TMI Blog2017 (4) TMI 343X X X X Extracts X X X X X X X X Extracts X X X X ..... of the assessee. The payments made by the assessee to ensure continuous supply of rawmaterial did not enhance its own asset structure in any way. Assessee was obliged to pay price charged by M/s. Orchid India apart from the lumpsum it had affected. Agreement between assessee and M/s. Orchid India placed at paper book page No.964 clearly places an obligation on M/s. Orchid India to maintain sufficient capacity and supply the projected needs of the assessee during the term of the agreement. In our opinion, the payments made by the assessee to M/s. Orchid India was only in the revenue field to ensure the supply of its raw material on a long term basis. Expenditure was primarily and essentially related to manufacturing operation of the assessee which ensured its profit earning capability. It was only an outlay of business in order to carry it on in an efficient manner. In our opinion, the expenditure was allowable as revenue outgo. Transfer pricing adjustment - Held that:- When the assessee had supplied a number of items to its Associated Enterprise abroad, prices of some of which were lower than the agreed price rates and some were higher than the agreed rates, then, in our opinion ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 6,61,036/-. We are therefore of the opinion that M/s. Apotex Corp and Apotex Inc were in a position to exercise a dominant influence over the assessee. A person who purchased more than 1/5th of the total sales of the assessee, in our opinion, would have a distinctly dominant influence on the pricing and can exercise a defacto control. In the circumstances, we are of the opinion that lower authorities were justified in treating M/s. Apotex Corp and Apotex Inc as Associated Enterprise of the assessee. Profit split ratio - Held that:- Essential elements that are required to be verified for applying the said method was never considered by the lower authorities while considering the profit split ratio at 60:40. Considering all these facts, while holding that M/s. Apotex Corp and M/s. Apotex Inc were Associated Enterprise of the assessee, the matter regarding bench marking Arms Length Pricing of the profit share, in our opinion requires a fresh visit by the ld. Assessing Officer/TPO. We therefore set aside the orders of the lower authorities and remit the issue regarding adjustment of profit share back to the file of the ld. Assessing Officer/TPO for consideration afresh in accordance ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ribed by its Associated Enterprise namely Hospira Pte Ltd, Singapore. 3. Since the injectable drug unit acquired by the assessee used certain Active Pharmaceutical ingredient (API) produced by certain other divisions of Orchid India, assessee had entered into a supply agreement on 30th March, 2010 with Orchid India for ensuring continued supply of such API. Pursuant to this agreement, assessee paid a sum of H27,13,20,000/- for capacity expansion of Orchid India and assessee was entitled for assured supply of two intermediary drugs namely Meropenem and Imipenem for a ten year period. In the accounts, this sum was amortized and the charge for the relevant previous year was H32,30,000/- only. However, assessee claimed the whole of the amount as Revenue outgo for tax purpose. 4. In the agreement entered by the assessee with Orchid India for acquiring its injectable drug unit, as already mentioned by us, Shri. K. Raghavendra Rao, Managing Director of that company was also a party and he was paid a compete fee H4,55,31,000/-. This was also claimed by the assessee as a Revenue outgo. 5. During the relevant previous year, assessee had affected following sales to its Associated Ent ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for the rate of interest paid by the assessee on inter corporate convertible debentures (ICCD) issued to its Associated Enterprise abroad. 7. While recommending upward adjustment for the profit shared between the assessee and its Associated Enterprise abroad, ld. TPO treated M/s. Apotex Corp and Apotex Inc Signet also as Associated Enterprises of the assessee. Ld. TPO relied on an order dated 28.03.2012 of Income Tax Settlement Commission in the case of M/s.Orchid India for the assessment years 2006-07 to 2010-2011 for coming to a conclusion that Apotex Corp and Apotex Inc Signet were Associated Enterprises of the assessee and profit split ratio between assessee and its Associated Enterprise should be 60:40 and not 50:50. Ld. DRP did not make any modification with respect to the proposals made by the ld. Assessing Officer except for directions on Revenue expenditure relating to scientific research and correction of the amount computed as profit share of Associated Enterprise. 8. Now before us, assessee had raised the following concise grounds of appeal in liue of its original grounds. 1.1 The impugned Order which includes the contentions of the Learned Assessing Officer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... riod of the agreement in line with the accounting treatment. 3. Disallowance of expenses paid towards capacity expansion of Orchid India 3.1 The Ld. AO and Hon'ble DRP erred in disallowing the claim of expense paid of INR 26,80,90,000 to Orchid India towards Orchid's manufacturing capacity on the basis that it is a capital expenditure. 3.2 Without prejudice to the above, depreciation should be granted under Section 32 of the Act on the above expenditure. 4. Erroneous downward adjushnent for difference between cost of shipment with standard price 4.1 The Ld. TPO and the Hon'ble DRP erred in making downward adjustment of INR 1,23,67,271 for difference between cost of shipment with standard price by cherry picking transactions where the export prices were lower than the original standard price as per the agreement, while ignoring cases where the export prices were higher. 5. Erroneous methodology for benchmarking interest payment for Indian Compulsorily Convertible Debentures ('ICCD') from NSDL database 5.1 The Ld. TPO and the Hon'ble DRP erred in making a downward adjustment of INR 22,14,66,575 for interest paid on ICCD. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the lower authorities disallowing the claim of depreciation on intangible assets submitted that assessee had given a valuation done by the Merchant Banker, wherein tangible assets and intangible assets were separately valued. As per ld. Authorised Representative ld. Assessing Officer had given depreciation on goodwill which was the balancing figure, after setting off the identified values of the tangible and intangible assets from the slump sale consideration paid. As per ld. Authorised Representative ld. Assessing Officer had erroneously applied Accounting Standard 26AS which was applicable only to self generated assets. Reliance was placed on the judgment of Hon ble Delhi High Court in the case of Areva T D India Ltd vs. DC IT 345 ITR 421 and also decision of Co-ordinate Bench in the case of Hinduja Foundries Ltd vs. ACIT (ITA No. 1590 to1593/Mds/2015, dated 19.02.2016). 11. Per contra, ld. Departmental Representative submitted that there was no scientific basis on which valuer had given the valuation. As per ld. Departmental Representative value of the tangible assets were artificially reduced so as to enhance the value of intangible assets to take advantage of higher d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ficer had disallowed depreciation on brand and trademark. The value of these intangible assets has been taken by the ld. Assessing Officer at H396,79,39,500/-. However, this figure is not apparent from the valuation report relied on by the assessee. Whether the valuer namely M/s. R.B. Shah Associates who assessee has claimed to be a merchant banker was having the authority to make a valuation under Income Tax Act, also requires verification. No doubt as mentioned by ld. Authorised Representative accounting standard AS 26 applies only for internally generated intangible assets. The conditions set out by the ld. Assessing Officer at para 5.3 of his order apply only to internally generated intangible assets and not to the intangible assets acquired by payment of consideration. We therefore remit the issue regarding depreciation on intangible assets back to the file of the ld. Assessing Officer for consideration afresh in accordance with law. 13. Adverting to, disallowance of non compete fees paid to Shri. K Raghavendra Rao, ld. Authorised Representative contented that it was purely a business expenditure allowable as revenue outgo. As per ld. Authorised Representative by virtue o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er for to considering afresh, in accordance with law. Concise ground No.2 of the assessee is allowed for statistical purpose. 16. Submitting his arguments on ground No.3, ld. Authorised Representative submitted that by paying H27,13,20,000/- to Orchid India, assessee could ensure continued supply of essential API. As per ld. Authorised Representative, ld. Assessing Officer as well as ld. DRP had held it to be capital outgo even though the expansion of business was that of Orchid India and not of assessee. Further as per ld. Authorised Representative assessee obtained enduring benefit only in the revenue field and not in capital field. M/s. Orchid India had committed to continuous supply of the intermediary drugs Meropenem and Imipenem. This only improved the business chain of the assessee but did not add to any of its capital asset. Reliance was placed on the judgment of Hon ble Apex Court in the case of Empire Jute Co. Ltd vs. CIT 124 ITR 1 and L.H. Sugar Factory and Oil Mills (P) Ltd vs. CIT 125 ITR 293. 17. Per contra, ld. Departmental Representative submitted that when assessee ensured a continuous supply of essential raw material through a lumpsum payment to a supplier a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e considered, ignoring positive difference. This gave a skewed and erroneous result. 21. Contra, ld. Departmental Representative submitted that assessee did not produce documentation to show that it had incurred higher or lower cost of production than what was agreed in the legacy agreement. When assessee supplied at a lower price than what was agreed with its Associated Enterprise then as per ld. Departmental Representative differences were rightly considered for addition by the ld. TPO. 22. We have considered the rival contentions and perused the orders of the authorities below. As already noted by us, assessee had taken over generic injectable drugs division of Orchid India through a slumpsale. By virtue of this, it was obliged to honour the agreements entered by M/s. Orchid India with various third parties in relation to such unit. The business model as already explained by us, was one in which ultimate profit was shared between the Associated Enterprise abroad and assessee. Once the Associated Enterprises had sold the products supplied by the assessee, the profit was gross realization less the cost of production which was billed by the assessee on its Associated Enterpri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e of interest on debentures was based on a corporate restructuring. Relying on the balance sheet of TPG Wholesale Private Limited, ld. Authorised Representative submitted that Debenture rate of the said company was 50% and not 0.5%. Relying on the audit report of the said company, ld. Authorised Representative submitted that it had acquired the assets and liabilities of One M/s.Vishal Retail Limited as a going concern during the relevant previous year and such high rate of interest on debentures was due to this acquisition. 24. Per contra, ld. Departmental Representative strongly supported the orders of the authorities below. 25. We have considered the rival contentions and perused the orders of the authorities below. It is not disputed that assessee had provided for interest at the rate of 10.5% on its ICCD. Ld. TPO had selected two companies for comparison of which one company was having ICCD interest rate of 15.5% and the other company 0.5%. Contention of the assessee is that M/s.TPG Wholesale Private Limited for which ld. TPO had taken ICCD interest at 0.5% had actual interest rate of 50%. In our opinion there is a wide disparity between what is stated in the Balance shee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which happen in course of ordinary business. Otherwise, according to him, even a solitary transaction could be treated as one which gives rise to a relationship of Associated Enterprise. Further, according to him, Bangalore Bench of the Tribunal in the case of Page Industries Ltd vs DCIT, 159 ITD 680 had held that for becoming an Associated Enterprise, parameters in both sub section (1) and (2) of Section 92A had to be satisfied. As per ld. Authorised Representative, assessee did not have either defacto or dejure control over Apotex Corp and Apotex Inc Signet. Once these two enterprises were treated as non Associated, then the pricing of the products and sharing of profit with them, became automatically at Arms Length and a perfect basis for applying Uncontrolled Price (CUP). Vis- -vis other transactions of the assessee with its Associated Enterprise, namely Hospira group entities, as per the ld. Authorised Representative the same profit sharing ratio was to be adopted. According to him there was no occasion for making any adjustment in the Arms Length Pricing. As per ld. Authorised Representative lower authorities erred in going by the decision of Settlement Commission in the cas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d by the Co-ordinate Bench in the case of Orchid Pharma Limited (supra). There one M/s.Northstar with which Orchid India has having a similar profit sharing arrangement was considered as an Associated Enterprise of M/s. Orchid India, by the ld. TPO. Interpreting Sec. 92A(2)(i) of the Act, the Co-ordinate Bench held as under:- 12. It is in this background that we have to address ourselves to the scope of Section 92A(2)(i) which provides that two enterprises will be deemed to beassociated enterprises when the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise . As we do so, we may take note of the fact, as discussed earlier as well, that the definition of associated enterprises in the cases covered by Section 92A(1), which refers to the participation in management, control or capital of the other enterprises, extend only to such extent as covered by Section 92A(2). In other words, even when it is an admitted situation that the assessee has participated in control, capital or management ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... but the coordinate bench had no occasion to deal with the control aspect at all. As held in the case of Diageo India Pvt Ltd Vs DCIT [(2011) 47 SOT 252 (Mum)], even when an enterprise exercise control over the other enterprises by way of controlling the supply of raw material or use of trade marks, this also constitutes participation in control leading to the status of associated enterprises under section 92A(1). It appears that this aspect of the matter has not been brought to the notice of, or pleaded before, the bench. While the conclusion arrived at by the bench clearly overlooks the specific mention of the word control in both limbs of the basic rule under section 92A(1) (i) as also under section 92A(1)(ii), and to that extent we are unable to concur that in the absence of participation in capital or management, two enterprises cannot be associated enterprises under section 92A, what is important to us is that the coordinate bench has, inter alia, also held that, . in order to constitute relationship of an AE, the parameters laid down in both sub -. sections (1) and (2) should be fulfilled and justified this approach by observing that if we were to hold that th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ndian software company is, therefore, able to charge a price with 1% margin/mark up, which is very low compared to his Indian counterparts (which apply, for instance, 6% mark up). According to the Indian transfer pricing law, if the gods or articles manufactured or processed by one enterprises, are sold to other enterprise abroad or to person specified by such other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprises, the two enterprises shall be deemed to be associated enterprises [See section 92A(2)(i) of the Indian Income Tax Act, 1961]. The Indian tax authorities consider the Indian software developer and its Dutch customer to be associated. They may adjust the prices and tax an unrealized profit, i.e. difference between real results and results based on prices derived from other software developers in India. The Netherlands does not consider the companies to be associated as it applies a narrow concept that does not include de facto control as a criterion for association. Control in the absence of company law based relationship or in the absence of any formal right to exercise control can be described ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... can influence the prices and other related conditions. The wordings of clause (i), however, do not reflect this position in an unambiguous manner inasmuch as it does not set out a threshold of activity, giving de facto control to the other enterprise engaged in such commercial activity, in percentage terms or otherwise- as is set out in clause (g) and (h) or, for that purpose, in all other operative clauses of Section 92A(2). If the words of this clause are to be interpreted literally, as the authorities below have read, even if there is one isolated transaction with an enterprise in such an enterprise can influence the prices, such an enterprise is to be treated as an associated enterprisewhether or not this commercial relationship amounts to control on the other enterprise. That will clearly be an incongruous result. However, as Section 92A(2)(i) is to be read alongwith Section 92(A)(1), in such a situation in which an enterprise does not participate in (a) capital, (b) management, or (c) control of other enterprise, and thus does not fulfil the basic rule under section 92A(1), even if the conditions of Section 92A(2)(i) are fulfilled, these enterprise cannot be treated as asso ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ut upon written instruments, so as to uphold them, if possible, and carry into effect the intention of the parties. [See Broom s Legal Maxims (10th Edition), p. 361, Craies on Statutes (7th Edition) p. 95 and Maxwell on Statutes (11th Edition) p. 221.] It is, therefore, important that the expression influence is given a sensible meaning so as to make the provisions of Section 92A(2)(i) workable rather than adopting a literal meaning which will lead to wholly incongruous results. 17. Viewed in this perspective, we must adopt a sensible meaning of expression influence which advances the scheme of the transfer pricing provisions rather than making these provisions unworkable. That meaning had to be a dominant influence which leads to de facto control over the other enterprise rather than an influence simplictor. If we are to adopt literal meaning of influence, as has been adopted by the authorities below, all the transactions on negotiated prices will be hit by the provisions of Section 92A(2)(i). In the light of the discussions above, the expression influence , in the present context, must remain confined to dominant influence which amounts to de facto control. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... less than 5% of the entire exports and less than 6% of the entire sales of M/s.Orchid India. As against this admittedly, in the case before us, the entire sales of the assessee were to Apotex Cort/ Apotex Inc Signet and M/s. Hospira group, concerns of which the latter admittedly were Associated Enterprises of the assessee. The profit share which came to the assessee from these parties were as under:- Party Name Profit Share Amount Apotex Corp 29,21,54,195 Apotex Inc 85,79,870 Total 30,07,34,065 Hospira Enterprises BV 95,19,26,971 95,19,26,971 Grand Total 125,26,61,036 The total sales to Hospira group as already mentioned by us at para 5 above, aggregated to H283,79,39,806/-. It can be safely concluded from the above data that more than 20% of assessee s sales were to Apotex Corp and Apotex Inc. The profit shared earned by the assessee from the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ) the combined net profit of the associated enterprises arising from the international transaction in which they are engaged, is determined ; (ii) the relative contribution made by each of the associated enterprises to the earning of such combined net profit, is then evaluated on the basis of the functions performed, assets employed or to be employ-ed and risks assumed by each enterprise and on the basis of reliable external market data which indicates how such contribution would be evaluated by unrelated enterprises performing comparable functions in similar circumstances ; (iii) the combined net profit is then split amongst the enterprises in proportion to their relative contributions, as evaluated under sub-clause (ii) ; (iv) the profit thus apportioned to the assessee is taken into account to arrive at an arm's length price in relation to the international transaction: In our opinion, lower authorities had failed in properly applying the above rule, though what was effectively applied was a profit split method. Essential elements that are required to be verified for applying the said method was never considered by the lower authorities while conside ..... X X X X Extracts X X X X X X X X Extracts X X X X
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