Edited version of your private ruling

Authorisation Number: 1051976167702

Date of advice: 26 April 2022

Ruling

Subject: Early stage innovation company

Question 1

Did XYZ Pty Ltd qualify as an early stage investment company under Section 360-40 of the Income Tax Assessment Act 1997 immediately after the issue of shares on XX January 20XX?

Answer

Yes.

Question 2

Did XYZ Pty Ltd qualify as an early stage investment company under Section 360-40 of the Income Tax Assessment Act 1997 immediately after the issue of shares on XX February 20XX?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

1.             XYZ Pty Ltd (XYZ) was incorporated in Australia on XX September 20XX. Its equity interests are not listed for quotation on the official list of any stock exchange.

2.             XYZ has no subsidiaries.

3.             XYZ issued new shares to investors on XX January 20XX and XX February 20XX.

4.             The CEO of XYZ has significant qualifications and clinical experience in women's health, whereas the CEO of XYZ's competitors come from technology and consulting backgrounds.

XYZ Platform

5.             XYZ is developing the XYZ Platform (the Platform), a digital healthcare solution targeting women in Australia with respect to specific health ailments.

6.             The Platform replicates an initial consultation by having the patient fill out a digital form. The responses to the digital form are used by the Platform to present patient information to XYZ's partner doctors in accordance with clinical guidelines.

7.             The Platform utilises an algorithm to assist the doctor through the utilisation of flags and warnings integrating contemporary evidence-based data. This makes the process of developing of a treatment or management plan for the patient more efficient and better tailored.

8.             XYZ has partnered with a number of specialists to be available through the platform, in addition to doctors this includes other experts such as physiotherapists. This gives patients using the Platform easier access to more specialists than they otherwise would through ordinary means or through other digital offerings.

9.             Where the services provided by these experts would not ordinarily be covered by Medicare, they are still included within the XYZ subscription model.

10.          This facilitates an intended holistic approach that focuses on the prevention of ailments rather than the treatment where possible.

11.          The Platform gives patients quicker access to relevant subject matter experts due to the scarcity of this knowledge in GPs across Australia. It allows patients to access expert advice on an ongoing basis outside of ordinary scheduled consultations.

12.          The Platform provides patients with unique end to end integration from the patient portal to eScripts generated by Medirecord.

Development

13.          The Platform is being developed by XYZ with assistance of its Panel, which is the largest expert clinical panel in Women's Health in Australia. The panel specialists comprise experts from varied specialities.

14.          As at XX January 20XX, development of the Platform was 80% competed.

15.          The Platform was available to the public for subscriptions through their website on XX March 20XX.

Market and growth

16.          There are currently in excess of 1,000,000 women in Australia aged between 25-59 who are suffering from symptoms of XX. There are currently in excess of 400,000 women in Australia aged between 25-34 who suffer from symptoms of XX.

17.          XYZ estimates that it has a possible yearly revenue opportunity of in excess $100 million at a XX% market penetration rate within this addressable market.

18.          The underlying technology behind the Platform could be applied to other ailments or health issues. XYZ has identified a number of potential additional addressable markets.

19.          XYZ also intends to expand to addressable markets outside of Australia, as women's health issues similarly exist outside of Australia.

20.          As time passes, the algorithm facilitating the presentation of data will improve over as more data and treatment outcomes are collected.

21.          XYZ's competitor research has identified industry trends allowing them to draw conclusions about the shortcomings of the competitors with respect to telehealth in Australia.

22.          They have used these findings to inform their business strategy, going to matters such as pricing strategy, value propositions and clinical services development. This includes differing from their competitors by targeting women of all ages rather than only certain demographics of women.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 360-40

Corporations Act 2001 section 6

Reasons for decision

Question 1

Did XYZ Pty Ltd qualify as an early stage investment company under s360-40 of the ITAA 1997 immediately after the issue of shares on 25 January 20XX?

Summary

XYZ Pty Ltd was an early stage innovation company immediately after the issue of shares on 25 January 20XX.

Detailed reasoning

Prescribed kinds

23.          Subsection 360-40(3) provides:

Subparagraphs (1)(e)(i) to (v) cannot be satisfied for:

(a) a product, process, service or method; or

(b) an improvement to a product, process, service or method;

that is of a kind prescribed by regulations made for the purposes of this subsection.

24.          Subsection 360-40(4) provides:

Subsection (1) does not apply to a company if, before the test time, the company engaged in an activity of a kind prescribed by regulations made for the purposes of this subsection.

25.          The Income Tax Assessment (1997 Act) Regulations 2021 do not contain any prescriptions for the purposes of subsections 360-40(3) and 360-40(4). Therefore, we can consider if XYZ meets the requirements of subsection 360-40(1).

General requirements

26.          Subsection 360-40(1) provides:

This subsection applies to a company at a particular time (the test time) in an income year (the current year) if:

(a) the company was:

(i) incorporated in Australia within the last 3 income years (the latest being the current year); or

(ii) incorporated in Australia within the last 6 income years (the latest being the current year), and across the last 3 of those income years before the current year it and its * 100% subsidiaries (if any) incurred total expenses of $1 million or less; or

(iii) registered in the * Australian Business Register within the last 3 income years (the latest being the current year); and

(b) the company and its 100% subsidiaries (if any) incurred total expenses of $1 million or less in the income year before the current year; and

(c) the company and its 100% subsidiaries (if any) had a total assessable income of $200,000 or less in the income year before the current year; and

(d) at the test time, none of the company's * equity interests are listed for quotation in the official list of any stock exchange in Australia or a foreign country;

...

(f) at the test time, the company is not a foreign company (within the meaning of the Corporations Act 2001)

27.          XYZ was incorporated on XX September 20XX and none of its equity interests are listed for quotation on any stock exchange.

28.          Since XYZ was incorporated in the income year ending 30 June 20XX, it will meet the requirements of paragraph 360-40(1)(b) and (c).

29.          The dictionary in section 9 of the Corporations Act 2001 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.

30.          XYZ is incorporated in Australia and therefore is not a foreign company within the meaning of the Corporations Act.

Principles based test

New or significantly improved

31.          Subparagraph 360-40(1)(e)(i) provides:

the company is genuinely focussed on developing for commercialisation one or more new, or significantly improved, products, processes, services or marketing or organisational methods; and

32.          For the purposes of Subdivision 360-A, the Explanatory Memorandum to the Tax Laws Amendment (Tax Incentives for Innovation) Bill 2016 (the 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..."

33.          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.

34.          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.

35.          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.

36.          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, i.e. as the implementation of a significant change in products, processes or other methods."

37.          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."

38.          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.

39.          '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.

40.          The addressable market for the Platform at the test time are women seeking management or treatment of XX or XX. This addressable market is considered objective and realistic.

41.          It is considered that the Platform significantly improved on what was currently available for the addressable market by increasing the breadth and quality of advice and treatment they can receive, and the efficiency that that can be provided to them. This is a result of XYZ's clinical panel having a level of expertise that is not available to their competitors, and the breadth and quality of XYZ's partners, which are utilised to inform the production of the Platform and its utilisation by its target addressable market.

42.          The Platform became available to the public through a subscription model on XX March 2022. XYZ's completed research and strategy development has identifiable further addressable markets that the Platform can be utilised for presenting further revenue opportunities.

43.          It is considered that XYZ was genuinely focussed on commercialising a significantly improved product for the addressable market and therefore subparagraph 360-40(1)(e)(i) is met.

High growth potential

44.          Subparagraph 360-40(1)(e)(ii) provides:

the business relating to those products, processes, services or methods has a high growth potential;

45.          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.

46.          The Platform has potential for yearly revenue in excess of $100 million with respect to only the immediately targeted addressable market. XYZ intends to utilise its platform to address other ailments and health issues facing women.

47.          The practices and strategies that XYZ are applying with respect to their approach to XX and XX in Australia can largely be applied with respect to those other conditions and can be applied outside of the Australian market.

48.          It is considered that the business of XYZ has high growth potential and therefore subparagraph 360-40(1)(e)(ii) is met.

Scalable

49.          Subparagraph 360-40(1)(e)(iii) provides:

the company can demonstrate that it has the potential to be able to successfully scale that business; and

50.          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.

51.          XYZ's projections estimate that the Platform could provide yearly revenue in excess of $100 million with respect to only the immediately targeted addressable market. As the Platform's offerings are expanded, and XYZ expands its offerings into other countries, its projected revenue would increase.

52.          Due to the nature of healthcare, the underlying technology behind the Platform can be utilised both for different ailments and in different markets.

53.          It is considered that XYZ has the potential to successfully scale its business and therefore subparagraph 360-40(1)(e)(iii) is met.

Broader market

54.          Subparagraph 360-40(1)(e)(iv) provides:

(iii) the company can demonstrate that it has the potential to be able to address a broader than local market, including global markets, through that business;

55.          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.

56.          Due to the nature of healthcare, the underlying technology behind the Platform can be utilised beyond the local market on a broader scale. XYZ intends to this both in terms of health issues addressed but also targeting markets outside of Australia.

57.          It is considered that XYZ has the potential to address a broader that local market and therefore subparagraph 360-40(1)(e)(iv) is met.

Competitive advantage

58.          A Subparagraph 360-40(1)(e)(v) provides:

the company can demonstrate that it has the potential to be able to have competitive advantages for that business;

59.          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.

60.          The Platform is being developed with input of XYZ's advisory panel, which is the largest expert panel for Women's Health in Australia consisting of highly regarded professionals. As a result, throughout the development process XYZ had access to a level of expertise resulting in an algorithm that their competitors are unable to match.

61.          XYZ is positioning the Platform to target women within Australia of all ages whereas its competitors only target certain demographics of women.

62.          The manner in which the Platform is integrated to eScripts is unique and not offered by XYZ's competitors.

63.          It is considered that XYZ has the potential to have a competitive advantage for its business and therefore subparagraph 360-40(1)(e)(v) is met.

Conclusion

64.          XYZ will qualify as an early stage investment company of the purposes of section 360-40 immediately after the issue of shares on 25 January 20XX.

Question 2

Did XYZ Pty Ltd qualify as an early stage investment company under s360-40 of the ITAA 1997 immediately after the issue of shares on 28 February 20XX?

Summary

XYZ Pty Ltd was an early stage innovation company immediately after the issue of shares on 28 February 20XX.

Detailed reasoning

65.          For the reasons outlined paragraphs 23 - 63, XYZ will qualify as an early stage investment company of the purposes of section 360-40 immediately after the issue of shares on 28 February 20XX.