TaxTMI 
TaxTMI 
2019 (10) TMI 845
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....llant assessee, Samsung India Electronics Pvt. Ltd. (SIEL), is a company incorporated in India under the Companies Act, 1956 and is primarily engaged in the business of manufacture and sale of consumer electronics and home appliances goods such as colour televisions, refrigerators, air conditioners, washing machines, microwave ovens, computer peripherals etc. The appellant company is a part of the Samsung group of companies. It is 100% subsidiary of Samsung Electronics Co. Ltd. Korea ('SEC'). One common ground permeating in all the years except for the appeal for AY 2006-07 is the ground pertaining to transfer pricing adjustment made on account of advertising and marketing promotion (AMP) expenditure incurred by the appellant, which shall be dealt firstly and subsequently, all other grounds shall be taken up. AY 2005-06 3. Facts in brief for the AY 2005-06 are that, the appellant had filed its return of income on 31 October 2005, declaring a loss of Rs. 6,35,44,316. The assessing officer referred the case to the Transfer Pricing Officer - II (2), New Delhi (TPO) for determination of the arm's length price (ALP) of the international transactions entered into by the appellant w....
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....l transactions in Classes III, IV, V, VI and VII, which are in respect of segments pertaining to post sale support services, software development service and other miscellaneous transactions, i.e., payment on royalty and reimbursement of expenditure. 5. In respect of Class -I (manufacturing) segment, following transactions have been grouped together by the appellant in its transfer pricing study prepared under rule 10B of the Income Tax Rules 1962 (Rules); i) Import of raw-materials; ii) Import of spare parts' iii) Export of financial goods; iv) Purchase of goods on sample basis; v) Purchase of sales promotion material; As stated above, assessee is engaged in the manufacturing of consumer electronic goods, home appliances and colour monitors. Cost Plus Method (CPM) was chosen qua this segment as the most appropriate method in its transfer pricing study. The profit level indicator taken was taken as gross profit/input costs. For the benchmarking exercise, an economic analysis was carried out in the TP study leading to identification of 11 uncontrolled comparable companies. Since appellant had earned gross profit margin of 36.6% whic....
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....isement was Rs. 306.38 crores, on account of reimbursement received was Rs. 142.39 crores, the net amount of Rs. 306.38 (-) Rs. 142.39 crores = 163.99 crores was shown as the net advertisement expenditure. The TPO concluded that this was an erroneous approach and was of the view that the entire amount of Rs. 306.38 crores incurred under the head "advertisement" should be taken into account to compute operating profit and the operating profit margin. This approach and calculation of the TPO was based on a similar approach adopted in the prior assessment years. Accordingly, while the operating expenditure under the head advertisement was increased from Rs. 163.99 crores to Rs. 306.38 crores leading to fall in operating profit and margin, the corresponding reimbursement of Rs. 142.39 crores received from the appellant's parent company was not included as part of the revenue. Based on this approach, the operating profit margin (OP/OR) of the manufacturing segment was determined at (-) 4.34% and the distribution segment at (-) 3.5%. The TPO further proceeded to undertake a fresh benchmarking analysis of the uncontrolled comparable companies and arrived at a set of 12 comparable companie....
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....Advertisement as compared to the comparables (F) = (B)-(E) 2,646,530,864 Less: Reimbursement received from its parent SEC 1,423,950,954 Adjustment proposed as per secondary analysis (Rs.) on protective basis 1,222,579,910 However, no addition was made by the TPO/AO in this respect and this analysis was meant to the used if the additions made under TNMM for Class I and II were deleted in appeal. This was an alternate and without prejudice analysis given by the TPO. 10. The AO incorporated the adjustment to the ALP made by the TPO and further made the following additions to total income:- (a) Recruitment and training expenses of Rs. 1,72,98,334 was treated as capital expenditure and not allowable as a revenue expenditure u/s 37 of the Act; (b) Loss arising on account of fluctuation of foreign exchange currency amounting to Rs. 7,79,52,000 was disallowed as being notional and contingent in nature. Subsequently, the Ld. AO passed an order (u/s 154) dated July 24, 2009 deleting the addition made on this account; (c) Depreciation on UPS, printers and servers was restricted to 15% as against 60% claimed by the appellant leading to a disallow....
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....ars' average data to determine the average profit margin of the comparables was not in accordance with law and it should be restricted to only current year data. While holding so, he once again relied on his predecessor's order of A.Y. 2004-05; (h) As regards the issue of re-computation of profit margin of the appellant by treating the reimbursement received from its AE as operating expenditure while not treating the same as operating income, the CIT(A) held the same to be unjustified. He held that this approach of the TPO had been adopted in prior assessment years as well but the same had been negated by his predecessors in A.Yrs. 2002-03 to 2004-05. By relying on these prior years' orders, he held that the reimbursement of Rs. 142.39 crores was to be treated as operating income and profit as well. (i) The CIT(A), however, approved the secondary analysis carried out by the TPO in respect of the AMP expenditure whereby he had made a protective assessment on account of "excessive" AMP expenditure incurred by the appellant to promote the "Samsung" brand. As per the TPO, since the appellant's combined AMP expenditure for this year at 7.7% of sales was much higher tha....
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.... advertisement expenses by making proper comparative analysis. I therefore hold that addition on account of excess marketing expenses stands confirmed to the tune of Rs. 122,25,79,910." (Page 31 of the impugned order). (j) The CIT(A) held that the benefit of 5% provided in the Proviso to Section 92C(2) is not a standard deduction and if the difference between the transfer price and ALP exceeds 5%, the whole of such difference shall be treated as an adjustment. (k) The CIT(A) computed the profit margin of the appellant at (- ) 0.64% as against the comparables mean profit margin at (-) 7.37% using current year data for the Class I manufacturing segment leading to the deletion of the TP adjustment made in this segment. Further, the margin of the Class II Distribution segment of the appellant was worked out to be 0.21% as against the mean margin of the comparables at 0.38% leading to adjustment of Rs. 3,30,33,800 in this segment. The margins were computed after giving effect to the CIT(A)'s findings on treatment of reimbursement, exclusion of certain comparables and use of current year data for the comparables. (l) As regards the disallowance pertaining to tr....
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....rd to the appellant and mechanically accepting the secondary analysis (of determining the arm's length price of marketing intangibles) undertaken by TPO in respect of reimbursement of advertisement expenses, thereby failing to pass a speaking order. GROUND NO. 3.3: The AO/CIT(A) has acted in excess of jurisdiction assigned under the Indian transfer pricing regulations by analyzing the advertisement expenditure of the appellant, in plain disregard of the fact of the same, being a domestic transaction undertaken by the parties, does not fall under the purview of Section 92 of the Act. GROUND NO. 3.4: The AO/CIT (A) has erred in concluding that the appellant has incurred excess advertising expenditure vis-àvis comparable companies and should have accordingly, been reimbursed for the same. GROUND NO. 3.5: The AO/CIT (A) has erred in not appreciating that the advertisement expenditure was incurred exclusively for promotion of products of the appellant in India and was in the nature of business expenditure allowable as deduction. Ground NO. 3.6: The CIT(A) has erred in upholding the secondary analysis undertaken by the TPO when the arm's length ....
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....siness) which was reduced to Rs. 39,43,68,561/- (i.e. Rs. 31,31,05,771/- under the non-IT segment and Rs. 8,12,62,790/- under the IT segment) by the Ld. DRP. 17. On this issue, the Ld. Counsel for the appellant assessee right at the onset submitted that the approach adopted by the TPO and the CIT(A) in respect of the AMP expenditure has come to be known as the "Bright line test" which has been subject matter of extensive litigation before the ITAT and the High Courts. The Special Bench of this Tribunal in the case of L.G. Electronics [2013] 140 ITD 41 had approved this approach and had held that excessive expenditure could be treated as a separate international transaction that could be subjected to arm's length exercise on its own. While holding so, the Special Bench had laid down extensive guidelines to determine the value of the international transaction and the ALP of the same. Subsequently, the Hon'ble Jurisdictional Delhi High Court in the case of Sony Ericsson [2015] 374 ITR 118 has held that the "Bright line test" was not a valid test of determining the ALP of the AMP transaction as it was not statutorily mandated. The High Court further laid down numerous guidelines and....
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....ions of Maruti Suzuki, Whirlpool and Bausch & Lomb (supra), there is no room for any confusion regarding the treatment of AMP expenditure as a separate international transaction. The Hon'ble Delhi High Court in these decisions has categorically held that for an international transaction to exist within the meaning of Section 92B, the Revenue has to show that there existed an agreement or understanding or arrangement, that the Indian entity would incur AMP expenditure for or on behalf of the AE which owns the brand. In the absence of such "action in concert", no international transaction can be said to exist. If the existence of international transaction cannot be established with any degree of certainty, the question of determining the ALP of the same would not arise. 20. The same principle has been upheld in numerous other judgments of the Delhi High Court as cited below:- • Goodyear India Limited (ITA 77/2017 & CM Nos. 3072- 73/2017, ITA 78/2017 & CM Nos. 3074-75/2017, ITA 79/2017 & CM No. 3076/2017) • Amadeus India Pvt. Ltd. (ITA 154/2017) • Casio India Company Private Limited (ITA 309/2016) • Maruti Suzuki India Ltd (ITA No....
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....transaction cannot be limited to the amount of reimbursement received (Rs. 142.39 crores for AY 2005-06) but extended to the entire quantum of AMP expenditure incurred by the appellant during the year (Rs. 306.39 crores for AY 2005-06). He referred to the terms of the MDF agreement which provided for assistance in respect of marketing activities pertaining to the "Samsung" brand in print and electronic media. These obligations, in his view, showed that the appellant was acting in concert with its AE in respect of the brand promotion in India. 23. In rejoinder, the Ld. Counsel, Mr. Sinha submitted that it is an admitted position of the assessee that there is an understanding or arrangement under the MDF agreement in respect of AMP expenditure. However, such a transaction or arrangement is strictly limited to the value of reimbursement (Rs. 142.39 crore) received by the appellant under the agreement. These reimbursements have been received against pre-approved invoices under a budget/cap stipulated by the AE at the beginning of the year. There is no tangible material or evidence to show that even a rupee beyond this amount was spent under an understanding or arrangement or action ....
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....penses and have no nexus with brand promotion or advertising in any manner. These expenses include purely operational expenses incurred in connection with dealers and sales promotion. The Hon'ble Delhi High Court in Sony Ericsson (supra) has held that selling costs cannot form part of the AMP transaction. Only those expenses which related to promotion of brand and advertising of brand can be taken. Sales related costs like dealer commission, discounts, sales promotions and trade event expenditures cannot be taken as part of the advertising costs. In this case, the TPO and the CIT (A) have erred in not distinguishing between the sales and brand promotion costs leading to a distorted picture. It was accordingly submitted that if at all the AMP expenditure was to be permitted to be taken as a separate international transaction, the value and ALP of the same has to be limited to the brand promotion related expenses and should exclude selling costs.The Ld. Counsel also submitted that for AYs 2007-08 to 2010-11, the TPO has also erroneously considered rebates & discounts, in addition to sales promotion and selling expenditure, as a part of AMP. Further, the TPO himself for AY 2005-06 & 2....
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....as given his clear findings on both these aspects. Once the TNMM analysis has been subject matter of analysis at the hands of TPO and the CIT (A), it would serve no purpose in segregating the AMP expenditure as a separate transaction at this stage of second appeal. 28. The Ld. CIT (DR) submitted that despite having examined all the international transactions in a bundled manner under TNMM, the Ld. TPO and Ld. CIT (A) are justified in subjecting the AMP transaction to a Cost Plus Method on a standalone basis, because this expenditure has been incurred to benefit the brand "Samsung" which is owned by the Appellant's parent company and no remuneration for this brand promotion service has been received. 29. The Ld. Counsel then submitted that the Revenue has grossly erred in equating AMP expenditure with brand building and in alleging that "excessive" AMP expenditure beyond the bright line is a brand promotion service. He submitted that brand is a capital asset and it would be fallacious to treat any and all AMP expenditure as leading to brand building. Brand-building leads to enhancement of value of the brand and benefits the brand owner as much as it helps the brand-exploiter l....
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....nd belief regarding the impact of advertising on sales. Empirical studies have shown that there is no positive correlation between advertising and increase in sales and no specific return on investment (ROI) can be inferred in respect of expenditure incurred on advertisement. To support this proposition he referred to a scholarly article authored by Justin M. Rao of Microsoft and Randall A. Lewis of Google titled "The Unfavourable Economics of Measuring the Returns to Advertising" published in The Quarterly Journal of Economics (2015) 1941-1973, Oxford University Press which contains a rigorous analysis of correlation between advertising spend and increase in sales. The conclusion drawn in this article is that it is not possible to quantify the extra sales that can be generated based on incremental AMP spend. It also contains empirical data showing wide variation of AMP spend among competitors in the same sector or industry. Based on the above, it has been submitted that it is not possible to determine the impact of increased intensity of advertising function on profit margin, because the impact of advertising on sales cannot be determined and quantified. In the absence of a quanti....
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....evel and this activity is being carried out at the behest of the AE and the brand development benefit is solely derived by the AE itself. Such an arrangement, in his view, can be inferred from the terms of the agreement and the conduct of the assessee. 32. The Ld. Counsel for the Appellant in his rejoinder submitted that in the present case, there is no clause in the MDF agreement between the assessee and its foreign AE which shows that the assessee represented interests of the foreign AE in India. Further, the assessee has already disclosed the reimbursement of Rs. 142.39 crores in its Form 3CEB as an international transaction and has justified its ALP in the TP report using CUP method for AY 2005-06. Similar disclosures have been made in other years as well. The amount reimbursed is in the nature of assistance received against specific pre-approved invoices under a capped budget specified in advance. The value of this international transaction cannot be extended or stretched beyond the amount reimbursed because the understanding between the appellant and its AE is limited to Rs. 142.39 under the terms of the MDF agreement itself. Accordingly, it was not possible to rely on thi....
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....6 35. As regards the approach of the TPO to make a "protective assessment", the ld. Counsel submitted that such an approach is impermissible in law. Protective assessment cannot be made in the hands of the same assessee on an alternative basis. It has a limited application to cases where a single item of income is assessed in the hands of two distinct persons as the identity of the real owner of income is not known or is not clear. In this regard he relied on the decision of the ITAT in the case of MSD Pharmaceuticals (P.) Ltd. v. ACIT [2018] 191 TTJ 702 (Delhi - Trib.).The Ld. Counselalso placed reliance on the decision of Hon'ble Supreme Court in the case of Lalji Haridas v Income Tax Officer: [1961] 43 ITR 387 wherein it was held that protective assessment can only be made in respect of two separate entities to ensure that income does not escape taxation. Ld. CIT(DR) relied on the order of the lower authorities. DECISION 36. We have heard the rival submissions, perused the relevant findings given in the impugned orders as well as material referred to before us in respect of transfer pricing issue pertaining to AMP adjustment made by the TPO. We have already discussed in....
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.... exists any agreement, arrangement or action in concert between the two related parties, the onus rests on the Revenue to demonstrate the same before it can apply the provisions of Chapter X on the AMP expenditure. In the present case, the only ground on which the Ld. TPO and the Ld. DRP have concluded that the AMP expenditure constitutes an "international transaction" is the "excessive" quantum of expenditure which is stated to be much above the "bright line" of the average AMP spend of the comparable companies. This approach, to our mind, is contrary to law and untenable. 38. Our view is bolstered by the various decisions of the Hon'ble Delhi High Court and coordinate benches of this Tribunal in this regard. In Whirlpool of India Ltd. v. DCIT (2016) 381 ITR 154 (Del), the following relevant principles have been laid down by the Court which have been reiterated/followed in other decisions as well: (a) Sections 92B to 92F contemplate the existence of an international transaction as a pre-requisite for commencing the TP exercise. The Court observed that "to begin with there has to be an international transaction with a certain disclosed price. The TP adjustment envisages....
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....cannot be shown that such an international transaction was entered into by the assessee. In Court's words, "It is in this context that it is submitted and rightly by the Assessee that there must be a machinery provision in the Act to bring an international transaction involving AMP expense under the tax radar. In the absence of clear statutory provision giving guidance as to how the existence of an international transaction involving AMP expense, in the absence of an express agreement in that behalf, should be ascertained and further how the ALP of such a transaction could be ascertained, it cannot be left entirely to surmises and conjectures of the TPO." (Para 39). The Court further held that after the invalidation of the Bright line test by the Delhi High Court in Sony Ericsson (supra), existence of an international transaction of AMP expenditure has to be established de hors the Bright line test. 39. It is also pertinent that the Hon'ble Court further held that as per the principles laid down by the Apex Court in CIT v. B.C. Srinivasa Setty [1981] 128 ITR 294 (SC) and PNB Finance Ltd. v. CIT [2008] 307 ITR 75 (SC), in the absence of a machinery provision, bringing an imagined....
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....n all these years have also been indisputably disclosed and explained in the Form 3CEB and in the TP study. The question that requires our adjudication is whether by virtue of this agreement, the so-called "excessive" AMP expenditure of the assessee (which is much higher than the assistance received under the MDF agreement) can be treated as an international transaction u/s 92B. For this we need to advert to the terms of the MDF agreement. Relevant clauses of the MDF agreement applicable for A.Y. 2005-06 (the agreements pertaining to other years are materially similar) are extracted as below: "Marketing Fund Agreement THIS AGREEMENT made and entered into this 1st day of January, 2004 by and between Samsung Electronics Co., Ltd., a corporation duly organized and existing under the laws of the Republic of Korea, having its head office at Samsung Main Bldg, 250-2Ka Taepyung-Ro, Chung-Gu, Seoul, Korea (hereinafter referred to as "SEC") and Samsung India Electronics a corporation duly organized and existing under the laws of INDIA, having its principal office at 3rd, IFCI Tower, Nehru Place, New Delhi, INDIA (hereinafter referred to as "DISTRIBUTOR") Article 1. Purp....
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....lar item of expenditure. It is solely on its own volition that the AE determines the activity it wants to finance/reimburse/assist. Therefore, it is not possible to infer the existence of an international transaction beyond what has been reimbursed. 42. In a similar situation, coordinate Bench of this Tribunal has examined the issue of existence of an "international transaction" in the case of PepsiCo India Holdings Pvt. Ltd. v. Addl. CIT (I.T.As. No. 1334/CHANDI/2010, 1203/ CHANDI /2011, 2511/DEL/2013, 1044/DEL/2014 & 4516/DEL/2016) where the assessee, an Indian company had reimbursed a portion of the sponsorship expenditure (for international cricket events) incurred by the AE for the benefit of certain group companies including the assessee. The Revenue had contended that by virtue of this reimbursement the entire AMP expenditure of the assessee should be treated as an international transaction and subject to determination of arm's length price under Chapter X of the Act. This view was categorically repelled by the Coordinate Bench by observing as below: "52....... In any case, if at all, ALP was to be determined then it should have been strictly circumscribed to the....
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....more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to anyone or more of such enterprises. From the plain reading of the aforesaid Section, it is quite clear that: (i) the transaction has to be between two or more associated enterprises either or both of whom are non-resident; (ii) the transaction is in the nature of purchase, sale or lease of tangible or intangible property or provision of services or lending or borrowing money; (iii) or any other transaction having bearing on the profits, income, loss or assets of such enterprises; (iv) all such nature of transaction described in the section will also include mutual agreement and the arrangem....
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....ings." This definition of transaction has to be read in conjunction with the definition given in section 92B, which means that the transaction has to be first in the nature given in Section 92B (1); and then when such transaction includes any kind of arrangement, understanding or action in concert amongst the parties, whether in writing or formal, then too it is treated as international transaction. Here the conjoint reading of both the sections lead to an inference that in order to characterized as international transaction, it has to be demonstrated that transaction arose in pursuant to an arrangement, understanding or action in concert. Such an arrangement has to be between the two parties and not any unilateral action by one of the parties without any binding obligation on the other or without any mutual understanding or contract. If one of the party by its own volition is entering any expenditure for its own business purpose, then without there being any corresponding binding obligation on the other or any such kind of an arrangement actually existing in wring or oral or otherwise, it cannot be characterized as international transaction within the scope and definition of Secti....
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....for the purposes of the 'means' part of clause (b) and the 'includes' part of clause (c,) the revenue has to show that there exists an 'agreement' or 'arrangement' or 'understanding' between MSIL and SMC whereby MSIL is obliged to spend excessively on AMP in order to promote the brand SMC...... 61......Even if the word 'transaction' to include 'arrangement', 'understanding' or 'action in concert', 'whether formal or in writing', it still incumbent on the revenue to show the existence of an 'understanding' or an 'arrangement' or 'action in concert' between MSIL and SMC as regards AMP spend for brand promotion. In other words, for both the 'means' part and the 'includes' part of Section 92B (1) what has to be definitely shown is the existence of transaction whereby MSIL has been obliged to incur AMP of a certain level for SMC for the purposes of promoting the brand of SMC." Same proposition has been upheld by the Hon'ble Jurisdictional High Court in the case of Whirlpool of India Ltd. vs. DCIT, Bausch & Lomb Eyecare India Pvt. Ltd. vs. ACIT (supra) and Honda Siel Power Products Ltd. vs. DCIT (supra)" 43. In the present case we find that the Revenue has not been able t....
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....n the context of domestic law and international jurisprudence and arrived at a conclusion that such an approach is untenable and contrary to law and not sanctioned by international jurisprudence. The concluding remarks of the Hon'ble High Court are as below: "127. We agree and accept the position in the portion reproduced above in bold and italics. The object and purpose of Transfer Pricing adjustment is to ensure that the controlled taxpayers are given tax parity with uncontrolled taxpayers by determining their true taxable income. There should be adequate and proper compensation for the functions performed including AMP expenses. Thus, we disagree with the Revenue and do not accept the overbearing and orotund submission that the exercise to separate 'routine' and 'non-routine' AMP or brand building exercise by applying 'bright line test' of non-comparables and in all case, costs or compensation paid for AMP expenses would be 'NIL', or at best would mean the amount or compensation expressly paid for AMP expenses. Unhesitatingly, we add that in a specific case this criteria and even zero attribution could be possible, but facts should so rev....
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....e decision of the Hon'ble Delhi High Court in the case of Sony Ericsson (supra) wherein the Court observed as below: "101. However, once the Assessing Officer/TPO accepts and adopts TNM Method, but then chooses to treat a particular expenditure like AMP as a separate international transaction without bifurcation/segregation, it would as noticed above, lead to unusual and incongruous results as AMP expenses is the cost or expense and is not diverse. It is factored in the net profit of the inter-linked transaction. This would be also in consonance with Rule 10B(1)(e), which mandates only arriving at the net profit margin by comparing the profits and loss account of the tested party with the comparable. The TNM Method proceeds on the assumption that functions, assets and risk being broadly similar and once suitable adjustments have been made, all things get taken into account and stand reconciled when computing the net profit margin. Once the comparables pass the functional analysis test and adjustments have been made, then the profit margin as declared when matches with the comparables would result in affirmation of the transfer price as the arm's length price. Then to m....
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....gnition that the logo or the name guarantees a consistent level of quality and expertise. Leslie de Chernatony and McDonald have described "a successful brand is an identifiable product, service, person or place, augmented in such a way that the buyer or user perceives relevant, unique, sustainable added values which match their needs most closely." The words of the Supreme Court in Civil Appeal No.1201 of 1966 decided on 12th February, 1970 in Khushal Khenger Shah v. Mrs. Khorshedbanu, DabridaBoatwala, to describe 'goodwill', can be adopted to describe a brand as an intangible asset being the whole advantage of the reputation and connections formed with the customer together with circumstances which make the connection durable. The definition given by Lord MacNaghten in Commissioner of Inland Revenue v. Muller & Co' & Margarine Ltd. [1901] 217 AC 223 can also be applied with marginal changes to understand the concept of brand. In the context of 'goodwill' it was observed: "It is very difficult, as it seems to me, to say that goodwill is not property. Goodwill is bought and sold every day. It may be acquired. I think, in any of the different ways in whi....
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....ssage or period of time in the form of widespread popularity and universal approval and acceptance in the eyes of the customer. To use words from CIT v. Chunilal Prabhudas& Co. AIR 1971 Cal 70, it would mean: '... It has been horticulturally and botanically viewed as "a seed sprouting" or an "acorn growing into the mighty Oak of goodwill". ... It has been historically explained as growing and crystallising traditions in the business. It has been described in terms of a magnet as the "attracting force". In terms of comparative dynamics, goodwill has been described as the "differential return of profit." Philosophically it has been held to be intangible, Though immaterial, it is materially valued. Physically and psychologically, it is a "habit" and sociologically it is a "custom". Biologically, it has been described by Lord Macnaghten in Trego v. Hunt, 1896 AC 7 as the "sap and life" of the business. It has been horticulturally and botanically viewed as "a seed sprouting" or an "acorn growing into the mighty Oak of goodwill". It has been geographically described by locality. It has been historically explained as growing and crystallising traditions in the busine....
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....ed issue, surely not just related to advertisement. Advertisements may be the quickest and effective way to tell a brand story to a large audience, but just that is not enough to create or build a brand. Market value of a brand would depend upon how many customers you have, which has reference to brand goodwill, compared to a baseline of an unknown brand. It is in this manner that value of the brand or brand equity is calculated. Such calculations would be relevant when there is an attempt to sell or transfer the brand name. Reputed brands do not go in for advertisement with the intention to increase the brand value, but to increase the sales and thereby earn larger and greater profits. It is not the case of the Revenue that the foreign AEs are in the business of sale/transfer of brands. 107. Accounting Standard 26 exemplifies distinction between expenditure incurred to develop or acquire an intangible asset and internally generated goodwill. An intangible asset should be recognised as an asset, if and only if, it is probable that future economic benefits attributable to the said asset will flow to the enterprise and the cost of the asset can be measured reliably. The esti....
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....fluctuates from one moment to another, depending upon reputation and everything else relating to business, personality, business rectitude of the owners, impact of contemporary market reputation, etc. Importantly, there can be no account in value of the factors producing it and it is impossible to predicate the moment of its birth for it comes silently into the world unheralded and unproclaimed. Its benefit and impact need not be visibly felt for some time. Imperceptible at birth, it exits unwrapped in a concept, growing or fluctuating with numerous imponderables pouring into and affecting the business. Thus, the date of acquisition or the date on which it comes into existence is not possible to determine and it is impossible to say what was the cost of acquisition. The aforesaid observations are relevant and are equally applicable to the present controversy. 110. It has been repeatedly held by Delhi High Court that advertisement expenditure generally is not and should not be treated as capital expenditure incurred or made for creating an intangible capital asset. Appropriate in this regard would be to reproduce the observations in CIT v. Monto Motors Ltd. [2012] 206 Taxma....
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....e situation in case we apply the parameters and the 'bright line test' in terms of paragraph 17.4 or as per the contention of the Revenue, i.e. AMP expenses incurred by a distributor who does not have any right in the intangible brand value and the product being marketed by him. This would be unrealistic and impracticable, if not delusive and misleading. (Aforesaid reputed Indian companies, it is patent, are not to be treated as comparables with the assessed, i.e. the tested parties in these appeals, for the latter are not legal owners of the brand name/trademark.)." 48. Placing reliance on the above extracts of the Sony Ericsson decision (supra), a coordinate bench of this Tribunal in PepsiCo (supra) held as below: "60. Thus, the Hon'ble High Court after describing the concept of the "brand" had made a clear cut demarcation between development and exploitation of brand which is either in the form of trademark or goodwill which takes place over a passage of time by which its value depends upon and is attributable to intangibles other than trademark like, infrastructure, knowhow, ability to compete in the established market, lease, etc. Brand value does not r....
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....t no adjustment is required on AMP expenditure incurred by full-fledged manufacturers. The report contains various examples pertaining to manufacturer. The following passage from the report is quite relevant which for the sake of ready reference is quoted hereinbelow: "6.40 The legal owner will be considered to be the owner of the intangible for transfer pricing purposes. If no legal owner of the intangible is identified under applicable law or governing contracts, then the member of the MNE group that, based on the facts and circumstances, controls decisions concerning the exploitation of the intangible and has the practical capacity to restrict others from using the intangible will be considered the legal owner of the intangible for transfer pricing purposes. 6.41 In identifying the legal owner of intangibles, an intangible and any licence relating to that intangible are considered to be 87 different intangibles for transfer pricing purposes, each having a different owner. See paragraph 6.26. For example, Company A, the legal owner of a trademark, may provide an exclusive licence to Company B to manufacture, market, and sell goods using the trademark. O....
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....e legal owner of the intangible will not be entitled to any portion of the return derived by the MNE group from the exploitation of the intangible other than the Arm's Length compensation if any for holding the title." 50. In view of the above, we hold that in case of licensed manufacturers like the appellant who bear the full risks and rewards of manufacturing and selling their goods in the Indian market, the concept of brand promotion being for the benefit of the AE has no application at all. As regards brand building expenses incurred by a distributor who does not own the brand, the same needs to be examined from a long-term perspective whereby the ability of the distributor to recover the advertising costs by way of increased sales for a reasonable period of time is to be judged. Once a distributor arrangement in place for a fairly long period of time (as in the present situation where the assessee is the distributor of "Samsung" products in India), expenses on advertising cannot be subjected to a stand-alone analysis as a "service" to its AE on a year to year basis. This question of compensating an Indian distributor would arise only if the parties prematurely terminate the....
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....e subjected to Chapter X analysis, these issues are rendered infructuous and academic. 53. Thus, in view of our finding given above we hold that, no adjustment can be made in the case of the appellant on account of AMP expenses and same is directed to be deleted. OTHER GROUNDS IN ITA No. 3248/DEL/2012)AY 2005-06 GROUND NO. 4: The CIT has erred in not appreciating that no adjustment is warranted in respect of transactions undertaken by the appellant with its AEs in Class II segment since the underlying difference between the transfer price and arm's length price does not exceed 5% of the latter and thus, the case is squarely covered by the proviso to section 92C (2) of the Act. 54. In respect of Class II (Distribution of consumer electronics, home appliances and other IT and Telecom Products) segment, the Appellant had adopted Resale Price Method (RPM) and had chosen 5 comparables in its transfer pricing documentation with a mean margin of 6.45%. The Ld. TPO rejected RPM and chose TNMM as the most appropriate method. Further, the TPO also altered the set of comparables and adopted a set 13 comparables with a mean net profit margin of (-) 0.447%. The TPO also comput....
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....nal transactions under Class I - Manufacturing and Class II - Distribution Segment. 57. The Assessee is engaged in manufacturing of consumer electronics, home appliances &colour monitors (known as Class IManufacturing segment) which includes the import of raw materials, import of spare parts, export of finished goods, purchase of samples and purchase of sales promotion material. In the TP Study, the Assessee selected 11 comparables. The TPO proceeded to undertake a fresh analysis and arrived at a fresh set of comparables by accepting certain comparables of the Assessee and introducing certain new comparables. The comparables which were introduced by the TPO and thereafter rejected by the CIT (A) are under challenge by the Department in its appeal. The Department's appeal is in respect of two comparables, namely, Videocon Industries Ltd. and Samtel Colour Ltd. 58. Videocon Industries Ltd (Class I- Manufacturing): The company was included by the Ld. TPO in the final list of comparables by merely relying on its predecessor's order for AY 2004-05. On appeal by the Assessee, the Ld. CIT(A) excluded this comparable by relying on its predecessor's order for AY 2004-05 wherein it was....
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.... it functionally incomparable to companies which import the same parts. 61. We have analyzed the functional and product profile of Videocon and find that it is a component manufacturer, whereas the assessee's manufactured goods are in the category of finished goods. Though the components like glass shells and funnels are components of TV sets which are manufactured by the assessee, it would be wholly inappropriate to treat the two as comparables under TNMM as they operate in entirely different sectors. While components are sold to OEMs, finished goods are sold to endcustomers and face entirely diverse market risks and dynamics. Furthermore, in the prior years this comparable has been rejected in first appeal by the CIT (A) and no appeal was preferred against the same. It is important to maintain consistency if there is no change in facts. We also note that the coordinate Bench has, under similar facts, examined the appropriateness of this comparable in Sony India (supra) and held it to be inappropriate. In view of the above, we dismiss this ground of appeal and hold that Videocon has been rightly excluded by the CIT (A) from the list of comparables. 62. Samtel Colour Limited ....
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....paucity of data or comparables, the RPT threshold may have to be relaxed upwards for reasons of practicality. However, in situations where sufficient numbers of comparables are available by applying a lower threshold, the same should be preferred as the results are likely to be more accurate. The same view has been expressed by the coordinate Bench in the case of Motorola Solutions India Pvt. Ltd.[2014] 35 ITR(T) 546 (Delhi - Trib.) We accordingly hold that since in the given situation sufficient numbers of comparables are available even by following the lower level of threshold of 15%, the same should be followed. This ground is accordingly dismissed and the order of the Ld. CIT (A) is upheld. 67. Now we come to Class II-, which is DISTRIBUTION SEGMENT: The Assessee is engaged in distribution of consumer electronics, home appliances, colour monitors and other IT & Telecom products (known as Class II- Distribution segment) which includes import of finished goods, import of spare parts, export of spare parts, purchase of samples, export of samples, payment for packing & R&D expenses, purchase of sales promotion material. In the TP Study, the Assessee selected 5 comparables. The T....
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.... 72. We have perused the Annual Report of this company and we find that this company is engaged in manufacturing activity. The products are also very dissimilar to those traded by the assessee in its Class II segment. The financials of this company state that it has a single segment comprising of, "Coding and Marking Machines and Consumables thereof". It is quite obvious that this comparable is wholly unfit to be chosen as a comparable to the trading segment of the assessee as it is functionally dissimilar. In A.Y 2004-05, this comparable was ordered to be removed by the CIT (A) and no appeal was filed against his order. In these circumstances, we hold that the Ld. CIT (A)'s order in this regard is correct and justified and does not warrant any interference. 73. Gemini Communications Limited (Class II- Distribution): The Ld. TPO included this comparable by merely relying on its predecessor's order for AY 2004-05. The Ld. CIT (A) excluded this comparable by relying on his predecessor's order for AY 2004-05 wherein it was held that the functional/business profile of the company vis-à-vis the Assessee is dissimilar. It is a full-fledged and end-to-end IT solutions and serv....
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....n case for AY 1999-2000, 2002-03 and AY 2003-04 wherein the Delhi High Court affirmed the decision of this ITAT of allowing the deduction of expenditure incurred on recruitment and training of employees. The Ld. AO erred in treating it as a deferred revenue expenditure on the assumption that recruitment expenses will result in long term benefit. He failed to appreciate that such expenditure was revenue in nature, incurred for the purpose of business and therefore allowable under section 37(1) of the Act. Ld. CIT (DR) relied on the order of the CIT (A). 78. It has now been settled that recruitment and training expenses have to be treated as revenue expenditure and cannot be seen as leading to enduring benefit warranting any disallowance. We observe that similar disallowances were made in the prior years as well which have been deleted in appeal. The issue travelled up to the High Court and the Hon'ble Delhi High Court has affirmed the view taken by this Tribunal that these expenses are allowable in full in the year in which it is incurred. Orders dated 9.06.2013 and 15.05.2017 in the appeals for A.Yrs. 1999- 2000 and 2003-04 respectively of the Delhi High Court have been placed b....
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.... in its transfer pricing study for both these segments. The profit level indicator taken was operating profit/operating revenue. For the benchmarking exercise in Class-I and Class-III segments, an economic analysis was carried out in the TP study leading to identification of 6 and 5 uncontrolled comparable companies respectively. Since the appellant had earned profit margin of 2.22% and 6.8% in the Class-I and Class- III segments respectively which was within the +/- 5% range of the profit margin earned by the comparables, it was concluded that the international transactions were at arm's length. 82. In Class-II (trading segment), the appellant was engaged in the trading of consumer electronic goods and home appliances and in Class-IV (trading segment), the appellant was engaged in the trading of colour monitors and other IT products. For Class-II and Class-IV segments, Resale Price Method (RPM) was chosen as the most appropriate method to determine the ALP with Gross Profit margin (gross profit /sales) as the profit level indicator. The economic analysis carried out in the TP Study for Class-II and Class-IV segments resulted in identification of 12 and 9 uncontrolled independen....
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....isement was increased from Rs. 143.61 crores to Rs. 229.84 crores leading to fall in operating profit and margin, the corresponding reimbursement of Rs. 86.22 crores received from the appellant's parent company was not included as part of the revenue. Based on this approach, the operating profit margin (OP/OR) of Class-I and Class-III manufacturing segments was determined at (-) 0.16% and 4.42% respectively. Further, the operating profit margin (OP/OR) of Class-II and Class-IV trading segments was determined at (-) 1.94% and (-) 3.36% respectively. 84. The TPO further proceeded to undertake a fresh benchmarking analysis of the uncontrolled comparable companies and arrived at a set of 5 comparable companies for the Class-I manufacturing segment, 3 comparables for the Class-II trading segment and 11 comparables for Class-IV trading segments. The arithmetic mean of the operating profit margin (OP/OR) of these comparables for the Class-I manufacturing segment was computed at 2.74%. Similarly, the profit margin of the comparables in the Class-II and Class-IV trading segments were carried out at 2.45% and 1.61% respectively. To compute profit level indicators of the comparable compani....
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....ound that the company is persistently making losses with declining net margins and the Ld. DRP has upheld the Ld. TPO's reasoning. The Ld. Counsel for the Appellant submitted that this comparable has been accepted by the Ld. TPO in AYs. 2004-05 and 2008-09. The Ld. Counsel submitted that Voltas has 4 segments i.e. Electromechanical Projects and Services, Engineering Products and Services, Unitary Cooling Products for Comfort and Commercial Use and Others. Voltas is not a loss-making company on an entity level, rather, losses are suffered only in one segment. However, the same segment is earning profits in future years and the loss is only in the current financial year and immediately preceding financial year. It has recorded a profit in the financial year 2003- 04 and therefore it is factually incorrect to treat this company as a persistently loss-making company. Under Rule 10B(4) data of current year and two immediately prior years can be considered if the same has a bearing on the profitability of the company. This Tribunal in numerous cases held that to check whether a persistently loss company should be excluded, data of at least three years (current plus two prior years) have ....
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....en applied, comparables with abnormal profits/losses cannot be excluded. This is for the reason that up until April 1, 2014, Indian transfer pricing regulations followed the Arithmetic Mean Method which took into account all comparables irrespective of their margin variance and calculates the average of all comparables for calculating the ALP. In contrast to this, post April 1, 2014, Indian transfer pricing regulations now employ the Quartile Method wherein, the companies that fall in the extreme quartiles (i.e. abnormally high profits/losses) get excluded and only those that fall in the middle quartile are retained for comparability. For the AY under consideration, Arithmetic Mean Method has been applied and thus, comparables with higher profits/losses cannot be excluded. 92. Further, the Ld. Counsel submitted that the exclusion of persistent loss-making companies has been in the context of IT companies which is a booming sector where the industry trend has been of growth and persistent losses is not normal. However, this approach cannot be ipso facto extended to other industries such as consumer electronics etc. which are very competitive industries as is evident from the low ....
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.... to erosion of net worth, Voltas would have to be excluded. If it is found to have failed either or both of the conditions, it shall be retained as a comparable. While determining this, the TPO shall take into account only that segment of Voltas which is comparable to that of the assessee, i.e., cooling products. This ground is therefore disposed off in terms of the above directions. GROUND NO. 4.3: That on facts and in law, the TPO/AO has erred in considering Bajaj Electricals Limited as a comparable company while applying the transactional net margin method to benchmark the international transactions under Class II (trading of consumer electronics and home appliances segment) 95. The Ld. TPO has included this comparable on ground that it is functionally similar and has been accepted as comparable by the Appellant in FY 2004-05. The Ld. DRP has upheld the Ld. TPO's reasoning. The Ld. Counsel for the Appellant submitted that Bajaj is engaged in manufacturing and distribution of various lighting, consumer durables, galvanized structures and other products. It has four segments as below: • 'Lighting' includes Lamps, Tubes and Luminaries; â€....
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....t the assessee itself had selected Bajaj Electricals as a comparable, the same was done under Resale Price Method which requires comparison at gross profit level. Further, the assessee in its TP report had taken only the "Appliances" category as a comparable category and had excluded the gross profit margin earned from manufacturing of fans. Whereas, the TPO has discarded RPM and has adopted TNMM which is a comparison of net profit margins and the TPO has taken the net profit margin of the entire "consumer durable" segment of Bajaj Electricals which includes both Appliances and Fans. Most significantly the function in relation to fans in this segment is of manufacturing and not trading. From the Annual Report, it emerges that during the year, Bajaj Electricals had manufactured 537,000 pieces of fans. While the consolidated sales quantity of fans has been given at 1,784,000, the segmental breakup of manufactured fans and traded fans is not provided. In these circumstances it is not possible to determine the net profit margin derived from the sale of traded fans. We also note that the range of traded products of the assessee does not include fans and is limited to consumer products l....
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.... ITAT in the case of Sony India Private Limited 114 ITD 448 on this issue. The Ld. Counsel pointed out that after the Ld. DRP issued its directions, the Hon'ble ITAT rendered a decision on this issue in favour of the assessee in its own case for AY 2002-03 to 2004-05 wherein it was held that the assessee has a prior agreement for reimbursement of specific AMP expenses and genuineness or bona fide of the said agreement cannot be disputed. Further, it was held that based on evidence on record, the recoveries directly correspond to actual expenses incurred by the assessee and such expenditure was incurred in line with terms of aforesaid agreement. 103 Further, the CIT(A), in AY 2005-06 (as well as in the earlier years), based on merits of the case and placing reliance on ITAT judgment in case of Sony India (P) Ltd supra decided the matter in favour of the assessee by treating AMP recovery as operating income at para no. 105.4 of the said order. It has been submitted that it has clearly been held that the prior agreement provided for reimbursement of specific AMP expenses and genuineness or bona fide of the agreement cannot be questioned. Also, there are evidences on record to prove....
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....n other unrelated transactions. He placed reliance on the following case laws for grant of proportionate adjustment: (a) ________________________________ IL Jin Electronics (I) (P.) Ltd. v. ACIT ITA NO. 438/DEL/2008, [2010] 36 SOT 227 DELHI) (para 15) (b) ________________________________ CIT v. Keihin Panalfa Ltd. ITA No. 11 and 12/2015 (Del HC) (para 12) (c) ________________________________ CIT v. Thyssen Krupp Industries India (P.) Ltd. ITA No. 2201 OF 2013, [2016] 381 ITR 413 (Bombay) (paras 3 and 4) (d) ________________________________ Tasty Bite Eatables Ltd. v. ACIT ITA NO. 1682/PN/2011 (para 37) 107. Ld. CIT (DR) relied on the order of Ld. TPO and DRP and contended that proportionate adjustment should not be given to the Appellant. Ld. TPO has allowed proportionate adjustment in AY 2014-15 & AY 2015-16. 108. It is now well settled that the transfer pricing exercise is strictly limited to the transactions with AEs and transactions with unrelated parties do not come within its ambit. It has also been brought to our notice that in A.Y. 2013-14 the DRP itself has issued directions to the TPO to confine the adjustments to the proportionat....
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.... 111. The AO allowed 15% depreciation on UPS stating that it is covered under the head 'plant and machinery'. Thus, 60% depreciation claimed by the assessee was disallowed. In this aspect, the Ld. Counsel submits that this issue is no longer res integra as there are numerous decisions of the High Courts and Tribunal where it has been held that depreciation on UPS is to be allowed at 60% and not 15%. The Ld. Counsel contends that UPS were purchased for the purpose of running the computer uninterruptedly during power cuts and to prevent the loss of data in the computer due to sudden, frequent power cuts. He stated that UPS also controls voltage fluctuation and prevents the damage of computer system and its parts such as hard disk, memory etc. These UPS were connected to LAN, PCs, servers, routers, V Sats, etc. and these would not have functioned properly without support from the UPS. Thus, UPS form a vital component of the computer system and therefore, the applicable rate of depreciation on such UPS systems should be considered as 60 percent (same as that of computers) under the category of 'Computers'. The Ld. Counsel pointed out that 60% depreciation on UPS was allowed by the CIT....
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....segment. 115. In respect of Class -II (Trading of Consumer Electronics and Home Appliances) segment, the following transactions have been grouped together by the appellant in its transfer pricing study prepared under rule 10B of the Income Tax Rules 1962 (Rules); i) Import of finished goods; ii) Import of stores and service spares; iii) Export of service spares; iv) Service income from hand held phones. The appellant is engaged in the trading of consumer electronic goods and home appliances. Resale Price Method was chosen as the most appropriate method in its transfer pricing study. The profit level indicator taken was gross profit/ sales. For the benchmarking exercise, an economic analysis was carried out in the TP study leading to identification of 10 uncontrolled comparable companies. Since appellant had earned gross profit margin of 24.15% which was higher than the gross profit of 23.08% earned by the comparable companies chosen in the TP study, it was concluded that the international transactions in Class-II (Trading of consumer electronic goods and home appliances) segment was at arm's length price. 116. In Class-III (manufacturing....
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.... "Samsung" brand. The TPO worked out the average AMP spend of the comparables at 6.55% of Sales and that of the Appellant at 10.44% of Sales and treated the difference as the value of the brand promotion service which the Appellant had provided to its AE. He accordingly held that this amount should have been recovered by the Appellant from its AE. The approach followed by the TPO in respect of this adjustment is as follows: Particulars Amount (Rs.) Total Income (A) 44,89,80,86,000 Advertisement and sales promotion expenses incurred (B) 469,10,06,942 AMP / Total Income of SIEL (C) = (B)/(A) 10.44% Bright Line (AMP/total income of comparables) (D) 6.55% AMP as per bright line ('E) = (A)*(D) 294,08,24,633 Excess Amount Spent on Advertisement as compared to the comparables (F) = (B)-(E) 175,01,82,309 Less: Reimbursement received from its parent SEC 57,93,56,345/- AMP reimbursement that should have been made 117,08,25,964/- Mark-up at 12% 14,04,99,115 Adjustment proposed on account of AMP (including mark-up) 131,13,25,080 118. The AO incorporated the adjustment to the ALP made by the TPO and also made the following add....
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....therefore, remanded to the file of the TPO with a direction to determine whether the twin conditions of persistent loss for three years and erosion of net worth are met. If a clear three years' trend of persistent loss coupled with negative net worth is found, it can be excluded from the list of comparables. This ground is therefore allowed in terms of the above directions. GROUND NO. 3.2: That, on facts and in law, the ld. TPO/ AO has erred in considering Bajaj Electricals Limited as a comparable company while applying the transactional net margin method to benchmark the international transactions under Class II segment (trading of consumer electronics and home appliances segment) 121. An identical ground in respect of this comparable (Bajaj Electricals) came up for consideration in the appeal for A.Y. 2006- 07 (ITA No. 5856/Del/2010) where we have already given our finding under Ground no. 4.3. The facts for this year are identical and the arguments advanced by the two sides are also identical. Therefore, our decision in this regard in ITA no. 5856/Del/2010 is to be followed. While deciding this ground in favour of the assessee we had directed the exclusion of this co....
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....omparable company is incurring losses, the comparable cannot be excluded; (c) Erhardt+Leimer (India) Private Limited vs. ACIT (ITA Nos. 3298/Ahd/2011 & 2880/Ahd/2012): Relying on the special bench decision in the case of Quark Systems (supra) the Hon'ble Tribunal has held as below: "...consistent loss-making entities cannot be per se excluded merely in view of the negative income figures thereof." (d) Chryscapital Investment Advisors (India) Pvt. Ltd. Vs. DCIT (ITA 417/2014): [2015] 376 ITR 183 (Delhi), the Hon'ble jurisdictional High Court reiterated the same position supra that it is a settled law that comparables cannot be excluded merely on the ground that it is making abnormally high profits or losses. 124. The Ld. Counsel pointed out that in the present case, no extraordinary economic factor leading to persistent losses are evident from the annual report of VXL Instruments. The company is showing a steady increase of turnover on year-on-year basis except for a small dip in the F.Y. 2005-06 followed by a quick recovery in FY 2006-07 where there was a sharp increase in turnover. The trend analysis of the profit margin and the turnover as given belo....
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....the twin conditions are fulfilled, the comparable can be excluded. In this case, though a chart of trend analysis has been furnished, it has not been examined by the TPO. The details of net worth are not placed before us. We accordingly remit this issue to the file of the TPO with a direction to apply the aforesaid principles to determine the suitability of this comparable. This ground is therefore disposed off in terms of the above observations. PCS Technology Ltd. 128. Ld. Counsel contends that the TPO and the DRP committed an error in rejecting PCS Technology on the ground that it has a different financial year ending. He contends that different financial year is not a criterion to reject a comparable company. He contends that this company was accepted in AY 2006-07 by the TPO in which year too, the financial year of the company ended in June. The Ld. Counsel also submitted that the company's net profit margin for April-March can be extrapolated from the figures of the two overlapping years. He placed reliance on DCIT vs. McKinsey knowledge Centre India private limited (ITA No. 195/del/2011), affirmed by the Hon'ble High Court of Delhi [TS-672-HC-2015(DEL)-TP] to contend t....
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....out to be 71% of the total revenue. The balance 29% is derived from trading, installation and networking. The calculated as submitted by the Ld. Counsel from the Annual Report is as below: Particulars Amount in INR -thousands Turnover of IT segment 521,912 Passbook printers (manufactured) 234,423 Computer Systems (manufactured) 135,728 Sale from manufactured goods 370,151 Ratio of sales from manufacturing goods to turnover of IT segment 71% 132. The Ld. CIT (DR) submitted that Spice Mobile was rightly excluded from the list of comparables because it was not functionally comparable. Further, he contended that from the financials of the relevant segment, it was not clear if Spice Mobile was manufacturing comparable products. 133. We have perused the orders of the TPO and the Annual Report of Spice Mobile Ltd. This company has reported two segments - mobiles and Information Technology. In the IT segment it has significant operations in manufacturing of computer systems and peripherals which are comparable to the assessee's Class III segment wherein computer peripherals like monitors are being manufactured. However, the IT segment also has trad....
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....rib.) (para 11.8) (e) ________________________________ M/s Motorola Solutions India Private Limited v. ACIT Circle-2 ITA No. 5637/Del/2011, [2014] 35 ITR(T) 546 (Delhi - Trib.) (para 162.1) (f) ________________________________ Qualcomm India Pvt. Ltd. v. ACIT Circle 14(1) ITA No.5239/DEL/ 2010, [2014] 147 ITD 17 (Delhi - Trib.) (para 41) (g) ________________________________ Mentor Graphics (Noida) (P) Ltd. (109 ITD 101) 135. The Ld. CIT (DR) relied on the orders of the lower authorities. 136. The issue of grant of adjustment for difference in levels of working capitals between the assessee and the comparable companies is now well recognized by this Tribunal and is no longer res-integra. Differences in inventory levels, credit period allowed by the suppliers and credit period given to its customers lead to capital being locked in circulation. The net profit margins do not reflect this difference. An entity which permits a longer credit period of realizing its sale proceeds would want to receive compensatory interest which is often inbuilt in the price of goods/services sold. Similarly, a customer who is paying the full price upfront would want a disc....
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.... No.3410/Del/2012 for A.Y. 2005-06 and Ground nos. 7.1 and 7.2 in ITA no. 5856/Del/2010 for A.Yr.2006-07 and we have allowed these grounds in the two years by following the orders of the Hon'ble Delhi High Court in prior years. Following the same, these grounds are therefore allowed. GROUND NO. 9: That, on facts and in law, the Ld. AO has erred in not treating UPS connected to computers as 'computers' and instead regarding it as an item of general 'plant and machinery' for the purpose of allowing deprecation GROUND NO. 9.1: Without prejudice to the above ground, the Ld. AO has also erred in not regarding said ups as 'electrical equipment being automatic voltage controllers', eligible for depreciation @80% under Item III(8)(ix)(e)(c) of Part A of Appendix I to the Income Tax Rules, 1962 ('the Rules') 139. While deciding the appeal for A.Y. 2006-07 (ITA No. 5856/Del/2010), we have already allowed the ground no. 8.1 and 8.2 by holding that depreciation on UPS is to be allowed at 60% under the category of computers. Following the same, we allow this ground. GROUND NO. 10: That, on facts and in law, the Ld. AO has erred in holding that loss on exchange fluc....
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....g consistently followed by it with respect to the effects of changes in foreign exchange rates. The Ld. Counsel stated that this issue is now well settled in view of the Hon'ble Supreme Court decisions of CIT v. Woodward Governor India Private Ltd. 312 ITR 254 (SC) and Bharat Earth Movers v CIT: [2000] 245 ITR 428(SC). He further submitted that in the assessee's own case in ITA no. 6508/Del/2012 this Tribunal has examined this issue and given a finding that such MTM losses are allowable u/s 37 of the Act. 142. We have heard both the sides and examined the orders of the lower authorities. We observe that the losses have been recognized in accordance with applicable accounting standards/consistent accounting policy. The Hon'ble SC judgment of CIT v. Woodward Governor India Private Ltd. 312 ITR 254 (SC) has settled the issue of allowability of forex losses recognised on the last date of Balance sheet u/s 37 of the Act arising on account of trading transactions. The Hon'ble Apex Court has categorically held that loss on account of exchange difference or mark to market losses as on the date of Balance sheet is not a notional or contingent loss and has to be allowed as ordinary princi....
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....Reimbursement of marketing expenses by AEs TNMM Operating Profit / Operating Revenue 2.22% 7 1.78% Class III - Manufacturing (Colour monitors) Import of raw material, Import of stores and service spares, Export of raw material and service spares, Import of fixed assets, Reimbursement of marketing expenses by AEs TNMM Operating Profit / Operating Revenue -1.55% 5 -2.50% Class IV - Trading (Colour monitors and other IT products) Import of finished goods, Import of stores and services spares, Reimbursement of marketing expenses by AE TNMM Operating Profit /Operating Revenue 3.37% 9 -0.52% Class V - Contract Software Development Services (Provision of contract software development services) TNMM Operating Profit /Operating Cost 17.60% 23 14.65% 144. The dispute in the present appeal (ITA No. 52/DEL/2013) filed by the appellant pertains to the international transactions grouped under Class-II (Trading of Consumer Electronics, Home Appliances and Mobile Phones) and Class-III (Manufacturing of Colour Monitors) segment. The other international transactions pertain to Classes I (Manufacturing of Consumer Electronics and....
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....ght line 1,154,749,458/- Expenditure on AMP by assessee 5,542,768,817/- Expenditure in excess of bright line 4,338,019,359/- Mark-up at 15% 658,202,903/- Reimbursement that assessee should have received 5,046,222,262/- Reimbursement actually received 496,786,817/- Adjustment to assessee's income 4,549,435,445/- 147. The assessee being aggrieved by the orders of the TPO and AO filed objections before the DRP, New Delhi contesting the aforesaid transfer pricing adjustments. The DRP disposed of the objections filed by the assessee vide its directions under section 144C of the Income Tax Act, 1961 dated 27 September 2012 and directed as follows: (a) ________________________________ The DRP directed the exclusion of Spice Mobiles Ltd. as a comparable for Class II segment and arrived at a final list of 6 comparables. The arithmetic mean of the Net Profit Margin of these 6 comparables was calculated at 5.10% vis-à-vis 2.22% of the appellant. Thus, the adjustment for Classs-II segment was reduced to Rs. 48,40,26,768; (b) ________________________________ The DRP also directed the TPO to exclude three companies i.e. Compuage ....
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....on of the following grounds of appeal. GROUNDS IN APPELLANT'S APPEAL (ITA NO. 52/DEL/13) FOR AY 2008-09 GROUND NO. 1 & 2: These grounds are general in nature. 151. GROUND NO. 2.1 to 2.12: These grounds pertain to the issue of AMP expenditure being treated as an international transaction and adjustment being made on the basis of the "bright line" test. We have already decided this issue in favour of the appellant in ITA no. 3248/Del/2012 for the A.Y. 2005-06 by examining this issue in detail. These grounds for this year are accordingly allowed and disposed-off on the lines of our findings and observations made while deciding Grounds no. 3.1 to 3.6 of ITA no. 3248/Del/2012. GROUND NO. 3: That on facts and in law, the Ld. AO/TPO erred in rejecting Shyam Telecom Limited as a comparable company for determining the ALP of international transactions under Class II segment (trading of consumer electronics, home appliances and mobile phones) 152. The Ld. TPO rejected Shyam Telecom for the sole reason that it was a persistently loss-making company. The Ld. DRP was of the view that the company was functionally different since the company has significant export incom....
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....uded in the list of comparables to determine arm's length price. The Ld. CIT (DR) pointed out that the quantum of revenue derived from turnkey project was INR 1.85 crores out of total segment revenue of INR 158.93 crores which was a material amount and cannot be ignored. 156. We have examined and perused the orders of the lower authorities and also the Annual Report of Shyam Telecom Ltd. While the basis of the claim that this company is a persistent lossmaking one is not very clear, it is manifest that the product profile of this entity is very dissimilar to that of the assessee's. The relevant segment which is being sought to be taken for comparison is called the "Turnkey" segment. In this segment, predominant part of the revenues is derived from trading of GSM sets and communication network. Only a very small portion of revenue is derived from turnkey projects. However, the breakup of sales and profit margins of GSM phones and other equipment is not available in the Annual Report. In such a situation it would be an error to allow the inclusion of this comparable. This ground is accordingly dismissed. GROUND NO. 4: That, on facts and in law, the Ld. AO/TPO has erred in....
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....ts and in law, the Ld. AO/TPO has erred by not making appropriate adjustments to account for differences in working capital employed by the appellant vis-à-vis the comparables- GROUND NO. 7: That, on facts and in law, the Ld. AO/TPO has erred in not restricting the TP adjustment in proportion to the value of international transactions with the associated enterprises vis-àvis the total cost base of the various business segments which included cost of uncontrolled transactions with independent third parties as well 159. Ground no. 6 pertains to the issue of allowability of economic adjustment to account for differences in working capital between the assessee and the comparables chosen for TNMM analysis and the same has already been adjudicated by us under Ground no. 5 for the appeal for A.Y. 2007-08 (ITA No. 5315/Del/2011). We have held that this issue of working capital adjustment is now no longer res integra and has to be allowed. This would be equally applicable for this year as well and this ground is accordingly allowed. The TPO is directed to compute the adjustment while determining the arm's length price under TNMM. 160. Similarly, Ground no. 7 per....
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.... to P&L account is a notional loss and in not allowable as a deduction under the provisions of the Act GROUND 11.1: Without prejudice to the above ground, the Ld. AO has erred in not excluding Rs. 2,06,77,205 from the taxable income of current year being marked to market losses incurred in respect of foreign exchange contracts which were outstanding as on 31st March 2007 and written back during the year as same was not allowed as deduction in the assessment proceedings for AY 2007-08 163. This ground pertains to allowability of loss arising from revaluation of forward forex contracts on the last date of the balance sheet on account of restatement of amounts payable and receivable in foreign exchange. This issue has already been decided by us in ITA No. 5315/Del/2011 for A.Y. 2007-08 under Ground no. 10 wherein we have allowed the ground in view of the law being settled by the Hon'ble Supreme Court in CIT v. Woodward Governor India Pvt. Ltd. 312 ITR 254 (SC) in this regard. Following the same, this Ground is allowed. AY 2009-10 (ITA No. 1567/DEL/14) 164. The facts and business model in the present Assessment Year i.e. 2009-10 are similar to the facts already stated....
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....aken was operating profit/operating cost. For the benchmarking exercise, an economic analysis was carried out in the TP study leading to identification 21 uncontrolled comparable companies having margin of 14.33%. Since the appellant had earned profit margin of 15% which was higher than the profit margin earned by the comparables, it was concluded that the international transactions were at arm's length. 167. The dispute in the present appeal filed by the appellant primarily pertains to the transfer pricing adjustments made by the TPO vide order dated 30 January 2013 on account of: (a) alleged international transaction of Advertising, Marketing and Promotion (AMP) expenses; and (b) software development segment. 168. The first adjustment relates to adjustment made on account of AMP expenses: The TPO was of the view that the Appellant has provided certain services in respect of creation of marketing intangibles to its AE by spending huge AMP expenses and worked out the average AMP/Sales of the comparables at 3.66% as against 9.19% in the case of the Appellant (rectified to 9.03% of sales vide rectification order dated 06 March 2013) and considered this difference as the value o....
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.... of 10 comparables which is as under: S. No Name of the company AMP/ Sales (%) 1. Home Solutions Retail (India) Ltd. 4.77% 2. Vivek Ltd. 3.59% 3. Infiniti Retail Ltd. 4.64% 4. CCS Infotech Ltd. 0.72% 5. Iris Computers Ltd. 0.44% 6. Cellucom Retail India Pvt. Ltd. 8.16% 7. General Sales Ltd. 10.18% 8. Allied Photographics India Ltd. 0.49% 9. VXL Instruments Ltd. 2.83% 10. ACI Infocom Ltd. 0.79% Arithmetic Mean 3.66% Further, for computation of the mark-up for computing the TP adjustment on AMP, the TPO selected two comparables as under: S.No Name of the company NCP (%) 1. Crystal Hues Ltd. 8.03% 2. Cyber Media Research Ltd. 10.89% Arithmetic Mean 9.46% This mean of NCP 9.46% has been increased by an ad-hoc 6% (i.e. half of 12%, being the nominal rate of interest to cover the return on the funds that has been blocked), thereby, arriving at a markup of 15.46%. 171. In so far as adjustments in the software development segment, the Appellant in its Transfer Pricing Report computed its margins at 15% NCP as against an ALP o....
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....evant assessment year and deleted the said comparable from the final list of comparables. Accordingly, the transfer pricing adjustment was reduced to Rs. 7,30,77,701 as the ALP of the 17 comparables was recomputed at 21.82%. 173. Pursuant to the directions of Ld. DRP, the AO passed the final assessment order dated 28 January 2014 incorporating the transfer pricing adjustment on account of AMP expenses of Rs. 455,53,39,101 and on account of software development segment of Rs. 7,30,77,701. The AO also made the following additions to total income: (a) Recruitment and training expense of Rs. 4,61,16,829/- was treated as capital expenditure and not allowable as a revenue expenditure u/s 37 of the Act; (b) Foreign exchange fluctuation loss of Rs. 2,99,52,597/- was not allowed as a deduction; (c) Depreciation on UPS, printers and servers was restricted to 15% as against 60% claimed by the appellant leading to a disallowance of Rs. 2,87,820/- (d) Denied deduction claimed under section 10A of the Act amounting to Rs. 27,74,04,907/-. Aggrieved by the order of the AO (impugned order), the assessee has preferred the present appeal and has prayed for ad....
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....GROUND NO. 20: The Ld. TPO/AO/DRP have erred in selecting certain companies (which are earning supernormal profits) as comparable to the appellant to benchmarking the said transaction. ROUND NO. 21: The Ld. TPO/AO/DRP have erred in treating gain arising from foreign exchange fluctuation as non-operating in nature while computing the profit margin of the appellant. GROUND NO. 22: The Ld. TPO/AO/DRP have erred in not making appropriate adjustments to account for differences in working capital employed by the appellant vis-à-vis the comparable companies. GROUND NO. 23: The Ld. TPO/AO/DRP have erred in not allowing appropriate adjustments to account for differences in risk profile of the appellant vis-à-vis the comparables. 175. The Ld. Counsel submitted that in this segment, out of final set of 17 comparables, the appellant is aggrieved by 5 comparables (namely Cat Technologies Ltd., Infosys Tecnhologies Ltd, Thirdware Solutions Ltd, Tata Elxi Ltd, Tata Consultancy Services Ltd.). Further, the appellant is also aggrieved by the erroneous exclusion of 9 comparable companies (namely Ancent Software International Ltd, Helios and Matheson IT Ltd....
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....e assets (patents filed by its R & D labs by the name of 'SET Labs' & brands) and has significantly large scale of operations i.e. it is an industry giant, this cannot be included in the list of comparables. He vehemently contended that there is a catena of judgments in which Infosys has been held to be an inappropriate comparable company. He listed out the judgments as follows: • CIT vs. Agnity India Technologies Pvt. Ltd. (ITA 1204/2011 dated July 10, 2013) • UT Starcom Inc. (India Branch) (ITA No.5848/Del./2011) • Toluna India Pvt.Ltd. (ITA 393/2016 & ITA 394/2016) • Sumtotal Systems India Pvt. Ltd. (I.T.T.A. NO.660 OF 2014) • Adaptec India Limited (I.T.T.A. No.638 of 2014) • Virtusa (India) Private Limited [ITA No. 1962/Hyd/2011] • Telcordia Tech nologies India Pvt. Ltd [ITA No.7821 /Mum/2011] • Agnity India Technologies Pvt. Ltd. v. DCIT TS-265- ITAT-2013(DEL)-TP • Mercedes Benz Research & Development India Pvt. Ltd. [IT(TP)A No. 1222/Bang/2011] • Transwitch India Pvt. Ltd. [IT(TP)A No. 948/Bang/2011] • Yodlee Infotech Private Limited [....
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....to the Appellant. (b) The Ld. Counsel contended that this company fails the Related Party Transaction (RPT) filter applied by the TPO. He pointed out that the value of RPT (only revenues derived from related parties) is Rs. 12619.79 crore and the total revenue is Rs. 22,404 crores. Accordingly, the Ld. Counsel contended that the percentage of RPT as a ratio of total sales is 56.32% and fails the RPT filter of 25% applied by the Ld. TPO himself. (c) The Ld. Counsel pointed out that the company has 42 patents registered and over 150 applications pending registration. Further, the company has huge employee base which gives it an access to variety of talent. It has significant R & D activities and has significantly higher assets of Rs. 2669.08 crores (Net book value as on 31 March 2009) as against Rs. 44.90 crores of the appellant. (d) The Ld. Counsel also submitted that Tata has a significantly higher turnover of Rs. 21535.75 cras against Rs. 123.20 Cr. in the case of the Appellant i.e. 175 times more than the latter. e) The Ld. Counsel contended that this company has to be rejected as a comparables also because it has on-site revenue of 51.19% of t....
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....tum of impact of any one factor on the profit margin because profit margin is impacted by numerous factors and reasons all of which cannot be documented and quantified. It is for this reason that Rule 10B(1)(e)(iii) contains the words "could materially affect the amount of net profit margin in the open market". Therefore, the statute does not mandate that an economic factor is relevant only if it is positively correlated with net profit margin but as long as there is a likelihood of impact, the conditions are fulfilled. 177. We have heard the two sides and perused the orders and material on record. We are examining the suitability of both these companies (Infosys Technology and Tata Consultancy Services) together as these two are similar in many respects. As per their profile, function and volume of scale, they are reckoned as the leaders of the Indian IT sector and are often considered to be the most prestigious brands in this space. The process of selection of appropriate comparables under TNMM is to be guided by Rule 10B (2) which lays down the factors of comparability. These factors are functions, assets and risks, nature of the services, contractual terms, level of the mark....
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....ment, production, distribution or holding of shares; • Exclusion of companies which were only recently set up; • Consideration of diagnostic ratios such as turnover per employee, ratio of net value of intangibles/total net assets value or ratio of research and development/sales etc.; and • A focus on sales volume, fixed assets or numbers of employees." A perusal of the above principles along with the factors stipulated in Rule 10B(2) makes it amply clear that functions, assets and risks manifested in terms of scale, size, head-count, presence of valuable intangibles are very relevant considerations to be taken into account. 178. The exclusion/inclusion of Infosys Technology Ltd. as a comparable for captive software entities is an issue that has arisen in large number of cases (some of which have been cited above by the Ld. Counsel also). Infosys Technology Ltd. is one of India's leading IT companies have presence worldwide. Its turnover is in excess of Rs. 20,000 crore (as against Rs. 125 crore of the appellant) and its functions are highly diversified. One of the important attributes that sets Infosys apart from small captive IT compani....
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....egment of the appellant, which is operating at a much smaller level and sans any ownership of IPRs. Furthermore, the details given on Page 144 of the Annual Report demonstrate that more than 50% of its revenues are derived from related parties. It, accordingly, fails the RPT filter of 25% applied by the TPO. The reasons for excluding Infosys Technology are equally applicable to Tata Consultancy Services as well. We, therefore, hold that Tata Consultancy Services Ltd. is a wholly inappropriate comparable for the software development segment of the appellant. Working Capital Adjustment 180. The Ld. TPO rejected the request for working capital (WC) adjustment to the margin of the comparables by stating that out of the 3 components of WC adjustment, only one component is affected by the subject transaction i.e. receivables. On this basis, he stated that it is not justified to allow WC on 3 components. The Ld. DRP upholding the action of the Ld. TPO directed that the working capital adjustment is difficult to make due to lack of accurate and reliable data. It held that the Appellant has failed to demonstrate that difference in working capital deployed is making difference in the m....
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....d reiterated that the appellant had failed to show the differences between the working capital levels. 184. We have perused the orders of the lower authorities and the material on record. We find that the WC adjustment figures were furnished by the appellant which were disregarded by the TPO. On the issue of allowability of this adjustment we find that this issued has been settled by this Tribunal in numerous decisions (some of which have been cited by the Appellant) in favour of the assessees. The desirability of making the WC adjustment has also been endorsed by the OECD and UN Guidelines. The relevant extracts are as below: OECD Guidelines 2017 "2.87 In those cases where there is a correlation between the credit terms and the sales prices, it could be appropriate to reflect interest income in respect of short-term working capital within the calculation of the net profit indicator and/or to proceed with a working capital adjustment." UN TP Manual 2017 "...5.3.2.14. ...x..x..Adjustment might be required to ensure consistency of accounting standards between the controlled transaction and the comparable. Differences in the use of assets can be ....
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....DRP has erred in reducing the claim of depreciation on UPS without mentioning anything in the final assessment order and without assigning any reasons which is against the principle of natural justice GROUND NO. 27: Without prejudice to the above ground, the Learned AO/DRP has erred in not treating UPS connected to computers as 'computer' and instead regarding it as an item of general 'plant and machinery' for the purpose of allowing depreciation. 188. We have already adjudicated this issue in the appeals for prior years (A.Yrs. 2006-07, 2007-08 and 2008-09) and allowed the same. We have held that it is now settled that depreciation on UPS systems is allowable at the rate of 60% under the category of 'computer' and not at 15% under the category of 'plant and machinery'. Following the same, this ground is allowed. GROUND NO. 29: The Learned AO/DRP has erred in holding that loss on exchange fluctuation amounting to Rs. 2,99,52,597 debited to P&L account is a notional loss and is not allowable as a deduction under the provisions of the Act. GROUND NO. 30: Without prejudice to the above ground, the Learned AO/DRP has erred in not excluding ....
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....meet shortage of space and to effect expansion of business does not amount to splitting or reconstruction of an existing business and would not disentitle the assessee from claiming the benefit of Section 10A of the Act. This order of the Tribunal was subsequently confirmed by the Hon'ble Delhi High Court on this issue. Respectfully following the decision of the Tribunal and the Hon'ble Delhi High Court we allow this ground of appeal. AY 2010-11 (ITA No. 6741/DEL/14) 191. The facts and business model in the present Assessment Year i.e. 2010-11 are similar to the facts already stated for AY 2005-06 to 2009-10. The appellant had filed its return of income on September 30, 2010, declaring an income of Rs. 7,52,20,73,240/-. A summary of international transactions entered into by the appellant and the appellant's approach in determining their ALP is given in the table below: Particulars Most Appropriate Method as per TP study Profit Level Indicator (PLI) as per TP study Margin earned by the Appellant as per TP study No. of comparables considere d as per TP study Arm's Length Margin as per TP study Class I - Manufacturing (Consumer electronics, Home Appliances,....
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....n of Advertising, Marketing and Promotion (AMP) expenses and (b) software development segment. 195. Adjustments made on account of AMP expenses: The Ld. TPO proposed an adjustment of Rs. 7,401,552,834 (Rs. 1,021,561,275 under the IT business and Rs. 6,379,991,559 under the Non-IT business) with respect to AMP expenses incurred by the Appellant. He was of the view that the Appellant has provided certain services in respect of creation of marketing intangibles to its AE. 196. ALP determination for Provision of Contract software development services (Class III): In Class III (Contract software development services segment), the Ld. TPO proceeded to undertake a fresh benchmarking analysis of the uncontrolled comparable companies and arrived at a set of 17 comparables (rejected 2 out of 4 comparables of the Appellant and introduced 15 other comparables). The Appellant offered new comparables during the transfer pricing proceedings which were not accepted by the TPO. Final set of comparable for benchmarking of international transaction are reproduced in the table below: S.No. Name of Comparable Working capital adjusted NPM for AY 2010-11 (%) 1 Akshay Software Technol....
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.... and adjustment being made on the basis of the "bright line" test. We have already decided this issue in ITA no. 3248/Del/2012 for A.Y. 2005-06 by examining the same in detail. These grounds for this year are allowed and disposed-off on the lines of our findings and observations made while deciding Grounds no. 3.1 to 3.6 of ITA no. 3248/Del/2012. ADJUSTMENT ON ACCOUNT OF SOFTWARE DEVELOPMENT GROUND NO. 12: The Learned TPO/AO/DRP have erred in not accepting the economic analysis undertaken by the appellant in respect of international transaction pertaining to provision of contract software development services by the appellant to its AEs and computing adjustment of INR 10,93,95,995 to the total income of the appellant GROUND NO. 13: The Learned TPO/AO/DRP have erred, in rejecting certain comparable companies identified by the appellant for having different accounting year (i.e. having accounting year other than March 31 or companies whose financial statements were for a period other than 12 months) GROUND NO. 14: The Learned TPO/AO/DRP have erred in rejecting certain comparable companies identified by the appellant using turnover less than INR 5 crores&....
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.... is functionally dissimilar as the company is engaged in both software development and IT enabled services. He pointed out that in the Annual Report, segmental information is not available and he drew the attention of the Bench to Page No. 63 of the Annual Report where this fact has been clearly stated and the segmental information in respect of software development and ITES has not been given. (b) The Ld. Counsel submitted that the Ld. TPO included the said comparable by merely stating that this company cannot be said to be providing IT enabled services since its communication costs are very low and that merely having supernormal profits is not a criterion for rejection. The Ld. Counsel argued that that the Ld. TPO's conclusions are based on surmises and are contrary to the facts on record as evident from the Annual Report of the company. He further submitted that the exclusion of this company was sought not on the basis of super normal profits but on the basis of functional dissimilarity and absence of segmental information. (c) The Ld. Counsel placed reliance on the judgment delivered by the coordinate Bench in the case of Steria India Ltd. (ITA No.107/Del/2016....
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....s (supra), this Tribunal while examining the comparability of E-Infochips Bangalore to a software company held as under: 12.2. After considering the rival submission and perused the relevant material on record, we find from the Annual Report of this company available on page 352 of the paper book that its P & L Account shows `Income from software services' as one unit at Rs. 43,04,66,481/-. Schedules 7 gives break up of this income with "Income from Software Services" at Rs. 37.13 crore and "Consultancy Charges" at Rs. 5.90 crore. Segmental information of this company is available on page 66 of its Annual Report which states that: "The Company is primarily engaged in Software Development and I.T. enabled services which is considered the only reportable business segment". This indicates that the revenue from Software Development and ITES has been clubbed by this company which also includes consultancy charges. No doubt Consultancy charges in relation to Software Development are part of overall Software Development, but the inclusion of ITES in the overall segment frustrates the comparability. We are currently dealing with the international transaction of `Provision of Softw....
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....machinelearning, symbolic and quantitative approaches to Reasoning and Decision Making, and Task Oriented Knowledge Management Systems • Virtualization, grid models for computing efficiencies and cloud computing. • Application security requirements, etc. The efforts of the SET Labs have led to creation of R&D and filing of patents (d) The Ld. Counsel pointed out that Infosys has an established brand presence which is one of the most important intangible assets. The company itself accepts this in its Annual Report. He further pointed out that from a perusal of Infosys' Annual Report, it has claimed that it is the most reputed and admired company in India. (e) The Ld. Counsel argued that Infosys was engaged in diversified services apart from software services income. Revenues is also derived from sale of software products & onsite services. As per the Annual Report, the Company provides end-to-end business solutions that leverage cutting-edge technology, thereby enabling clients to enhance business performance. The Company provides solutions that span the entire software lifecycle encompassing technical consulting, design, developm....
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.... 109,151,595 143,902,273 Year-on-year increase (%) - 482.29% 31.83% Profit before tax (49,999) 9,851,316 157,310,476 337,737,471 Year-on-year increase (%) - 1496.85% 114.495% Debtors NIL 50,097,205 131,326,992 225,170,269 Year-on-year increase (%) - 162.14% 71.46% The Ld. Counsel submitted that the fact that this company has witnessed widely fluctuating growth rates (as depicted above) is indicative of the fact that the company was facing exceptional or peculiar circumstances and risks and cannot be said to be representative of the Indian software industry. In this regard, the Ld. Counsel placed reliance on the jurisdictional ITAT ruling in the case of M/s. Stryker Global Technology Center Private Limited vs. DCIT, (ITA No.6866/Del./2014) wherein the ITAT has examined the functional profile of Infinite Data Systems for AY 2011-12 and excluded it as a comparable. He also placed reliance on the jurisdictional ITAT ruling in the case of M/s Freescale Semiconductor India Pvt Ltd (ITA No1263 /Del/2015). 211. The Ld. CIT (DR) vehemently opposed the exclusion of the abovementioned c....
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.... management services. So, in view of the matter, we are of the considered view that Infinite is not a suitable comparable vis-à-vis assessee company, hence ordered to be excluded." In light of the aforesaid we order the exclusion of this company from the list of comparables. 213. The other grounds of the software segment are not being adjudicated as being academic in nature in view of the submission made by the Ld. Counsel regarding the international transaction of software segment being at arm's length on the basis of deletion of the three aforesaid comparables, viz., Infosys Technologies, EInfochips Bangalore and Infinite Data Systems. GROUND NO. 25: The Learned AO/DRP has erred in holding that expenditure on recruitment and training of employees leads to enduring benefit to the appellant and in holding to allow only 1/6th of the total expenditure in the current year and deferring the balance to be allowed in next five years GROUND NO. 26: Without prejudice to the above, Learned AO/DRP has erred in not allowing in the year under assessment, 1/6th of the expenditure on this account that was similarly disallowed in the preceding five assessment years.....
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....we have allowed the ground. Following the same, this Ground is allowed. AY 2011-12 (ITA No. 868/DEL/2016 and ITA No. 2511/DEL/2018 arising out of order passed u/s 154) 217. The facts and business model in the present Assessment Year i.e., 2011-12 are similar to the facts already stated for AY 2005-06 to 2010-11. The appellant had filed its return of income on November 29, 2011, declaring an income of Rs. 1,73,33,95,170/-. A summary of international transactions entered into by the appellant and the appellant's approach in determining their ALP is given in the table below: Particulars Most Appropriate Method as per TP study Profit Level Indicat or(PLI) as per TP study Margin earned by the Appellant as per TP study No. of comparables consider ed as per TP study Arm's Length Margin as per TP study Class I - Manufacturing (Consumer Electronics, Home Appliances, Mobile Phones and Colour monitors) Import of raw material, Import of stores and service spares, Export of raw material, Export of stores, spares and semi-finished goods, Payment of royalty, Import of fixed assets, Import of spares for repair and maintenance, Provision of intra-group services, Availing ....
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.... incurred by the appellant. The Ld. TPO applied the bright line test ("BLT") to compare the AMP/sales ratio of the appellant with that of the comparable companies and application of a mark-up equivalent to SBI's PLR. 221. ALP determination for Provision of contract software development services (Class III): In Class III (software development services) segment, the Ld. TPO proceeded to undertake a fresh benchmarking analysis of the uncontrolled comparable companies by modifying the filters and arrived at a fresh set of comparables. He selected 11 out of the 26 comparables provided by the appellant (i.e. 22 comparables identified as per TP Study and 4 comparables identified by the assessee during the course of TP assessment proceedings) and introduced 8 additional comparables. The final sets of comparables for benchmarking international transaction are reproduced in the table below: S.No. Name of Comparable Working capital adjusted NCP for AY 2011-12 (%) 1 Akshay Software Technologies Ltd. 3.63% 2 E-Infochips Limited 56.42% 3 Evoke Technologies Pvt Ltd 10.23% 4 E-Zest Solutions 38.19% 5 Infosys Technologies Ltd. 45.11% 6 ....
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....opment services 216,107,588 189,797,464 Total 12,100,246,044 584,166,025 222. Pursuant to the directions of Ld. DRP, the AO passed the final assessment order dated 28 January 2015. The AO while incorporating the transfer pricing adjustments made by the TPO, made further additions of: i) Rs. 143,127,352 on account of disallowance in respect of foreign exchange contracts classified under forex loss ii) Rs. 889,984,961 on account of disallowance of deduction claimed under section 40(a)(i) of the Act. 223. The Ld. TPO initiated rectification proceedings suo-moto vide notices dated 6 April 2016 and 12 March 2018. In response to these notices, the Appellant filed submissions contesting the rectifications so proposed by the Ld. TPO dated 28 April 2016, 19 May 2016 and 22 March 2018. A rectification order dated 27 March 2018 was passed by the Ld. TPO ignoring the Appellant's contentions and enhanced the total adjustment amount as below: 224. Adjustments made on account of AMP expenses: The Ld. TPO enhanced the AMP adjustment from Rs. 394,368,561 (i.e. Rs. 313,105,771 under the non-IT segment and Rs. 81,262,790 under the IT segment) to Rs. 1,936,311....
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....s year are allowed and disposed-off on the lines of our findings and observations made while deciding Grounds no. 3.1 to 3.6 of ITA no. 3248/Del/2012. ADJUSTMENT ON ACCOUNT OF SOFTWARE DEVELOPMENT GROUND NO. 13: The Learned TPO/AO/DRP have erred in computing adjustment of INR 18,97,97,464 to the total income of the appellant on account of adjustment in ALP of the international transaction pertaining to provision of software development services entered into by the appellant with its AE GROUND NO. 14: The Learned TPO/AO/DRP have erred in rejecting certain comparable companies identified by the appellant using 'export earnings less than 75 percent of operating revenues' as a comparability criterion GROUND NO. 15: The Learned TPO/AO/DRP have erred, in law and on facts and circumstances of the case, by rejecting certain comparable companies identified by the appellant on account of showing diminishing revenues trend GROUND NO. 16: The Learned TPO/AO/DRP have erred in rejecting certain comparable companies identified by the appellant using 'related party filter less than 25 percent of total cost' as a comparability criterion even th....
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.... to total income filter of at least 75% - Revenues from export of software development service accounts for 62.77% as is evident from the table below: Particulars Amounts (In INR) Reference Income from export of software services (A) 163,443,751 Page no. 68 of annual report for AY 2011-12 Income from operations (B) 260,384,251 Page no. 33 of annual report for AY 2011-12 Revenue from comparable segment (A/B) 62.77% (c) The Ld. Counsel argued that E-Infochips incurred significant R & D expenses of 4.15% of the total cost during the year whereas the Appellant has not incurred any amount towards R&D in this segment. He further contended that the company is functionally dissimilar to the Appellant on account of undertaking diversified business operations since it has derived income from hardware and such income accounts for 15% of the total revenue. It is evident from the table below: Particulars Amounts (In INR) Reference Income from computer hardware(A) 39,248,562 Page no. 62 of annual report for AY 2011-12 Income from operations (B) 260,384,251 Page no. 33 of annual report for AY 2011-12 Revenue from co....
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....s not suitable to be taken up for a TNMM comparison. 232. We also draw strength from various decisions of the Tribunal in this respect where this comparable was held to be incomparable to a software service company for the reasons discussed above. These aspects have been discussed in detail in the decision of a coordinate bench of this Tribunal in Saxo India Pvt. Ltd. (supra) and Intoto India Pvt. Ltd. (supra). In view of the above factual aspects and the numerous decisions of this Tribunal, we hold that E-Infochips is not a suitable comparable and is directed to be excluded from the list of comparables. Wipro Technologies Limited ("Wipro Technology") 233. The Ld. Counsel pointed out that, as per the Annual Report (Page No. 38) of Wipro Technology for AY 2011-12, Wipro Technology is engaged in providing IT software solutions / maintenance and technology infrastructure support services to Citi Group entities globally. He contended that Wipro Technology is functionally dissimilar on account of undertaking diversified business operations comprising software related support services, primarily information technology software solutions / maintenance and technology infrastructure s....
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....ases to be uncontrolled transaction and, hence, Wipro Technology Services Ltd., disqualifies to become a comparable uncontrolled transaction for the purposes of inclusion in the final list of comparables under Rule 10B(1)(e)(ii). We, therefore, direct removal of this company from the list of comparables." The Ld. Counsel also relied on the following decisions of the coordinate Bench of this Tribunal wherein exclusion of this comparable has been upheld in the case of a software development company: • Intoto Software India Private Ltd. [2013] 35 taxmann.com 421 (Hyderabad - Trib.) • M/s. FCG Software Services (India) Pvt. Ltd. Vs. ITO, I.T(T.P) A.No. l242/Bang/2012 • Vodafone India Services Vs. DCIT, ITA No.7140 /Mum/2012 • Xander Advisors India Pvt. Ltd., Vs. ACIT, ITA No.5840/Del/2012 • NEC Technologies India P Ltd. (ITA No. 6283/Del/2015) 234. Ld. CIT (DR) has contended that the TPO included Wipro Technology as a comparable for the reason that it is providing specialized services within software development and is not selling products and thus, it is comparable to the Appellant. The Ld. CIT (DR) contended that ....
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....entity and accordingly fails the essential requirement of transfer pricing analysis. 236. Caliber Point Business Solutions Limited ("Caliber") and R System International Ltd. (R System): The Ld. TPO excluded Caliber and R System as comparables for the reason that these two companies adopt financial year ending in December and not in March. The Ld. DRP upheld order of the Ld. TPO. 237. The Ld. Counsel submits that different financial year ending is not a criterion to reject a comparable company. He pointed out that no adverse inference was made by the TPO in AY 2012-13 wherein Caliber was accepted as a comparable by the Appellant in its TP Study even though in that year too, the financial year of the company was December as in this year. The Ld. Counsel argued that a functionally comparable company cannot be rejected merely on the grounds of having different financial year if the data can be reasonably extrapolated. Reliance was placed by him on: • DCIT vs. McKinsey knowledge Centre India private limited (ITA No. 195/DEL/2011), affirmed by the Hon'ble High Court of Delhi [TS-672-HC-2015(DEL)-TP] • Mercer Consulting (India) Pvt Ltd [TS-664-HC-2016(P & ....
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....pany is available in the public domain. The extrapolated figures given by the appellant appear to be a weighted average mean. In our view this is not permissible. We accordingly remand the determination of these facts to the file of the TPO who is directed to examine whether quarterly results of R System and Caliber is available in public domain so that their annual profit margin can be determined in an accurate way. If such information is available, the comparable can be included. If such information is not available, the comparable cannot be included merely on the basis of extrapolated figures derived from weighted average basis. This ground is disposed off in terms of our above directions. GROUND NO. 23: The Ld. AO/DRP has erred in law and in fact, in holding that loss on exchange fluctuation amounting to Rs. 143,127,352 debited to P&L account is a notional loss and is not allowable as a deduction under the provisions of the Act GROUND NO. 24: Without prejudice to the above ground, the Ld. AO/DRP erred in not excluding Rs. 48,659,085 from the taxable income on the current year being marked to market losses incurred in respect of foreign exchange contracts which....
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....ted to the P&L account at the time of reversal in the current year, otherwise it would lead to double disallowance/taxation of the same amount GROUND NO. 30: The Ld. AO has erred on facts in observing that the reversal of expenses of Rs. 889,984,961 establishes the said expenses as prior period expenses which cannot be claimed in the current year, as he failed to understand that during the year under consideration the appellant had only reversed the said amount of Rs. 80,99,04,961 by crediting the P&L account 242. Ground nos. 25 to 30 pertain to the issue of disallowance made by the AO u/s 40(a)(i)/(ia). The relevant facts in this respect are that, the assessee had created a year end provision of INR 3,396,650,580 for the year ending 31 March 2010. Out of this provision, INR 889,984,971 was in respect of vendors who could not be identified, and no TDS could be made. Accordingly, the assessee in its computation of income and in income tax return for A.Y. 2010-11 disallowed this amount of INR 889,984,971. During this year i.e. FY 2010-11 (AY 2011-12), the assessee reversed such provision in the books of accounts and credited the same in respect heads of expenses thereby r....
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....ted in this year, the disallowance made by the AO was justified because the same is mandated by Section 40(a)(i)/(ia).It has also been submitted that the reversal of provision made by the assessee in its books is in conformity with the generally accepted accounting principles consistently followed by the assessee to represent a true and fair view of the state of affairs of the financial statements and the same has been certified by the statutory auditors of the company as well. 245. We have heard both sides and examined the material on record. The computation of income for the prior year shows that the appellant on its own volition had added back an amount of Rs. 889,984,971to its income on account of a provision being created without any TDS being made. We find that during the relevant financial year, this provision was reversed and the corresponding heads of expenses to which the provision pertained were reduced correspondingly. This led to increase of income in the books of account. Since this amount had already been voluntarily disallowed in A.Y. 2010-11 and offered to tax, the impact of writeback in the books for the current year had to be reversed. The assessee claimed thi....
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....tory made in the books of account, is added back to the income under the head "Profits and Gains of business or Profession," for the reason that it is not allowable under the IT Act. In other words the provision for slow moving/obsolete inventory, which is created each year in the profits & loss account and balance sheet prepared in accordance with the Companies Act, 1956, has been specifically added back while computing taxable income under the IT Act, while filing the return of income of the respective year i.e. the assessee has not claimed deduction on the 'Provision' created in its accounts, in its income tax computation in the earlier years. 15. During the year under consideration the provision in question, in respect of slow moving/obsolete inventory was written back in the accounts of the company, on the ground that the said provision to the extent written back is no longer required. The assessee had sold the slow moving stock and disclosed the sale proceeds, in its sales account. The provision was written back as no longer required in the accounts and as the provision was not claimed as an expense in its income tax computation in the year in which it was created, t....