Intelligrape Software P.Ltd, New Delhi V. ITO, Ward-12(3), New Delhi

ITA 3925/DEL/2018

• Counselvise Citation: [2020] 110 COUNSELVISE.COM (IT) 5502 (ITAT-DELHI)
• Duration Of Justice: 2 year(s) 4 month(s) 6 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 30-09-2020
• Appeal Filed By: Assessee
• Order Result: Allowed
• Bench Allotted: C
• Assessment Year: 2014-2015
• Appeal Filed On: 24-05-2018
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: M BARANWAL
• Keywords: Capital asset; Depreciation; Fair market value; Valuation report; Capital expenditure
• Section: 56(2)(vii)(b); 13; 56

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCH C, NEW DELHI BEFORE SH. AMIT SHUKLA, JUDICIAL MEMBER DR. B. R. R. KUMAR, ACCOUNTANT MEMBER (E-COURT MODULE) ITA NO. 3925/DEL/2018 : ASSTT. YEAR : 2014-15 INTELLIGRAPE SOFTWARE PVT. LTD., REGUS ELEGANCE, 2F ELEGANCE, JASOLA DISTRICT CENTRE, OLD MATHURA ROAD, NEW DELHI-110025 VS INCOME TAX OFFICER, WARD-12(3), NEW DELHI (APPELLANT) (RESPONDENT) PAN NO. A A BCI9247F ASSESSEE BY : SH. SANJIV SAPRA, FCA REVENUE BY : SH. M. BARANWAL, SR. DR DATE OF HEARING: 03.09.2020 DATE OF PRONOUNCEMENT: 30.09.2020 ORDER PER DR. B. R. R. KUMAR, ACCOUNTANT MEMBER: THE PRESENT APPEAL HAS BEEN FILED BY THE ASSESSEE AGAINST THE ORDER OF THE LD. CIT(A)-4, NEW DELHI DATED 15.0 3.2018. 2. FOLLOWING GROUNDS HAVE BEEN RAISED BY THE ASSESS EE: THAT THE LD. CIT(A) HAS ERRED ON FACTS AND UNDER T HE LAW IN CONFIRMING THE ADDITION OF RS.1,59,39,863/- AS M ADE BY THE AO UNDER SECTION 56(2)(VII)(B) OF THE INCOME-TA X ACT ON ACCOUNT OF ALLEGED EXCESS VALUE OF SHARE PREMIUM OVER FAIR VALUE AS DETERMINED FOR THE UNQUOTED EQUITY SH ARES AS ISSUED AT PREMIUM BY THE APPELLANT TO ITS HOLDIN G CO. 2. THAT THE VALUATION EXERCISE FOR VALUING UNQUOTED EQUITY SHARES OF A PRIVATE CO. AS UNDERTAKEN BY THE SPECIF IED VALUER/INDEPENDENT EXPERT IN ACCORDANCE WITH RULE 1 1UA OF INCOME-TAX RULES AS PER THE VALUATION METHODOLOG Y OPTED FOR BY THE APPELLANT COULD NOT BE DISREGARDED BY THE AUTHORITIES BELOW. ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 2 3. THAT THE AO/CIT(A) CANNOT BE CONSIDERED AS THE SPECIFIED VALUER/INDEPENDENT EXPERT AS PER RULE UA OF INCOME-TAX RULES AND ACCORDINGLY, THE AO HAS NO JURISDICTION OR AUTHORITY TO SUBSTITUTE HIS OWN VAL UATION OF UNQUOTED EQUITY SHARES AND REJECT THE ONE AS UNDERT AKEN BY THE SPECIFIED VALUER/INDEPENDENT EXPERT. 4. THAT WITHOUT PREJUDICE TO GROUND NO. 1 TO 3 ABOV E, THE ADDITION OF RS.1,59,39,863/- AS MADE U/S 56(2)(VII( B) OF INCOME-TAX ACT WAS VERY EXCESSIVE. VARIOUS OBSERVAT IONS MADE BY THE AUTHORITIES BELOW IN THEIR RESPECTIVE O RDERS WHILE MAKING THE ABOVE ADDITIONS/DISALLOWANCES ARE EITHER FACTUALLY INCORRECT OR LEGALLY UNTENABLE. 3. THE ASSESSEE IS A PRIVATE LIMITED COMPANY REGIST ERED UNDER COMPANIES ACT, 1956 WITH REGISTRAR OF COMPANI ES VIDE CIN U72300DL2008PTC179627. THE COMPANY'S MAIN OBJEC T IS TO PROVIDE SOFTWARE DEVELOPMENT/IT SERVICES IN INDIA A ND ABROAD. MOST OF THE CLIENTS OF ASSESSEE ARE BASED OUTSIDE I NDIA. DIRECTORS OF ASSESSED COMPANY HAVE VALUABLE PROFESS IONAL BACKGROUND FROM REPUTED EDUCATIONAL INSTITUTIONS LI KE IIT-DELHI AND AMITY UNIVERSITY ETC. 4. IN THE ASSESSMENT ORDER, THE AO HAS REJECTED THE VALUATION REPORT GIVEN BY CHARTERED ACCOUNTANT AS PER COMPLIA NCE PROCEDURE OF SECTION 56(2)(VIIB) OF INCOME TAX ACT OF BY COMPARING EBITDA OF FUTURE YEARS WITH ACTUAL PROFIT . 5. THE AO HAS MADE THE ADDITION AMOUNTING TO RS.1,59,39,863/- IN TERMS OF THE PROVISIONS OF SECT ION 56(2)(VIIB) OF THE ACT IN VIEW THAT THE COMPANY HAS ISSUED THE EQUITY SHARES AT A PRICE MORE THAN THE FAIR MARKET VALUE OF THE SHARES. BEFORE THE AO, THE ASSESSEE COMPANY DID SUB MIT A VALUATION REPORT AS PER DISCOUNTED CASH FLOW METHOD SUBSTANTIATING ITS FAIR MARKET VALUE OF EQUITY SHAR E BEING RS. 6175/- PER SHARE. HOWEVER, THE AO REJECTED THE VALU ATION REPORT ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 3 FURNISHED BY THE ASSESSEE ON THE GROUND THAT YEAR-W ISE RESULTS PROJECTED ARE FAR FROM THE ACTUAL RESULTS DECLARED IN THE FINAL ACCOUNTS. THE SAME HAS BEEN DEALT IN PARA 5 & 6 OF THE ASSESSMENT ORDER. THE AO, THEREFORE, RECOMPUTED THE VALUE OF THE SHARES OF ASSESSEE COMPANY BY NET WORTH METHOD WHICH CAME TO BE AT RS. 23.21. THE AO THUS MADE THE ADDIT ION OF PREMIUM AMOUNT OF RS 1,59,39,863/- RECEIVED IN EXCE SS OF NET WORTH OF SHARES DETERMINED AT FAIR VALUE OF RS 23.2 1 PER SHARE. 6. THE LD. CIT (A) CONFIRMED THE ADDITION HOLDING A S UNDER: THE VALUATION REPORT SUBMITTED DOES NOT PROVIDE FOR THE DATE OF THE VALUATION. IT IS DIFFICULT TO UNDERSTAND HOW A VALUATION EXERCISE IS CONDUCTED WITHOUT A VALUATION DATE IN P LACE. UNDER DCF METHOD, DATE OF VALUATION IS VERY IMPORTANT AS PROJ ECTIONS OF FREE CASH FLOWS, TERMINAL VALUE, DISCOUNTING ETC. WILL A LL FLOW FROM THE DATE OF VALUATION. DATE OF VALUATION IS ALSO VERY IMPORTANT IN THE PRO JECTIONS AND ESTIMATING THE GROWTH RATE OF THE BUSINESS. SUPPOSE DLY ON DAY 1, THERE IS A NEWS THAT THE INDUSTRY OF THE APPELLANT IS BOOMING AT A RATE OF 20% BUT SUDDENLY ON DAY 2 THERE IS MAJOR FR AUD OR RECESSION OR BECAUSE OF ANY OTHER REASON THE INDUST RY IN WHICH THE APPELLANT IS DECLINES DRASTICALLY. THUS, IF THE VAL UATION DATE IS ON DAY 1, PROJECTIONS WOULD BE DIFFERENT, HOWEVER, IF THE SAME IS ON DAY 2, THE PROJECTIONS WOULD BE ENTIRELY DIFFERENT. FURTHER, IN TECHNICAL GUIDANCE ON SHARE VALUATION I SSUED BY INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA PUBLISH ED IN 2009, THE INSTITUTE HAVE CLEARLY STATED THAT AS THE VALUATION IS TIME-SPECIFIC, THE DATE OF VALUATION IS CRITICAL FOR THE REPORT. T HE VALUATION IS PERTINENT TO A PARTICULAR POINT OF TIME. ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 4 WHILE COMPUTING THE COST OF EQUITY, THROUGH CAPIT AL ASSET PRICING MODEL, BETA COEFFICIENT I.E. UNSYSTEMATIC R ISK HAS BEEN ESTIMATED AT 1.23. BETA MEASURES HOW MUCH A COMPANY 'S SHARE PRICE REACTS AGAINST THE MARKET AS A WHOLE. A BETA OF ONE, FOR EXAMPLE, SUGGESTS THAT THE COMPANY MOVES IN LINE WI TH THE MARKET. IF THE BETA IS IN EXCESS OF ONE, THE SHARE IS EXAGGERATING THE MARKET'S MOVEMENTS, IF LESS THAN ONE, IT MEANS SHARE IS MORE STABLE. A RELIABLE BETA CANNOT BE ESTABLISHED WITH INSUFFICIENT PRICE HISTORY. THE TROUBLE IS THAT BETAS ARE MERELY REAR- VIEW MIRRORS, REFLECTING VERY LITTLE OF WHAT LIES AHEAD. FOR TRAD ERS LOOKING TO BUY AND SELL STOCKS WITHIN SHORT TIME PERIOD, BETA IS A FAIRLY GOOD RISK METRIC. HOWEVER, FOR LONG TERM INVESTOR, IT IS NOT THAT USEFUL. THERE IS NO REASON STATED IN THE REPORT WHY IT IS E STIMATED AT 1.23 AND WHY NOT .75 OR WHY NOT 1.45. DETAILS OF BETA AR E GENERALLY AVAILABLE ON THE WEBSITE OF NSE, BSE OR OTHER WEBSI TES OF DIFFERENT COMPANIES. THE BASIS OF ESTIMATING BETA HAS BEEN ST ATED TO BE CA'S UNDERSTANDING OF THE RISK IN THE SIMILAR INDUS TRIES. WHICH SIMILAR INDUSTRIES AND HOW THIS ESTIMATE IS PRUDENT AND REASONABLE HAS NOT BEEN EXPLAINED. A SLIGHT DIFFERENCE IN BETA CAN HAVE DRASTIC IMPACT ON COST OF EQUITY WHICH CAN EFFECT T HE VALUATION COMPLETELY. THE COST OF EQUITY HAS BEEN INCREASED BY 1.7% BE CAUSE OF LACK OF MARKETABILITY. AGAIN, THE VALUER HAS UNDERTOOK A N ESTIMATION WITHOUT ANY BASIS. HAVING SAID SO, TO MY UNDERSTAND ING, AS PER THE VALUATION PRINCIPLES, ANY ADJUSTMENT FOR LACK O F MARKETABILITY OR LIQUIDITY IS MADE IN THE FINAL VALUED PRICE AND NOT IN THE COST OF EQUITY. AS PER THE BALANCE SHEET SUBMITTED BY THE APPELLA NT COMPANY, THERE IS NO DEBT TAKEN BY THE APPELLANT COMPANY. HO WEVER, WHILE COMPUTING THE WEIGHTED AVERAGE COST OF CAPITAL IN T HE VALUATION ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 5 REPORT, COST OF DEBT IS ALSO CONSIDERED AND A DEBT EQUITY RATION OF 30:70 IS TAKEN. THERE IS NO BASIS FOR THE SAME. WEIGHTED AVERAGE CO ST OF CAPITAL (WACC) IS COMPUTED ON THE BASIS OF THE ACTUAL DEBT EQUITY RATIO IN THE BALANCE SHEETS WHICH IS APPLIED TO THE COST OF EQUITY AND COST OF DEBT. HOWEVER, IN SUCH A SCENARIO, WHERE THERE I S NO DEBTS, THE RATIO OF 70:30 TAKEN IN THE BALANCE SHEET IS AGAINS T THE PRINCIPLES OF VALUATION. FOR THE PURPOSE OF CALCULATING TERMINAL VALUE OF THE BUSINESS, THE VALUATION REPORT SUGGESTS THAT A GROWTH RATE OF 3% IS TAKEN. AGAIN, IT IS AN ASSUMPTION. DCF METHOD IS MORE OF A SCIENCE RATHER THAN ART. IT IS IMPERATIVE TO UNDERSTAND THA T GROWTH RATE SHOULD BE CORRELATED WITH THE DATE OF VALUATION AND THE INDUSTRY IN WHICH THE APPELLANT IS OPERATING AS ON THE DATE OF VALUATION. FURTHER, THE REPORT ALSO ENCAPSULATES THE COMPUTA TION OF FREE CASH FLOWS. AS PER THE FREE CASH FLOWS CHART THERE IS A PROJECTION THAT CAPEX WOULD BE ONLY REQUIRED IN FIRST YEAR AND THEN NO CAPEX WOULD BE REQUIRED EVEN THOUGH THE SALE INCREASES FR OM 97 CRORES TO 284 CRORES. IT IS IMPOSSIBLE TO UNDERSTAND THAT THE SALE INCREA SES THREE-FOLD BUT THERE IS NO REQUIREMENT OF CAPITAL ASSET, EVEN WHEN THE APPELLANT IS IN THE BUSINESS OF TECHNOLOGY AND COMP UTERS ETC. CAPEX IN ARE REQUIRED WITH INCREASING WORK FORCE AN D SALES. THE VALUATION REPORT HAS TAKEN A GROWTH RATE OF 2 5% IN REVENUE AFTER SECOND YEAR. IN A SCENARIO WHERE THE GROWTH R ATE IS TAKEN AT 25% YEAR AFTER YEAR UPTILL 2018 PROJECTIONS, A GROW TH RATE OF 3% ONLY WAS TAKEN FOR TERMINAL GROWTH. ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 6 FURTHER, THERE IS NO BASIS FOR PROJECTING THE RES ULTS FOR FUTURE YEARS, BE IT SALES, COST, DEPRECIATION, CAPEX OR NE T WORKING CAPITAL. NO BASIS IS PROVIDED AT ALL. ALSO, THE COMPANY IS A PRIVATE LIMITED COMPANY AN D IS NOT A LISTED COMPANY. THE VALUE WHICH HAS BEEN DETERMINED IS NOT A FAIR ESTIMATED VALUE ALSO BECAUSE OF THE FACT THAT THE S HARES OF PRIVATE LIMITED COMPANY ARE DISCOUNTED FOR LACK OF LIQUIDIT Y AND MARKETABILITY. HOWEVER, THE VALUER HAS NOT CONSIDER ED THE SAME AT ALL. 7. BEFORE US DURING THE ARGUMENTS, THE LD. AR ARGUE D THAT THE SHARES HAVE BEEN ISSUED TO ONE ENTITY NAMELY, TANGE RINE DIGITAL ENTERTAINMENT PVT. LTD. ON 10.09.2013 OF 2591 SHARE S AT PREMIUM OF RS.6165/-. HE EXPLAINS THE REASONS FOR S UCH PREMIUM AS THE ASSESSEE COMPANY HELP INTERNET-BASED BUSINESSES AND PRODUCT COMPANIES DESIGN AND DEVELOP CLOUD- NATIVE WEB AND MOBILE SOLUTIONS. IT DRIVES DIGITAL TRANSFORMATION FOR BUSINESSES BY HELPING THEM PROVIDE A RICH, SEAM LESS EXPERIENCE TO THEIR CUSTOMERS ACROSS DIGITAL CHANNE LS RESULTING IN HIGHER ENGAGEMENT, EFFICIENCY AND PROFITABILITY. 8. IT WAS SUBMITTED THAT THE ASSEESEE COMPANY'S PRO MOTER IS FROM IIT DELHI AND THEY HAVE BUSINESS PLANS TO EXPA ND THEIR OPERATIONS IN DOMAIN IN WHICH THEY ARE WORKING AND NEEDED CAPITAL TO FUND AND MEET THE BUSINESS OBJECTS. INVE STOR SHOWED INTEREST TO FUND THE START UP SO AS TO PREVENTING D ILUTION OF CONTROL AMONG SHAREHOLDERS BY REDUCING NO OF SHARES ISSUED, THE ASSESSEE COMPANY NEEDED MORE CAPITAL FOR INVEST MENTS AND MEET ITS PLAN FOR FUTURE BUSINESS EXPANSION AND TO REDUCE FINANCE CHARGES BY USING LESS EXTERNAL FUNDS ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 7 9. THE COMPANY HAS ISSUED 2591 SHARES AT A PREMIUM OF RS. 6165.22 PER SHARE TO TANGERINE DIGITAL ENTERTAINMEN T PRIVATE LIMITED WHICH IS THE GROUP COMPANY OF THE ASSESSEE COMPANY. COPY OF VALUATION CERTIFICATE OBTAINED FROM THE CHA RTERED ACCOUNTANT WAS ALSO SUBMITTED IN THE PAPER BOOK. 10. HE ALSO FILED THE DETAILS OF CCDS ISSUED TO ITS EXISTING NON- RESIDENT DEBENTURE HOLDER NAMELY, FOUR CROSS HOLDIN GS CYPRESS LTD. AND THE CORRESPONDING INVESTMENT MADE BY SUCH COMPANY IN THE EQUITY SHARES OF THE ASSESSEE COMPANY. THUS, NOT ONLY THE SOURCE BUT THE SOURCE OF SUCH SOURCE OF SHARES SUBSCRIPTION MONEY HAS RECEIVED BY THE ASSESSEE COMPANY HAVE BEE N PROVED. 11. REGARDING THE FAIR MARKET VALUE, THE LD. AR EXP LAINS THAT THE PRESCRIBED METHOD OF 11UA(2) OF IT RULES OR DCF METHOD AS PER CLAUSE (B) OF RULE 11A(2) CAN BE ADOPTED AT THE OPTION OF THE ASSESSEE AND THE ASSESSEE HAS OPTED FOR DCF MET HOD OF VALUATION. HE ARGUED THAT THE ACTION OF THE LD. CIT (A) DISREGARDING THE VALUATION REPORT SUBMITTED IS AGAI NST THE PROVISIONS OF THE ACT. 12. THE LD. DR SUPPORTED THE ORDER OF THE AUTHORITI ES BELOW. 13. HEARD THE ARGUMENTS OF BOTH THE PARTIES AND PER USED THE MATERIAL AVAILABLE ON RECORD. 14. WE HAVE GONE THROUGH THE VALUATION REPORT SUBMI TTED BY THE ASSESSEE. THE SAME IS AS UNDER: THE FAIR VALUE IS DETERMINED BASED, ON THE DISCOUN TED FREE CASH FLOW METHOD OF THE PROJECTED FINANCIALS AND OT HER DETAILS ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 8 FURNISHED BY THE COMPANY. DISCOUNTED FREE CASH FLOW S (DCF) ENTAILS ESTIMATING FUTURE FREE CASH FLOWS OF THE BU SINESS AND DISCOUNTING THEM USING AN APPROPRIATE RATE OF RETUR N TO ARRIVE AT THE NET PRESENT VALUE OF THE NET CASH FLOWS. THE VALUATION HAS BEEN CARRIED OUT ON A GOING CONCE RN BASIS PRESUMING THAT THE COMPANY WILL CONTINUE ITS BUSINE SS OPERATION IN THE CURRENT FINANCIAL YEAR AND WILL CONTINUE TO DO BUSINESS IN THE FORESEEABLE FUTURE, WHEREIN THE POTENTIAL INVES TOR WILL EVALUATE THE EXPECTED RETURNS AND ASSOCIATED RISKS ON CONTINUING BASIS. BASIS OF VALUATION THE FAIR VALUE IS BASED ON THE FOLLOWING: A. FINANCIALS FORECASTS MADE BY THE MANAGEMENT OF THE COMPANY FOR 5 YEARS AND PROVIDED TO US. B. INFORMATION GATHERED BASED ON THE DISCUSSIONS WITH THE MANAGEMENT AND REPRESENTATIVES OF THE COMPANY. C. THE ASSUMPTIONS WHICH WE FEEL ARE PRUDENT TO DETERM INE THE' PRE MONEY VALUATION. ALL THE ABOVE INFORMATION AND FACTS HAVE BEEN RELIE D ON WITHOUT AUDITING AND VERIFICATION. DISCOUNTED CASH FLOWS: THE FINANCIALS FORECASTS PROVIDED BY THE MANAGEMENT FORM THE BASIS FOR OUR DCF ANALYSIS AND ASSUMPTIONS BASED ON THE PERCEPTION OF ATTENDANT CIRCUMSTANCES OF THE CASE. VALUE OF FIRM: THE VALUE OF THE FIRM IS OBTAINED BY DISCOUNTING EXPECTED CASH FLOWS AFTER MEETING ALL OPERATING EXP ENSES AND ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 9 TAXES BUT PRIOR TO ANY PAYMENTS EITHER DEBT OR EQUI TY HOLDERS, AT THE WEIGHTED AVERAGE COST OF CAPITAL, WHICH IS T HE COST OF THE DIFFERENT COMPONENTS OF FINANCING USED BY THE FIRM, WEIGHTED BY THEIR MARKET VALUE PROPORTIONS. COST OF EQUITY OR THE DISCOUNTING FACTOR: DISCOUNTI NG RATE IS THE RATE OF RETURN THAT A WILLING BUYER WOULD EXPECT TO RECEIVE FROM AN INVESTMENT TO COMPENSATE THE INHERENT RISKS INVO LVED AND FOR THE TIME VALUE OF MONEY. THE COST OF EQUITY IS CALC ULATED ON THE BASIS OF CAPITAL ASSET PRICING MODEL (CAPM). COST OF EQUITY = RISK FREE RATE + [BETA *(MARKET RI SK PREMIUM)] RISK FREE RATE IS CONSIDERED AS 4 PERCENT AND MARKE T RISK, PREMIUM IS CONSIDERED TO BE 7.1 PERCENT. BETA HAS BEEN ESTIMATED AT 1.23 BASED ON OUR UNDERSTANDING OF THE BUSINESS RISK IN THE SIMILAR INDUSTRIES. ON THE ABOVE BASIS THE COST OF EQUITY IS ARRIVED AS FOLLOWS: COST OF EQUITY=4 PERCENT +(1.23 * 7.1 PERCENT) = 12 .73 PERCENT FURTHER, AS THE PRIVATELY HELD SHARES ARE NOT TRADE D IN PUBLIC, THE SHARES OF THESE COMPANIES ARE NOT GENERALLY AS LIQUID AS THOSE OF PUBLIC COMPANIES. THE LAST OF MARKETABILIT Y INCREASES THE COST OF EQUITY ALSO BY ANOTHER 1.7 PERCENT ACCO RDINGLY THE COST OF EQUITY-BECOMES 14.4 PERCENT. WEIGHTED AVERAGE COST OF CAPITAL - THE WEIGHTED AVE RAGE COST OF CAPITAL (WACC) IS THE RATE THAT A COMPANY IS EXP ECTED TO PAY ON AVERAGE TO ALL ITS SECURITY HOLDERS TO FINANCE I TS ASSETS. THE WACC IS CALCULATED TAKING INTO ACCOUNT THE RELATIVE WEIGHTS OF EACH COMPONENTS OF THE CAPITAL STRUCTURE OF THE COM PANY. IN ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 10 THE INSTANT CASE OF THE COST OF EQUITY AND COST OF DEBT IS WEIGHTED IN THE RATIO OF 70:30. ACCORDINGLY, WACC = (70 PERCENT X + (30 PERCENT X 14 PERCENT X = 13 14.4 PERCENT) (1- 30 PERCENT) PERCENT TERMINAL VALUE: THE TERMINAL VALUE OF THE COMPANY IS CALCULATED BASED ON THE PERPETUITY GROWTH MODEL ASS UMING A GROWTH FACTOR OF 3 PERCENT WHICH IS CONSIDERED TO B E APPROPRIATE IN THE LIGHT OF PAST TREND AND GROWTH. EQUITY VALUE: THE FREE CASH FLOW AND TIRE TERMINAL VALUE ARE DISCOUNTED TO THEIR PRESENT VALUES AT THE VALUATION DATE BY APPLYING THE DISCOUNTING RATE OF 13 PERCENT AS DETE RMINED ABOVE. THEREAFTER, AFTER NETTING OFF THE CASH AND C ASH EQUIVALENTS WITH THE LOAN LIABILITY AS ON THE DATE OF THE VALUATION. SINCE, WE ARE DOING PRE MONEY VALUATION, NO CALCULATIONS ARE CONSIDERED FOR DERIVING THE POST M ONEY EQUITY VALUE. FAIR VALUE CALCULATION ALLOCATING THE TOTAL PRE MONEY EQUITY VALUE OF THE COMPANY ARRIVED USING THE DCF VALUATION METHOD OF RS 61.74 CRORES AMONG THE ISSUED EQUITY I.E. 100000 SHARES, THE FAI R VALUE OF THE SHARE IS RS.6,175.00 ( RUPEES SIX THOUSAND ONE HUNDRED AND SEVENTY FIVE). ENTERPRISE VALUE PRESENT VALUE OF FREE CASH FLOW TERMINAL VALUE DISCOUNT FACTOR PRESENT VALUE OF TERMINAL VALUE % OF ENTERPRISE VALUE 164 878 0.51 448 73% ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 11 ENTERPRISE VALUE LESS: TOTAL DEBT PLUS: CASH AND CASH EQUITY NET DEBT 612 0 5 -5 IMPLIES EQUITY VALUE OUTSTANDING SHARES IMPLIED SHARE PRICE 6174,87,612 1,00,000 6,174.88 IMPLIES MULTIPLE ENTERPRISE VALUE SALES 2013 EBITDA 2013 612 97 37 IMPLIED EV/SALES IMPLIED EV/EBITDA 6.3X 16.6X THE ANNEXURE TO THIS CERTIFICATE CONTAINS THE BASIS FOR ARRIVING AT THE FAIR VALUE OF EQUITY SHARES. LIMITATIONS 1. ALL FINANCIAL STATEMENT AND OTHER DATA PERTAININ G TO THE COMPANY HAVE BEEN PROVIDED BY THE MANAGEMENT OF THE COMPANY AND WE HAVE ACCEPTED AND RELIED ON WITHOUT FURTHER VERIFICATION, INCLUDING CONFORMITY OR NON-CONFORMIT Y WITH GENERALLY ACCEPTED ACCOUNTING PRINCIPLES AND/OR OTH ER GUIDELINES ESTABLISHED BY REGULATORY BODIES. 2. ALL REPORTED FACTS, COMMENTS, ESTIMATES, OPINION S AND STATISTICAL INFORMATION SET FORTH IN THE VALUATION EXERCISE HAVE BEEN OBTAINED FROM SOURCES BELIEVED TO BE ACCURATE AND RELIABLE. NO LIABILITY IS ASSUMED FOR THE CONTENT O R ACCURACY OF THE DATA FURNISHED BY OTHERS, INCLUDING ALL INFORMA TION AND REPRESENTATIONS PROVIDED BY THE MANAGEMENT. ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 12 3. NO ATTEMPT HAS BEEN MADE TO VERIFY AND AUDIT THE ESTIMATES AND ASSUMPTIONS MADE BY THE MANAGEMENT OF THE COMPA NY. 4. THE VALUATION OF THE COMPANY IS BEEN DONE SOLELY AT THE REQUEST OF THE MANAGEMENT AND IN OUR OPINION MAY BE CONSIDERED AS FAIR VALUE FOR THE PURPOSE OF FAIR VA LUATION UNDER SECTION 56 OF THE INCOME TAX ACT,1961. 15. IN THIS BACKGROUND, THE RATIONALE OF THE ASSESS ING OFFICER AND THE FIGURES ADOPTED BY THE AO WHILE MAKING THE DISALLOWANCE IS EXAMINED. THE SAME ARE AS UNDER: EBITDA 13-14 14-15 15-16 16-17 17-18 ACTUAL PROFIT/LOSS AS REPORTED IN ITR/FINAL ACCOUNTS NOT REPORTED 3.7 CR. 6.8 CR. 8.4 CR. 10.1CR. -33.54 LACS 95.94LACS 4.06 CR. ------ 16. THE AO COMPUTED THE EBITDA WITH ACTUAL PROFIT I N THE ITR. THE CORRECT FIGURES TO BE USED FOR COMPARISON ARE A S UNDER: PARTICULARS 2013-14 2014-15 2015-16 2016-17 SALES 13 28 59 92 EXPENSES (EXCLUDING DEPRECIATION, INTEREST & TAX) 12 26 58 85 EBITDA 0 2 2 7 AS PER VALUATION CERTIFICATE 4 7 8 10 17. FURTHER, WE HAVE ALSO GONE THROUGH THE STATEMEN T OF PROJECTED REVENUES AND REVENUE EARNED AS PER THE AU DIT REPORT. THE SAME ARE AS UNDER: AS PER CERTIFICATE DATED 30 MAY, 2013 PROJECTED TU RNOVER WAS TAKEN INR 97 MILLION FOR FY 2013-14 WHEREAS COMPANY HAS ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 13 ACHIEVED A TURNOVER OF INR 126 MILLION FOR FY 2013- 14. COMPARISON IN THIS REGARD FOR THREE YEARS IS AS UND ER: FY PROJECTED REVENUE AS PER A UDITED REVENUE FINANCIAL STATEMENT 2014 - 15 145 MILLION 285 MILLION 2015 - 16 182 MILLION 594 MILLION 2016 - 17 227 MILLION 920 MILLION 18. FROM THE ABOVE TABLE, IT IS GLARING TO OBSERVE THAT THE ACTUAL REVENUES ARE FAR MORE THAN THE PROJECTED REV ENUE. HENCE, THE VALUATION CANNOT BE FAULTED WITH. 19. WITH REGARD TO SECTION 56(2)(VIIB) AS APPLIED B Y THE AO FOR MAKING THE ADDITION ON ACCOUNT OF ALLEGED EXCESS SH ARE PREMIUM, REFERENCE IS MADE TO EXPLANATION (A)(I) OF SUCH SECTION WHICH STATES THAT FAIR MARKET VALUE OF THE SHARES SHALL BE THE VALUE AS MAY BE DETERMINED IN ACCORDANCE WI TH SUCH METHOD AS MAY BE PRESCRIBED. IT IS NOT IN DISPUTE THAT SUCH METHOD IS PRESCRIBED IN SPECIFIC RULE 11UA(2) OF I. T. RULES AS APPLICABLE FOR ISSUE OF UNQUOTED EQUITY SHARES, WHI CH STATES THAT FAIR MARKET VALUE OF UNQUOTED EQUITY SHARES IS TO BE DETERMINED AS PER CLAUSE (A) OR CLAUSE (B) OF RULE 11 UA(2) AT THE OPTION OF THE ASSESSEE. CLAUSE (A) REFERS TO BO OK VALUE METHOD WHEREAS CLAUSE (B) REFERS TO DCF METHOD AS S UPPORTED BY VALUATION REPORT OF A MERCHANT BANKER OR A CHART ERED ACCOUNTANT. IN THE INSTANT CASE, THE ASSESSEE HAD O PTED FOR CLAUSE (B) OF RULE 11UA(2) OF I.T. RULES BY APPLYIN G DCF METHOD AND OBTAINED VALUATION REPORT FORM A CHARTER ED ACCOUNTANT THEREBY FULFILLING BOTH THE REQUIREMENTS OF SUCH SPECIFIC RULE. ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 14 20. WHEN THE ASSESSEE COMPANY HAD OPTED FOR VALUATI ON OF UNQUOTED EQUITY SHARES IN ACCORDANCE WITH DCF METHO D AS PRESCRIBED UNDER CLAUSE (B) OF SPECIFIC RULE 11UA(2 ) AS APPLICABLE, THE AO/CIT(A) HAD NO POWER/AUTHORITY TO CHANGE SUCH VALUATION METHODOLOGY AND ADOPT A DIFFERENT BO OK VALUE METHOD AS PRESCRIBED UNDER CLAUSE (A) OF SUCH RULE AND HENCE SUCH ACTION OF THE AUTHORITIES BELOW WAS ARBITRARY. 21. IT IS TRITE LAW THAT WHEN A STATUTE REQUIRES, A THING TO BE DONE IN A CERTAIN MANNER, IT SHALL BE DONE IN THAT MANNER ALONE AND NOT OTHERWISE (CIT VS. SPLS SIDDHARTHA LTD. 3 45 ITR 223). 22. UNLIKE EXPLANATION (A)(II) OF SECTION 56(2)(VII B), WHERE IT HAS BEEN SPECIFICALLY PROVIDED THAT VALUATION IS TO BE SUBSTANTIATED TO THE SATISFACTION OF THE AO, THERE IS NO SUCH PROVISION SPECIFIED THEREIN IN EXPLANATION (A) (I) OF SECTION 56(2)(VIIB) AS OPTED FOR BY THE ASSESSEE FOR SUBSTA NTIATING ITS VALUATION TO THE SATISFACTION OF THE AO. HENCE, ON THE FACTS OF ASSESSEES CASE, THE AO WAS NOT EMPOWERED TO DISREG ARD THE DCF VALUATION AS CARRIED OUT BY THE VALUER AND SUCH ACTION OF THE AUTHORITIES BELOW OF REJECTING SUCH VALUATION R EPORT CANNOT BE UPHELD. (RAMESHWARAM STRONG GLASS P LTD., ITAT J AIPUR) 23. THE AO WAS NOT ABLE TO PINPOINT ANY SPECIFIC IN ACCURACIES OR SHORT COMINGS IN THE DCF VALUATION REPORT OF THE CH ARTERED ACCOUNTANT/VALUER OTHER THAN STATING THAT YEAR-WISE RESULTS AS PROJECTED ARE NOT MATCHING WITH THE ACTUAL RESULTS DECLARED IN THE FINAL ACCOUNTS. BEFORE THE LD. CIT(A), REASONS FOR VARIATION BETWEEN PROJECTED AND ACTUALS WERE DULY EXPLAINED. THE LD. CIT(A) HAS ACCEPTED SUCH EXPLANATION BUT REJECTED T HE DCF VALUATION REPORT AS SUBMITTED BY THE ASSESSEE. ACCO RDINGLY, IN ITA NO. 3925/DEL/2018 INTELLIGRAPE SOFTWARE PVT. LTD. 15 THE ABSENCE OF ANY DEFECT IN THE VALUATION OF SHARE S ARRIVED BY THE ASSESSEE ON THE BASIS OF DCF METHOD, IMPUGNED A DDITION AS MADE ON THE BASIS OF NET ASSET VALUE METHOD IS LIAB LE TO BE DELETED. THE REJECTION IS UNJUSTIFIED AS THE VALUAT ION REPORT IS REQUIRED UNDER RULE 11UA OF THE INCOME TAX RULES IS BASED ON THE FUTURE ASPECTS OF THE COMPANY AT THE TIME OF IS SUING THE SHARES, IT MAY VARY FROM THE ACTUAL FIGURES DEPENDI NG ON THE MARKET CONDITION AT THE PRESENT POINT OF THE TIME. 24. THUS, KEEPING IN VIEW THE ENTIRE FACTS OF THE C ASE, THE REPORTS OF THE VALUER, THE COMPARISON OF THE ACTUAL AND PROJECTED REVENUES, PROVISIONS OF SECTION 56(2)(VII B) AND KEEPING IN VIEW THE ORDER OF CO-ORDINATE BENCH OF I TAT IN THE CASE OF CINESTAAN ENTERTAINMENT PVT. LTD. 177 ITD 8 09 WHEREIN IT HAS BEEN HELD THAT THE ASSESSING OFFICER CANNOT SUBSTITUTE HIS OWN VALUE IN PLACE OF THE VALUE DETERMINED EITHER O N DCF METHOD OR NAV METHOD, THE APPEAL OF THE ASSESSEE IS HEREBY ALLOWED. 25. IN THE RESULT, THE APPEAL OF THE ASSESSEE IS AL LOWED. ORDER PRONOUNCED IN THE OPEN COURT ON 30/09/2020. SD/- SD/- (AMIT SHUKLA) (DR. B. R. R. KUMAR) JUDICIAL MEMBER ACCOUNT ANT MEMBER DATED: 30/09/2020 *SUBODH* COPY FORWARDED TO: 1. APPELLANT 2. RESPONDENT 3. CIT 4. CIT(APPEALS) 5. DR: ITAT ASSISTANT REGISTRAR