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M/s. Heinz India Private Limited, Dy. CIT, Circle-7 (1) (2) , Mumbai Versus Addl. CIT, Range-6 (3) Mumbai, M/s. Heinz India Private Limited, Dy. CIT, Circle-7 (1) (2) , Mumbai

2016 (5) TMI 72 - ITAT MUMBAI

Transfer pricing adjustment - sharing AMP expenses - Held that:- The fact-that the license agreements between the assessee and its AE. s were on principal to principal basis for payment of royalty for use of brands of the AE's was not challenged by the TPO. In our, opinion, observation of the DRP that royalty payment was not a relevant point to decide the issue is not proper. Because, royalty payment is one of the criterias to hold that the assessee is an independent unit. It is also not denied .....

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s interests.

TPO has not brought on record any evidence to prove that the assessee had rendered any services to its AE. s under the head AMP. On the contrary, payment on account of advertisements etc. (Rs. 71. 04 crores)was made to unrelated domestic third parties. In our opinion, these basic facts compelled the TPO to hold that in the case under consideration the international transaction was not the actual AMP expenditure, but the benefit conferred by it to its AE. s in form of prom .....

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rs AMP to increase its sales, but to benefit the AE. s. In other words, the TPO has failed to prove that the real intention of the assessee in incurring advertisement and marketing expenses were to benefit the AE's. and not to promote its own business. The turnover of the assessee proves that during the year under consideration the assessee had done a reasonably good business, as state earlier. The resultant profit was offered for taxation in India. Therefore, transferring of profit from India, .....

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ad made a disallowance of ₹ 5. 56 lakhs, that the DRP reduced the disallowance to ₹ 42. 11 lakhs. We find that the AO had applied the provisions of Rule 8D of the Rules in a mechanical manner. In each and every case disallowance @ half a percent of the average investment for that year cannot be applied. But, it is also a fact that the assessee itself had admitted that certain disallowance had to be made u/s. 14 of the Act. As an ad hoc disallowance is to be made, so, we are of the op .....

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143 (3) r. w. s. 144C(13) of the Act, in pursuance of the directions issued by the dispute resolution panel (DRP), the assessee has filed the present appeal. Assessee-company, engaged in the business of food processing, filed its return of income on 29/09/2008, declaring total income at ₹ 79. 01 crores. The AO completed the assessment, determining the income of the assessee at ₹ 2, 33, 72, 12, 160/-. 2. First effective ground of appeal is about Transfer Pricing(TP)adjustments. During .....

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h regard to the proposed draft assessment order. 2. 1. The TPO found that assessee had adopted Transactional Net Margin Method(TNMM), as the most appropriate method for deciding the ALP for the international transactions entered in to, that it had carried out several international transactions with its AE. s, namely import of finished goods(Rs. 5. 20 crores), export of finished goods(Rs. 2. 54 crores)royalty payment (Rs. 5. 51crores) payment for support services(Rs. 1. 47crores)reimbursement rec .....

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comparables, that the PLI was worked out on the basis of the data of the last three years, that in the Manufacturing segment the PLI of the company was arrived at 10. 72% as against the PLI of comparables computed at 4. 96%, that in the distribution segment the PLI was arrived at 4. 83% as against the PLI of the comparables computed at 4. 32%. However, the TPO held that due to non-availability of that data, on uncontrolled enterprises which developed and promoted intangibles but were not the ow .....

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plit Method(PSM)was the most appropriate method. Relying on the decision of the ITAT Delhi, in the case of Rolls-Royce Plc. , the TPO held that the consolidated profits of the Heinz group could be attributed to three major activities namely manufacturing (50%), research and development(15%)AMP(35%). Thereafter, he computed 35% of global profit of Heinz group at ₹ 2188. 85 crores. As the AMP expenditure by the assessee was 8. 12% of the total AMP expenses of the group, he held that profit o .....

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ine Test(BLT)for determining the proportion of AMP that could be held to be non-routine and incurred for brand building purposes. While applying the BLT, he rejected 11 of the 13 comparables used by the assessee on the ground that turnover of those companies was very small and that in some of the cases the AMP expenses were negligible. He also made his own search for comparables and finally opted for six comparables with their AMP expenses as a percent of the net sales. At this juncture, the ass .....

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nd arrived at AMP expenditure of ₹ 63. 48 crores on total sales of ₹ 535. 32 crores giving a ratio of 11. 86%. The AMP expenses in excess of the BLM were computed at ₹ 42. 07 crores. He then applied a markup of 10% on the basis of the opening margin of certain advertising companies and computed the adjustment at ₹ 46. 27 crores. 3. Aggreived by the proposed draft order of the AO, the assessee filed objections before the DRP. It was contended that the AMP expenses, incurre .....

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AEs had been entered into on principal to principal basis for grant of right to use brands and technology, that there was no joint development of brands, that benefits of AMP expenses were solely derived by the assessee and no benefit was derived by the AEs, that the brands under consideration were primarily sold only by the assessee and not by any other Heinz group entity across the world, that the assessee was an independent risk bearing entity and any cost incurred towards AMP was for the so .....

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o separate benchmarking of the AMP was required, that the TNMM adopted by the assessee was wrongly rejected, that comparables like Glaxo Smith Kline, Colgate, Cadbury and Reckitt Benckiser(india)Ltd. had been held by the TPO himself to be similarly placed, that the PSM had been wrongly applied by the TPO, that it was not the most appropriate method and not at all applicable to the case under consideration, that the operation of the assessee and its AES were distinct and independent, that it is a .....

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e case, that while computing the adjustment the TPO had wrongly included sales promotion expenses as well as AMP expenses on Nycil and on other traded protects, that such expenses were not connected at all to the development of the brands under consideration, that application of BLT was not correct, that an international transaction cannot be benchmark using a method other than the five method is prescribed in the Act, that companies selected by the TPO to compare AMP expenses were not comparabl .....

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dering the submission of the assessee and the available material, the DRP held that the argument of the assessee that AMP expenses did not constitute an international transaction was misconceived, that it was not the actual payment of advertising charges to third parties that had been considered by the TPO as an international transaction, that the relevant transaction was the benefit conferred by the assessee on its AEs i. e. Heinz USA and Heinz Italy by way of promoting the brands and increasin .....

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romotion and brand value augmentation had been provided by the assessee without receiving any compensation for the same, that the promotional efforts in a country of the size of India would contribute significantly in the increase of such brand value, that the royalty being paid by the assessee for the use of trademarkes was not relevant, that on the contrary it indicated the direct relationship between it and the AEs in the context of brand building, that brand building carried out by the it fo .....

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he entire business of a group like Heinz was heavily dependent on brand recognition and brand recall. The DRP referred to the judgment of the Hon ble Delhi High Court, delivered in the case of Maruti Suzuki India Ltd. (328ITR210)and held that even in the case of manufacturing AMP expenditure incurred in excess of what a comparable independent entity placed in the same position would have incurred would deserve some compensation from the brand owner unless it was shown that the assessee had obtai .....

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considered by the TPO in addition to the transactions reported by the assessee, that the assessee had not considered the transaction at all in the TP study report, that the TPO was justified in attempting to find a better methodology, that he had stated, while concluding his order, that all international transactions other than the benefit even through brand building had been accepted by him at being at arm s length, that RSP method, adopted by the TPO, was not strictly in accordance with the ma .....

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f AEs. The DRP further observed that the contention of the assessee that BLM could not be used as it was not one of the prescribed methods was entirely without merit, that the bright line was only a standard which was used to just the reasonable level of expenditure that would be required to be incurred by an enterprise for its own risk bearing activities, that it was not a method employed to determine the ALP of the benefit conferred through development of brand intangible, that in the case und .....

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ture did not depend solely on the profitability or the amount of profits available, that it was the total turnover that was relevant factors for planning AMP expenditure, that the TPO was justified in applying bright line standard for determining the excess AMP expenditure, that the comparables required in the case under consideration for constructing the bright line would have to be the companies whose AMP expenditure was entirely for their own selling effort without any involvement of brand pr .....

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at they were selling goods manufactured by themselves, that those companies could not be accepted as comparables for the purpose of constructing the bright line in the manner done by the TPO. The DRP directed the AO to include two comparables and re-compute the average AMP expenditure of comparables accordingly. Coming to the issue of adjustments made by the TPO to the average AMP expenditure of the comparables, the DRP held that the records did not show any basis at all for reducing the average .....

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culiar facts of the case under consideration, that both those adjustments were difficult to compute, that in the interest of Justice no adjustment should be made to the average AMP expenditure computed in respect of comparables selected. The DRP further held that AMP expenses of 6. 47 crores on Nycil and ₹ 0. 09 crores on the traded products for the purpose of the bright line had to be excluded, that rebates and discounts and such other incentive expenses could not be considered as incurre .....

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the AO to re-compute arm s length compensation for the benefit conferred on AE. s in the form of brand development and brand value augmentation using bright line standard. 4. Before us, the Authorised Representative(AR)stated that the transaction in question was not an international transaction, that the assessee had incurred the expenses for promoting its own business and for promoting the business of the AE. s, that the amount of ₹ 71. 04 crores shown as advertisement and marketing expen .....

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, Bausch & Lomb Eyecare(India)Pvt. Ltd(65 taxmann. com 141)He further argued that even if the transaction is considered an international transaction, PSM was not applicable, that Bright Line was not one of the recognised methods for deciding the ALP as per the provisions of section 92 of the Act. The Departmental Representative (DR)contended that the TPO was justified in treating the AMP expenses as international transaction, that the DRP had rejected the PSM. He referred to three cases Delh .....

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had determined the ALP of such transaction adopting TNMM, that the TPO accepted the valuation of the those transaction, that he further held that the AMP expenses incurred by the assessee were to be examined as per the provisions of section 92 of the Act, that he held the assessee contributed to enhance the brand value of the brand owned by the AE. s. He also held that the assessee was entitled to compensation for the expenses incurred under the head AMP. In short, he held that benefit conferre .....

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hin the parameters of international transaction, that PSM adopted by the TPO was not a proper method to determine the transaction. DRP directed the AO to re-compute the adjustment using best line standard. 5. 1. We find that the assessee had been granted trademark licences including Complan, Glucon-D, Sampriti Ghee by its 100% holding company, i. e. Heinz Italy and trademark/technology licences, including Heinz Tomato Ketchup, by its ultimate holding company, Heinz USA. The fact-that the license .....

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system in India. The manufacturing unit of the assessee had shown a huge turnover(Rs. 631. 24 crores). Thus, we do not find force in the arguments of the TPO /DRP that AMP expenses incurred by the assessee were primarily or secondarily aimed to benefit the AE. s. and that it was entitled to a reasonable compensation for such AMP expenses. The expenses were incurred by the assessee to promote its own business interests. 5. 2. We also find that the TPO has not brought on record any evidence to pr .....

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fundamental question to be answered is to decide as to whether in absence of any agreement for payment of AMP expenses to the AE. s can it be held that there was an international transaction only on the basis that AMP expenditure, incurred by the assessee, would have benefitted the AE. s. , who owned the brands used by the assessee. In our opinion, the arguments suffers from the very basic flaw that an assessee does not incurs AMP to increase its sales, but to benefit the AE. s. In other words, .....

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remains unproved. 5. 3. Here, we would like to refer to the case of Maruti Suzuki(supra)of the Hon ble Delhi High Court. (supra). In that matter all the arguments raised by the TPO have been discussed at length. Similar judgments were delivered in the cases Whirlpool of India Ltd. (supra), Bausch & Lomb Eyecare(India)Pvt. Ltd(supra), Yum Restaurants (India) Pvt. Ltd. (ITA No. 349/2015 dated 13/01/ 2016). In the above-mentioned decisions, the issue of the very existence of international tran .....

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enefit to the foreign AE, it could not be concluded that AMP expenditure incurred by an Indian assessee was for promoting brand of foreign AE. The Hon ble Court further held that in the absence of machinery provisions, bringing an imagined transaction to tax was not possible. While coming to this conclusion, the Hon'ble High Court had placed reliance on the decisions of B. C. Srinivasa Setty (128 ITR 294) and PNB Finance Ltd. (307 ITR 75). We find that in the case of Bausch & Lomb Eyecar .....

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arm's length price"]and Section 92 (1) which states that any income arising from an international transaction shall be computed having regard to the ALP and Section 92C (1) which sets out the different methods of determining the ALP, makes it clear that the transfer pricing adjustment is made by substituting the ALP for the price of the transaction. To begin with there has to be an international transaction with a certain disclosed price. The transfer pricing adjustment envisages the su .....

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LP and make the TP adjustment by substituting the ALP for the contract price. 55. Section 928 defines 'international transaction' as under: "Meaning of international transaction. 928. (1) For the purposes of this section and sections 92, 92C, 92D and 92E , "international transaction means a transaction between two or 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 .....

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by an enterprise with a person other than an associated enterprise shall, for the purposes 'of subsection (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to' the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise. " 56. Thus, under Section 92B(1) an  .....

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to the any cost or expenses incurred or to be incurred in connection- with the - benefit, service or facility provided or to be provided to one or more of such enterprises. 57. Clauses (b) and (c) above cannot be read disjunctively. Even if resort is had to the residuary part of clause (b) to contend that the AMP spend of BLI is "any other transaction having a bearing" on its "profits, incomes or losses , for a 'transaction' there has to be two parties. Therefore for the .....

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2B are described as an 'International transaction'. This might be only an illustrative list, but significantly' it does not list AMP spending as one such transaction. 58. In Maruti Suzuki India Ltd. (supra), one of the submissions of the Revenue was: "The mere fact that the service or benefit has been provided by one party to the other would by itself constitute a transaction irrespective of whether the consideration for the same has been paid or remains payable or there is a mu .....

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g', it is 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 928 (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 SM .....

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uot;acting in concert" within the meaning of Regulation 20(4) (b) of the Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 1997. In. para 44, it was observed as under: "The other limb of the concept requires two or more persons joining together with the shared common objective and purpose of substantial acquisition of shares etc. of acertain target company, There can be no "persons acting in concert" unless there is a shared .....

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into being only by design, by meeting of minds between two or more persons leading to the shared common objective or purpose of acquisition of substantial acquisition of shares etc. of the target company. It is another matter that the common objective or purpose may be in pursuance of an agreement' or an understanding, formal or informal; 'the acquisition of shares etc. may be direct or indirect or the persons acting in concert may cooperate in actual acquisition of shares etc. or they .....

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make the adjustment of the difference in order to determine the value of such AMP expenditure incurred , for the AE. In any event, after the decision in Sony Ericsson (supre), - the question of applying the BLT to determine the existence-of an-international transaction involving AMP expenditure does not arise. 61. There is merit in the contention of the Assessee that a distinction is required to be drawn between a 'function' and a 'transaction' and that every expenditure forming .....

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; 62. In the present case, the mere fact that B&L, USA through B&L, South Asia, Inc holds 99. 9% of the share of the Assessee will not ipso facto lead to the conclusion that the mere increasing of AMP expenditure by the Assessee involves an international transaction in that regard with B&L, USA. A similar contention by the Revenue, namely the fact that even if there is no explicit arrangement, the fact that the benefit of such AMP expenses would also encure to the AE is itself self s .....

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estion whether there is any 'machinery' provision for determining the existence of an international transaction involving AMP expenses, Mr. Srivastava only referred to Section 92F (ii) which defines ALP to mean a price "which is applied or proposed to be applied in a transaction between persons other than AEs in uncontrolled conditions", Since the reference is to 'price' and to 'uncontrolled conditions' it implicitly brings into play the BLT. In other words, it .....

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ional transaction which is required to be adjusted: The very existence of an international transaction cannot be presumed by assigning some price to it and then deducing that since it is not an ALP, an adjustment had to be made. The -burden is on the Revenue to first show the existence of an international transaction. Next, to ascertain the disclosed 'price' of such transaction and thereafter ask whether it is an ALP. If the answer to that is in the negative the TP adjustment should foll .....

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o in the present. case is to resort to a quantitative adjustment by first determining whether the AMP spend of the Assessee on- application of the. BL T, is excessive, thereby evidencing the existence of an international transaction involving the AE. The quantitative determination forms the very basis for the entire TP exercise in the present case. 74. The problem with the Revenue's approach is that it wants every instance of an AMP spend by an Indian entity which happens to use the brand of .....

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such AMP spend that the Indian entity should be compensated for? 63. Further, in Maruti Suzuki India Ltd. '(supra) the Court further explained the absence of a 'machinery provision qua AMP expenses by the following analogy: "75. As an analogy; and for-no other purpose; in the- context of a domestic transaction involving two or more related parties, reference may' be made to Section 40 A (2) (a) under which certain types of expenditure incurred by way of payment to related parti .....

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; provision in Chapter X which enables' an AO to determine what should be the fair 'compensation' an Indian entity would be entitled to if it is found' that there is an International transaction in that regard. In practical terms, absent a clear statutory guidance, this may encounter further difficulties. The strength of a brand, which could be product specific, may be "impacted by numerous other imponderables not limited to the nature of the industry, the geographical pecul .....

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dance. 64. In the absence of any machinery provision, bringing an imagined transaction to tax is not possible. The decisions in CIT v. B. C. Srinivasa Setty (1981) 128 ITR 294 (SC) and PNB Finance Ltd. v, CIT (2008) 307 ITR 75 (SC) make this position explicit. Therefore, where the existence of an international transaction involving AMP expense with an ascertainable price is- unable to be shown to exist, even if such price is nil, Chapter X provisions cannot be invoked to undertake a TP adjustmen .....

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1922) if it satisfies otherwise the tests laid down by the law". Considering the facts-like absence of an agreement between the assessee and the AE. s. for sharing AMP expenses, payment of ₹ 71. 04 Crores to domestic parties by the assessee, failure of the TPO prove that expenses were not for the business carried out by the assessee in India-and following the judgments of the Hon ble Delhi High Court delivered in the case of Bausch and Lomb(India)Pvt. Ltd(supar), we are of the opinio .....

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directed to be deleted. 6. Next ground of appeal pertains to disallowance made by the AO u/s. 14A of the Act. During the assessment proceedings, the AO found that the assessee had earned exempt dividend income of ₹ 8. 98 crores, that in the competition it had added back a sum of ₹ 5. 56 lakhs as disallowance u/s. 14A of the Act, that the amount was calculated on the basis of the salary paid to three employees who were stated to be involved in managing investments together with some .....

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they must have entailed critical investment analysis and managerial decisions, that only three employees could not have been involved, that provisions of rule 8D of the Income tax Rules, 1962 were applicable. He made a disallowance of ₹ 45. 67 lakhs. 7. The assessee reiterated the submissions made before the AO, before the DRP. After considering the available material, the DRP held that a disallowance u/s. 14A was warranted, that it was not denied by the assessee that some indirect expense .....

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ted the order of the DRP. We have heard the rival submissions and perused the material before us. We find that the assessee the AO had made disallowance of ₹ 45. 67 lakhs invoking the provisions of section 14 A of the Act, that it on its own, the assessee had made a disallowance of ₹ 5. 56 lakhs, that the DRP reduced the disallowance to ₹ 42. 11 lakhs. We find that the AO had applied the provisions of Rule 8D of the Rules in a mechanical manner. In each and every case disallowa .....

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