16 Mar 2021

Software firms fear loss of growth grant will undermine competitiveness

8:34 am on 16 March 2021

Software companies say they've been all but written out of the government's new Research and Development (R&D) funding system, which begins in just over two weeks' time.

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Globally, the software development industry is extremely competitive. Photo: 123RF

From April 1 a tax incentive will replace the Callaghan Innovation R&D growth grant. With the change comes a new criteria that would allow more businesses to apply, but a narrowed scope for what was considered R&D.

Orion Health creates software used by the health sector. Chief operating officer Greg Balla said, up until now, the growth grant had been invaluable.

"The grant money that we've used in the past has really allowed us to accelerate our software development and the impact of not having that means we will go slower and become less competitive - particularly at that most innovative end.

Globally, the software development industry is extremely competitive, and Orion competes on the world stage - evidenced by 90 percent of its revenue coming from exports.

But with the changes looming Balla was concerned about keeping up the pace.

"We'll have to consider the size of our R&D teams and make sure that we continue to be a stable organisation and profitable.

"So we'll have to adjust resourcing to fit within that."

He said under the new scheme the company would get about 10 percent of what they previously qualified for.

PwC R&D national director Nadine Williams said businesses knew the regime would cause problems.

"Businesses were saying we do a lot of experimental development [and] that's not going to be covered by this, a lot of software companies were saying our SAAS [software as a service] businesses are not going to be covered by this.

"Even manufacturers were saying we're not sure we're going to fall under the criteria here."

She said those concerns were explicitly expressed during the public consultation period in 2018.

"And the feedback that was given basically resulted in us hearing from the regulators that it's 'not going to be as bad as you think it's going to be' ... unfortunately, the reality is, it's potentially even worse than we thought it was going to be."

She said businesses would have no choice but to delay projects, and in the worst-case scenario, cancelling them altogether.

"And actually having to get rid of highly-skilled and well paid employees ... it's the complete opposite effect of what was intended."

NZTech chief executive Graeme Muller said software companies were the biggest users of the grant - about 250 on it until 31 March - and without the funding the chances of them carrying on with risky R&D work was low.

"These companies are not looking for a hand out, it's just an economic reality that if they are getting hundreds of thousands of dollars less support they're going to have to reduce the amount of investment they make in that space."

He did not think those impacts were intentional, but it had gone awry regardless.

"We all knew it was going to be different and difficult ... but it's been the quantum that's been surprising."

The new criteria

Grant Johnson, the founder of website building company Rocketspark, said the problem with the changed criteria was that it focused more on the research side of things, and less on development.

"You can't hire a developer to do just the novel stuff, they've also got to be involved in the wider platform and even things like internal systems - we have to build the software that works behind the scenes to enable the business to run and that's a key chunk of what's excluded."

According to PwC about two-thirds of business R&D spend fell into the development camp, not research.

Syft chief finance officer Nicole Robinson said they had been on the growth grant for a number of years, and she felt for start-ups coming in under the new regime.

"We were in a loss-making position for a number of years when we first started and this scheme just would not have fit us and we would not have been able to grow that area of our business as fast as we needed to, to stay ahead of the market.

"I truly think for start-ups in New Zealand, the growth grant is such a great initiative."

The changes were brought in to try and increase R&D spend across the board. The government acknowledged compared to other OECD countries, New Zealand's R&D spend was low and wanted to boost it to 2 percent of GDP by 2027.

Nadine Williams said if the regime stayed as it was, that was unlikely.

"Unless changes are made this isn't going to reach what was expected through policy. We don't believe this is what anyone, who actually put this forward, was looking for."

Housing Minister Megan Woods 17/02/21

Minister for Research, Science and Innovation, Megan Woods. Photo: RNZ / Dom Thomas

Government response

Minister for Research, Science and Innovation, Megan Woods, said she was aware of "teething problems" with the new regime and wanted to assure businesses it was being worked on as a matter of priority.

"I have personally met with some companies to talk about their experiences and my office is proactively contacting those involved... I am keenly aware of the timelines and tax lodgement dates, and would like to reassure businesses this is a top priority."

She said officials were working to resolve issues created by the new criteria definition.

"I understand the need to work at pace and I have taken swift action on sector feedback that the [tax incentive] might not be supporting the kinds of activity envisaged by the policy.

"Officials from MBIE, Inland Revenue and Callaghan Innovation are working together collaboratively to resolve these issues, particularly around defining the boundary of eligible R&D.

"Businesses can expect clearer guidance about what R&D is eligible for the [incentive] within the next few weeks. Additionally, officials will work with businesses to develop sector-specific guidance that reflects the type of R&D in different industries and illustrates how the broad framework provided by the R&D definition in the legislation applies to them.

She said the 2 percent goal was ambitious, but the government remained optimistic it could be achieved.

"We set the 2 percent goal over a 10-year timeframe because we knew it would take time to implement the changes necessary to set us on that trajectory and that we may have to make tweaks along the way.

"International experience has shown this is not uncommon. The UK and Norway both amended their R&D tax incentives only a few years into their implementation to make them more supportive."

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