Edited version of private advice

Authorisation Number: 1051934330834

Date of advice: 17 December 2021

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(s)

Year ending 30 June 20XX

The scheme commences on

XX XXXX 20XX

Relevant facts and circumstances

The Company is a proprietary company incorporated and registered in the Australian Business Register on XX XXX 20XX.

The Company has no ultimate holding company and no subsidiaries.

The Company develops and holds intellectual property (IP).

For the purposes of this ruling, the test time for determining if the Company is a qualifying ESIC will be upon the issue of qualifying shares on a particular date on or after 1 July 20XX, but before 30 June 20XB.

For the income year prior to the current year, the Company had assessable income of less than $200,000 and less than $1 million total expenses.

The Company's equity interests are not listed for quotation in the official list of any stock exchange, either in Australia or a foreign country.

Details of new Innovation

The Company platform is currently under development, with the key innovation being the proprietary Engine ('the engine') that will utilise unstructured individualised learning to create unlimited individualised courses specific to individual users based on analytic analysis. The advanced Company platform seeks to replace an educational Institution's typical 4-5 wellbeing platforms with a single unified platform.

This is currently being developed and is expected to be complete in Quarter 3 of 20XX. The courses that have been currently developed (some of which are delivered through the current iteration of the basic platform), whilst high quality, are not substantially different in form to the content that other providers have created.

The key innovation of the platform is the mode of delivery, through a fully automated delivery system based on the unique requirements of the individual users, powered by advanced machine learning algorithms/models. If successful, this will result in far better outcomes than the current mode of providing content through a more 'one-size-fits-all' approach.

To clarify, the current revenue generating activities relate to the provision of courses to educational institutions through a basic platform and are provided far below the subscription costs that will be in effect for full use of the advanced platform incorporating the engine. Revenues to date do not reflect commercialisation of the advanced platform and are used to bootstrap further development.

Currently, no revenue is being generated through the use of the engine and the advanced personalisation. This is yet to be fully developed and is not implemented into the current iteration of the basic platform.

Development of the product

The Company is developing their product to address a number of discrete markets and is continuing to develop their product.

The Company's product has been identified as having an international addressable market.

The Company has identified that it has the ability to rapidly expand its business.

The Company has identified its product has competitive advantages over similar products.

The Company is developing their product for the entire 20XX income year.

In support of this application the Company has provided the following documents containing detailed information in relation to the Company, including:

• Attachment One - Company Tax Return
• Attachment Two - The Company Business Plan 20XX
• Attachment Three - the Company Modelling

Additional information was also supplied as a result of our request for additional information.

We have referred to the relevant information within these documents in applying the relevant tests to the Company's circumstances.

Plans for Further Development and Commercialisation

In 20XX the company's commercial strategy will be focused on the following core strategies:

• NESA Accreditation - When the Company is accredited as a teacher to teach courses by NESA, the value of the relevant teacher wellbeing program significantly increases.
• Building high-quality resources for educational institutions. Work with content creators to publish high-quality interactive courses in a range of key niches. The programs/courses will not conflict with the programs the Company has already delivered.
• Niche educational institution sectors - building surveys for niche educational institutions.
• Parents' Wellbeing Program - selling direction to parents is a key strategy for the Company.

•         Government Tenders - Government tenders and working with the education departments to implement a comprehensive solution to educational institutions.

Goals for 20XX

• Signup over XXX educational institutions in Australia
• Closed or close to signing a major deal with a public-educational system
• Sign up over 100 educational institutions in the UK and US
• Signup 10 experts to create content and connect with the Company's educational institutions.
• At least two experts from the US
• At least two experts from the UK
• Develop XX courses from the Company experts.
• Develop the first microlearning wellbeing programs for different sections of the educational system
• Have at least one-course micro-credentialed

•         A NESA provider.

The goal over the next 7-9 months is to continue to develop the required programs and analytic components that will underpin the advanced machine learning algorithms / models forming the hyper-personalisation engine. Without these, the development, training and testing of the engine is not possible. You have provided the Gannt chart regarding the development timeline.

Currently the Company has the basic structure of a platform for the online delivery of wellbeing programs and surveys. The content is currently delivered through a static library where users can self-select programs on an ad-hoc basis. The new core innovation to the entire Company platform is the engine which will utilise unstructured individualised learning to create unlimited individualised courses specific to individual users on analytic analysis. This is something that does not currently exist in the market and that is not provided by the Company at this stage.

The Company is continuing to develop the required programs and analytic components that will underpin the advanced machine learning algorithms/models forming the engine. Without these, the development, training and testing of the engine, and subsequent commercialisation, is not possible.

Growth Potential

The Company's Business plan indicates that the Company has growth potential and a plan to upscale their products

The Company have developed/are developing partnerships with major educational organisations. It is expected that the Company will have access to around XXXX educational institutions predicated on being able to demonstrate the technical viability of the engine.

Other activities such as releasing a free course on vaping has helped to build many connections and assist with market research and progression towards commercialisation.

The Company's Roadmap states that they plan launching commercialisation of their personalised engine in Quarter 2 of 20XX.

Scalability

The Company has identified that it has the potential to be able to scale its business and will exhibit operating leverage as it enters new markets. Based on current projections, upon commercialisation of the technology, revenues will be multiplied year on year with a relatively lower rate of increase of operating costs.

Market broader than local Market

The Company's Business plan outlines a timeline to market their products in Australia, New Zealand and in Quarter 1 of 20XX, into the UK and US market.

Competitive Advantage

The Company's competitors are mostly one dimensional and limited in their value and impact in educational institutions. You have provided an analysis of five competitors in your Business Plan which compares your product and advantages under the following headings:

•          Well-being surveys;

•          Well-being Programs;

•          Teacher Training in student mental well-being;

•          Course types; and

•          Affordability.

The Company does not hold any patents, however, the IP generated through Research & Development (R&D) activities so far (and continuing activities) is such that a competitor would not be easily able to develop similar without embarking on a lengthy R&D project of the same kind as the Company.

Investigations conducted by the Company into their competitors estimate that the Company are at least 2-3 years more developed that their nearest competition.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subdivision 360-A

Income Tax Assessment Act 1997 section 360-40

Income Tax Assessment Act 1997 subsection 360-40(1)

Income Tax Assessment Act 1997 paragraph 360-40(1)(a)

Income Tax Assessment Act 1997 paragraph 360-40(1)(b)

Income Tax Assessment Act 1997 paragraph 360-40(1)(c)

Income Tax Assessment Act 1997 paragraph 360-40(1)(d)

Income Tax Assessment Act 1997 paragraph 360-40(1)(e)

Income Tax Assessment Act 1997 subparagraph 360-40(1)(e)(i)

Income Tax Assessment Act 1997 subparagraph 360-40(1)(e)(ii)

Income Tax Assessment Act 1997 subparagraph 360-40(1)(e)(iii)

Income Tax Assessment Act 1997 subparagraph 360-40(1)(e)(iv)

Income Tax Assessment Act 1997 subparagraphs 360-40(1)(e)(v)

Income Tax Assessment Act 1997 section 360-45

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise stated.

Summary

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

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.

'The early stage test'

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)

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).

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.

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.

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.

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.

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.

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

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 (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.

Application to your circumstances

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 20XX.

Current year

For the purposes of subsection 360-40(1), the current year will be the income year ending 30 June 20XX (the 20XX income year). For clarity, the income year before the current year will be the income year ending 30 June 20XA (the 20XA income year). The Company did not exist before the 20XA year.

Early stage test

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

The Company was incorporated on XX XXXX 20XA, which is within the last 3 income years of the 20XX income year. Therefore, the Company satisfies subparagraph 360 40(1)(a)(i). Consequently, paragraph 360-40(1)(a) is satisfied.

For completeness, it is noted that the Company would also satisfy subparagraph 360-40(1)(a)(iii) in respect of the 20XX income year as it was 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.

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

As The Company had expenses of $1 million or less in the prior income year, paragraph 360-40(1)(b) is satisfied.

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

As The Company's assessable income for the prior income year is $200,000 or less paragraph 360-40(1)(c) is satisfied.

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 a foreign country, subparagraph 360-40(1)(d) is satisfied.

Conclusion on early stage test

The Company will satisfy the early stage test for the entire 2022 income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied.

100-point test

The Company has not provided evidence of satisfying the 100-point test under section 360-45 for the year income ending 30 June 20XX. For The Company to be a qualifying ESIC it therefore needs to satisfy the principles-based test.

Principles-based test

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

We need to test is whether there is a process being developed including third party interaction and automation that will be demonstratively new or significantly better than the industry leader's equivalent process when shares were/are to be issued during the 20XX income year.

From the information provided the engine that will utilise unstructured individualised learning to create unlimited individualised courses specific to individual users based on analytic analysis. The advanced Company platform seeks to replace an educational institution's typical 4-5 wellbeing platforms with a single unified platform.

The key innovation of the platform is the mode of delivery, through a fully automated delivery system based on the unique requirements of the individual users, powered by advanced machine learning algorithms/models. If successful, this will result in far better outcomes that the current mode of providing content through a more 'one-size-fits-all' approach.

This is something that does not currently exist in the market and that is not provided by the Company at this stage. The Company is continuing to develop the required programs and analytic components that will underpin the advanced machine learning algorithms/models forming engine. Without these, the development, training and testing of the engine, and subsequent commercialisation, is not possible.

It is therefore considered that The Company is genuinely focussed on developing 'The Innovation' for a commercial purpose. 'The Innovation' will be a significantly improved product compared to existing products.

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

Therefore, subparagraph 360-40(1)(e)(i) will be satisfied for the time period from 1 July 20XA until 30 June 20XX or the date when 'The Innovation' has been fully developed if before 30 June 20XX whichever occurs earliest. Once 'The Innovation' 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.

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

The Company's Business plan indicates that The Company has growth potential and a plan to upscale their products. The Company have developed/are developing partnerships with other educational institutions. It is expected that The Company will have access to around 3XXXX educational institutions predicated on being able to demonstrate the technical viability of the engine.

Other activities such as releasing a free course on vaping has helped to build many connections and assist with market research and progression towards commercialisation.

Therefore, it is considered that The Company's innovation has a high growth potential both domestically and overseas. Subparagraph 360-40(1)(e)(ii) will be satisfied.

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

The Company has identified that it has the potential to be able to scale its business and will exhibit operating leverage as it enters new markets. Based on current projections, upon commercialisation of the technology, revenues will be multiplied year on year with a relatively lower rate of increase of operating costs.

The Company has clearly demonstrated the scalability of its product. Therefore, subparagraph 360-40(1)(e)(iii) will be satisfied.

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

The Company's Business plan outlines a timeline to market their products in Australia, New Zealand and in Quarter 1 of 20XX, into the UK and US market.

Therefore, The Company has established that it has the potential to address a broader market than just the local market, including international markets. Therefore, subparagraph 360-40(1)(e)(iv) will be satisfied.

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

The Company's competitors are mostly one dimensional and limited in their value and impact in schools. You have provided an analysis of five competitors in your Business Plan which compares your product and advantages to those competitors.

These investigations conducted by The Company into their competitors estimate that the Company are at least 2-3 years more developed that their nearest competition.

The Company has demonstrated it has competitive advantages to satisfy subparagraph 360-40(1)(e)(v).

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 1 July 20XA until 30 June 20XX or the date when 'The Innovation' has been fully developed and is ready for sale, whichever occurs earlier.

Conclusion

The Company meets the eligibility criteria of an ESIC under subsection 360-40(1) of the ITAA 1997 for the period commencing 1 July 20XA until the earlier of 30 June 20XX or the date when the innovation has been fully developed and is ready for sale, whichever occurs earlier.