National Reconstruction Fund: consultation paper

Submission to the Department of Industry,
Science And Resources

Consultation on the National
Reconstruction Fund

This Submission Paper was prepared by FinTech Australia working with and on behalf of its
400+ Members

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About this Submission

This document was created by FinTech Australia in consultation with its members.

In developing this submission, our Members participated in a roundtable session and consultation processes to discuss key issues relating to this submission.

We also particularly acknowledge the support and contribution of DLA Piper to the topics explored in this submission.

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1. Introduction and Key Recommendations
FinTech Australia welcomes the opportunity to engage with the Department of Industry, Science and Resources to provide input on its consultation paper regarding establishment of the
National Reconstruction Fund (NRF).

FinTech Australia considers the NRF will play a key role in the maturing of Australia’s capital markets and in the development of companies that become global leaders in the seven priority areas of focus. FinTech Australia sees strong potential in the NRF creating high quality, sustainable industries and jobs in Australia.

Central to this, FinTech Australia considers a strong focus on enabling capabilities by the NRF, to support companies in each of the seven areas of focus throughout their lifecycle, will be important to ensure companies supported by the NRF have the best chance for long term success as a business headquartered in Australia. Support of enabling capabilities will also be high impact for productivity, competition, and economic growth more broadly. FinTech Australia considers the local fintech industry has a key role to play in this regard.

Key recommendations

In designing the NRF and its investment mandate, FinTech Australia recommends:

1. Making a specific allocation of funds to enabling capability industries, including
fintech, in the NRF’s investment mandate;

2. Highlighting fintech as a key priority area. This would promote the importance of
fintech in the economy and support broader private investment and understanding of the
fintech ecosystem;

3. Appointing dedicated investment managers responsible for investment in enabling
capabilities;

4. Considering a co-investment model with fintechs, venture capital funds and private
equity funds;

5. Considering matched funding models with venture capital funds and established
fintechs, particularly for early-stage opportunities;

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6. Focusing on building cyber security, artificial intelligence and fintech capabilities
that increase competition locally and that create solutions for Australian businesses;

7. Ensuring the NRF has a mandate to invest in innovative business models in digital
assets, business lending, insurtech, equity crowdfunding, working capital finance
and payments. Investments in these areas will significantly 'value add', given the
multiplier effect they can have on the businesses of other NRF-backed companies
across their lifecycle and on Australian business more broadly;

8. Developing a co-investment plan with the financial services industry, including with
leading fintechs, venture capital and private equity funds and with established financial
services providers, to build specific fintech capability for each area of focus of the NRF;

9. Allowing for low target rate of return (e.g. 1% of RoR) to allow the NRF to focus on
higher risk investment that private industry is not prepared to finance, or which is pre-
commercialisation or pre-launch;

10. Prioritising investment related to broader Government priorities, including the
consumer data right and real time payments infrastructure, which are focused on
building world class enabling capabilities; and

11. Aligning eligibility with existing concession regimes which have similar policy
objectives, including the ESIC regime and the R&D tax incentive.

We also make several practical recommendations about how the NRF can take a customary approach to private investment. This will be important to encourage private venture capital and private equity fund investment which follows or co-invests with the NRF.

2. Background
The establishment of the NRF was announced in the 2022-23 Budget and its enabling legislation was introduced to Parliament on 30 November 2022.

A consultation paper was released by the Department of Industry, Science and Resources on
1 December 2022.

This submission responds to that consultation paper.

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3. Preliminary Comments
• A strong focus on enabling capabilities by the NRF will be important to ensure companies
supported by the NRF have the best chance for long term success from Australia and in turn
to ensure the NRF achieves its objectives. To be competitive with China, Europe, Israel and
the United States, FinTech Australia considers the Australian market needs greater diversity
of funding options for fast growth companies in the 7 priority areas of the NRF and greater
capability in artificial intelligence, cyber security, digital assets, business lending, working
capital finance and payments. Working capital finance and debt funding is particularly
important to emerging growth companies in the clean energy, medical devices, advanced
manufacturing, defence and critical technologies industries. Supporting fintechs who are
building greater capabilities in these fields, in disruptive and innovative ways, will be
important for the NRF.

• National priorities, including the consumer data right and real time payments infrastructure,
should be a focus of co-investment plans developed between the NRF and the financial
services industry. These will be central to development of industries of the future and to
developing world class enabling capabilities for them.

• The provision of finance in the form of loans, guarantees and equity by the NRF should
utilise in part the Australian fintech ecosystem, including partnering with innovative fintechs
in the venture capital, equity crowd funding and business lending sectors. This will enable
the NRF to deploy funds efficiently, utilising the data science, artificial intelligence, payments
and open banking technology of the local fintech community, while creating a new growth
opportunity for local fintechs.

4. Detailed Responses
Priority areas (consultation paper pp. 2-3)

What types of projects or investments should the Government direct the NRF to focus on, or not invest in, within each of the seven priority areas to achieve the NRF’s purpose?

FinTech Australia supports the areas of focus of the NRF identified in the Consultation Paper but urges a greater focus on the development of the investment mandate regarding industry

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enabling capabilities and particularly with regard to artificial intelligence, cyber security and fintech.

FinTech Australia recommends a specific allocation of funds to these enabling capability industries, including fintech, be made in the NRF’s investment mandate.

FinTech Australia recommends the NRF have specific, dedicated investment managers responsible for investment in enabling capabilities including fintech, or the NFR should invest through a co-investment model with fintechs, Venture Capital Funds and Private Equity Funds in these areas. The investment expertise required in these areas is different to the expertise required in the other 6 areas of focus, in the opinion of FinTech Australia.

In consultation, FinTech Australia members emphasised the importance of the fintech industry to the innovation economy and how this could enable fintechs to play an important role in shaping the focus and the success of the NRF and in deploying some of its capital. Fintechs are close to the industries they are serving and more aware of their needs than many industry enabling sectors. Fintechs know well the financial performance, areas of opportunity and challenges of their customers and are aware of the business models, industries, regions and sectors which are providing the best financial returns, growing the most jobs and attracting the most revenue and investment.

How should industry transformation and diversification be defined and measured for each of the seven priority areas?

Industry transformation should be focused on businesses which are developing global best practice products or services, to enable them to become “platform companies” that are international leaders in their space. This will enable them to transform not just the local industry, but the international industry in which they play. It will ensure they attract global talent to
Australia, strengthen STEM career pathways and spin off talent into other innovation companies locally. With regard to enabling capabilities, such businesses will ensure Australian companies can use local companies backed by the NRF to provide the world’s best cyber security, artificial intelligence and fintech services.

With regard to industry diversification, the NRF should be focused on building cyber security, artificial intelligence and fintech capabilities that increase competition locally and create solutions for businesses not available from established providers like traditional IT services companies, banks, insurance companies or investment funds.

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How much detail should be provided on each priority area? How should greater detail and the need for flexibility be balanced?

In the opinion of FinTech Australia members, having regard to a typical investment mandate of a venture capital or private equity fund, greater detail around the investment mandate for the enabling capabilities sector should be favoured over less detail.

The investment mandate should set out key areas where local business is underserved or has pain points at present, which the NRF focus on enabling capabilities is designed to address.

Investment mandate (consultation paper pp. 3-4)

What are the opportunities for value-add, growth and diversification in each of the priority areas?

FinTech Australia members know well the challenges of developing a fast growth company from
Australia and dealing with cyber incidents and risk is central to this. Australia is a key target for global cyber criminals and their sophistication is increasingly a concern to Australian entrepreneurs. The NRF should have a strong focus on building local cyber security capability which can efficiently enable Australian businesses to build cyber resilient operations.

The same members also consider building several global champions in artificial intelligence, and the resulting “platform company” expertise this will spurn, should be a national priority. Such global champions should attract artificial intelligence experts to Australia to work with them, with such experts then likely to go on and work with other businesses and to generally grow broader
AI capability locally.

Within fintech, FinTech Australia supports a specific focus for the NRF on innovative business models in digital assets, business lending, insurtech, equity crowdfunding, working capital finance and payments. While these areas are industries of the future in themselves, they each have strong potential to differentiate Australia as a world leading place to do business, with innovative financial solutions and a more diverse, competitive funding environment for the innovation economy. Investments by the NRF in these areas will significantly ‘value add’, given the multiplier effect they can have on the businesses of other NRF backed companies across their life cycle and on Australian business more broadly.

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What are the strategic priorities for supply chains / enabling inputs in each priority area? What are the gaps in or barriers to private sector investment in each of the priority areas?

Each of the renewables and low-emission tech, medical science, transport, agri-tech, mining tech and defence tech sectors have greater upfront development costs and a longer lifecycle of development, as compared to SaaS, B2B software and consumer tech businesses and as such have attracted less venture capital investment in Australia historically.

Each of these areas also require considerable committed working capital throughout their With lifecycle, given the product innovation and commercial challenges in these industries can be time consuming and given the “enterprise contracts” they are typically entering into and the long lead time and upfront investment these bring.

Cybersecurity, artificial intelligence and fintech solutions focused on these industries, which for example with regard to fintech can provide innovative funding models designed specifically for the advanced manufacturing focus of the NRF, should be a strategic priority for the NRF.

In addition, the high concentration of banking services in Australia, together with the complex regulatory regime impacting fintech, means few venture capital funds are focused on fintech locally and members of FinTech Australia have experienced the universe of fintech investors locally shrinking over the past two years. The NRF highlighting fintech as a key priority area and providing it with a dedicated allotment of funds will of itself be helpful to promote the importance of fintech in the innovation economy and will support broader private investment and understanding of the Fintech ecosystem.

Finally, many innovation sector companies have little assets to provide security for bank lending, at least at their early stage, making support from investors like the NRF and from innovative fintech models important.

How can the NRF help build or encourage strong pathways for Australian developed innovation and research, and encourage additional private investment in priority areas?

By providing investment to innovative cyber security, artificial intelligence and fintech business models who are designing products to help innovative companies across their lifecycle, the NRF can help build strong capability to support Australian companies.

FinTech Australia considers the NRF should develop a co-investment plan with the financial services industry, including with leading fintechs, with venture capital and private equity funds

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focused on fintech and with established financial services providers, to build specific fintech capability for each area of focus of the NRF.

How could the NRF consider Government policy priorities in performing its investment function?

FinTech Australia members consider building next generation real time payments capability and the technology required to enable consumer data rights to truly flourish locally, should be key priorities for the NRF.

In respect of payments infrastructure, significant amounts of investment will soon be required to take Australia from an old analog system processing to real time payments processing for everyone and to migrate from batch payments (BECS decommission). Investment in the new technology will be important to ensure Australia remains globally competitive.

With regard to the consumer data right, FinTech Australia members consider specific use cases around working capital finance, cash flow forecasting and risk assessment in growth companies would be most relevant to the objectives of the NRF.

FinTech Australia members also emphasised the importance of initiatives to improve the data quality at the data holder level (i.e large financial institutions), were important to ensure the consumer data right would be successful in its objectives.

What factors and considerations should inform the portfolio rate of return for the NRF?

FinTech Australia is supportive of the NRF having a low target rate of return, to allow the NRF to focus on higher risk investment that private industry is not prepared to finance or which is pre- commercialisation or pre-launch. This will enable the NRF to be motivated by the value add and impact it can have, rather than a bias towards a financial return.

FinTech Australia considers the 1% rate of return sought for the venture capital arm of the
CEFC is appropriate for any pre-seed, seed and Series A investments the NRF is undertaking.

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What types of concessional offerings would be preferred if these were offered (for example, lower interest rates) and why?

FinTech Australia members consider the ESIC regime, Australia’s R&D tax concessions and
Australia’s ESVCLP regime as a successful means of motivating greater investment in
Australian innovation and recommend similar tools to support the objectives of the NRF.

The innovation criteria that underpins the ESIC regime and R&D tax concessions are both well developed and should be utilised as benchmarks to determine eligibility, where early stage or
R&D focus is important to the NRF’s investment mandate.

Tax credits like that used for the R&D tax concessions would be well regarded by the innovation industry, where they are utilised to encourage spending on STEM pathway development, such as recruitment of specific deep tech, cyber security, artificial intelligence or fintech expertise from overseas or retention of “apprentice-like” or trainee persons in those sectors.

In fintech in particular, the level of expertise required among employees is specialist, however, this is not usually something taught in universities, TAFE Colleges or schools. As well developers, fintech experts working with the clients of a fintech are today’s version of bankers of the 1970s or 1980s and in that respect they are “consiglieres” of entrepreneurs, who assist them to navigate the challenges of fast growth and the difficulties of obtaining finance, working capital, insurance and similar services. Encouraging local fintech businesses to recruit and develop specialist experts will help create a long term career pathway for employees, while increasing the supports available to innovation companies locally.

What factors drive or constrain co-investment (for example, by industry, financial sector or domestic or offshore investors) and how should these be taken into account?

Adoption of a customary approach to private investment will be important if private venture capital and private equity funds are to invest following the NRF. In particular, FinTech Australia recommends the following:

• Consider some matching funding models/co-investment at the outset with venture capital
funds and established fintechs, particularly in early stage opportunities. This approach:

• Ensures deals move quickly, exist in an ecosystem that’s already well understood
and works and that the NRF will adopt customary investment terms;

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• Helps with due diligence and streamlines the first stages of the process;

• Allows the NRF to piggyback off reporting already done for other VCs – startups find
it hard to produce multiple reports for investors, with some government investors
requiring ad hoc reporting and that should be avoided.

• NRF should “front load” due diligence, before a term sheet is signed, seek to complete all
deals in 6 weeks (regardless of their size) and avoid not completing on deals where a term
sheet is signed, except in exceptional circumstances. It is very rare for private sector
investors to cancel an investment after a term sheet is signed and it creates investment
fund “brand damage” where done. For entrepreneurs to have strong confidence in the
NRF, they should adopt a similar approach to deals as private funds.

• NRF should seek minority interests and leave control with the founders in most
investments, allowing it to adopt a portfolio approach to investment and to avoid
control/stifling innovation that comes with control by a government entity. NRF can seek
customary negative control rights on “non-business as usual” matters to be an appropriate
check and balance on management teams. Such negative control rights should sit with a
nominee director of NRF and therefore be subject to fiduciary duties of the director and
specifically to exercise of the negative control rights in the best interests of the company
and shareholders as a whole;

• NRF should have a pro rata first right to participate in any new funding round of its
portfolio company, to protect against dilution, but no right to take up super participation
rights and no right to block a capital raising;

• NRF should seek a 1x non-participating liquidation preference and broad based volume
weighted average anti dilution protection as standard down side protection in all
investments, but refrain from seeking further protection unless special circumstances
dictate otherwise;

• NRF should utilise SAFEs where it is the first investor in a company or investing at pre-
seed, but not use SAFEs in later stage rounds;

• NRF should only use convertible notes in limited circumstances, and should refrain from
using a note with a maturity greater than 12 months;

• NRF should otherwise adopt customary NVCA terms for investment, as is best practice in
the United States; and

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• ESOP allocation of 10% should be set aside in all portfolio companies, to ensure good key
employee alignment.

A perceived need for confidentiality to protect a business idea and opportunity, rather than open communication and collaboration, are key constraints on co-investment in the view of FinTech
Australia members.

Keeping a business venture confidential prevents entrepreneurs and investors from seeking consensus on the best technology or protocol to be adopted for a particular use case. It also means a startup will often go it alone, rather than partnering to utilise already existing technologies or market channels which can accelerate early growth.

In a small market like Australia, this often leads to investors backing multiple companies who do the same thing, which leads to cannibalisation of each other’s customers and can be counter- productive to innovation. It regularly results in the multiple startups experiencing slow growth in a segment and being forced to merge, before they can together build scale and a dominant position.

With regards to overseas investment, and specifically to growth equity investors from China and the US, it is necessary that a business is globally focused for them to be interested.

A public and detailed investment mandate, regular industry consultation and collaboration, a focus on building global businesses and the NRF leading public discussion as to the types of projects, businesses and solutions the NRF is looking to invest in, will therefore be important to driving co-investment. Partnering with established companies and investors and with industry organisations like FinTech Australia should also be a priority of the NRF.

Complementary reforms

What are the non-financial barriers preventing businesses from making the most of opportunities for value-add, growth and diversification in the priority areas? Are there non- financial mechanisms that could support priority areas and the objectives of the NRF? To what extent are other levers required to support the objectives of the NRF (for example,skills, trade, supply chains)?

The following are key areas for complementary reforms in the opinion of FinTech Australia:

• Recruitment of and retention of appropriately qualified employees amid a skills shortage;

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• Concentration within the financial services industry in Australia and the limited traction
achieved to date by the consumer data right to support competition; and

• Regulatory constraints on innovation in digital assets, financial advice and banking.

With regard to recruitment and retention of employees, a focus on development of STEM talent pipelines, including on the development of fintech experts, should be a key focus. STEM talent pipelines are a key focus of the Inflation Reduction Act in the United States and competing with key markets including China, Europe, Israel and the United States with regard to attracting and training talent will be crucial to Australia’s success in the areas of focus of the NRF.

Simplifying employee share option grants should also be a focus, and in particular FinTech
Australia members recommend the existing startup concessional treatment be extended to companies doing more than $50m in revenue, noting that many future NRF backed portfolio companies will make large amounts of revenue at an earlier stage and they should still have access to make their employees owners of their business through options grants, without giving rise to a dry tax cost. This is the key tool that entrepreneurs and investors like the NRF have available to ensure maximum alignment between an innovation company and their employees.

During consultation, several members of FinTech Australia commented that State government investment incentives, which promote retention of global businesses to Australia through State tax concessions and grants, are a regular reason for employees to depart early stage fintechs and so there should be greater harmonisation among the NRF and State government incentive regimes, to ensure the priorities of the NRF are not compromised without good economic rationale.

The myriad of government grants and government sponsored venture funds can also be difficult to navigate for startups and so greater harmonisation and coordination of these, will be a useful focus.

Finally, given the working capital challenges of startups, several members commented it would be good to create more regular R&DTI cash flow claim rights, so startups did not need to wait for annual refund payments. This is more important given the recent collapse of several fintechs who provided lending against future R&DTI receipts.

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How can the NRF best crowd-in investment?

As per the earlier developed focus for the NRF set out in the consultation paper, a focus on investing in high impact, value adding ventures which are uncommercial, but which once commercialised will bring significant industry transformation and diversification, is the key to attracting future private sector investment in the opinion of FinTech Australia.

If the NRF can provide the platform around which entrepreneurs, Universities, key industry members, investors and key enabling industries like FinTech can collaborate to identify and help develop global champion disruptors, private industry will be flocking to invest in them once the venture is commercialised and generating revenue and strong, sustainable year on year growth.

Our members also called for the NRF to be encouraged to source solutions for its own operations from the local fintech community. Setting up a new lending and investment fund will create a need for a range of tech capabilities which could be procured from the domestic industry.

5. Conclusion
FinTech Australia is excited by the opportunities the NRF will give rise to, both to grow new industries of the future in the seven key areas of focus and not build world class enabling industries for the innovation economy in Australia.

FinTech Australia appreciates the opportunity to provide its views to the Department of Industry,
Science and Resources and would welcome any further discussions on the contents of this paper or in relation to consultation on a draft investment mandate.

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About FinTech Australia
FinTech Australia is the peak industry body for the Australian fintech Industry, representing over
400 fintech Startups, Hubs, Accelerators and Venture Capital Funds across the nation.

Our vision is to make Australia one of the world’s leading markets for fintech innovation and investment. This submission has been compiled by FinTech Australia and its members in an effort to drive cultural, policy and regulatory change toward realising this vision.

FinTech Australia would like to recognise the support of our Policy Partners, who provide assistance to the association and its members in the development of our submissions:

● Cornwalls
● DLA Piper
● Gadens
● Hamilton Locke
● King & Wood Mallesons
● K&L Gates

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