TaxTMI 
TaxTMI 
2011 (11) TMI 194
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....ional Net Margin Method ("TNMM") on a company wide basis. 3. Without prejudice to the above ground, on the facts and in the circumstances of the case and in law, the Hon'ble Dispute Resolution Panel (DRP) erred in not directing to make suitable adjustment to the margins of the appellant to adjust for material differences between the appellant and comparable companies, while applying TNMM on a company wide basis. 4. Without prejudice to the above ground, on the facts and in the circumstances of the case and in law, the Hon'ble DRP/TPO erred in not selecting appropriate comparables for benchmarking the international transactions of the appellant. 4.1 The Hon'ble DRP/TPO erred in accepting Page Industries Limited and Microtex India Limited which earned significant revenues from non-comparable products as comparable companies. 4.2 The Hon'ble DRP/TPO erred in accepting Raymond Apparel Limited which has significant related party transactions, as comparable company. 4.3 The Hon'ble DRP/TPO erred in accepting Kewal Kiran Clothing Company and Koutons Retail India Limited which underwent major restructuring changes during the relevant....
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....Bencom S.r.l., Benind S.p.A. Italy, Benetton Asia Pacific Ltd, Benetton Group, S.p.A. Reimbursement of expenses (paid) 5,851,440 CUP (vi) Bencom S.r.l., Benetton Asia Pacific Ltd. Reimbursement of expenses (received) 270,145 CUP (vii) Benind S.p.A, Benetton Asia Pacific Ltd, Benetton Retail Hongkong Ltd. Export of garments 124,923,684 TNMM (viii) Benind S.p.A Receipt of commission 7,611,367 TNMM (ix) Benind S.p.A, Bencom S.r.l. Payment of expatriates' cost 33,822,175 Cost Plus Method 2.1 According to assessee, the ALP was determined on a "transaction by-transaction" basis for applying arm's length price on above method, using the most appropriate method having regard to functional analysis and availability of the comparable uncontrolled benchmark. 2.2 AO referred the report to ld. TPO for determination of ALP. Assessee submitted following justification for "transaction to transaction" basis and methods adopted for its TP report. (a) Import of garments/ accessories/ raw material - CUP method: For benchmarking the abovementioned international transactions, the assessee filed the invoices raised by ....
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....nsactions with unrelated parties. Hence, for determining the arm's length price of international transaction of export of finished goods, Transactional Net Margin Method (TNMM) was selected as the most appropriate method. For the purpose of applying TNMM, operating profit to total sales was considered as the base or the profit level indicator. 46 companies in readymade garment business were identified based on selection criteria, which were considered functionally comparable to the business activity of the assessee. The result of TNMM analysis for transactions other than buying services is summarized as under: Average OP/ OC % of comparable companies 8.73% OP/ OC % of the assessee 17.41% Since the operating profit ratio of the assessee for exports made to related parties @17.41% is higher than the average of operating profit ratio of 8.73% of comparable companies, the international transaction of export of finished goods was therefore, considered being at arm's length using TNMM. Operating profit margin of the assessee company in respect of international transactions of export of manufactured goods at 17.41% was higher than the operating profit....
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....international transaction. 2.5 The company in the relevant previous year had incurred substantial expenses to promote and establish its business in the domestic market. 2.6 The low profitability is entirely on account of the expenses incurred by the assessee company on establishing new show room, creating presence in the various parts of the country, large demonstration, marketing and selling expenses, etc. In other words, the low profitability of the assessee company is not on account of the international transactions as would be evident from the following: (i) The gross profit margin of the assessee company is worked out at 44.53% as against 31.76% in the case of the comparable companies identified by the TPO. The profitability of the assessee is not impacted on account of the international transaction of imports, which is, in any case, only 2.54% of the total turnover. (ii) The operating profit margin of the assessee company after excluding some of the expenses, such as, rent, advertisement, shop running and guarantee charges, etc., is worked out at 20.41% (OP/Sales %) as against 15.29% in case of the comparable companies identified the TPO. 2.7 ....
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....bsp; 209,571,589.42 Margin shown by the assessee @2.57% B 4,871,113.18 Difference A-B 15,162,998.24 % difference 8.00% 3.4 TPO did not agree with assessee's T.P. report and proposed an adjustment of Rs. 1,51,62,998 on account that average margin of the comparable at 10.57% is more than the operating profit margin of the assessee company, computed by the TPO, at 2.57%. 4. The TPO's proposal was confirmed by AO who proposed this addition to assessee's income. Aggrieved, assessee approached DRP where following contentions were raised: (1) The TPO has undertaken entity level benchmarking analysis applying TNMM combining all the international transactions as against transaction by transaction analysis as provided in the Transfer Pricing Regulations recommended by OECD guidelines (in paragraph 1.42). Reliance is also placed on the following decisions, wherein, determination of arm's length price of international transactions on transaction by transaction basis is upheld: - Development Consultants (P.) Ltd. v. Dy. CIT [2008] 23 SOT 455 (Kol.) - ACIT v. Star India Limited [IT Appeal Nos. 3585 & ....
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.... not sustainable since year-wise comparative statement of profitability of M/s. Kewal Kiran Clothing Limited clearly demonstrates the substantial increase in the sales and income of the company on account of the business restructuring as aforesaid. c. Microtex India Ltd Microtex India Ltd. had turnover of 48.34 crores in the relevant year which was not within the filter of 50-210 crores as applied by the TPO. Accordingly, the company does not satisfy the selection criteria as considered by the TPO himself. d. Koutons Retail India Limited: The financial statements of Koutons Retail India Limited are not available on any public domain for financial year 2005-06. Secondly, the company has undergone major restructuring during the previous year 2005-06 as Koutons retail India Limited was incorporated by acquiring, Charlie creations, which was a partnership firm. Evidently, the profit of the company has considerably increased due to such restructuring and hence should not be considered as a comparable for the relevant assessment year. 4.1 Assessee contended that the following companies should be excluded from the set of comparable companies consid....
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....9%. (4) Even otherwise, considering that the operating profit margin of the assessee at entity level at 2.57% is within the range of +/- 5% of the operating profit margin of the comparable companies at 4.77%., the adjustment is liable to dropped. 4.4 Learned DRP, however, upheld the order proposed by AO on the basis of TPO's order by following observations: "TPO has done the comparison of operating profit margin OP/OC with operating margin of assessee's companies. Assessee has objection to entity level analysis against transaction by transaction. We don't find any invalidity in aggregating international Transactions of exports of finished goods and rendering of buying services which are functionally different International transactions undertaken with different associated enterprises. Assessee has summed up his arguments in the table below in which the reasons for rejections are also given S.No. Companies Reason for rejection (i) Raymond Apparel Limited Substantial related party transactions to the extent of 26%. (ii) Microtex India Limited Does not satisfy turnover criteria considered by the TPO. (ii....
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.... the following documents were placed on record- (i) The royalty rates of the following comparable companies were filed during the course of the assessment- Licensor Licensee Royalty rates Yes clothing Limited CS Sportswear Inc 5% Crystal brands Inc Lacoste Alligator S.A. 5% Blue holdings, Inc. Taverniti Holdings, LLC 5-8% Jones Apparel Group Polo Ralph Lauren Corp 7% Reebok National Football League 13% (ii) The copy of approval granted by the Central Government approving the rate of royalty. Hence, since the average of royalty paid by the abovementioned companies was higher than the royalty paid by the assessee company, the international transaction of payment of royalty is to be regarded as being at arm's length applying CUP method. (c) Export of finished goods: For benchmarking the transaction of exports, there was no internal comparable available to apply CUP method as the assessee and the AEs did not enter into similar transactions with unrelated parties. Hence, for determining the arm's length price of international tra....
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....ransactional Net Margin Method (TNMM) after combining the two transactions on an entity basis as against separate benchmarking the net profit margin from these transactions undertaken by the assessee. (II) The TPO has applied TNMM, in the case of the assessee, on entity basis, combining the international transactions of export of garments and receipt of buying service commission allegedly on the following basis- (a) The various costs have been allocated artificially for computing margin in different business segments for Transfer Pricing purposes. (b) Separate transactions closely interlinked and cannot be evaluated adequately on a separate basis (c) separate segmental accounts not maintained (III) For the purpose of determining the arm's length price in relation to international transactions, in terms of sub-section (2) of section 92C of the Act, Rule 10B of the Rules provides the manner of application of the various prescribed methods. Clause (e) of sub-rule (1) of Rule 10B of the Rules provides for application of Transactional Net Margin Method as under: "(e) Transactional Net Margin Method, by which,- (....
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.... Tribunal in the case of Development Consultants (P.) Ltd. (supra) reiterated the principle in this regard and provided to the following effect: "The assessee had entered into the following types of transactions (a) Engineering drawing and design services, (b) Deputation of employees, (c) Reimbursement of traveling costs and (d) Rendering data entry services through its group entity Datacore India. Therefore, the ALP of each of the international transactions should be determined separately as the nature of transactions entered by the assessee with its AEs was different. Hence, the ALP would be determined based on the nature of services provided by the assessee for each class of transaction taking into consideration the functions performed, assets employed and the risks assumed, by the respective parties to the transactions." (VI) Similar convtroversy came up before Mumbai Bench of the ITAT in the case of Star India Ltd. (supra). In this case TPO has ignored the detailed analysis of the various international transactions individually entered into by the assessee in respect of its two principal business activities namely the export business and buying services business. T....
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....ikewise, the third activity of export of television programmes or supply of content of television channels to its group entities is also an independent activity, in which assessee provides content procurement service and also acts as a creator/procurer of various types of content for sale to its group entities viz. Star Ltd. and SGL. The various types of content procured by the assessee fall under the category of programs, films, format shows, in house productions and promotions. The assessee procures content in any one of the ways, such as acquiring content from external producers, in house production, joint production with external producers. Assessee also produces the content on the basis of formal specified by the overseas entities and film procurement. In these activities, assessee's assets were utilized and the risks were assumed. This activity is also an independent activity and could not be linked up with the other two remaining activities. Since all the three activities of the assessee are not inter related or interlinked, the Arms Length Price for all the activities should have been determined independently, in the light of comparable case. But. the TPO has consolidated a....
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....ort Significant Insignificant NA (vi) Design & Development Insignificant NA (vii) Quality Control Significant NA (viii) General Management Functions Significant Significant (ix) Research, identification of supplier, sourcing and supply chain management NA Significant (x) Production management, quality control and Inspection NA Significant (xi) Developing customer/buyer relations NA Significant (xii) Merchandising - sample display NA Significant (xiii) Maintenance of shipping documentation NA Significant (xiv) Basic documentation support NA Significant II Risk Assumed (i) Inventory risk Significant Insignificant (ii) Credit risk - Domestic Significant Insignificant (iii) Marketing risk - Domestic Significant Insignificant (iv) Foreign Exchange risk Significant Insignificant (v) Technology risk Significant NA (vi) R & D risk....
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....M identified the following 9 comparable companies having average operating profit margin (OP/OC) at 10.57%: S.No. Name of the company OP/Sales OP/OC 1. Raymond Apparel Limited 12.14 12.99 2. Arvind Brands Limited -16.64 -13.91 3. Lux Industries Limited 2.44 2.49 4. Koutons Retail India Ltd. 15.44 18.26 5. Page Industries Limited 18.51 22.51 6. Kewal Kiran Clothing Ltd. 22.32 28.28 7. Nash Fashions India Limited 7.16 7.04 8. Oswal Knit India Limited 5.42 5.73 9. Microtex India Limited 10.51 11.71 Mean 8.59% 10.57% In this exercise the following companies have been unjustifiably included in the list of comparable companies by the TPO: (i) Raymond Apparel Limited: The company had substantially high related party transactions of 26.22% during the previous year 2005-06. Related Party Transactions (RPT) (Refer Annexure-I) Rs. 525,917,000 Total Revenue (TR) Rs. 2,005,427,000 RPT/TR % 26.22% Delhi ITAT in the case of Sony India Ltd. (supra) held t....
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....annual report are as follows: a. "Results of the company include effect of the above for part of the year and hence previous year figures are not strictly comparable. b. "Your Company had during the year acquired substantial assets of Kewal Kiran Enterprises, a partnership firm and therefore the data for the current year would not be strictly comparable with that of the previous year for the corresponding period. c. "As a result of restructuring of the group entities during the year, the entire apparel manufacturing and marketing business now rests with the company. Due to above major restructuring in the business of Kewal Kiran Clothing Limited, the relevant previous year was abnormal year and the operating result of the said company cannot be taken into account for the purpose of benchmarking analysis. iv. The TPO in his order sought to identify comparable companies considering turnover filter of 50-210 crores. In other words, only companies having turnover in the range of 50-210 crores were identified as comparable by the TPO. The TPO, however, inadvertently considered Microtex India Ltd. having turnover of 48.34 crores al....
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.... the assessee for exports made to related parties @17.41% is higher than the average of operating profit ratio of comparable companies, the international transaction of export of goods, therefore, considered being at arm's length using TNMM. (XII) The TPO has applied the operating profit margin of the aforesaid comparable companies to the value of all the international transactions as follows: Value of international transactions A 189,537,478.00 OP/OC of comparables 4.77% Arm's length Margin B=A*10.57% 9,047,836.18 Arm's length price 198,585,314.18 Margin shown by the assessee @2.57% C=A*2.57% 4,871,113.18 Difference B-C 4,176,722.99 % difference 2.20% 5.2 The adjustment on account of the difference in the arm's length price computed by the TPO in the impugned order passed under section 92CA(3) of the Act being within the range of +/- 5%, is thus liable to be excluded. The provision reads as under: "92C. Computation of arm's length price. ** ** ** (2) The most appropriate method referred to in sub-section (1) shall be applied, for determination of arm's len....
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....essee company after excluding some of the expenses, such as, rent, advertisement, shop running and guarantee charges, etc., is worked out at 20.41% (OP/Sales %) as against 15.29% in case of the comparable companies. 5.7 The low profitability of the assessee company being largely attributable to the expenses incurred by the assessee to establish and promote itself in the domestic market, has nothing to do with the various international transactions undertaken with associated enterprise. 6. Learned DR supports the TPO's reports and orders passed by AO and DRP and contends that T.P. analysis requires consideration of various bench marks, comparable & FAR analysis. The TPO has given detailed reasons in support of analysis which should be upheld. 7. We have heard rival contentions, perused the material available on record. The first and foremost question in this case is to determine whether the action of TPO in undertaking entity level benchmarking by TNM method combining of the international transactions is justifiable or the TP analysis provided by assessee, based on "transaction to transaction" basis in respect of different segments should be adopted. 7.1 From the facts m....