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TMI Blog2017 (7) TMI 208X X X X Extracts X X X X X X X X Extracts X X X X ..... ss development pharma and technical services, contract testing and related support services, apart from being a contract manufacturer for its AEs. A return declaring total income of Rs. 33,90,95,876/- was filed reporting 13 international transactions in Form no. 3CEB as under:- Table - 1 Sr.No. Nature of transaction Amount (Rs.) Method 1. Contract of Manufacturing 1733908249 TNMM 2. Sale of fixed asset 25676089 Other Method 3. Purchase of fixed asset 414908 Other Method 4. Business Development and procurement support services 48099708 TNMM 5. Quality Assurance Support services 5624152 TNMM 6. Regulatory Support services 23523381 TNMM 7. Laboratory information Management systems support services 3240788 TNMM 8. Contract Manufacturing support services 22724125 TNMM 9. Business development and Procurement support services 4608399 TNMM 10. Contract Research and Testing services 320918166 TNMM 11. ECB Loan 1 1674648 CUP 12 Reimbursement of expenses 13650244 CUP 13. Wound case services 3401065 3. The Assessing Officer (AO) referred the determination of arm's length price (ALP) of the international transactions to the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... anufacturing support services', which were benchmarked by the assessee under the Transactional Net Margin Method (TNMM). These services include third party audit and third party inspection, which the assessee does for its AE. Audit and inspection pertains to contract manufacturing which is done by third parties for the assessee's AE. The assessee chose four companies as comparable with their average OP/TC at 12.21%. The assessee's own profit margin was 7.73%. The TPO rejected all the comparables given by the assessee for the reasons given in the order, against which the assessee is not aggrieved. The TPO came to hold that the TNMM was not the best method for these two transactions processed in a combined manner. It was observed that these services were almost similar to 'Business development and procurement services' [Col. 4 of Table-2] and 'Support services' [Col. 5 of Table-2], in respect of which the assessee declared OP/OC at 16.18% and 21.82%. As against the assessee's OP/TC at 7.73% from the instant combined international transactions [Col.6 of Table-2], the TPO averaged the assessee's profit margin from the 'Business development and procurement services' and 'Support service ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le, which have been tabulated on page 3 of the TPO's order, giving average OP/OC at13.04%. In view of the assessee's higher PLI than the average of comparables, it was claimed that this international transaction was at ALP. The TPO doubted the assessee's contention about it being a 'Contract manufacturer' inasmuch as it had disclosed 'Sales' in its accounts rather than job charges. On being called upon to explain its stand, the assessee submitted that it manufactures generic drugs for its AEs on principal to principal basis. Raw material is procured by it; manufacturing is done as per the specifications of the AE; and the final product is sold to the AE. The assessee distinguished itself, being, a contract manufacturer from a 'Loan and licence manufacturer' in whose case inputs are provided by the principal and only the manufacturing part is done by the other party. It was contended that the assessee manufactured the products at its own though at the instance of its AE and that is the reason for which amount realized from the AEs was shown as 'Sales.' The TPO noticed that the assessee also did Contract research and testing for sales and it has the entire manufacturing set up which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y of 300, which the assessee sold to Merckle GmbH with per unit price at Re.0.85. The TPO took Substituted drug of Alrik from CIMS classification with market price at Rs. 3.94 per unit. Such price was adjusted to Rs. 2.38 per unit by reducing 39.6% for bringing the available retail price in CIMS database to ex-factory price, as is the point of sale made by the assessee. It is in this way, that transfer pricing adjustment was proposed at Rs. 2,71,20,813/- for this product. Going in the same manner for some other products sold by the assessee to its AE, the TPO computed total transfer pricing adjustment from this international transaction at Rs. 55.60 crore. 12. It can be seen that for the purpose of comparison of 'Allopurinol' sold by the assessee, the TPO has taken 'Alrik' as a substituted drug with similar potency, whose retail price as per the database charged by Cipla is Rs. 3.94 per unit. The ld. AR argued that the CIMS database gives only the current retail prices charged by several manufacturers of the same generic drugs with their own brand names and, as such, the retail prices for the earlier period are not available. This contention has remained uncontroverted on behalf o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h the TPO has computed transfer pricing adjustment in respect of all the eight vertical columns with further subcolumns, but only four columns contain the name of the AE, viz., Merckle GmbH; ratiopharm Inc.; Teva Operations, Poland; and Teva Pharmaceuticals Works Pvt. Ltd. Company. There is no mention of the name of the AE against the remaining four columns. Thus it is not discernible as to which are the other international transactions in these four columns, which have been benchmarked. 15. Further, the second horizontal column is 'Products sold to AE'. Against the name of Merckle GmbH, there are six columns, but name of only two products have been mentioned, that is, Alloupurinol and Sildenafil. There is no mention of the product in remaining four columns, though transfer pricing adjustment has been worked for all the six columns. Thus, there is complete dark about the name of the product sold by the assessee to its AE. With no information about the product sold by the assessee, the corresponding columns of substituted drug are also blank, albeit transfer pricing adjustment has been proposed by giving certain prices for comparison. Where from these market prices have emerged is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... going through the contents of para 8, it clearly emerges that price controls are exercised on certain drugs and not all the drugs. Further, the price control mechanism under this Order applies only within the framework of Essential Commodities Act, which regulates the prices charged from customers in India. In contrast, the assessee has only exported its complete range of products to the AEs and there is no domestic sale under this international transaction. Since the export prices are not regulated by the DPCO, it can have no bearing on the arm's length price of exports. In view of this position, it becomes apparent that the comparable uncontrolled price computed by the TPO by reducing margin of 39.6% from the retail price charged by Indian manufacturers, cannot be justified. 18. At this stage, it would be apt to note the mandate of Rule 10B (1)(a), which contains the modus operandi for determining ALP under the CUP method, as under :- '(i) the price charged or paid for property transferred or services provided in a comparable uncontrolled transaction, or a number of such transactions, is identified ; (ii) such price is adjusted to account for differences, if any, between the i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the paper book, being the details of international transactions, the explanation so given does not prima facie appear to be correct. This page, inter alia, contains a list of Drugs sold/contract manufactured by the assessee to its AEs. Normally, per unit cost of production, which contains the effect of the fixed, semi-fixed and variable costs, remains the same. If arm's length mark-up is earned on such costs as is claimed in this case, then it will be some reasonable percentage on such costs. Once costs incurred are same for the similar goods produced and sold to all the AEs and mark-up has also been settled as arm's length, then by and large the sale price should remain consistent or in close range to each other for different AEs. Turning to the Table on page 216 of the paper book, we find that there is one product, Donepezil with potency of 10 mg., sold by the assessee to its different AEs. Per unit price charged for this product from Merckle GmbH, Germany is Rs. 13.22. The same Annexure shows the per unit price charged for the similar product at Rs. 9.64 from ratiopharm International GmbH, Germany and Rs. 2.67 per unit from ratiopharm Inc. Canada. We fail to appreciate as to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... High Court in Rampgreen Solutions Pvt. Ltd vs. CIT (2015) 377 ITR 533 (Del), in which it has been held that selection of comparables does not differ with the method adopted and comparables have to be selected on the basis of similarity, even under the TNMM. By finding all the four companies as incomparable, there does not remain even a single comparable case, whose operating profit margin could be considered for benchmarking. Ergo, it is vivid from the above discussion that the assessee's determination of ALP of the international transaction of 'Contract manufacturing' is crept with several flaws, which renders it unacceptable. 24. We are back to square one. The position is that neither the TPO's determination of ALP under the CUP method nor the assessee's determination of ALP under the TNMM, can be accepted for the reasons discussed above. Thus, we are left with no alternative but to set aside the impugned order and remit the matter to the file of AO/TPO for redoing the exercise afresh. In such exercise, the first question before the TPO will be to apply which method as the most appropriate method for determining the ALP of this international transaction? 25. Usually CUP is a me ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... evant CUP data of such contract manufacturers is not available or their transactions turn out to be incomparable, then, the AO/TPO should apply the TNMM for determining the ALP of this international transaction. We have found above that all the four companies chosen by the assessee do not qualify to be considered as comparable. The TPO, in a situation warranting the application of the TNMM, should select fresh companies, engaged in contract manufacturing, which are really comparable and are not full-fledged manufacturers. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in such fresh determination. III. REIMBURSEMNT FOR REGISTRATION OF PRODUCTS 28. The next international transaction under dispute is 'Reimbursement for the registration of product'. The TPO observed on page 12 of his order that the products which are manufactured as per AEs specifications are registered by the assessee and only then its ownership is passed on to the AE. He noticed that a sum of Rs. 1,31,32,100/- was recovered under this transaction from the AEs without any mark up. Considering the profit margin from the contract manufacturing segment at 14.26% as a benchmark, th ..... X X X X Extracts X X X X X X X X Extracts X X X X
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