Tribunal Adjusts Transfer Pricing, Directs Changes in Profit Margins & Comparable Companies

The Tribunal partly allowed the appeal, remitting the matter to the Transfer Pricing Officer (TPO) for a fresh determination of the Arm's Length Price (ALP) of the international transaction of 'Export of finished goods' in accordance with its observations. The Tribunal disagreed with the adjustment made to the assessee's profit margin and directed adjustments to be made to the comparables' profit margins instead. Additionally, the Tribunal directed the inclusion of one comparable company in the final set of comparables and ordered the deletion of an ad hoc disallowance of expenses made by the Assessing Officer.

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Issues Involved:
1. Transfer Pricing Adjustment
2. Non-adoption of Adjusted Profit Level Indicator (PLI)
3. Removal of Comparables
4. Ad hoc Disallowance of Expenses

Issue-wise Detailed Analysis:

I. Transfer Pricing Adjustment:
The primary issue in this appeal concerns the addition on account of transfer pricing adjustment amounting to Rs. 21,75,42,500/-. The facts reveal that JCB India Ltd., a wholly owned subsidiary of JCB, UK, set up JCB Manufacturing Ltd. (the assessee) as its 100% subsidiary. The assessee commenced its business on 20.6.2005 and got merged with JCB India w.e.f. 1.4.2009. The assessee reported five international transactions, with the first two being 'Export of finished goods' and 'Import of raw materials,' benchmarked jointly using the Transactional Net Margin Method (TNMM). The Transfer Pricing Officer (TPO) found that the assessee adjusted its PLI from (-)45.23% to 10.79%, which was not accepted. The TPO applied the unadjusted profit margin of (-)45.23% and computed the arithmetical mean of the comparables' operating profit margin at 13.47%, leading to a transfer pricing adjustment recommendation of Rs. 21.75 crore.

II. Non-adoption of Adjusted PLI of the Tested Party:
The assessee's unadjusted PLI (OP/TC) stood at a loss of (-)45.23%, which was adjusted to 10.79% by reducing operating expenses by more than 50%. The TPO rejected this adjustment, stating that any adjustment should be made to the profit margin of comparables under Rule 10B(1)(e)(iii) and not to the assessee's profit margin under Rule 10B(1)(e)(i). The Tribunal agreed, emphasizing that the transfer pricing provisions require the actual operating costs to be considered without adjustment. Adjustments, if any, should be made to the comparables' profit margins to neutralize material differences, not to the assessee's profit margin.

III. Removal of Comparables:
The TPO excluded two companies, Ahmedabad Steelcraft Ltd. and Shiv Agrico Implements Ltd. (Seg.), from the list of comparables. The Tribunal upheld the exclusion of Ahmedabad Steelcraft Ltd. due to its functional differences and extraordinary factors such as changes in government policy and retrenchment of employees. However, the Tribunal disagreed with the exclusion of Shiv Agrico Implements Ltd. (Seg.) on the basis that the TPO did not demonstrate how its Engineering and Fabrication segment was dissimilar to the assessee's operations. Therefore, the Tribunal directed the inclusion of Shiv Agrico Implements Ltd. (Seg.) in the final set of comparables.

IV. Ad hoc Disallowance of Expenses:
The AO disallowed Rs. 2 lac on an ad hoc basis from the expenses claimed by the assessee for payments made to a Clearing & Forwarding agent, Haulage Corporation. The Tribunal found that the assessee provided all necessary details, including sample invoices and confirmations from Haulage Corporation. The AO did not point out any specific issues with the provided details. Therefore, the Tribunal ordered the deletion of this ad hoc addition.

Conclusion:
The Tribunal set aside the impugned order and remitted the matter to the TPO/AO for a fresh determination of the ALP of the international transaction of 'Export of finished goods' in accordance with the Tribunal's observations. The appeal was partly allowed, and the order was pronounced in the open court on 10.06.2015.

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