TMI Blog2023 (12) TMI 1302X X X X Extracts X X X X X X X X Extracts X X X X ..... orrect in concluding that the DCF method is quite unrealistic and inapplicable to the terms of the Income Tax Act. On the contrary, the DCF method is quite applicable and was required to be applied by the Assessing Officer to determine the FMV of the unquoted shares. Our above conclusion is based on the bare reading of the provisions reproduced hereinabove and also on account of the decision referred by the Tribunal in the case of Innoviti Payment Solutions Pvt. Ltd. [ 2019 (1) TMI 688 - ITAT BANGALORE] as held that AO can scrutinize the valuation report and the if the AO is not satisfied with the explanation of the assessee, he has to record the reasons and basis for not accepting the valuation report submitted by the assessee and only thereafter, he can go for own valuation or to obtain the fresh valuation report from an independent valuer and confront the same to the assessee. But the basis has to be DCF method and he cannot change the method of valuation which has been opted by the assessee.For scrutinizing the valuation report, the facts and data available on the date of valuation only has to be considered and actual result of future cannot be a basis to decide about reliabili ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n date dt.01.07.2016 based on the balance sheet or any other material as available on that day, after granting due opportunity of hearing to the assessee. Accordingly, appeal of the Revenue is allowed for statistical purposes. - SHRI R.K. PANDA, VICE PRESIDENT AND SHRI LALIET KUMAR, JUDICIAL MEMBER For the Assessee : Shri Pawan Kumar Chakrapani For the Revenue : Ms. Sheetal Sarin, Sr.AR. ORDER PER LALIET KUMAR, J.M. The captioned appeal is filed by the Revenue feeling aggrieved by the order of Commissioner of Income Tax (Appeals) 4, Hyderabad dt. 11.01.2020 invoking proceedings under sections 143(3) of the Income Tax Act, 1961 (in short, the Act ), for the A.Y. 2017-18. 2. The captioned appeal was filed by the Revenue with a delay of 125 days along with letter for condonation of delay stating therein the reasons for belated filing of appeal. The relevant portion of the said letter reads as under : The said appeal order was received in the office of the Commissioner of Income Tax 4, Hyderabad on 14.08.2020 and the due date of filing appeal before the Hon ble ITAT was 05.11.2020. However, due to the prevailing Covid pandemic, and restructuring of Income Tax Department and merger of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... AT, Delhi in case of M/s Agro Portfolio that the assessee's valuer, M/s Machiraju and Associates, have not portfolio that the assessee's valuer, M/s Machiraju and Associates, have not made any disclaimer and the conclusion/direction that the addition be deleted is tenable when, in fact, the disclaimer is included in the valuation Report and the Assessing Officer has rightly relied on the said judgment in the case of M/s Agro Portfolio to justify the additions . 4. The brief facts of the case are that the assessee is a company engaged in the business of manufacturing Three Wheelers. It filed its return of income for A.Y. 2017-18 on 30.10.2017 and thereafter, revised it on 28.03.2018 declaring income of Rs. Nil after carrying forward of business losses of Rs 14,32,93,315/-. The return of income was processed u/s 143(1) of the I.T. Act, 1961 (hereafter called 'Act'). Subsequently, the case was selected for scrutiny assessment under CASS and notice u/s 143(2) dated 16.08.2018 was served on the assessee company. 4.1. During the assessment proceedings, assessee was requested to furnish the details of increase in share premium along with confirmation from the investors, IT ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... alue which is higher than the Fair Market Value (FMV) of shares of such company. However, in the instant case the AO has failed to establish that the share premium received by the appellant Company was its own unaccounted money which was laundered and received back by it in the form of share premium. 5.2 The AO has rejected the DCF valuation mainly because the projected turnover of the appellant Company was much below the actual turnover for financial years 2016-17, 201718, and 2018-19. But the AO is applying the benefit of the hindsight since he is making this comparison in FY 2019-20 or more precisely in the third quarter of FY 2019-2020 whereas the Valuer was doing the valuation in FY 2016-17. The Hon'ble ITAT, Jaipur Bench, in the case of M/s Rameshwaram Strong Glass Pvt Ltd vs ITO, Ward 2(1), Ajmer [TS-8114-ITAT-2018 (Jaipur)-O] held that DCF method is essentially held on estimations and projections which cannot be subsequently compared with the actuals. A projection of the turnover and profits of an enterprise for the future is made on the basis of various key factors, which include expectations regarding macro-economic conditions, technological factors, government polici ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... her than those set apart towards depreciation; (iv) any amount representing provision for taxation, other than amount of tax paid as deduction or collection at source or as advance tax payment as reduced by the amount of tax claimed as refund under the Income-tax Act, to the extent of the excess over the tax payable with reference to the book profits in accordance with the law applicable thereto; (v) any amount representing provisions made for meeting liabilities, other than ascertained liabilities; (vi) any amount representing contingent liabilities other than arrears of dividends pay a in.4gspect of cumulative preference shares; PE = total amount of paid up equity share capital as shown in the balance-sheet; PV = the paid up value of such equity shares; or Thus, the figures of book value of assets and liabilities and total paid up equity shares and value of paid up share have to be taken as on the date of valuation. The NAV method wherein book value of assets has to be taken may not present a correct picture of the fair market value of the assets since it will fail to capture the correct fair market of the lands owned by a Company. In the instant case, the appellant Company was r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ISONS OF THE DEPARTMENT: I On legislative intent 1. The Finance Bill, 2012 amended Section 56(2) by including a new clause (viib). Clause (viib) states that if the consideration received for issue of shares exceeds the face value of such shares, the aggregate consideration received for such shares as exceeds the fair market value of the shares shall be chargeable to income-tax under the head Income from other sources . (Amended section at Pg. 2 of the material paper book) 2. The memorandum to Finance Bill, 2012 goes on to clarify that the claim of the company regarding the fair market value must be substantiated based on value of its assets, goodwill, patents, copyrights etc. (Pg. 3 of the material paper book) 3. The department submits that Section 56(2)(viib) places an onus on the assessee to substantiate the valuation of shares to the satisfaction of the AO. 4. If the assessee is not able to substantiate the valuation before the AO, the excess of consideration received over the fair market value is taxable as income from other sources u/s 56(2)(viib) of the I.T. Act. 5. While granting relief to the assessee, Ld. CIT(A) at Para-5.1 erred in holding that addition u/s 56(2)(viib) is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hare valuation of the assessee company is beyond comprehension. 6. At Para(g) of the Technical guide, the ICAI lists the key valuation considerations, first among them being, a discussion on the financial projections of the company, highlighting main assumptions and management representations. 7. At this juncture, the department prays to draw attention of the Hon'ble Bench to the comparison of financial projections and the actual financials of the assessee company for the F.Ys. 2016-17, 2017-18 and 2018-19: Table 1 : Turnover comparison F.Y. Projected Turnover Actual turnover Difference % Achieved 2016-17 Rs. 45,11,00,000 Rs. 13,75,06,063/- Rs. 31,35,93,937/- 30.48% 2017-18 Rs. 120,01,50,000/- Rs. 13,43,35,218/- Rs. 106,58,14,782/- 11.19% 2018-19 Rs. 210,69,88,000/- Rs. 14,83,84,703/- Rs. 195,86,03,297/- 7.04% 8. As is clear from the tabulation, there is a vast difference between the financial projections and the actual financials of the company. 9. The vast divergence of the projections from actuals raises pertinent questions with regard to the assumptions made by the valuer and representations made by the management, on basis of which the projections were arrived at. 10. The ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ple conversant with the subject be regarded as beneficial to those who are likely to be affected by it. [Emphasis supplied] 16. The same view was upheld by the Hon'ble Supreme Court in case of Hindustan Lever Employees Union vs. Hindustan Lever Ltd., (1994) 4 Comp U 267 (SC) where the court held that: It cannot be said that the internal management, business activity or institutional operation of public bodies can be subjected to inspection by the court. It is incompetent and improper to do so and, therefore, out of bounds. Nevertheless, the broad parameter of fairness in administration, bona fides in action and the fundamental rules of reasonable management of public business, if breached, will become justiciable. The court's obligation is to satisfy that the valuation has been in accordance with the law and the same has been carried out by an independent body [Emphasis supplied] 17. The department submits that the valuation report fails miserably in establishing the reasonableness and fairness of share valuation and hence ought to be rejected. III. On decision of Hon'ble ITAT, Delhi Bench in case of Agro Portfolio vs. ITO. 1. The department submits that the AO at Para- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n report is silent on the valuation of the intangible asset 'Teja' and the impact of revision of circle rates in Balanagar. 4. The department submits that, perusal of the valuation report raises legitimate concerns about the valuation arrived at, using DCF method. Finding faults with valuation using NAV is only a diversionary tactic to draw attention away from the faults of DCF. V. On subsequent amendment of the Act 1. Vide Notification No. 61/2017 dated 12.07.2017, Rule 11UA was modified to consider the value of immovable property adopted for payment of stamp duty instead of the book value. 2. The amendment of the Act was prospective and hence does not apply to the year in question. 10. The ld. DR has drawn our attention to the valuation report submitted by the assessee, which was filed along with the written submissions, based on the report it was contended, valuation report prepared by the auditor, was not in accordance with the law and he has drawn our attention to the valuation report dt.01.07.2016, which is to the following effect : Valuation of equity shares : Selection of Valuation Methodology It is our opinion that the DCF approach would be an extremely appropriate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The Conclusions reached by us are dependent on the information provided to us being complete and accurate in all material respects. Our scope of work is in the nature of equity / business valuation only. Though prospective investors may have knowledge of the contents of this report, they need to exercise their judgment and may get their own due diligence done prior to making an investment. 13. The ld. DR further submitted that the valuation report prepared by the assessee at the time of allotting shares was not in accordance with law due to the following reasons : as there is no independent verification of the variables / terminal values made by the auditor at the time of submitting the valuation report. In fact, the valuation report was based on mere discussion with the management of the assessee, and no empirical data of the industry or growth trend of the assessee was considered. Report was based on prices for raw material, demand and supply position of power generation industry and comparable industry, industrial growth that was examined by the auditor. 14. Therefore, in the absence of these data, it is not possible to accept the valuation report prepared by the assessee. It wa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the paper book which was mentioned as under: 1. The Respondent is a company registered under the Companies Act, -20.13; The Respondent is in the business of manufacturing Three Wheelers under the brand name TEJA . The Respondent for the impugned assessment year 2017 18, had filed-the return of income on 30/10/2017; admitting Rs. NIL as income and carrying forward current year loss of Rs. 14,32,93,315/-. The Respondent revised the return of income on 28/03/2018, admitting Rs. NIL as income and _carrying forward current year loss, of Rs. 14,32,93,315/-, the acknowledgment copies of the original return and revised return are enclosed herewith and marked as Annexure - 1 Et 2. 2. The Respondents case was selected for scrutiny and statutory notices under section 143[2] and 142[1] of the Act, was issued and served on the Respondent. In response to notices issued by the learned Assessing Officer, the Respondent submitted information and explanation through ITBA portal. 3. After examining the information and details furnished by the Respondent, the learned Assessing Officer completed the assessment and .passed the order under Particulars Amount (Rs.) Returned income NIL Additions i) Excess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n accountant fair market value of the unquoted equity shares as per thee DCF method. The Respondent had appointed an independent -accountant who vide report dated 01/07/2016, 'had determined the fair market value of the share of the Respondent company by applying DCF. method and arrived at a value of Rs. 19.90/- per share, the copy of the report is enclosed herewith and marked as Annexure - 3, 7.3 The Respondents case was selected for scrutiny and statutory notices under section 143[2j and 14211] of the Act; was issued and served on the Respondent. The learned Assessing Officer completed the assessment by dismissing the DCF method applied by the Respondent. The learned Assessing Officer applied the NAV method and arrived at the value of share at Rs. 10.18/- per share. The difference in the value of Rs. 9.03/7 (i.e.) Rs. 19.90 - Rs. 10.87/-, was charged by the learned assessing officer as income under the head other sources by invoking the provisions of section 56[2][viib] of the Act. The learned Assessing Officer justified-the, disallowance. by observing that: The contentions of the assessee company are examined and found- untenable as the DCF method it has adopted is quite unr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e by the AO u/s. 5612R-viibj is hereby deleted (Emphasis Supplied) 7.5 Aggrieved by the order the Honorable CIT(A), the Department has preferred this appeal by raising various grounds. The Respondent files this- written submission denying the allegations levied' by the learned Assessing Officer and supporting the order of the Honorable CIT(A). 7.6 The Respondent submits that, the valuation report was obtained from Shri Machiraju Ramesh, of M/s. Machiraju Associates, Chartered Accountants, Hyderabad, where the value of the shares of the Respondent Company was recommended at Rs.19.90/-, per share as per DCF method but the learned Assessing Officer adopted NAV method. 7.7 The learned Assessing Officer has discarded the valuation report of, the - Chartered Accountant mainly On the ground that valuation of the equity, shares carried out by the Responded was based on projection of revenue which did not match With the actual-revenues of the subsequent years. The learned Assessing Officer further held that the Respondent could not provide any satisfactory explanation for allowing excess share premium received under the year consideration over and above the FMV other than submitting the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ncome-tax ,Rules, 1962, as under: Rule 11UA of the Income-tax Rules, 1962, prescribes the following method for determining the valuation of unquoted shares: (1) For the purpose of section 56 of the Act, the fair market value of a property, other' than immovable property shall be determined in the following manner, namely:- (a) (b) .. (2) Notwithstanding anything contained in sub-clause (b) of clause (c) of sub-rule (1) the fair market value of 'unquoted equity shares for the purposes of sub-clause (i) of clause (1) of Explanation to clause (viib) of sub-section (2) of section 56 shall be the value, on the valuation date, of such unquoted equity shares as determined in the following manner under clause (a) or clause (b) at the option of the assessee, namely:- (a) (b) the fair market value of the unquoted equity shares determined by a merchant banker or an accountant as per the Discounted Free Cash Flow method.] 7.13. Section 56[2][viib] of the Act, is a deeming provision and one cannot expand the meaning of scope of any word while interpreting such deeming provision. The statute provides that the valuation has to be done as per the prescribed method and if one of the 'pr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ation being an exercise required to be conducted at a particular point of time has of necessity to be carried out on the basis-Of whatever information is available on the date of the valuation and a projection of future revenue that 'the valuer May fairly make on the basis of such information. (Emphasis Supplied) 7.17 Reliance is 'placed on the judgment of the Honorable Income Tax Appellate Tribunal, Delhi Bench in the case of Mantram Commodities (P) Ltd., Vs. ITO [2021] 188 ITD 687, where it was held that : However, in the instant case, the assessee has issued the shares at fair market value computed in accordance with Rute,11UA(a) of the Income Tax Rules, 1962 and no fault has been found in the method applied by the assessee and the lower authorities .have made the addition under section 56(2)(viib) purely on presumptions and surmises. Therefore, in my considered opinion, Such action of the .lower authorities, being not in accordance with law is unsustainable I, therefore; set' aside the order. of the Commissioner (Appeals) and direct the assessing, officer to delete the addition. The grounds raised by the assessee are accordingly allowed. 18. In the result, the appea ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at the DCF Method, and is essentially based on the projections (estimations) only and hence these projection cannot be. compared with the actuals, to expect the same figures as were projected. The valuer has to make forecast on the-basis of some material but to estimate the exact figures is beyond its control. At the time of making a valuation for the purpose of determination of the fair Market value, the past, history may or may not be available in a given case and therefore, the other relevant factors may be considered. The projections are affected by various factors .hence in the case of company where, there is no commencement of production or of the business, does not mean that its share cannot command any premium. 'For such cases, the concept of startup is a good example and as submitted, the Income Tax Act has also recognized and is encouraging the startups for which, a separate deduction under section 80IAC has been provided. (Emphasis Supplied). 7.20 Reliance is placed on the judgment of the Honorable jurisdictional Tribunal in the case of DQ (International) Ltd. Vs. 'ACTT 2016 Tax Pub (DT) 3650, where it was held that: 10. In our considered view, for valuation of a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the assessee to chase any method-either discounted or book value 'method for estimating the fair Market value of the shares issued by it during the relevant financial period. In this case, the assessee has adopted the discounted free cash flow, method as prescribed under rule 11 UA(2)((b) of the Act. (Emphasis Supplied) 7.23 - Without prejudice to the above, the Respondent submits that the land Available. in the books of account maintained by the Respondent is shown on historical cost at Rs. 2,87,48,985/-, as at 31/03/2007. The land at Toopranad measuring 25 acres was allotted / purchased on 30/06/2011, for a total consideration of Rs. 2,87,48,985/-, the fair market value as per the Government circle, rate is Rs.5,000/- per square meter the total cost of land came to Rs.50.58 crores and, therefore, the value per share comes to Rs.25.16, the details of which are tabulated as under: Particulars Amount in (Rs.) FMV of the assessment (land at Toopran) 50,58,55,000 Other assets 69,18,62,249 Total assets 119,77,17,249 Total liabilities 31,27,16,662 Net assets 88,20,01,587 Equity Shares 3,65,00,000 Value of shares 24.16 7.24 The Respondent further submits that as against the fair ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... issued the shares at Rs. 19.90 per share which includes Rs. 10/- per share as par value and 'a premium of Rs.9.90 per share, therefore, no addition under section 56[2][viib] of the Act, is called for. It is further submitted that valuation of shares has to take into consideration various facts and not simply on the basis of financial statements of the Respondent company. The fair market value of 'the shares has to be taken based on the assets as on the date of issue of shares which connotes that the Value as on the date of issue and not as per the book value., 7.28 It is humbly submitted that the substantiation of the fair market value of the shares has to be first decided on the basis of the valuation done by the Appellant; and it cannot foe decided from the lens of section 11.11A which can be applied in case subclause [1] has been exercised, It has been held that fair market value can be determined in either of the two manners whichever is higher so as 'to demonstrate that the value of shares does 'not exceed the fair market value and then the learned Assessing Officer cannot insist upon to follow-only one particular method. 7.29 Reliance is placed on the judgmen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ut prejudice to the above, the valuation of shares should be made on the basis of various facts and 'not merely on the basis of financials; g. the value of the land has to be calculated as per the current fair market value and not on the historical cost shown in the balance sheet; h. the assessee company has rightly arrived at the value of share at Rs. 24.16 per share, after considering the value of land at Rs.50.58 crores, the shares allotted by the Assessee Company is at Rs. 19.90 per share, which is less than the fair market value derived by NAV method, hence, the addition of Rs. 3,16,05,000/-, by invoking the provisions of section 56[2][viib] of the Act, is bad in law and needs to be deleted. 9. The appellant craves leave of this Hon'ble Tribunal to file the details and -documents in .support of the case of the appellant at the time of hearing of the appeal by this Hon'ble Tribunal in the interest of justice and equity. 16. In support of the case of assessee, the ld. AR has relied on the following decisions : 1. Mantram Commodities (P) Ltd Vs. ITO (2021) 188 ITD 687. 2. Vodafone M-Pese Limited Vs. DCIT (2020) 181 ITD 242. 3. Rameshwaram Strong Glass Private Limited ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essee either to apply the DCF method or net asset valuation method, this option is not available to the assessing officer. Rule 11UA provides the method of determining the FMV of a property other than the immovable property. Rule 11UA(2) reproduced hereinabove provides the method of providing the FMV of unquoted shares to be determined at the option of the assessee. 17.2. Once the assessee applied particular method of valuation, (in the present case DCF method), then it is the duty of the Assessing Officer / ld.CIT(A) to scrutinize the valuation report within the four corners or parameters laid down while making the valuation report under DCF method only. It is not permissible for the Assessing Officer to reject the method opted by the assessee and apply a different method of valuation and the Assessing Officer can definitely reject the valuation report but not the method. In case, the AO rejected the valuation report, then the AO has to carry out a fresh valuation report by applying the same valuation method and determine the fair market value of the unquoted shares. 18. Therefore, in our view, the Assessing Officer was incorrect in concluding that the DCF method is quite unrealis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r a real valuation. It should also be recognised that the method of valuation of shares would vary, depending on the purpose for which it is to be used. 1.2 A clear understanding of the purpose of valuation is undoubtedly important, but an equally important imperative is to have a full appreciation of the 'value' emanating from common principles. This 'general purpose value' may be suitably modified for the special purpose for which the valuation is done. The factors affecting that value with reference to the special purpose must be judged and brought into final assessment in a sound arid reasonable manner. 1.4 Valuation, being a complex subject, is limited to experts and is surrounded by a number of myths. Some of the very common generalities about valuation are discussed below: (a) Valuation models are quantitative and focus on earnings, assets, etc. However, it does not necessarily imply that valuation is free from the subjectivity and bias of a valuer. The fact is that valuation models are driven by the inputs that are prone to subjective judgments and the bias of a valuer. For instance, a target company may typically tend to overvalue itself while valuing. (b) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... future cash flows of a company that will determine an investor's actual return. (b) It is based on expectations of performance specific to the business, and is not influenced by short-term market conditions or non-economic indicators. (c) It is not as vulnerable to accounting conventions like depreciation, inventory valuation in comparison with the other techniques/approaches since it is based on cash flows rather than accounting profits. (d) It is appropriate for valuing green-field or start-up projects, as these projects have little or no asset base or earnings which render the net asset or multiple approaches inappropriate. However, it is important that valuation must recognise the additional risks in such a case (e.g. project execution risk, lack of past track record, etc.) by using an appropriate discount rate. 2.8 Though the Discounted Cash Flow model is one of the widely used models for valuation because of its inherent benefits, it still has its share of drawbacks. Major shortcomings of this model are as follows: (a) It is only as good as its input assumptions. Following the garbage in, garbage out principle, if the inputs - Cash Flow Projections, Discount Rate, and Ter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to these circumstances. In such circumstances, separate value may be given to such new investments and the same is added to the value of the existing stream of business. (e) In turnaround cases, the uncertainty of higher profits is much greater. Careful evaluation of the steps actually taken to implement a turnaround strategy must be undertaken before a valuer accepts management's claims that in future the company will earn profits. If necessary, reports of technical or other consultants should be called for. (f) In case of companies witnessing cyclical fluctuations, care should be taken to select the forecast period, which should necessarily cover the entire business cycle of a company. (g) Effects of change in the policy of the company may be taken into account if such changes are known in advance and the effects are capable of being quantified. Changes in the utilisation of the productive capacity, changes in the organisational set-up, changes in the product-mix, changes in the financing policy are some examples of the situation that may have to be faced by a valuer. Their treatment in the projection of future profits will depend entirely upon the effect which in the opinio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... risk premium in the discount rate. There exist a number of models for determination of risk premiums, such as the capital asset pricing model, arbitrage pricing model, multi-factor model, etc. Risk premium is also adjusted to incorporate risks associated with the stage and size of business and other company or project-specific risks. (c) The rate estimated by using the above will provide the discount rate, assuming only equity financing or the cost of equity. For a leveraged company, discount rate should be adjusted for leveraging. Practically speaking, discount rate for a leveraged company is the weighted average cost of capital with appropriate weightages to cost of equity and post-tax cost of debt, considering existing or targeted debt-equity ratio, industry standards and other parameters. (d) In the case of a company carrying on two or more different businesses, their cash flow projections should be estimated separately, and apply the discount rates appropriate to the individual businesses. Terminal Value 2.12 Since a business is valued as a going concern, its value should account for the cash flows over the entire life of a company, which can be assumed to be infinite. Becaus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gral part of the mechanics of share valuation. The most noteworthy of these are: (a) The nature of a company's business A company's business may depend on the success of other industries (as with the producer of raw materials for other manufacturers), seasonal conditions, etc. (b) The caliber of managerial personnel A business managed by professional managers allied to people with similar ability would command a premium when compared to another which is crucially dependent for its success on a single executive, however outstanding he might be. (c) Prospects of expansion A case in point would be that of ancillary small-scale units, which have the potential for growth as they can supply inputs to large companies that are dependent on their products. (d) Competition A business may prosper when nurtured under sheltered circumstances (e.g. import restrictions), but may flounder under 'open market' conditions. (e) Government policy Government policy in general and in relation to particular industry (as with restriction or banning of manufacture of alcohol in the case of alcohol based chemical industries). (f) Prevailing political climate Political climate in an area can a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r approach(s) used. (g) Key valuation considerations This part may deal with the valuation considerations critical to the valuation process. Some of the factors considered in valuing the shares which may be included in the report are: (i) Discussion on the financial projections of a company, highlighting main assumptions and management representations. (ii) Discussion on discount rate, growth rate used for computing terminal value considered in the valuation, including the methodology for arriving at the discount rate, sources of information, etc. (iii) Any adjustment on account of accumulated losses/unabsorbed depreciation. (iv) Any adjustment for valuing a controlling or minority stake, discount for illiquidity, etc. (v) Brief analysis of the peer set companies used in relative valuation. (vi) Adjustments to the multiples based on the peer set company, including rationale for the same. (vii) Details of the surplus assets and treatment thereof in the valuation. (viii) Any other special factors, such as government subsidy, tax breaks, etc. (h) Fair Value This paragraph should deal with the valuation of shares on the basis of discussion in the preceding part of the Report (and in ca ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... some important points to be kept in mind with regard to cash flow projections are also noted. At this point, we feel it proper to take note of two judgments of Hon'ble apex court rendered in the case of Bharat earth Movers v. CIT [2000] 112 Taxman 61/245 ITR 428 and in the case of Rotork Controls India (P.) Ltd. v. CIT [2009] 180 Taxman 422/314 ITR 62. In the first case, the issue in dispute was regarding estimation of future liability of leave encashment and it was held by Hon'ble apex court in this case that the liability should be capable of being estimated with reasonable certainty though the actual quantification may not be possible. It was held that if this is satisfied than the liability is not a contingent liability. In the second case, the issue in dispute was about provision of warranty expenses to be incurred in future. Para 10 of this judgment is very relevant and therefore, it is reproduced herein below: 10. What is a provision ? This is the question which needs to be answered. A provision is a liability which can be measured only by using a substantial degree of estimation. A provision is recognized when : (a) an enterprise has a present obligation as a resul ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 018 does not deal with the primary grievance of the petitioner. This, even after he concedes with the method of valuation namely, NAV Method or the DCF Method to determine the fair market value of shares has to be done/adopted at the Assessee's option. Nevertheless, he does not deal with the change in the method of valuation by the Assessing Officer which has resulted in the demand. There is certainly no immunity from scrutiny of the valuation report submitted by the Assessee. Therefore, the Assessing Officer is undoubtedly entitled to scrutinise the valuation report and determine a fresh valuation either by himself or by calling for a final determination from an independent valuer to confront the petitioner. However, the basis has to be the DCF Method and it is not open to him to change the method of valuation which has been opted for by the Assessee. If Mr. Mohanty is correct in his submission that a part of demand arising out of the assessment order dated 21st December, 2017 would on adoption of DCF Method will be sustained in part, the same is without working out the figures. This was an exercise which ought to have been done by the Assessing Officer and that has not been d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e cases, the projections may be on the basis of expectations and in such cases, it should be shown that such expectations are reasonable after considering various macro and micro economic factors affecting the business. 14. In nutshell, our conclusions are as under: (1) The AO can scrutinize the valuation report and the if the AO is not satisfied with the explanation of the assessee, he has to record the reasons and basis for not accepting the valuation report submitted by the assessee and only thereafter, he can go for own valuation or to obtain the fresh valuation report from an independent valuer and confront the same to the assessee. But the basis has to be DCF method and he cannot change the method of valuation which has been opted by the assessee. (2) For scrutinizing the valuation report, the facts and data available on the date of valuation only has to be considered and actual result of future cannot be a basis to decide about reliability of the projections. (3) The primary onus to prove the correctness of the valuation Report is on the assessee as he has special knowledge and he is privy to the facts of the company and only he has opted for this method. Hence, he has to sa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... air market value of the shares by applying the DCF method, had resorted to examining the functionality and working of the NAV method and thereafter, came to the conclusion that FMV has to be determined by the NAV method based on the CBDT Circular dt.12.07.2017 whereby it was envisaged that the value of the shares shall be determined by the Assessing Officer by taking into account the value of the intangible asset for the purpose of working of the net value. 23. In our considered opinion, this approach of the ld.CIT(A) was not in accordance with law. As we have held hereinabove that the option is not available to the Assessing Officer, then the exercise carried out by ld.CIT(A) became futile and of no consequence. Further, the determination of FMV on the basis of NAV by the Ld. CIT(A) was otherwise not sustainable and is bad in law as per Rule 11U(j), which defined valuation date and Rule 11U(b), which defined Balance Sheet. The conjoint reading of the above-mentioned Rules make it clear that the valuation of the asset as per the NAV method is required to be determined while making a valuation of the assets mentioned in the balance sheet. 24. In any case, the CBDT Circular dt.12.07. ..... X X X X Extracts X X X X X X X X Extracts X X X X
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