TMI Blog1969 (4) TMI 24X X X X Extracts X X X X X X X X Extracts X X X X ..... " on the terms and conditions therein mentioned. Some of the clauses of this agreement which the Tribunal has quoted in the statement of the case are as follows : " Clause 3(a).-HGEC shall be liable to pay ' Simplex ' the cost (including freight, transport and insurance costs) of preparing and providing prints, designs, drawings, specifications, instructions and other information as aforesaid and of supplying patterns and tools upon invoices in respect thereof being submitted by 'simplex' to HGEC. HGEC shall also pay to 'Simplex' a fee at the rate of pound 500 per annum (payable annually in advance, the first payment to be made within one month from the date hereof and thereafter on the first day of each year of this agreement), towards the salary of the members of the staff of 'Simplex' appointed for the purposes of paragraph (d) of clause 2 and sums equivalent to the salaries or other remunerations of any persons sent as production engineers or technical advisers for the purpose of paragraph (e) of clause 2 during their absence from England and all travelling and living expenses incurred by them during such absence, payments of such sums to be made promptly upon the same being ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sition of HGEC and/or 'Simplex' with respect to the trade mark on the ' Simplex' products that 'Simplex' may from time to time direct. " " Clause 6(b).-If HGEC has not started to manufacture or fails or is unable or unwilling to meet or fulfil the demand in India for the 'Simplex' products or any of them in spite of 'Simplex' making available to HGEC all information, drawings, specifications and technical advice in terms of clause 2 above, ' Simplex' may either, (i) itself sell or supply such products to any person, firm or company in India, or (ii) be free to make arrangements (including the provision of services and information similar to those herein provided) for the manufacture and sale of such products in India by persons, firms and companies other than by HGEC PROVIDED that in the latter event 'Simplex' shall first give notice in writing to HGEC of its intention to make such arrangements for the manufacture of such products in India and if after receipt of such notice as aforesaid HGEC shall satisfy 'Simplex' that it will within a reasonable time manufacture sufficient quantities of such products to meet the demand therefore ' Simplex' SHALL not proceed with such arrangeme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e date remittances are due to be made in accordance with such instructions. (d) During the currency of this agreement HGEC shall maintain full and accurate records of production and sales of 'Simplex' products and billing of the same to 'Simplex' quarterly within thirty days after the last day of January, April, July and October of each year detailed reports of manufacture and sales of 'Simplex' products covered by this agreement, and to permit 'Simplex's' duly authorised representative to inspect such records from time to time. (e) 'Simplex' shall have the option by notice in writing to HGEC at any time and from time to time to apply for ordinary shares in the capital of HGEC for cash at par and to apply the whole or part of the amount for the time being standing to the credit of 'Simplex' in the said account in meeting such subscription money provided that 'Simplex' may not apply and subscribe for ordinary shares of a nominal amount in excess of the total amount for the time being credited to it as aforesaid and that the total number of ordinary shares of HGEC held by 'Simplex' at any time shall not exceed 49% of the issued ordinary shares of HGEC for the time being. Upon 'Si ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 13,938 on the ground that it represented expenditure of a capital nature. The Appellate Assistant Commissioner held that the expenditure of Rs. 13,938 depended upon production and did not bring into existence any assets of an enduring nature. He allowed the sum of Rs. 13,938 as deduction in computing the assessee's business profit. The Tribunal held that what the assessee acquired was not the right of the trade name as such but the right to use the foreign company's trade mark on payment of royalty to be paid periodically depending on manufacture and sale of the products of 'Simplex' design. The Tribunal concurred with the Appellate Assistant Commissioner's view that the sum of Rs. 13,938 was an expenditure of revenue nature and dismissed the appeal. The following question of law has been referred to this court under section 66(1) of the Indian Income-tax Act, 1922 : " Whether, on the facts and in the circumstances of this case, and on a proper construction of the terms of the agreement dated May 21, 1956, entered into by the assessee with Messrs. Simplex Electric Co. Ltd. of England, the sum of Rs. 13,938 was an expenditure of a revenue nature and was accordingly allowable ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Paints Ltd. and J. K. Steel Ltd. During the relevant period, one of the assessee's directors was sent to Europe to explore the possibility of technical and financial collaboration with foreign concerns in the matter of manufacture of paints (the business of Hoyle's Paints Ltd.) and hoist-cranes conveying-equipments (later on manufactured by J. K. Steel Ltd ) and also to acquire generally available technical knowledge about manufacture of paints, wire ropes, hoops and box-strappings. The total expenses of the foreign tour came to Rs. 33,009. The assessee claimed it as business expense. This court has held that, though by reason of expenses incurred by the managing agent, certain assets of enduring benefit might have accrued to one or more of the managed companies, the purpose for which the managing agent incurred these expenses was to increase its own earnings or augmenting the commission it derived from its managed companies, and it was with the object of creating possibilities for enlargement of its income that the assessee spent the amount in question. The foreign tour expenses of the director in these premises were, therefore, allowable as the assessee's business expenditure u ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ook over the pharmaceutical section of the Swiss company in India from January 1, 1948. Under an agreement dated December 17, 1949, the Swiss company undertook to deliver to the assessee all processes, formulae, scientific data, working rules and prescriptions pertaining to the manufacture or processing of products discovered and developed in the Swiss company's laboratories and to forward to the assessee as far as possible all scientific and bibliographic information, pamphlets or drafts, which might be useful to introduce licensed preparations and to promote their sale in India. The Swiss company granted to the assessee full and sole right and licence under the patent listed in the agreement to make, use, exercise and vend the inventions specified therein in India and also a licence to use certain specified trademarks in the territory subject to any existing licence which third parties held at the date of agreement, or which the Swiss company might grant to third parties thereafter. In consideration of the right to receive scientific and technical assistance the assessee agreed to make contributions of 5 per cent., 3 per cent. and 2 per cent. respectively, of the net sale price o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any commanded. The assessee was on that account a mere licensee for a limited period of the technical knowledge of the Swiss company with the right to use the patents and trade marks of that company. The assessee acquired under the agreement merely the right to draw, for the purpose of carrying on its business as a manufacturer and dealer of pharmaceutical products, upon the technical knowledge of the Swiss company for a limited period ; and by making that technical knowledge available the Swiss company did not part with any asset of its business, nor did the assessee acquire any asset or advantage of an enduring nature for the benefit of its business. " There are a few other aspects of this case which are not necessary for our purposes. At pages 701 and 702, their Lordships of the Supreme Court have referred to the salient features of the agreement between the parties which show that the Swiss company did not sell its secret processes to the assessee. If we compare these salient features with the relevant clauses in the agreement in the instant reference, we would discover striking similarities between these two cases. Let us, therefore, deal with these salient features one by o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o the assessee. In our case, there are similar terms in clauses 2(a) and (b) of the agreement : 'Simplex' shall make available to HGEC at their request complete prints of all designs, working drawings, manufacturing material specifications, detailed manufacturing and assembling instructions and all other information (that is " know-how ") for efficient and modern manufacture and testing of such products respectively : and 'Simplex' shall also in a consultative capacity give advice for and assistance in such manufacture at the request of HGEC and as they may reasonably require from time to time so as to enable HGEC to manufacture ' Simplex' products in the best and most up to date manner known to 'Simplex'. And, sixthly, the stipulated payment was recurrent, in the case before the Supreme Court, dependent upon the sales, and only for the period of the agreement. In our case also, as we have seen from clause 9 quoted above, the stipulated payments of royalty on percentage basis (in addition to payments provided by clause 3(a) also quoted above) were entirely dependent on 'Simplex' products actually manufactured by HGEC during the continuance of the agreement. We intend to refer t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... know-how " that can be transferred, even in the limited sense that there is a legally protected property interest in a secret process. Special knowledge or skill can indeed ripen into a form of property in the fields of commerce and industry, as in copyright, trademarks and designs and patents, and where such property is parted with for money what is received can be, but will not necessarily be, a receipt on capital account. But imparting " know-how " for reward is not like this, any more than a teacher sells his knowledge or skill to his pupil. " With great respect we agree with this view. We do not think, on the facts of this case, that 'Simplex' by communicating its " know-how " to HGEC was parting with any capital assets. We are, therefore, unable to uphold this contention of the department's counsel. The Supreme Court has explained the legal principles applicable to this type of cases in Travancore Sugars and Chemicals Ltd. v. Commissioner of Income-tax, in these words : " It is often difficult, in any particular case, to decide and determine whether a particular expenditure is in the nature of capital expenditure or in the nature of revenue expenditure. It is not easy t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be observed that one of the primary rules for determining whether a particular expenditure is a revenue or a capital expenditure is that the court from the terms of the agreement between the parties and from the surrounding circumstances has to ascertain the purpose for which it is being incurred. If the expenditure is so related to the carrying on or the conduct of the business that it may be regarded as an integral part of the profit earning process it should be held to be a revenue expenditure. Should, however, the purpose be the acquisition of an asset or a right of a permanent character the possession whereof is the condition precedent or the pre-requisite to the commencement or continuance of the business, the expenditure would be a capital expenditure. Royalties, usually, are periodical payments for continuous enjoyment of certain benefits under a contract. In every case payment of royalty is not a capital expenditure. In our case the various types of payments that the assessee has to make seem to be closely related to the assessee's manufacturing processes of " Simplex " products. In other words, these payments are intimately linked up with the manufacturing activities of t ..... X X X X Extracts X X X X X X X X Extracts X X X X
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