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M/s Bausch & Lomb India Pvt. Ltd. Versus DCIT, Circle 4 (1) , New Delhi

2015 (7) TMI 81 - ITAT DELHI

Transfer pricing adjustment - selection of comparable - AMP expenses - Held that:- Before the PLI determined at entity level is to be taken as the determining factor of bench marking various international transactions along with the AMP expenditure, it is to be clearly demonstrated how the transactions of the advertisement expenditure is closely linked to the other transactions in the distribution segment. Ld. TPO in para 10.4 has observed that assessee company has not been able to demonstrate t .....

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re, no separate bench marking of the functions is to be carried out, is devoid of any merit. However, at the same time we find that Hon’ble Delhi High Court in the case of Soni Erection has rejected the applicability of bright line test and as noted earlier, ld. TPO and ld. DRP have not pointed out the AMP functions being carried out by the assessee, vis a vis the comparables and applied the bright line test.

Therefore, in view of the observations it would be proper to restore this i .....

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tribution have to be excluded in view of the decision in the case of Sony Ericson (supra). AS regards the objections of ld. counsel on selection of comparables, we are of the opinion that whole exercise has to be carried out de novo - Decided partly in favour of assessee for statistical purposes only. - ITA nos. 471/Del/2015 - Dated:- 19-6-2015 - Shri S.V. Mehrotra and Shri A.T. Varkey, JJ. For the Petitioner : Shri Nageswar Rao Adv. For the Respondent : Shri Ajit Kumar Singh CIT(DR) & Shri .....

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g of contact lenses and protein removal enzyme tablets as well as trading of ophthalmic intra ocular lenses and surgical equipments. The assessee had filed its return of income declaring income of ₹ 25,54,48,727/- under normal provisions of the I.T. Act and at book profit of ₹ 23,18,78,159/-. The AO noticed that assessee had entered into international transactions with Associated Enterprises ( AEs ), as detailed below:- S.N. Nature of transaction Method used by assessee Value of tran .....

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h were- (i) Vision care; (ii) Surgical equipment. 2.2. The AO noted that for vision care segment the assessee had used transactional net margin method ( TNMM ) as the most appropriate method with adjusted operating profit/ sales as the profit level indicator. 2.3. The assessee s contention was that for Vision Care Segment the PLI being operating profit/ sales of comparable on single year data basis was 6.19% as compared to 21.23% of assessee and for surgical equipment segment it was 5.97% as com .....

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h. 2.5. TPO had examined the filters applied by the assessee and after considering the same proposed following filters: - Companies whose data is not available for the FY 2009-10 should have been excluded - Companies whose trading income < ₹ 5 cr. Should have been excluded. - Companies whose revenue from Trading Income is less than 75% of the total operating revenues should have been excluded. - Companies having more than 25% related party transactions (sales as well as expenditure) of .....

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s pertinent to note that for the purpose of computing the bright line AMP expenses, companies which are engaged in brand building exercise and creating marketing intangibles for their or group companies brands cannot be taken as comparables. Only routine distributors are to be taken who are not engaged in any brand building exercise. 2.6. The comparables used by the assessee for benchmarking distribution segment of vision care products were as under, out of which only two were accepted by TPO an .....

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ed only two comparables for distribution segment viz. Aditya Medisales Ltd. and Abbott India Ltd. No new comparables was taken by TPO. The TPO has not made any adjustment in the profit margin of the taxpayer arising in the distribution segment. However, the ld. TPO after considering the TP documentation, also examined the advertisement, marketing and promotional expenses incurred by assessee and observed that the assessee being distributor of Bausch & Lomb products, manufactured by its group .....

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expenditure worked out to 11.84 crores. The TPO considered the expenditure incurred by comparables selected by him (after considering the comparables of the assessee) for benchmarking AMP as the arm s length expenditure of routine distribution function carried by him. After considering the assessee s reply, ld. TPO held as under: (i) AMP expenditure is an international transaction; (ii) TPO did not accept the assessee s contention that since TNMM had been used to benchmark the international tran .....

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lying mark up of 14.88% as under: Particulars Formula Amount (Rs.) Total revenue of assessee A 1,201,267,391 Arm s length % of AMP expenditure B 3.17% Arm s length AMP expenditure C=(A*B) 38080176 AMP expense incurred by the assessee D 118446390 Expenditure incurred for developing the brand E=D-C 80366214 Add markup @ 14.88% F 176223 Arm s length return for AMP expenditure G=E+F 97991036 2.9. The AO, accordingly, after giving opportunity to the assessee, passed the draft assessment order by maki .....

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AEs, it had been duly compensated for its AMP activities; - The nature of assessee industry warrants heavy expenditure on AMP. - The TPO ignored the fact that the assessee s AE had not charged any royalty from the assessee. - The TPO incorrectly considered selling and distribution expenses and sales promotion expenses incurred by B&L India as part of brand building expenses while benchmarking the AMP expenses. - The TPO erred in making selection of inappropriate companies as comparables for .....

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r and, therefore, the expenditure on advertising and marketing activity was not solely for assessee s own business purposes. (iii) Ld. DRP further held that the TPO was justified in invoking the concept of bright line for benchmarking of the expenditure to be considered excessive and, accordingly, was justified in making adjustment. (iv) On the issue of comparables, ld. DRP directed the TPO to verify the results of the search from the annual reports of the comparables for the calculation of oper .....

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age 5.27 2.12.1. Accordingly, ld. TPO passed the order dated 11-12-2014 which was given effect to by the AO. 2.13. The AO further as per the directions of Ld. DRP, applied a mark up of 13.25%, applying interest @ SBI Base rate as on 30th June of the relevant year plus 150 basis points. Accordingly, adjustment on account of AMP expenses was computed as under: Particulars Amount (INR) Total Revenue of the assessee (A) 1,20,12,67,391 Arm s length AMP expenditure (B) 5.27& Arm s length AMP expen .....

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arned Transfer Pricing Officer("TPO"), / AO of INR 6,24,45,595/- contrary to provisions of the Act and Income-tax Rules, 1962 ("the Rules"). 2. Impugned order, to the extent it confirms adjustment under Transfer Pricing Regulations with reference to imaginary and non-existent international transactions, is bad in law as it is not in accordance with provisions of law. Further, without prejudice, the decisions of Hon'ble Courts (including of this Hon'ble Tribunal) relie .....

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as no understanding/arrangement between the Appellant and its associated enterprises ("AEs") for incurrence of such expenditure on behalf of the AEs; (b) The transaction in question was undertaken by the Appellant with unrelated domestic third parties; (c) Selective reliance cannot be placed on portions of submissions and information provided to presume existence of international transaction (d) Deeming fiction cannot be expanded out of context purely based on presumptions to include t .....

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mercial expediency of AMP expenditure incurred by the Appellant. 6. The impugned order failed in not appreciating that the Appellant is a routine risk- taking distributor and the AMP expenses incurred by it are wholly and exclusively for the purpose of its business operations. 7. That on the facts and circumstances of the case and in law, learned AO/DRP/TPO have erred in failing to appreciate that the AMP function is also was undertaken by the Appellant as a part of its functional profile as a f .....

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P expenses by the Appellant has been received by the Appellant and any benefit resulting to the AEs is merely incidental. 10. That on the facts and circumstances of the case and in law, learned AO/DRP/TPO failed to appreciate that the nature of industry and business realities of the Appellant require and demand the incurrence of such AMP expenditure for maintaining and enhancing the sale of its products in the relevant market. 11. That on the facts and circumstances of the case and in law, learn .....

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, no separate arm's length analysis was required in respect of the alleged international transaction relating to AMP. 13. That on the facts and circumstances of the case and in law, the learned AO/DRP/TPO have erred, in benchmarking presumed international transaction of the Appellant relating to AMP, without considering that the Appellant has been fully compensated for its marketing efforts as evident from the arm's length margin earned by it. Without prejudice, the further direction to .....

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ase and in law, learned AO/TPO/DRP have erred in incorrectly applying the Comparable Uncontrolled Price ("CUP") method for determination of the cost base while benchmarking the alleged international transactions of the Appellant relating to AMP. 16. That on the facts and circumstances of the case and in law, learned AOIDRP/TPO have erred in benchmarking the AMP expenditure incurred by the Appellant in India without correctly applying CUP in the manner prescribed under Rule 10B of the R .....

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ances of the case and in law, learned AO/TPO/DRP have erred in levying a further mark-up on the AMP expenses incurred over and above the socalled 'bright-line' limit, for determination of the arm's length price of the alleged brand-promotion services rendered by the Appellant to its AEs. 20. That on the facts and circumstances of the case and in law, learned DRP has erred, in arbitrarily determining a markup of SBJ Base Rate plus 150 basis points (i.e. 13.25%) on such alleged AMP ser .....

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edings under Section 271(1)(c) read with Section 274 of the Act. 24. That on the facts and circumstances of the case and in law, the learned AO has erred in incorrectly allowing credit shortfall of taxes deducted at source to the Appellant. 2.15. The assessee has substituted ground no. 18 vide letter dated 29-4-2015 as under: 18. Without prejudice to other contentions that Appellant may raise on search process adopted by the learned AO/TPO/DRP in any other year for which Appellant reserves its r .....

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e assessee submitted that assessee is primarily a distributor and at the entity level average profit earned was 18.45% for the two basic segments viz. vision care; and surgical equipment. 5.1. Ld. counsel pointed out that the ld. DRP has given direction to TPO to verify the results of the search from the annual reports of the comparables for the calculation of operating margin and AMP of sales ratio. However, the TPO has not correctly applied the said filter and, therefore, the matter should be .....

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ectronics India Pvt. Ltd. In this regard he referred to paras 126, 127 and 135 of the decision of Hon ble High Court. Ld. counsel further referred to para 101 of the said decision of Hon ble High Court to submit that since TNMM method has been applied by assessee for bench marking the various international transactions, therefore, since at the entity level the profit margin of the assessee is higher compared to comparable, therefore, the international transaction in regard to AMP is not required .....

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hi High Court with regard to aggregation and disaggregation of transactions when the TNMM method is sought to be applied. The submission of ld. counsel is that along with other international transactions. the AMP has to be aggregated and then at the entity level PLI is to be compared with the PLI of the comparables. In this regard he referred to paras 137 to 144 of the decision. 5.5. Ld. counsel further referred to para 193 of the said decision to submit that endeavour on the part of the Tribuna .....

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that if the functions performed by the tested parties and the comparables match, with or without adjustments, AMP expenses are duly accounted for. It would be incongruous to accept the comparables and determine or accept the transfer price and still segregate AMP expenses as an international transaction. …… viii) Distribution and marketing are inter-connected and intertwined functions. Bunching of inter-connected and continuous transactions is permissible, provided the said transa .....

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f controlled taxpayers and to place them on parity with uncontrolled, unrelated taxpayers. The exercise undertaken should not result in over or double taxation. Thus, the Assessing Officer/TPO can segregate Al\1P expenses as an independent international transaction, but only after elucidating grounds and reasons for not accepting the bunching adopted by the assessed, and examining and giving benefit of set off. Section 92(3) does not bar or prohibit set off. 3.7. Ld. counsel further submitted th .....

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t select correct comparables. He referred to the decision of Hon ble Delhi High Court in the case of CIT Vs. Mentor Graphics India Ltd. (ITA no. 1114/2008 judgment dated 4-4- 2013), (para b22), to submit that it is not the right approach to be adopted by the Tribunal to select some of the comparables. The Tribunal should have stopped at the point where it decided on facts that the comparables given by the assessee were to be accepted and those searched by the TPO were to be rejected. The Tribuna .....

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d distribution expenses have to be excluded. In view of decision of Hon ble Delhi High Court in the case of Sony Erricson (supra), ld. counsel submitted that in order to determine the AMP: functions performed by assessee vis a vis comparables, then the matter should be restored back to the file of ld. TPO with following three directions- (a) Trading filter to be correctly applied/ mistake to be corrected by ld. TPO. In this regard he referred to page 31 of ld. DRP directions (page 42 of appeal s .....

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High Court. He pointed out that Hon ble High Court in para 176 has given the findings with regard to assessee which was engaged in distribution and marketing of consumer goods and not in case of distributor simpliciter which is sin the present case. 4.1. Ld. CIT(DR) submitted that the discount and incentive that the assessee is passing on to the dealers is the tool which it employs to create a brand loyalty among them and, therefore, the commission and sales discount facilitates the company to .....

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P expenditure as an international transaction. Admittedly, the said transactions were bench marked adopting TNM method and it was demonstrated that the PLI of the Vision care segment was 21.23% as against 6.19% of the comparables and in the case of Surgical equipment segment the PLI of the assessee was 13.81% as against 5.97% of the comparables. The TPO had, accordingly, not made any adjustment in regard to the companies, inter alia, transactions reported by assessee. However, keeping in view th .....

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essee in regard to bench marking of AMP, the assessee had furnished new set of comparables which ld. TPO rejected on the ground that those comparables could not be considered as a routine distributor. 5.1. Ld. TPO had considered the comparables viz. Aditya Medisales Ltd. and Abbott India Ltd. out of the list of comparables furnished by assessee for benchmarking various international transactions, for benchmarking the AMP expenditure. But he did not consider the AMP functions performed by the sai .....

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to examine the submissions of ld. counsel that since PLI at entity level is acceptable to ld. TPO which includes the AMP expenditure, therefore, no separate exercise for bench marking the AMP expenditure independently should be undertaken. On this aspect ld. counsel has relied on the decision of Hon bloe Delhi High Court in the case of Soni Erection s case (supra). 5.3. The Hon ble Delhi High Court in the case of Soni Erection s case (supra) in para 137 has observed that the aggregation and disa .....

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often situations where separate transactions are inter wined and linked or are continuous that they cannot be evaluated adequately on separate basis. Secondly, the controlled transaction should ordinarily be based on the transaction actually undertaken by the AEs as has been struck by them. Hon ble jurisdictional High Court cautioned that it was not advocating the a broad-brush approach but, a detailed scrutinized ascertainment and determination whether or not the aggregation or segregation of t .....

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onstrate that there was any prior understanding, design or commercial logic or rational for aggregation of the transactions. He has observed that the assessee company has not been able to demonstrate that there was any logic or rationale for aggregation or that the transactions of the advertisement expenditure and the other transactions in the distribution activity are interdependent. Therefore, the contention of ld. counsel that since PLI at entity level is much more than that of the comparable .....

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7, as noted earlier, it would be proper to restore this issue to the file of Ld. TPO for bench marking the AMP functions, keeping in view the decision of Hon ble Delhi High Court in the case of Soni Erection s case. We may point out that assessee would be free to demonstrate its claim regarding aggregation of AMP functions with other international transactions, particularly in view of the observations of Hon ble Delhi High Court in para 101 of the order. We may further clarify that while computi .....

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