engine (data ingestion, 3rd party partnerships/integration, offer optimisation, dynamic offers) and cache solution (enhanced availability, greater consistency between search and end product content, industry compliant). The company believe that their approach will give them advantages over competitors, particularly in the Australian market where an offering does not exist in this form, including: • creating a data driven and contemporary consumer experience from the ground up • utilising advances in new distribution capabilities (NDC) and technologies to reduce costs of distribution and provide richer content • developing a proprietary dynamic packaging engine applying data science to revenue management specifically for their products (including machine learning and artificial intelligence) which does not exist in the Australian market today. The Company has specific commercialization milestones and goals over the next 12 months (as at the date of application). The Company has provided a summary of the tangible steps that it has undertaken that demonstrate progression towards commercialisation of the Platform, which include: • undertaking negotiations with its preferred platform development partner • undertaking exploration of relationships with consolidators who have existing relationships with multiple third party providers which can be leveraged by the Company as well as existing back end dynamic packaging providers to in enable MVP (minimum viable product) launch by the end of the ZZZZ income year • commencing discussions with brand agencies in relation to the Company's branding project. All IP developed in relation to the Platform will be owned by the Company. Any third party IP will be licensed (eg third party APIs (application processing interfaces), hosting, databases, etc). The Company plans to register and claim its activities to the extent those activities qualify under the R&D Tax Incentive. The Company believes that whilst the current pandemic has significantly impacted sales in its industry in recent years, there is every indication that its industry will bounce back strongly in the near future, and that it will be a significantly different market in which they will be well positioned to take advantage of. The company also believes that in the market which will exist in the near future they will be well positioned to have the potential to expand the business' products. The Company is confident that its innovation, including the development of the Platform and the combination with multiple third party technologies and data sources will enable early traction following launch. This belief is based on the experience of the founders, their expert knowledge of the industry in which they will be operating and the planning, work and progress already achieved toward developing their innovation to date. As an online business where its core differentiator is its ability to access and use data to personalize customer experiences, the Company believe that their business model is imminently scalable. In addition, the Company's budgeted variable costs (marketing, new product development) make up a significant proportion of their forecast operating expenses for future financial years, which they believe will enable flexibility for scaling up/down where required. As an online platform, the Company state that their product it is already focused on more than just a city or area. They identify their starting proposition as national, however, they believe that they are well positioned to expand into other jurisdictions. The Company states that their Platform: • is an online platform and customer experience targeting all Australian potential customers and therefore is broader than local • has an initial and immediate national market • has the potential for international market expansion and product diversification utilising the same technology, approach and business model. The Company state that its Platform was created based on industry experience, research and increasing access to data and technologies that will allow it to provide a unique offering to the market. As such, the Company doesn't have any direct competitors. Nonetheless, the Company has undertaken a thorough market assessment which includes assessments of its potential competitors and believes that they all have significant weaknesses in comparison to their platform. The Company state that its Platform is capable of being imitated, however, they believe that they will have first mover advantage especially in the Australian market. The company states that they plan to maintain their competitive advantage as follows: • Build data for personalisation over time, enabling customer personalisation to improve and data sources to be added for further accuracy and differentiation. • Utilise data accumulated on pricing and margins to enable intelligent revenue and margin management, including pricing strategy advantages not available to others. • Leverage their expertise in both the industry and marketing, along with judicious use of partners and additional investor capital raised to ensure their competitive advantage and rapidly scale the business. The Company believes that unlike its larger corporate competitors, it is not constrained by the barriers to entry of legacy systems, infrastructure and business models which don't support online only models, which provides them with a competitive advantage and an ability to more efficiently scale. The Company believe that the skills and experience of its core team will also help provide the Company with competitive advantage, comprised of: • Founder & CEO: Individual A - Technology start‐up founder and corporate executive • Founder & Chief Product Officer: Individual B - Experienced digital leader and e‐commerce professional and corporate executive. Information provided You have provided information in a number of documents in relation to the Platform. We have referred to the relevant information within these documents in applying the relevant tests to your circumstances. You propose to issue new shares in the Company to various investors during the ZZZZ income year to assist in funding the continued development and commercialisation of the Platform.

Relevant legislative provisions: Income Tax Assessment Act 1997 Subdivision 360-A | Income Tax Assessment Act 1997 section 360-15 | Income Tax Assessment Act 1997 section 360-40 | Income Tax Assessment Act 1997 section 360-45

Reasons for decision: Detailed Reasoning - Qualifying Early Stage Innovation Company: Subsection 360-40(1) outlines the criteria required for a company to qualify as an Early Stage Innovation Company (ESIC) at a particular time in an income year. This time is referred to as the test time. The criteria are based on a series of tests to identify if the company is at an early stage of its development and it is developing new or significantly improved innovations to generate an economic return. | Detailed Reasoning - 'The early stage test': The early stage test requirements are outlined in detail within paragraphs 360-40(1)(a) to (d). | Detailed Reasoning - Incorporation or Registration - paragraph 360-40(1)(a): To meet the requirement in paragraph 360-40(1)(a), at a particular time (the test time) in an income year (the current year) the company must have been either: i. incorporated in Australia within the last three income years (the latest being the current year); or ii. incorporated in Australia within the last six income years (the latest being the current year), and across the last three of those income years before the current year the company and its 100% subsidiaries incurred total expenses of $1 million or less; or iii. registered in the Australian Business Register (ABR) within the last three income years (the latest being the current year). The term 'current year' is defined in subsection 360-40(1) with reference to the 'test time'; the 'current year' being the income year in which the company issues shares to the investor. A company that does not meet any of these conditions will not qualify as an ESIC. | Detailed Reasoning - Total expenses - paragraph 360-40(1)(b): To meet the requirement in paragraph 360-40(1)(b), the company and its 100% subsidiaries must have incurred total expenses of $1 million or less in the income year before the current year. | Detailed Reasoning - Assessable income - paragraph 360-40(1)(c): To meet the requirement in paragraph 360-40(1)(c), the company and its 100% subsidiaries must have derived total assessable income of $200,000 or less in the income year before the current year. | Detailed Reasoning - No stock exchange listing - paragraph 360-40(1)(d): To meet the requirement in paragraph 360-40(1)(d), the company must not be listed on any stock exchange in Australia or a foreign country. | Detailed Reasoning - Innovation tests: If the company satisfies the early stage test, the company must also satisfy one of two innovation tests: the objective (100 point) test or the principles-based test. | Detailed Reasoning - 'Principles-based test' - subparagraphs 360-40(1)(e)(i) to (v): To satisfy the principles-based test, the company must meet five requirements in paragraph 360-40(1)(e). This is tested at a time immediately after the relevant new shares are issued to the investor. The company can demonstrate that it meets each requirement through existing documentation such as a business plan, commercialisation strategy, competition analysis or other company documents. The company must be able to show that tangible steps have been or will be taken in relation to each of the requirements. The five requirements of the principles-based test, as outlined in paragraph 360-40(1)(e) are: i. the company must be genuinely focused on developing one or more new or significantly improved innovations for commercialisation ii. the business relating to that innovation must have a high growth potential iii. the company must demonstrate that it has the potential to be able to successfully scale up the business relating to the innovation iv. the company must demonstrate that it has the potential to be able to address a broader than local market, including global markets, through that business, and v. the company must demonstrate that it has the potential to be able to have competitive advantages for that business. | Detailed Reasoning - Developing new or significantly improved innovations for commercialisation: For the purposes of Subdivision 360-A, the Explanatory Memorandum to the Tax Laws Amendment (Tax Incentives for Innovation) Bill 2016 ('EM') provides the following at paragraph 1.76 in relation to the definition of innovation: "Implicit in the definition of innovation is the requirement that the company is developing a new or significantly improved type of innovation such as a product, process, service, marketing or organisational method. This list of various types of innovations provides flexibility for innovation companies and is adaptable to current and future innovations. The Oslo Manual, published by the Organisation for Economic Co-operation and Development (OECD) provides a description of these different types of innovations..." [1] The innovation being developed by the company must either be new or significantly improved for an applicable addressable market. The company's addressable market is the revenue opportunity or market demand arising from the innovation or the related business. The addressable market must be objective and realistic. Improvements must be significant in nature to meet this requirement. Customising existing products or minor changes resulting from software updates, pricing strategies or seasonal changes are examples of improvements that would not be considered significant. The OECD Oslo Manual defines innovations as significant changes, with the intention of distinguishing significant changes from routine minor changes. However, it is important to recognise that an innovation can also consist of a series of smaller incremental changes that together constitute a significant change. [2] In discussing services innovation activity, paragraph 111 of the OECD Oslo Manual states, "Innovation activity in services also tends to be a continuous process, consisting of a series of incremental changes in products and processes. This may occasionally complicate the identification of innovations in services in terms of single events, ie as the implementation of a significant change in products, processes or other methods." The OECD Oslo Manual, in relation to defining innovative services, states at paragraph 161 that "innovations in services can include significant improvements in how they are provided (for example, in terms of their efficiency or speed), the addition of new functions or characteristics to existing services, or the introduction of entirely new services." The company must be genuinely focused on developing the innovation for a commercial purpose in order to generate economic value and revenue for the company. This requirement draws the distinction between simply having an idea and commercialising an idea. 'Commercialisation' includes a range of activities that involve the implementation or sale of a new or significantly improved innovation that will directly lead to the generation of economic value for the company. | Detailed Reasoning - High growth potential: The company must be able to demonstrate that it has the potential for high growth within a broad addressable market. This refers to the company's ability to rapidly expand its business. Companies that are limited to supplying local customers will not meet this requirement. | Detailed Reasoning - Scalability: The company must be able to demonstrate that it has the potential to successfully scale up the business. The company must have operating leverage, where as it increases its market share or enters into new markets, its existing revenues can be multiplied with a reduced or minimal increase in operating costs per unit. | Detailed Reasoning - Broader than local market: The company must be able to demonstrate that it has the potential to address a market that is broader than a local city, area or region. The company does not need to have a serviceable market at a national, multinational or global scale at the test time. However, it does need to show that the business is capable of addressing a market that is broader than a local market and that the business can be adapted to a broader scale in the future. | Detailed Reasoning - Competitive advantages: The company must be able to demonstrate that it has the potential to have competitive advantages, such as a cost or differential advantage over its competitors which are sustainable for the business as it expands. The company can analyse what competitors in the market offer and consider whether the company has a differentiating advantage that would allow it to outperform these competitors. | Detailed Reasoning - Foreign Company test - paragraph 360-40(1)(f): At the test time, the company must not be a foreign company within the meaning of the Corporations Act 2001 (Cth). The dictionary in section 9 of the Corporations Act 2001 (Cth) defines a foreign company to mean: (a) a body corporate that is incorporated in an external Territory, or outside Australia and the external Territories, and is not: (i) a corporation sole; or (ii) an exempt public authority; or (b) an unincorporated body that: (i) is formed in an external Territory or outside Australia and the external Territories; and (ii) under the law of its place of formation, may sue or be sued, or may hold property in the name of its secretary or of an officer of the body duly appointed for that purpose; and (iii) does not have its head office or principal place of business in Australia. | Detailed Reasoning - Test time: For the purposes of this ruling, the test time for determining if the Company is a qualifying ESIC will be a particular date during the income year ending 30 June ZZZZ. | Detailed Reasoning - Current year: For the purposes of subsection 360-40(1), the current year will be the year ending 30 June ZZZZ (the ZZZZ income year). For clarity, in relation to particular requirements within subsection 360-40(1), the last three income years will include the years ending 30 June ZZZZ, YYYY and XXXX, and the income year before the current year will be the year ending 30 June YYYY (the YYYY income year). | Detailed Reasoning - Incorporation or Registration - paragraph 360-40(1)(a): As the Company was registered in the Australian Business Register during the ZZZZ income year, which is within the last 3 income years, subparagraph 360-40(1)(a)(i) is satisfied. | Detailed Reasoning - Total expenses - paragraph 360-40(1)(b): As the Company did not have any subsidiaries and did not incur any expenses in the YYYY income year, being the income year before the current income year, paragraph 360-40(1)(b) is satisfied. | Detailed Reasoning - Assessable income - paragraph 360-40(1)(c): As the Company did not have any subsidiaries and did not derive any assessable income in the YYYY income year, being the income year before the current income year, paragraph 360-40(1)(c) is satisfied. | Detailed Reasoning - No stock exchange listing - paragraph 360-40(1)(d): As the Company is privately owned and is not listed on any stock exchange in Australia or any foreign country, subparagraph 360-40(1)(d) is satisfied | Detailed Reasoning - Conclusion on early stage test: The Company will satisfy the early stage test for the entire ZZZZ income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied. | Detailed Reasoning - 100 point test: The Company has not provided sufficient evidence of satisfying the 100 point innovation test under section 360-45 for the year ending 30 June ZZZZ. The Company is electing to seek eligibility to be a qualifying ESIC by satisfying the Principles based innovation test under subparagraphs 360-40(1)(e)(i)-(v). | Detailed Reasoning - Developing new or significantly improved innovations - subparagraph 360-40(1)(e)(i): In applying the requirements of subparagraph 360-4-(1)(e)(i), the Company must be developing an innovation which is either new or significantly improved for an applicable addressable market. The Company has been created as a new online technical entity (OTE) and technology company with a mission to be Australia's leading digital specialist within its industry. The Company states that it has an experienced team who believe there is a unique market opportunity in the industry. The company will initially focus on the market for Australian customers (based on activity in the industry re‐commencing in the near future) and state that they are taking a new approach to the industry. The Company is developing an online digital platform ('Platform') which will use data science methodologies it believes will be able to provide customers with a superior experience based on: • personalisation for consumers throughout their experience • 'always available' packages recommended for consumers or with components selected by them and priced dynamically • access to competitive pricing which can only be achieved through dynamic packages and value bundling. The company believe that this approach will not only improve customer experience but will also enhance revenue and margin management through dynamic pricing. The Company state that their approach and underlying technology is different to other traditional OTEs and competitors for the technical, data and digital advantages outlined in the facts (above), including: • UI/UX Personalisation • Dynamic Packaging & Cache The Company believe that their approach will give them advantages over competitors, particularly in the Australian market where competitors' offerings do not exist in this form. | Detailed Reasoning - subparagraph 360-40(1)(e)(i): In applying the requirements of subparagraph 360-40(1)(e)(i), the Company must be genuinely focussed on developing an innovation for commercial purpose in order to generate economic value and revenue for the company. The Company has specific commercialisation milestones and goals over the next 12 months (as at the date of application). The Company has provided a summary of the tangible steps that it has undertaken that demonstrate progression towards commercialisation of the Platform, which include: • undertaking negotiations with its preferred platform development partner • undertaking exploration of relationships with consolidators who have existing relationships with multiple third party providers which can be leveraged by the Company as well as existing back end dynamic packaging providers to in enable MVP (minimum viable product) launch by the end of the ZZZZ income year • commencing discussions with brand agencies in relation to the Company's branding project. | Detailed Reasoning - Conclusion on subparagraph 360-40(1)(e)(i): The Company is genuinely focussed on developing their product, an online digital platform, for a commercial purpose. The product will be a significantly improved product compared to existing products in their addressable market. Therefore, subparagraph 360-40(1)(e)(i) will be satisfied for the period from the date the Company was incorporated until 30 June ZZZZ, or the date when their product has been fully developed, whichever occurs earliest. Once their product has been fully developed, the Company will no longer be 'developing' the product for commercialisation and subparagraph 360-40((1)(e)(i) will no longer be satisfied. | Detailed Reasoning - High growth potential - subparagraph 360-40(1)(e)(ii): In applying the requirements of subparagraph 360-40(1)(e)(ii), the Company must be able to demonstrate that it has the potential for high growth within a broad addressable market. The Company believes that whilst the current pandemic has significantly reduced sales in its industry, there is every indication that its industry will bounce back strongly in the near future, and that it will be a significantly different market in which they will be well positioned to take advantage of. The company also believes that in the market which will exist in the near future they will be well positioned to have the potential to expand the business' products. The Company is confident that its innovation, including the development of the Platform and the combination with multiple third party technologies and data sources will enable early traction following launch. This belief is based on the experience of the founders, expert knowledge of the industry in which they will be operating and the planning, work and progress already achieved toward developing their innovation to date. The Company has demonstrated a high growth potential for their product, an online digital platform. Therefore, subparagraph 360-40(1)(e)(ii) will be satisfied. | Detailed Reasoning - Scalability - subparagraph 360-40(1)(e)(iii): In applying the requirements of subparagraph 360-40(1)(e)(iii), the Company must be able to demonstrate that it has the potential to successfully scale up the business. As an online business where its core differentiator is its ability to access and use data to personalize customer experiences, the Company believe that their business model is imminently scalable. In addition, the Company's budgeted variable costs (marketing, new product development) make up a significant proportion of their forecast operating expenses for future financial years, which they believe will enable flexibility for scaling up/down where required. This operating leverage affords the Company the potential to successfully scale up its business. Therefore, subparagraph 360-40(1)(e)(iii) will be satisfied. | Detailed Reasoning - Broader than local market- subparagraph 360-40(1)(e)(iv): In applying the requirements of subparagraph 360-40(1)(e)(iv), the Company must be able to demonstrate that it has the potential to address a broader than local market, including global markets. As an online platform, the Company state that their product it is already focused on more than just a city or area. They identify their starting proposition as national, however, they believe that they are well positioned to expand into other jurisdictions. The Company states that their Platform: • is an online platform and customer experience targeting all Australian potential customers and therefore is broader than local • has an initial and immediate national market • has the potential for international market expansion and product diversification utilising the same technology, approach and business model. The Company has demonstrated that its online digital platform has the potential to address a broader market than just the local market, including international and global markets. Therefore, subparagraph 360-40(1)(e)(iv) will be satisfied. | Detailed Reasoning - Competitive advantages - subparagraph 360-40(1)(e)(v): In applying the requirements of subparagraph 360-4-(1)(e)(v), the Company must demonstrate that it has potential to be able to have competitive advantages for that business. The Company state that its Platform was created based on industry experience, research and increasing access to data and technologies that will allow it to provide a unique offering to the market. As such, the Company doesn't have any direct competitors. Nonetheless, the Company has undertaken a thorough market assessment which includes assessments of its potential competitors and believes that they all have significant weaknesses in comparison to their platform. The Company state that its Platform is capable of being imitated, however, they believe that they will have first mover advantage especially in the Australian market. The company states that they plan to maintain their competitive advantage as follows: • Build data for personalisation over time, enabling customer personalisation to improve and data sources to be added for further accuracy and differentiation. • Utilise data accumulated on pricing and margins to enable intelligent revenue and margin management, including pricing strategy advantages not available to others. • Leverage their expertise in both the industry and marketing, along with judicious use of partners and additional investor capital raised to ensure their competitive advantage and rapidly scale the business. The Company believes that unlike its larger corporate competitors, it is not constrained by the barriers to entry of legacy systems, infrastructure and business models which don't support online only models, which provides them with a competitive advantage and an ability to more efficiently scale. The Company has demonstrated the potential for its online digital platform to have competitive advantages within its industry, satisfying subparagraph 360-40(1)(e)(v). | Detailed Reasoning - Conclusion on principles test: The Company satisfies the principles based test as it satisfies the requirements within subparagraphs 360-40(1)(e)(i) to (v) for the period commencing on the date of its incorporation until 30 June ZZZZ or the date when their product has been fully developed and is ready for sale, whichever occurs earlier. | Detailed Reasoning - Foreign Company Test - subparagraph 360-40(1)(f) ITAA 1997: As the Company was incorporated in Australia, it is not a foreign company and therefore paragraph 360-40(1)(f) is satisfied. | Detailed Reasoning - Conclusion: The Company meets the eligibility criteria of an ESIC under section 360-40 for the period commencing on the date of its incorporation until the earlier of 30 June ZZZZ or the date when their product has been fully developed and is ready for sale, whichever occurs earlier. [1] See Explanatory Memorandum to the Tax Laws Amendment (Tax Incentives for Innovation) Bill 2016, paragraph 1.76. [2] OECD Oslo Manual, paragraph 124 and paragraph 151.