Written by Adir Shiffman – executive chairman of Catapult Sports and a serial investor and entrepreneur.
Financial Review Article 18/02/2020
As we enter the 2020s the federal government finds itself unwittingly wielding the power to trigger a mass extinction event across the ecosystem of early-stage Australian start-ups.
Recently I was asked to nominate a key ingredient without which a startup is unlikely to succeed. My answer: cash in the bank.
Cash is the oxygen of every business, but for early stage pre-revenue startups it is something more akin to the artificial respirator in ICU. When I launched my first start-up in the mid-90s there was little funding beyond the few coins I gratefully accepted from wealthy people. There was only one reliable funding source for early stage start-ups at that time and astonishingly it came via the Australian Taxation Office (ATO). Through various names and incarnations this was always the R&D tax incentive.
Twenty-five years later, this incentive is still vitally important and every start-up I know has relied upon it at some point for survival. In the facilitation of an industry and the creation of mass employment, it is a singular factor to which one can attribute a transformative contribution.
But the government no longer believes the cost is so little and desires to cut spending by $1.8 billion over four years. While not all of this will come from early stage start-ups, it risks eradicating a significant portion of the current ecosystem and retarding the development of the next crop of startups. Problematically, the government has a good point that the system has been misused by some, and is a clearly flawed program. It lacks the requisite black-letter law clarity, and while it is easy to hate the ATO, it is forced to walk a discretionary tight rope and has historically performed admirably.
The translucence of these rules also spawned an entire industry of consultants, some great, some shysters, most in-between, but with some double-digit percentage of all payments eventually flowing there.
From a government perspective this represents a juicy ‘‘efficiency dividend’’.
It is a problem that,in the scheme, pre revenue start-ups are cast into the same murky pool as companies generating nine-digit revenue and even global tech giants undertaking local R&D.
At the same time the government is cutting the total program cost, its proposal includes a rise in the cap on refundable R&D by the largest enterprises, to $150 million from $100 million. The biggest problems, though, relate to an outdated ideology, disconnected from the dynamics of today’s industry. Most of the world’s start-ups develop software, yet the R&D rules are most unclear when it comes to the degree of applicability of software development programs.
In part this can be attributed to confusion with the fundamental concept of ‘‘research’’ and the misunderstood role of ‘‘development’’. For most start-ups building a new software application, research and development are inextricably intertwined. For example, large portions of the code written for a new application type (or a significant advance) are simultaneously both R and D. As we enter a new decade the historical distinction between research and development is frequently academic and the dividing line often blurred. The good news is that specific, targeted improvements can enhance the existing life-giving benefits of the R&D program while improving efficiency.
There are five obvious changes required:
1. Create three separate categories dividing pre-$20m revenue start-ups, larger Aussie tech companies, and overseas enterprises conducting local R&D.
2. Broaden the definition of research, and include software development.
3. Provide the ATO with crystal clear applicability guidelines.
4. Greatly simplify the calculation and submission process so that little outside help is needed, an online process pulling data from accounting packages would be best.
5. Establish an independent ombudsman with the power to quickly arbitrate any disputes.
If the Treasurer still believes he must reduce overall program expenditure as part of a broader budget objective then at least the above framework enables precise targeting rather than an approach bound to deliver unintended consequences.
It has the power to either create an even better next generation of startups, or to destroy much of what has already been built, so it will be a terrible shame if the legacy of this government is the blood of start-ups on its hands.
Adir Shiffman is executive chairman of Catapult Sports and a serial investor and entrepreneur.