Australia is currently facing a critical national priority: boosting its productivity levels. This ambitious goal is inextricably linked to the nation's capacity for innovation. Historically, Australia has been a cradle of world-changing inventions, from the everyday convenience of the refrigerator and the electric drill to more specialized medical devices like the CPAP machine and the foundational technology behind Google Maps. The country continues to be at the forefront of advancements in emerging fields such as machine learning, cybersecurity, and various green technologies.

Innovation, however, is not solely the domain of large technology corporations or university research facilities. Small and medium enterprises (SMEs), defined as businesses with fewer than 200 employees, form a vital engine of Australia's economic growth. Collectively, these businesses contribute a significant 56% to the nation’s gross domestic product (GDP) and employ a substantial 67% of the workforce. Even the Reserve Bank of Australia acknowledges the pivotal role SMEs play in driving innovation. Despite their importance, a primary barrier hampers their potential: limited access to crucial funding and investment.

The adage “it takes money to make money” rings particularly true for businesses seeking to grow. Startups and scaling ventures require significant upfront investment in areas such as equipment acquisition, facility rentals, and the development of necessary skills and knowledge. Newly established small businesses often rely on initial debt, like personal loans or credit cards, and capital from personal networks, sometimes referred to as “love money.” Once these sources are exhausted, further funds are typically required for expansion. While conventional bank loans are common, quick, and accessible, the obligation for regular interest payments can impede a company's growth trajectory.

An alternative funding avenue involves seeking investors who will take ownership stakes in the business. This can occur through “private equity,” where ownership interests are sold directly to investors via private arrangements. These investors can range from individual “angel investors” to colossal venture capital and private equity firms managing billions in assets. Another option is “public equity,” which involves offering shares that can be openly traded on public stock exchanges, such as the Australian Securities Exchange (ASX). Unfortunately, small and medium-sized companies encounter significant obstacles when trying to access both private and public forms of equity.

Research into the challenges of small-scale private equity in Australia reveals that a notable 46% of SMEs would welcome equity investment, even if they could secure debt financing elsewhere. Their preference for private equity often stems from a desire to gain mentorship and guidance from experienced investors who can facilitate their company’s growth. However, a disproportionately small number of SMEs manage to meet the stringent investment criteria set by private equity firms. Interviews with chief executives and chairs of smaller private equity firms indicate that their reluctance to invest in SMEs is largely due to the high costs and inherent difficulties in verifying crucial information regarding a smaller business's financial health and future prospects. Unlike public companies, which are mandated to disclose financial information according to International Financial Reporting Standards (IFRS) for easier comparison by investors, small private companies can adhere to simplified accounting rules and are not required to publicly share their statements of profit and loss.

Listing on a public stock exchange via an Initial Public Offering (IPO) might seem like a viable path to raise capital by selling shares to the public. However, this process is notoriously time-consuming and expensive. It necessitates assembling a team of expert advisors—including accountants, lawyers, and bankers—and incurs substantial filing fees. Furthermore, becoming a publicly traded company entails ongoing costs and rigorous obligations, particularly concerning detailed financial reporting. Listing on a major exchange like the ASX comes with demanding requirements, such as meeting specific profits and assets tests and having a minimum of 300 non-family investors, each holding at least A$2,000 in shares. Although the Australian Securities and Investments Commission (ASIC) recently announced measures to streamline the IPO process to encourage more listings, many small companies still cannot meet the ASX’s demanding criteria. A lesser-known alternative, the National Stock Exchange of Australia (NSX), aimed at early-stage companies, was intended to be a strong option but has seen limited success and is now slated for acquisition by a Canadian market operator.

Previous research suggests strategies for SMEs to enhance their appeal to private equity firms. This includes improving their financial reporting practices and engaging reputable major auditors. Conversely, private equity companies could broaden their investment scope and dedicate more time to rigorously screening and selecting high-quality smaller companies. Such efforts could yield significant returns, potentially preventing them from overlooking “the next Google Maps,” which itself originated as an Australian startup.

Beyond traditional funding models, Australia’s burgeoning superannuation funds present another potential opportunity. These funds have grown to such immense proportions that they are struggling to find sufficient investment outlets. This situation has led to radical proposals, such as Employment Hero CEO Ben Thompson’s suggestion last year that large superannuation funds be mandated to invest 1% of their capital into startups. A less extreme approach could involve regulators reassessing disclosure guidelines for financial providers, which currently might incentivize funds to favor more established investments with proven track records.

An ongoing debate centers on whether the Australian Prudential Regulation Authority (APRA), responsible for regulating banks and superannuation, is overly cautious. Critics argue that APRA’s strong focus on risk management stifles innovation and potentially deters super funds from investing in startups, which inherently carry a higher risk of failure. In response, APRA maintains that the global financial crisis served as a stark reminder of the necessity for caution to ensure financial stability and safeguard consumers.