Edited version of your written advice

Authorisation Number: 1051216390230

Date of advice: 1 May 2017

Ruling

Subject: Early Stage Innovation Company

Question 1

Does the Company meet the criteria of an Early Stage Innovation Company (ESIC) under subsection 360-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following period:

1 July 20XX to 30 June 20YY

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The Company

1. The Company was incorporated in Australia in mid 20XX. It is a public company but not listed on any stock exchange.

2. The Company is the legal and beneficial owner of the relevant intellectual property IP associated with its activities in relation to energy generation.

3. The Company has a wholly owned subsidiary that did not commence any operations until the current income year.

4. The Company wishes to raise further funding through the issues of new shares to develop the first working prototype and prepare for subsequent projects.

The Company Technology

5. The energy production is an emerging technology that has generated interest as an alternative renewable energy source. It is emission-free, cleaner and greener. The energy's advantage is its predictability. The Company is developing the first commercial version of capturing and converting the energy into electrical energy.

6. The purpose of the technology is to produce electrical energy for consumption. The Company believes the technology will be cost competitive with existing forms of energy production without having to rely on government subsidies to operate.

7. The Company goal is to develop the first commercial version of the technology and demonstrate its potential for producing clean electricity at a cost that is comparable to new coal fired power generation and lower than other renewable energy sources.

8. The Company intends to have its first full size unit built, deployed and commissioned by mid-20ZZ. The Company has partnered with a world leader in electric generation and the integration of renewable energy.

9. Although testing will be initially done at one site, in the long-term, the technology can be deployed at many regions around the world.

10. Regulatory processes have been officially initiated and tenders have been sought for detailed designs. The Company is ready to launch into their next stage of construction and deployment.

Information provided

11. The ruling is based on the information provided by The Taxpayer.

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

All legislative references are to the ITAA 1997 unless otherwise indicated.

Question 1:

Summary

The Company meets the eligibility requirements of, an ESIC under, subsection 360-40(1).

Detailed reasoning

Qualifying Early Stage Innovation Company

1. 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.

'The early stage test'

2. The early stage test requirements are outlined in detail within paragraphs 360-40(1)(a) to (d).

Incorporation or Registration - paragraph 360-40(1)(a)

3. 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 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).

4. 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.

5. It is considered that a company will satisfy the incorporation test in subparagraph 360-40(1)(a)(i) where, immediately after the issue of shares to the investor, the company had been incorporated in either:

● that part of the current year which precedes the issue of shares; or

● one of the two income years prior to that year

6. A company that does not meet any of these conditions will not qualify as an ESIC.

Total expenses - paragraph 360-40(1)(b)

7. 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.

Assessable income - paragraph 360-40(1)(c)

8. 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.

No stock exchange listing - paragraph 360-40(1)(d)

9. 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.

Innovation tests

10. 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.

'100 point test' - paragraph 360-40(1)(e) and section 360-45

11. To satisfy the 100 point test the company must obtain at least 100 points by meeting the innovation criteria in the table within section 360-45. The criteria are tested at a time immediately after the relevant shares are issued. If a company satisfies this test it does not need to satisfy the principles-based test.

'Principles-based test' - subparagraphs 360-40(1)(e)(i) to (iv)

12. 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.

13. 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.

14. 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.

Developing new or significantly improved innovations for commercialisation

15. For the purposes of Subdivision 360-A, an innovation is considered to be a new or significantly improved product, process, service, marketing or organisational method.

16. 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.

17. 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.

18. 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.

19. '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.

High growth potential

20. 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.

Scalability

21. 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.

Broader than local market

22. 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.

Competitive advantages

23. 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.

Application to your circumstances

Test time

24. 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.

Current year

25. For the purposes of subsection 360-40(1), the current year will be the year ending 30 June 20YY (the 20YY 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 20YY, 20XX and 20WW, and the income year before the current year will be the year ending 30 June 20XX (the 20XX income year).

Early stage test

26. The Company was incorporated during the current income year. The Company was not in existence and as such did not incur any expenses or derive any assessable income during the income year ending 30 June 20XX. The Company is a public company but is not listed on any stock exchange.

27. The Company's wholly owned subsidiary was a dormant company before the current income year and as such it also did not derive any assessable income or incur any expenses during the income year ending 30 June 20XX.

28. The Company will satisfy the early stage test for the 20YY income year, as each of the requirements within subparagraph 360-40(1)(a)(i) to (d) have been satisfied.

100 point test

29. The Company has not provided any evidence of satisfying the 100 point test under section 360-45 for the year ending 30 June 20YY. For The Company to be a qualifying ESIC it will need to satisfy the principles-based test.

Principles based test

Developing new or significantly improved innovations for commercialisation -
subparagraph 360-40(1)(e)(i)

30. The Company holds the intellectual property rights of the technology.

31. The Company is developing an improved energy technology that will produce electrical energy that is more efficient compared to other versions of the technology. Although it will initially be targeted at the Australian renewable energy market, the technology will have a wider International addressable market.

32. The Company's goal is to develop and deploy the first commercialised version of its technology. They want to demonstrate the potential for producing clean energy at a cost that is lower than other renewable sources and comparable to coal fired power generation.

33. Based on the above facts, The Company technology will be a significantly improved product compared to other technology currently in existence.

Genuinely focussed on developing for commercialisation - subparagraph 360-40(1)(e)(i)

34. The Company was established to hold the intellectual property and to develop and deploy the first commercial energy generators.

35. The Company has made advances towards their commercialisation goal. Independent testing confirms that the Company's technology is far more efficient than other comparable energy technologies.

36. The Company is raising funds to build, deploy and commission a commercial scale of their technology.

37. Negotiations have begun to secure a location for the project and you advised that tenders have been sought for design to launch The Company into the next stage of construction and deployment.

Conclusion on subparagraph 360-40(1)(e)(i)

38. The Company is genuinely focussed on developing the first commercial version of its energy generator utilising its technology. The Company's technology will be a significantly improved product compared to existing energy technology. Therefore, subparagraph 360-40(1)(e)(i) will be satisfied for the year ending 30 June 20YY.

High growth potential - subparagraph 360-40(1)(e)(ii)

39. The energy production is an emerging technology that has generated interest as an alternative renewable energy source. It is more reliable, consistent and predictable than any other form of renewable energy.

40. The Company expects that the cost of energy production using their technology will be comparable to current coal fired power. Further, the projected cost does not include government subsidies, making the Company technology a viable energy resource.

41. The Company has identified that where electricity prices are high, the market for its energy will be larger. Especially with ongoing closure of fossil fuel generation plants in Australia, you stated that the energy is a suitable renewable energy source compared to other renewable energy due to its higher generation security and occurrence.

42. The Company technology has a high growth potential in the energy market. Therefore, subparagraph 360-40(1)(e)(ii) will be satisfied.

Scalability - subparagraph 360-40(1)(e)(iii)

43. Anticipating the successful completion and demonstration of the first commercial generator to be built, The Company plans to initiate further projects within and outside of Australia.

44. Globally, you have researched into communities that currently rely on diesel generated electrical power, where it is predicted that a demand for the energy exists.

45. You also indicated that there are current interests from numerous vendors around the world, including government authorities, military authorities and a renewable energy company.

46. The Company has the potential to successfully scale up its business. Therefore, subparagraph 360-40(1)(e)(iii) will be satisfied.

Broader than local market- subparagraph 360-40(1)(e)(iv)

47. The first energy generator will demonstrate the technology's potential to produce clean sustainable electricity that is lower than other forms of renewable energy and comparable to traditional fossil fuel.

48. To produce electricity at low cost, the energy technology needs to be deployed in regions with satisfactory conditions. You have identified that satisfactory conditions exist in many parts of the world, including Australia.

49. The Company has demonstrated that its energy technology has the potential to address a broader market than just the Australian market, including global markets. Therefore, subparagraph 360-40(1)(e)(iv) will be satisfied.

Competitive advantages - subparagraph 360-40(1)(e)(v)

50. The Company owns the rights to the intellectual property underpinning the technology relating to their energy capturing unit. These rights represent a competitive advantage for the Company over its competitors.

51. Scale model experiments comparing the Company technology with comparable technology proved the Company's technology to be significantly more efficient. The Company technology is expected to be cost competitive with existing forms of energy production even without having to rely on government subsidies to operate. This makes the company more competitive than other companies who rely on government subsidies.

52. Additionally, the Company has the benefit of having an experienced management team. Some have been involved in the development of the energy technology for over 25 years.

53. The Company has demonstrated the potential for its technology to have competitive advantages within the energy market, satisfying subparagraph 360-40(1)(e)(v).

Conclusion on principles test

54. The Company satisfies the principles based test as it satisfies the requirements within subparagraphs 360-40(1)(e)(i) to (v) for the period ending 30 June 20YY.

Conclusion

55. The Company meets the eligibility criteria of an ESIC under section 360-40(1) for the period ending 30 June 20YY.