The role of big business in an innovation economy

Public spending on the non-refundable stream of the R&D tax program has decreased significantly over the past 10 years. What explanations can be offered for this decrease and is it something we should worry about?

How has total R&D tax program spend changed over time?

The 2021–22 Science, Research and Innovation (SRI) Budget Tables show that over the life of the program, public investment in innovation in small firms via the R&D Tax Incentive has seen a significant increase, and public investment in innovation in large firms via the R&D Tax Incentive has seen a significant decrease.

This reduction is partly due to a reduction in the incremental benefit for large taxpayers over this time. It is probably also due to more aggressive compliance activity pushing some large businesses out of the program.

Figure 1 Data from https://www.industry.gov.au/sites/default/files/2021-12/2021-22-sri-budget-tables.xlsx    

But will large businesses actually do less R&D just because they don’t access the R&D Tax Program?

This question relates to the idea of ‘additionality’ and whether the R&D Tax Incentive is actually spurring innovative activity in addition to what would happen anyway.

It’s likely that at least some businesses will do less R&D. Since R&D is generally expensed, cutting R&D spend leads to immediate increases in profit. It will already be tempting for some businesses to make these cuts as wages rise and costs rise. A lack of incentives to conduct R&D in Australia would likely accelerate reductions in these activities.

From 2022, the new intensity measure for large innovators that rewards large businesses that spend proportionately more on R&D is targeted at helping to ensure this additionality is incentivised.

Is reduced support for large innovators something that we should worry about?

There is a common conception that innovation and R&D mostly come from smaller firms. This is the idea that small businesses make bold bets, while larger firms innovate incrementally. But the role of larger businesses in an innovation economy is much more complex than this. 

Large companies are often able to invest more in R&D and obtain a higher return on R&D investments than smaller firms. These returns lead to revenue, employment and tax liability (read: return on the taxpayer’s R&D tax program investment). Bold bets on the other hand rarely come off, with a large number of start-ups failing to stand the test of time. But when start-ups do succeed, we talk about them a lot. This distorts our perception of the profile of the most effective innovators.

Innovations from start-ups are also often born from larger firms. The prime example is a start-up innovation resulting from a founder’s experience and training as an employee in a larger firm. 

These benefits to the innovation economy present a strong case for encouraging large businesses to continuously innovate. 

Conclusion

According to the data, comparatively little funding is accessed by large innovators vs small under the R&D tax program, despite the efficiency of large firm innovation. 

The steadier outlook for the R&D Tax Incentive program, new intensity measure that encourages additionality, and a recalibration of compliance will hopefully ensure large innovators have satisfactory support to continue to spur this type of activity in Australia.