Edited version of private advice

Authorisation Number: 1052345502289

Date of advice: 20 December 2024

Ruling

Subject: Early stage innovation company eligibility

Relevant facts and circumstances

1.              Company X w an Australian proprietary company incorporated in XXX on DD MM YYYY. Company X converted to an unlisted public company on DD MM YYYY and the ABN status was only active from the DD MM YY.

2.              For the financial year ending DD MM YYYY, Company X incurred and earned the following:

•                Total expenses of $xxx

•                Total income of $yyy

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

4.              Company X has no wholly or partly owned subsidiaries. Company X is not part of an income tax consolidated group.

5.              Company X's registered office and principal place of business is situated at XXX.

6.              Company X is not a foreign company within the meaning of the Corporations Act 2001 (Cth).

7.              The 'test time' for determining if Company X is a qualifying ESIC, will be upon the issue of qualifying shares on a particular date or dates on or after DD MM YYYY, and on or before DD MM YYYY.

8.              Company X will be issuing shares in the year ending MM YYYY.

9.              Company X is developing a product which is primarily technology (Product).

10.          Company X has a globally exclusive license to the Core IP and a non-exclusive license to the Non-Core IP of the technology.

11.          On DD MM YYYY, Company X received a private ruling for the year ended DD MM YYYY that the company qualified as an ESIC at relevant test times. The basis for the decision was that the company satisfied the Principles-based Innovation test in respect of the product being developed.

12.          Since the ruling issued, Company X has continued to develop their product.

Application to your circumstances

Test time

13.          For the purposes of this ruling, the 'test time' for determining if Company X is a qualifying ESIC, will be upon the issue of qualifying shares on a particular date or dates on or after DD MM YYYY, and on or before DD MM YYYY.

Current year

14.          Therefore, for the purposes of subsection 360-40(1) ITAA 1997, the current year will be the year ending DD MM YYYY (the YYYY income year). For clarity, in relation to the particular requirements within subsection 360-40(1), the last 3 income years will include the years ending DD MM YYYY, YYYY and YYYY, and the income year before the current year will be the year ending DD MM YYYY (the YYYY income year).

The 'early stage test' - paragraphs 360-40(1)(a) - (d) ITAA 1997

Incorporation or registration - paragraph 360-40(1)(a) ITAA 1997

15.          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 any 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).

16.          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.

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

18.          Company X was incorporated on DD MM YYYY (YYYY income year). For the purposes of s360-40(1)(a)(i) the last three income years will be the years ended DD MM YYYY, YYYY and YYYY. The YYYY income year is not within the 3 income years outlined above, therefore, the requirements of subparagraph 360-40(1)(a)(i) are not satisfied.

19.          For the purposes of subparagraph 360-40(1)(a)(ii) the last six income years will be the years ended DD MM YYYY, YYYY, YYYY, YYYY, YYYY and YYYY. However subparagraph 360-40(1)(a)(ii) cannot be met as Company X's total expenditure in the prior three income years before the current year (income years ended DD MM YYYY, YYYY and YYYY) was greater than $1 million. Therefore, the requirements of subparagraph 360-40(1)(a)(ii) are not satisfied.

20.          Company X was registered on the Australian Business Register (ABR) on DD MM YYYY (i.e., the income year ended XX MM YYYY). The last three income years will be the years ended YYYY, YYYY and YYYY. Therefore, the YYYY income year will be within the last three income years, with the latest year being the 'current year', for the purposes of subparagraph 360-40(1)(a)(iii).

21.          As Company X satisfies the criteria in subparagraph 360-40(1)(a)(iii) of the ITAA 1997, paragraph 360-40(1)(a) is satisfied.

Total expenses - paragraph 360-40(1)(b) ITAA 1997

22.          In applying the requirements of paragraph 360-40(1)(b), Company X and any of its 100% subsidiaries must have incurred total expenses of $1 million or less in the YYYY income year, being the income year before the current year.

23.          Company X incurred expenses of $xxx in the YYYY income year. Consequently, paragraph 360-40(1)(b) is satisfied.

Assessable income - paragraph 360-40(1)(c) ITAA 1997

24.          In applying the requirements of paragraph 360-40(1)(c), Company X and any of its 100% subsidiaries must have derived total assessable income of $200,000 or less in the YYYY income year, being the income year before the current year.

25.          Company X earned $yyy assessable income in the YYYY income year. Consequently, paragraph 360-40(1)(c) is satisfied.

No stock exchange listing - paragraph 360-40(1)(d) ITAA 1997

26.          In applying the requirements of paragraph 360-40(1)(d), Company X must not be listed on any Stock Exchange in Australia or a foreign country at the test time.

27.          Company X was not listed on any Stock Exchange in Australia or a foreign country at either test time, so paragraph 360-40(1)(d) is satisfied.

Conclusion for early stage test

28.          Company X satisfies the early stage test for the YYYY income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied.

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

29.          Company X has not provided sufficient evidence of satisfying the 100-point test under section 360-45 for the year ending DD MM YYYY. For Company X to be a qualifying ESIC, it will need to satisfy the Principles-based Innovation test.

The 'principles based test' - paragraph 360-40(1)(e) ITAA 1997

Developing new or significantly improved innovations for applicable addressable market - subparagraph 360-40(1)(e)(i) ITAA 1997

30.          In applying the requirements of subparagraph 360-40(1)(e)(i), Company X must be developing an innovation which is either new or significantly improved for an applicable addressable market.

31.          Company X is developing the Product which is primarily technology.

32.          The technology is for a product which has never before achieved commercial success. All business activities which the company will undertake are for the purpose of commercialising the technology.

33.          Company X is developing their Product to address a number of discrete markets.

34.          Company X is genuinely focussed on developing their Product for an applicable addressable market.

Genuinely focussed on developing for commercialisation - subparagraph 360-40(1)(e)(i) ITAA 1997

35.          In applying the requirements of subparagraph 360-40(1)(e)(i), Company X must be genuinely focussed on developing an innovation for a commercial purpose in order to generate economic value and revenue for the company.

36.          XXX and YYY have established Company X with Company X and XXX having entered into a technology transfer agreement which sees that the work done by XXX to date will transfer in full to Company X in early YYYY, conditional upon the arrangement of equity funding by Company X, which YYY is seeking to arrange.

37.          From the date the transfer is completed Company X will commence Product development activities on its own. As part of the pre-formation activities, the team that is creating Company X has engaged potential customers to guide the desired performance characteristics of the Product.

38.          Company X will be engaging with potential customers and various contracting agencies to design and develop the Product.

39.          To help guide this process, Company X will aim for close engagement with potential customers throughout the Product development. Company X will also rely on external parties for R&D and Industrial design, contracting some services to these external parties.

40.          The first Product was expected to be fully developed by MM YYYY.

41.          The principal activity of the Company X during the financial year ended DD MM YYYY was the commercialisation and development of the patented technology.

42.          During the year ending DD MM YYYY:

•                Company X expects to complete the development of the MVP up to a point it can be used in unsupervised trails.

•                Conduct trials/test in Australia and prepare for subsequent customer trials overseas of its MVP.

•                Company X will also seek to expand its research and development activities to expand its technical capabilities and Product offering.

•                Improving the performance of the system, with fundamental technology and component improvements.

•                Improving the ergonomics and usability of the Product.

•                Company X will focus on the development of manufacturing capability of the Product.

•                Upon completing product development and customer trials, Company X plan conducting paid trials with the broader industry as a pathway to achieving sales of the Product. The potential sales in the Heads of Agreement still stands and the buy-in from the counterparty and broader industry has reiterated the need for the Product.

43.          Company X is genuinely focussed on developing their Product for a commercial purpose, so subparagraph 360-40(1)(e)(i) is satisfied for the period DD MM YYYY to DD MM YYYY, or the date when their Product has been fully developed and is ready for client use, whichever occurs earlier. Once the Product has been fully developed, Company X will no longer be 'developing' the Product for commercialisation.

High growth potential - subparagraph 360-40(1)(e)(ii) ITAA 1997

44.          In applying the requirements of subparagraph 360-40(1)(e)(ii), Company X must be able to demonstrate that it has the potential for high growth within a broad addressable market.

45.          Company X has high growth potential as their Product is easily and infinitely scalable to a global audience.

46.          Growth opportunities for Company X existing on multiple avenues; penetrating the market, expanding into new / adjacent markets, product development & integrations, and market growth itself.

47.          The application of Company X's Product have multiple large and high growth potential industries. There is a wide range of applications that have been identified for the use of Company X's Product by several research and commercial institutions.

48.          Company X has provided details to satisfy this requirement.

49.          Company X has demonstrated a high growth potential for their Product, subparagraph 360-40(1)(e)(ii) is satisfied for the period DD MM YYYY to DD MM YYYY.

Scalability - subparagraph 360-40(1)(e)(iii) ITAA 1997

50.          In applying the requirements of subparagraph 360-40(1)(e)(iii), Company X must be able to demonstrate that it has the potential to successfully scale up the business.

51.          The Executive team has proven experience with successfully scaling up technology. The proposed management team (which will commence employment upon first investment into the company) are highly experienced.

52.          Leveraging the success of the Product, new sizes and products will be developed to reach multiple applications beyond the first deployment. Company X have commenced communications with a respected suppliers who have demonstrated interest in the technology and product. Using an innovative partner who has a foothold in the industry will also enable rapid scaling of Company X's products.

53.          Company X as a company is based on IP, which is a fixed cost that achieves economies of scale when incorporated in a greater number of products. Furthermore, the manufacturing process is expected to achieve large economies of scale. When coupled with greater technology awareness, Company X expects to be a highly scalable business.

54.          As the company grows, the R&D costs can be offset amongst a larger revenue stream, and marketing and sales will become more efficient with greater market awareness. Each Product can be priced below competing technologies with unmatched capabilities to ensure rapid uptake, whilst maintaining positive unit economics.

55.          Company X has provided details to satisfy this requirement.

56.          This leverage ensures that Company X has the potential to successfully scale up its business, so subparagraph 360-40(1)(e)(iii) is satisfied for the period DD MM YYYY to DD MM YYYY.

Broader than local market - subparagraph 360-40(1)(e)(iv) ITAA 1997

57.          In applying the requirements of subparagraph 360-40(1)(e)(iv), Company X must be able to demonstrate that it has the potential to be able to address a broader than local market, including global markets.

58.          The market for the Product is global, and Company X has the ability to address this global market through its unique product and experienced team.

59.          Company X has provided details to satisfy this requirement.

60.          Company X has demonstrated that it has the capacity to address a broader than local market, so subparagraph 360-40(1)(e)(iv) is satisfied for the period DD MM YYYY to DD MM YYYY.

Competitive advantages - subparagraph 360-40(1)(e)(v) ITAA 1997

61.          In applying the requirements of subparagraph 360-40(1)(e)(v), Company X must demonstrate that it has potential to be able to have competitive advantage for that business.

62.          Company X has a worldwide, exclusive license for the purpose of exploration and application of the Product.

63.          Potential competitors will not legally be able to copy Company X's Product due to the exclusive license and will struggle to successfully imitate the breakthrough due to the advanced know-how that has been developed over decades. The competitive advantage is expected to endure beyond the initial patent life as new innovations build on the initial patent and algorithmic processing of the signal.

64.          The unique technology allows for Company X to have a strong competitive advantage.

65.          Company X has provided details to satisfy this requirement.

66.          Company X has demonstrated that it has competitive advantages for its business, so subparagraph 360-40(1)(e)(v) is satisfied for the period DD MM YYYY to DD MM YYYY.

67.          In the ruling dated DD MM YYYY, the Commissioner concluded that Company X satisfied the Principles-based Innovation test in respect of the Product being developed. While the Product is still being developed, Company X will continue to satisfy the requirements of the principles based test, within subparagraphs 360-40(1)(e)(i) to (v).

68.          Since the ruling dated DD MM YYYY was issued, Company X's development of the technology is on track.

Conclusion for principles based test

Company X satisfies the principles based test as it will satisfy the requirements within subparagraphs 360-40(1)(e)(i) to (v) for the period commencing DD MM YYYY until DD MM YYYY, or the date when their Product has been fully developed and is ready for client use, whichever occurs earlier.

Foreign company test - subparagraph 360-40(1)(f) ITAA 1997

As Company X was incorporated in Australia, it is not a Foreign Company and paragraph 360-40(1)(f) is satisfied.

Overall conclusion

As each of the eligibility requirements contained in paragraphs 360-40(1)(a) to (f) are satisfied, Company X meets the eligibility criteria of an ESIC under section 360-40 for the period DD MM YYYY to DD MM YYYY.

Information provided

69.          You have provided a number of documents containing detailed information in relation to Company X's Product, including:

•                your Private Binding Ruling ('PBR') Application dated DD MM YYYY.

•                The email from the ATO on DD MM YYYY; and

•                The email to the ATO from XXX dated DD MM YYYY.

70.          We have referred to the relevant information within these documents in applying the relevant tests to your circumstances.