Samsung India Electronics Pvt. Ltd., Gurgaon V. ACIT, New Delhi

ITA 6741/DEL/2014

• Counselvise Citation: [2019] 115 COUNSELVISE.COM (IT) 8319 (ITAT-DELHI)
• Duration Of Justice: 4 year(s) 9 month(s) 23 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 04-10-2019
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: I2
• Next Hearing Date: 27-07-2017
• Assessment Year: 2010-2011
• Appeal Filed On: 11-12-2014

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCH I-2 NEW DELHI BEFORE SHRI AMIT SHUKLA, JUDICIAL MEMBER AND SHRI PRASHANT MAHARISHI, ACCOUNTANT MEMBER I.T.AS. NO.3248, 3410/DEL/2012, 5856/DEL/2010, 5315/DEL/2011,52/DEL/2013, 1567/DEL/2014, 6741/DEL/ 2014, 868/DEL/2016 & 2511/DEL/2018 ASSESSMENT YEARS: 2005-06, 2006-07, 2007-08, 2008-09, 2009-10, 2010-11, 2011-12 SAMSUNG INDIA ELECTRONICS PVT. LTD., 3 RD FLOOR, TOWER-C, VIPUL TECH SQUARE, SECTOR-43, GOLF COURSE ROAD, GURGAON. VS. ADDL.CIT, RANGE-7 NEW DELHI. TAN/PAN: AAACS 5123K (APPELLANT) (RESPONDENT) APPELLANT BY: S/SHRI HIMANSHU SINHA, SHRI BHUWAN DHOOPER, ADV. & MS. VRINDA TULSAN, ADV. RESPONDENT BY: SHRI H.K. CHOUDHARY, CIT-D.R. DATE OF HEARING: 27 09 2019 DATE OF PRONOUNCEMENT: 04 10 2019 O R D E R PER BENCH: THE APPEALS IN ITA NOS. 3248/DEL/2012, 5856/ DEL/10, 5315/DEL/11, 52/DEL/13, 1567/DEL/2014, 6741/DEL/201 4, 868/DEL/2016 & 2511/DEL/2018 HAVE BEEN FILED BY THE ASSESSEE IN RESPECT OF THE ASSESSMENT YEARS 2005-06 TO 2011-12 RESPECTIVELY. WHEREAS, THE APPEAL IN ITA NO. 3410/DEL /2012 IS A CROSS APPEAL FILED BY THE REVENUE FOR THE AY 2005-06 . SINCE THE ISSUES INVOLVED IN ALL THESE APPEALS ARE COMMON THER EFORE, WE 2 DEEM IT FIT AND CONVENIENT TO DISPOSE-OFF THESE APPEALS BY WAY OF THIS CONSOLIDATED ORDER. WE WILL TAKE FIRST THE APPEALS FOR THE A.Y. 2005-06. 2. THE APPELLANT ASSESSEE, SAMSUNG INDIA ELECTRO NICS PVT. LTD. (SIEL), IS A COMPANY INCORPORATED IN INDIA UNDER THE COMPANIES ACT, 1956 AND IS PRIMARILY ENGAGED IN THE BUSINESS OF MANUFACTURE AND SALE OF CONSUMER ELECTRONICS AND HOME APPLIANCE S GOODS SUCH AS COLOUR TELEVISIONS, REFRIGERATORS, AIR CONDITIONERS , WASHING MACHINES, MICROWAVE OVENS, COMPUTER PERIPHERALS ETC. THE APPELLANT COMPANY IS A PART OF THE SAMSUNG GROUP OF CO MPANIES. IT IS 100% SUBSIDIARY OF SAMSUNG ELECTRONICS CO. LTD. KOREA (SEC). ONE COMMON GROUND PERMEATING IN ALL THE YEA RS EXCEPT FOR THE APPEAL FOR AY 2006-07 IS THE GROUND PERTAINING TO TR ANSFER PRICING ADJUSTMENT MADE ON ACCOUNT OF ADVERTISING AND M ARKETING PROMOTION (AMP) EXPENDITURE INCURRED BY THE APPELLANT, WHICH SHALL BE DEALT FIRSTLY AND SUBSEQUENTLY, ALL OTHER GROU NDS SHALL BE TAKEN UP. AY 2005-06 3. FACTS IN BRIEF FOR THE AY 2005-06 ARE THAT, THE APPELLANT HAD FILED ITS RETURN OF INCOME ON 31 OCTOBER 2005, DECLA RING A LOSS OF RS. 6,35,44,316. THE ASSESSING OFFICER REFERRED THE CASE TO THE TRANSFER PRICING OFFICER II (2), NEW DELHI (TPO) FOR DETERMINATION OF THE ARMS LENGTH PRICE (ALP) OF THE INTERNATIONAL TR ANSACTIONS ENTERED INTO BY THE APPELLANT WITH ITS ASSOCIATED ENTERP RISES. DURING THE RELEVANT ASSESSMENT YEAR, APPELLANT HAD ENTER ED INTO NEW NUMEROUS INTERNATIONAL TRANSACTIONS WITH VARIOUS A SSOCIATED ENTERPRISES (AES). THESE INTERNATIONAL TRANSACTIONS WE RE GROUPED UNDER VARIOUS SEGMENTS AND BASED ON A TRANSFER PRICIN G STUDY, 3 THEIR ARMS LENGTH PRICE WERE DETERMINED. A SUMMARY O F THE INTERNATIONAL TRANSACTIONS AND THE APPELLANTS APPROACH I N DETERMINING THEIR ALP IS SUMMARISED IN THE TABLE BELOW : - NATURE OF INTERNATIONAL TRANSACTIONS MOST APPROPRIATE METHOD PROFIT LEVEL INDICATOR SIELS PROFIT LEVEL INDICATOR COMPAR ABLES PROFIT LEVEL INDICATO R CLASS I MANUFACTURING (CONSUMER ELECTRONICS, HOME APPLIANCES & COLOUR MONITORS) IMPORT OF RAW MATERIALS IMPORT OF SPARE PARTS EXPORT OF FINISHED GOODS PURCHASE OF SAMPLES PURCHASE OF SALES PROMOTION MATERIAL COST PLUS METHOD (CPM) GROSS PROFIT / INPUT COST 33.60% 23.78% CLASS II DISTRIBUTION (CONSUMER ELECTRONICS, HOME APPLIANCES, MONITORS AND OTHER IT & TELECOM PRODUCTS) IMPORT OF FINISHED GOODS IMPORT OF SPARE PARTS EXPORT OF SPARE PARTS PURCHASE OF SAMPLES EXPORT OF SAMPLES PAYMENT FOR PACKING & R&D EXPENSES PURCHASE OF SALES PROMOTION MATERIAL RESALE PRICE METHOD (RPM) GROSS PROFIT/SALE S 14.48% 6.45% CLASS III SALES AND POST-SALES SUPPORT SERVICE INCOME TRANSACTIONAL NET MARGIN METHOD OPERATING PROFIT / TOTAL COST 20.43% 6.12% 4 (TNMM) CLASS IV CONTRACT SOFTWARE DEVELOPMENT SOFTWARE DEVELOPMENT SERVICES TRANSACTIONAL NET MARGIN METHOD (TNMM) OPERATING PROFIT / TOTAL COST 15% 13% CLASS V REIMBURSEMENT OF EXPENSES COMPARABLE UNCONTROLLED PRICE METHOD (CUP) NA NA NA CLASS VI PAYMENT OF ROYALTY COMPARABLE UNCONTROLLED PRICE METHOD (CUP) NA NA NA CLASS VII MISCELLANEOUS EXPENSES/TRANSACTIONS IMPORT OF CAPITAL GOODS AND SPARE PARTS PAYMENT OF IT RELATED FEES PAYMENT OF SERVICE EXPENSES PAYMENT OF TECHNICAL ASSISTANCE FEES PAYMENT FOR SERVICE FEE, TRAINING FEES ETC COMPARABLE UNCONTROLLED PRICE METHOD (CUP) NA NA NA 4. THE DISPUTE IN THE APPEALS FOR THE A.Y. 2005- 06 FILED BY THE APPELLANT AND THE CROSS APPEAL FILED BY THE REVENUE PE RTAINS TO THE INTERNATIONAL TRANSACTIONS GROUPED UNDER CLASS-I (MANUF ACTURING) SEGMENT AND CLASS-II (DISTRIBUTION) SEGMENT. THERE IS NO DISPUTE IN RESPECT OF THE ALP OF THE INTERNATIONAL TRANSACTIONS IN CLASSES III, IV, V, VI AND VII, WHICH ARE IN RESPECT OF SEGMENTS P ERTAINING TO POST SALE SUPPORT SERVICES, SOFTWARE DEVELOPMENT SERVI CE AND OTHER MISCELLANEOUS TRANSACTIONS, I.E., PAYMENT ON ROYALTY AND REIMBURSEMENT OF EXPENDITURE. 5 5. IN RESPECT OF CLASS -I (MANUFACTURING) SEGMENT, FOLLOWING TRANSACTIONS HAVE BEEN GROUPED TOGETHER BY THE APPELLANT IN ITS TRANSFER PRICING STUDY PREPARED UNDER RULE 10B OF THE INCOME TAX RULES 1962 (RULES); I) IMPORT OF RAW-MATERIALS; II) IMPORT OF SPARE PARTS III) EXPORT OF FINANCIAL GOODS; IV) PURCHASE OF GOODS ON SAMPLE BASIS; V) PURCHASE OF SALES PROMOTION MATERIAL; AS STATED ABOVE, ASSESSEE IS ENGAGED IN THE MANUFACTURI NG OF CONSUMER ELECTRONIC GOODS, HOME APPLIANCES AND COLOU R MONITORS. COST PLUS METHOD (CPM) WAS CHOSEN QUA THIS SEGMENT AS TH E MOST APPROPRIATE METHOD IN ITS TRANSFER PRICING STUDY. THE P ROFIT LEVEL INDICATOR TAKEN WAS TAKEN AS GROSS PROFIT/INPUT COSTS. FOR THE BENCHMARKING EXERCISE, AN ECONOMIC ANALYSIS WAS CAR RIED OUT IN THE TP STUDY LEADING TO IDENTIFICATION OF 11 UNCONTROLLE D COMPARABLE COMPANIES. SINCE APPELLANT HAD EARNED GRO SS PROFIT MARGIN OF 36.6% WHICH WAS MUCH HIGHER THAN THE GROSS PROFIT EARNED BY THE COMPARABLE COMPANIES, HENCE IT WAS REPO RTED THAT THE INTERNATIONAL TRANSACTIONS IN WHICH CLASS-I (MANUFAC TURING) SEGMENT WERE AT ARMS LENGTH PRICE. 6. IN CLASS-II (DISTRIBUTION) SEGMENT, ASSESSEE WA S ENGAGED IN THE DISTRIBUTION OF CONSUMER ELECTRONIC GOODS, HOME APP LIANCES, MONITORS, IT PRODUCTS AND TELECOM PRODUCTS. FOR THIS SE GMENT, RESALE PRICE METHOD (RPM) WAS CHOSEN BY THE ASSESSEE AS THE MOST APPROPRIATE METHOD TO DETERMINE THE ALP WITH GROSS PROFIT MARGIN (GROSS PROFIT /SALES) AS THE PROFIT LEVEL INDIC ATOR. THE ECONOMIC ANALYSIS CARRIED OUT ON THE DATABASE SHOWED 5 UNCONTROLLED INDEPENDENT COMPARABLE COMPANIES WHOSE M EAN 6 GROSS PROFIT MARGIN ARRIVED AT 6.45%. SINCE THE GROSS PROFIT MARGIN OF THE APPELLANT IN THE DISTRIBUTION SEGMENT WAS HIGHER A T 14.48%, HENCE IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS IN CLASS-II SEGMENT WERE AT ARMS LENGTH. 7. THE TRANSFER PRICING OFFICER (TPO) REJECTED THE MOST APPROPRIATE METHOD ADOPTED BY THE ASSESSEE AND DISCARD ED THE CPM FOR CLASS-I (MANUFACTURING) SEGMENT; AND RPM FOR THE CLASS- II (DISTRIBUTION) SEGMENT. AS PER THE TPO FOR BOTH THE S EGMENTS, TRANSACTIONAL NET MARGIN METHOD (TNMM) WAS THE MOST SUI TABLE METHOD FOR DETERMINING OF ARMS LENGTH PRICE. UNDER THE TNMM, HE SELECTED OPERATING PROFIT MARGIN ON REVENUES (OP/OR; OP = OPERATING PROFIT/ OR = OPERATING REVENUE) AS THE PROFIT LEVEL INDICATOR FOR BOTH THE SEGMENTS. FURTHER, THE TPO WHILE COMPUTING THE PLI OF THE ASSESSEE FOR MANUFACTURING AND DISTRIBUT ION SEGMENTS INCREASED THE QUANTUM OF OPERATING EXPENDITURE FOR COMPUTING THE OPERATING PROFIT BY RS. 142.39 CRORES. T HE AFORESAID AMOUNT OF RS. 142.39 CRORES HAD BEEN RECEIVED BY THE ASSESSEE DURING THE RELEVANT FINANCIAL YEAR FROM ITS PARENT CO MPANY AS A REIMBURSEMENT UNDER AN ASSISTANCE AGREEMENT REFERRED TO AS MARKETING DEVELOPMENT FUND (MDF) AGREEMENT. IN TERMS O F MDF AGREEMENT, THE ASSESSEE HAD RECEIVED THE ASSISTANCE FRO M ITS PARENT COMPANY TO CONDUCT CERTAIN MARKETING ACTIVITIES. TH IS AMOUNT HAS BEEN SHOWN AS REIMBURSEMENT IN THE FORM 3CE B AND IN THE TRANSFER PRICING STUDY REPORT AND WAS REDUCED FROM THE EXPENDITURE SHOWN UNDER THE HEAD ADVERTISEMENT. ACCOR DINGLY, IN THE PROFIT AND LOSS ACCOUNT OF THE FINANCIAL STATEMENT UNDER HEAD ADVERTISEMENT EXPENDITURE ONLY THE NET AMOUNT WAS SHOWN, THOUGH THE GROSS AMOUNT EXPENDED FOR ADVERTISEMENT WAS RS 306.38 CRORES, ON ACCOUNT OF REIMBURSEMENT RECEIVED W AS RS. 7 142.39 CRORES, THE NET AMOUNT OF RS. 306.38 (-) RS.142 .39 CRORES = 163.99 CRORES WAS SHOWN AS THE NET ADVERTISEMENT EXPEN DITURE. THE TPO CONCLUDED THAT THIS WAS AN ERRONEOUS APPROACH AND WAS OF THE VIEW THAT THE ENTIRE AMOUNT OF RS. 306.38 CRORES I NCURRED UNDER THE HEAD ADVERTISEMENT SHOULD BE TAKEN INTO ACCO UNT TO COMPUTE OPERATING PROFIT AND THE OPERATING PROFIT MARGIN . THIS APPROACH AND CALCULATION OF THE TPO WAS BASED ON A SI MILAR APPROACH ADOPTED IN THE PRIOR ASSESSMENT YEARS. ACCO RDINGLY, WHILE THE OPERATING EXPENDITURE UNDER THE HEAD ADVERTISE MENT WAS INCREASED FROM RS. 163.99 CRORES TO RS. 306.38 CRORE S LEADING TO FALL IN OPERATING PROFIT AND MARGIN, THE CORRESPONDING REIMBURSEMENT OF RS. 142.39 CRORES RECEIVED FROM THE APPELLANTS PARENT COMPANY WAS NOT INCLUDED AS PART OF THE REVENU E. BASED ON THIS APPROACH, THE OPERATING PROFIT MARGIN (OP/OR) OF THE MANUFACTURING SEGMENT WAS DETERMINED AT (-) 4.34% AND THE DISTRIBUTION SEGMENT AT () 3.5%. THE TPO FURTHER PROC EEDED TO UNDERTAKE A FRESH BENCHMARKING ANALYSIS OF THE UNCONTR OLLED COMPARABLE COMPANIES AND ARRIVED AT A SET OF 12 COMPA RABLE COMPANIES FOR THE CLASS-I MANUFACTURING SEGMENT AND S ET OF 13 COMPARABLES FOR THE CLASS-II DISTRIBUTION SEGMENT. THE ARITHMETIC MEAN OF THE OPERATING PROFIT MARGIN (OP/OR) OF THESE C OMPARABLES FOR THE MANUFACTURING SEGMENT WAS COMPUTED AT 1.25%. SIM ILARLY, THE PROFIT MARGIN OF THE COMPARABLES IN THE DISTRIBUTIO N SEGMENT WAS CARRIED OUT AT (-) 0.447%. TO COMPUTE PROFIT LEVEL INDICATORS OF THE COMPARABLE COMPANIES, THE TPO USED MULTIPLE YEARS DATA (CURRENT AND TWO PREVIOUS YEARS TO THE EXTENT OF AVAILA BILITY OF DATA). THE MARGINS COMPUTED BY THE TPO ARE AFTER MAKIN G ADJUSTMENTS ON ACCOUNT OF WORKING CAPITAL DIFFERENCES. BASED ON THE ABOVE APPROACH, THE TPO WORKED OUT AN ADJUSTMENT TO TH E ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS PER TAINING TO 8 MANUFACTURING SEGMENT AT RS.112,642,9851/- WHICH WAS SUBSEQUENTLY REDUCED TO RS.110,586,5807/- VIDE AN ORD ER UNDER SECTION 154 DATED 19/01/2009. IN RESPECT OF DISTRIBUTI ON SEGMENT, THE ADJUSTMENT TO THE ARMS LENGTH WAS WORKED OUT TO BE AT RS. 592,809,324/- WHICH WAS SUBSEQUENTLY REDUCED TO RS. 572,545,869/- VIDE AFORESAID ORDER DATED 19/01/2009 . 8. THE TPO ALSO CARRIED OUT A SECONDARY ANALYSIS , WITH RESPECT TO THE ADVERTISEMENT, MARKETING AND PROMOTION (AMP) EXP ENSES INCURRED BY THE ASSESSEE COMPANY AS HE WAS OF THE VIE W THAT THE ASSESSEE HAS PROVIDED CERTAIN SERVICES IN RESPECT OF CREATION OF MARKETING INTANGIBLES, TO ITS AE. THE TPO WAS OF THE VIE W THAT ANY AMP EXPENDITURE INCURRED BY THE ASSESSEE OVER AND ABO VE THE AVERAGE AMP SPENTBY THE COMPARABLE COMPANIES WAS EXTRAORDINARY IN NATURE AND INCURRED FOR THE BENEFIT O F THE AE WHICH OWNED THE SAMSUNG BRAND. THE TPO WORKED OUT THE AVERAGE AMP SPEND BY THE COMPARABLES AT 1.05% OF THE S ALES, WHEREAS THE ASSESSEE WAS AT 7.71% OF THE SALES AND TREA TED THE DIFFERENCE AS THE VALUE FOR THE BRAND PROMOTION SERVIC E WHICH THE ASSESSEE HAD PROVIDED TO ITS AE. HE ACCORDINGLY PROPO SED THAT, THIS AMOUNT SHOULD HAVE BEEN RECOVERED BY THE ASSESSEE FROM ITS AE. THE APPROACH FOLLOWED BY THE TPO IN RESPECT OF TH IS ADJUSTMENT WAS AS UNDER: PARTICULARS AMOUNT (RS.) TOTAL INCOME (A) 39,741,026,611 ADVERTISEMENT AND SALES PROMOTION EXPENSES INCURRED (B) 3,063,811,643 AMP / TOTAL INCOME OF SIEL (C) = (B)/(A) 7.7094% BRIGHT LINE (AMP/TOTAL INCOME OF COMPARABLES) (D) 1.0 5% AMP AS PER BRIGHT LINE (E) = (A)*(D) 417,280,779 9 EXCESS AMOUNT SPENT ON ADVERTISEMENT AS COMPARED TO THE COMPARABLES (F) = (B)-(E) 2,646,530,864 LESS: REIMBURSEMENT RECEIVED FROM ITS PARENT SEC 1,42 3,950,954 ADJUSTMENT PROPOSED AS PER SECONDARY ANALYSIS (RS.) ON PROTECTIVE BASIS 1,222,579,910 HOWEVER, NO ADDITION WAS MADE BY THE TPO/AO IN THIS R ESPECT AND THIS ANALYSIS WAS MEANT TO THE USED IF THE ADDITIONS MAD E UNDER TNMM FOR CLASS I AND II WERE DELETED IN APPEAL. THI S WAS AN ALTERNATE AND WITHOUT PREJUDICE ANALYSIS GIVEN BY THE T PO. 10. THE AO INCORPORATED THE ADJUSTMENT TO THE ALP MAD E BY THE TPO AND FURTHER MADE THE FOLLOWING ADDITIONS TO TOTAL I NCOME:- (A) RECRUITMENT AND TRAINING EXPENSES OF RS. 1,72,98,334 WAS TREATED AS CAPITAL EXPENDITURE AND NOT ALLOWABLE AS A REVENUE EXPENDITURE U/S 37 OF THE ACT; (B) LOSS ARISING ON ACCOUNT OF FLUCTUATION OF FOREIGN EXC HANGE CURRENCY AMOUNTING TO RS. 7,79,52,000 WAS DISALLOWED AS BEING NOTIONAL AND CONTINGENT IN NATURE. SUBSEQUENTLY, THE LD. AO PASSED AN ORDER (U/S 154) DATED JULY 24, 2009 DELETING THE ADDITION MADE ON THIS ACCOUNT; (C) DEPRECIATION ON UPS, PRINTERS AND SERVERS WAS RESTRICT ED TO 15% AS AGAINST 60% CLAIMED BY THE APPELLANT LEADING TO A DISALLOWANCE OF RS. 3,21,617. 11. THE ASSESSEE BEING AGGRIEVED BY THE ORDERS OF THE TPO AND AO PREFERRED AN APPEAL BEFORE THE COMMISSION OF INCO ME TAX (APPEALS)-XXIX, NEW DELHI (CIT(A)) CONTESTING THE AFO RESAID ADDITIONS MADE TO THE TOTAL INCOME OF THE ASSESSEE ON VAR IOUS GROUNDS. 10 12. THE CIT (A) DISPOSED OFF THE APPEAL FILED BY THE ASSESSEE VIDE HIS ORDER DATED 27 TH APRIL 2012, PARTLY ALLOWING THE APPEAL ON FOLLOWING LINES: (A) CIT (A) HELD THAT THE REFERENCE MADE BY THE AO TO THE TPO FOR DETERMINATION OF ALP OF THE INTERNATIONAL TRANSACTIONS D ID NOT SUFFER FROM ANY ILLEGALITY AND WAS A VALID ONE; (B) THE CIT(A) HELD THAT TNMM SHOULD BE ADOPTED AS TH E MOST SUITABLE METHOD FOR CLASS I AND II MANUFACTURING AND DISTRIBUTION SEGMENTS; (C) VIDEOCON INTERNATIONAL LTD., BEING FUNCTIONALLY DI FFERENT, CANNOT BE TAKEN AS A COMPARABLE FOR CLASS I MANUFACTUR ING SEGMENT BECAUSE THIS COMPANY IS ENGAGED IN BACKWARD INTEGRATION AND INDIGENOUS MANUFACTURING OF COMPONENTS. THE CIT(A) IN THIS REGARD RELIED ON THE ORDER OF THE PRIO R ASSESSMENT YEAR 2004-05 WHEREBY HIS PREDECESSOR WHILE EXAMININ G THE SUITABILITY OF THIS COMPANY AS A COMPARABLE HAD REJEC TED THE SAME FOR THE ABOVE REASON. SINCE THERE WAS NO CHANGE OF FACTS AND CIRCUMSTANCES, THE CIT(A) HAS FOLLOWED THE PRIOR Y EARS ORDER; (D) THE CIT(A) ORDERED THE EXCLUSION OF FOUR COMPANI ES, NAMELY, KHAITAN ELECTRICALS LTD, HOTLINE TELETUBE& COMPONENTS LTD , SAMTEL INDIA LTD AND SAMTEL COLOUR LTD. FROM THE LIST OF COMPARABLES FOR THE CLASS I MANUFACTURING SEGMENT AS TH ESE COMPANIES HAD SUBSTANTIAL RELATED PARTY TRANSACTIONS. T HE VALUE OF TRANSACTIONS AS A PERCENTAGE OF SALES WAS IN EXCESS OF THE GENERALLY ACCEPTED LIMIT OF 15%.; (E) IN THE CLASS II SEGMENT, THE CIT(A) ORDERED THE EXC LUSION OF CONTROL PRINT (INDIA) LTD. FROM THE LIST OF COMPARABLE C OMPANIES 11 AS IN THE PRIOR ASSESSMENT YEAR 2004-05 ON IDENTICAL F ACTS IT HAD BEEN HELD BY HIS PREDECESSOR THAT THIS COMPANY IS FUNCTIONALLY DISSIMILAR TO THE APPELLANTS DISTRIBUTION BUSINESS; (F) SIMILARLY, ANOTHER COMPANY GEMINI COMMUNICATION LTD. WAS ALSO HELD TO BE INCOMPARABLE TO THE APPELLANTS CLASS I I DISTRIBUTION BUSINESS ON ACCOUNT OF FUNCTIONALLY DISSI MILARITY. THIS COMPANY WAS FOUND TO BE ENGAGED IN END TO END IT SOLUTIONS AND PROVISION OF SERVICES; (G) THE CIT(A) HELD THAT THE TPOS APPROACH OF RELYING ON THREE YEARS AVERAGE DATA TO DETERMINE THE AVERAGE PROFIT MA RGIN OF THE COMPARABLES WAS NOT IN ACCORDANCE WITH LAW AND IT S HOULD BE RESTRICTED TO ONLY CURRENT YEAR DATA. WHILE HOLDING SO, HE ONCE AGAIN RELIED ON HIS PREDECESSORS ORDER OF A.Y . 2004-05; (H) AS REGARDS THE ISSUE OF RE-COMPUTATION OF PROFIT MA RGIN OF THE APPELLANT BY TREATING THE REIMBURSEMENT RECEIVED FR OM ITS AE AS OPERATING EXPENDITURE WHILE NOT TREATING THE SAME A S OPERATING INCOME, THE CIT(A) HELD THE SAME TO BE UNJUST IFIED. HE HELD THAT THIS APPROACH OF THE TPO HAD BEEN ADOPTED IN P RIOR ASSESSMENT YEARS AS WELL BUT THE SAME HAD BEEN NEGATED BY HIS PREDECESSORS IN A.YRS. 2002-03 TO 2004-05. BY RELYI NG ON THESE PRIOR YEARS ORDERS, HE HELD THAT THE REIMBURSEMENT OF RS. 142.39 CRORES WAS TO BE TREATED AS OPERATING INCOME AN D PROFIT AS WELL. (I) THE CIT(A), HOWEVER, APPROVED THE SECONDARY ANAL YSIS CARRIED OUT BY THE TPO IN RESPECT OF THE AMP EXPENDITURE WHEREBY HE HAD MADE A PROTECTIVE ASSESSMENT ON ACCOUNT OF EXCESS IVE AMP EXPENDITURE INCURRED BY THE APPELLANT TO PROMOTE THE SAMSUNG BRAND. AS PER THE TPO, SINCE THE APPELLANTS COMBINED AMP EXPENDITURE FOR THIS YEAR AT 7.7% OF SALE S WAS 12 MUCH HIGHER THAN 1.05% OF SALES (THE THREE YEARS AVERA GE AMP SPEND BY THE COMPARABLES IN THE MANUFACTURING AND TRAD ING SEGMENTS), THE EXCESS OF 6.65% (CORRESPONDING TO RS. 264.65 CRORES) REPRESENTED A BRAND PROMOTION SERVICE RENDER ED BY THE APPELLANT COMPANY TO ITS PARENT WHICH OUGHT TO HAVE BEEN RECEIVED AS REIMBURSEMENT UNDER THE ARMS LENGTH PRIN CIPLE. HOWEVER, THE TPO HAD NOT PROPOSED ANY SEPARATE ADDITIO N ON THIS ACCOUNT AS HE HAD TAKEN A VIEW THAT THE REIMBURSEM ENT OF MARKETING EXPENDITURE OF RS. 142.39 CRORES RECEIVED B Y THE APPELLANT DID NOT FORM PART OF THE OPERATING INCOME WHIL E BEING PART OF THE OPERATING EXPENDITURE. ON THIS BASIS AN AD DITION OF RS. 167.84 CRORES WASMADE BY THE TPO WHICH WAS INCOR PORATED BY THE AO IN THE ASSESSMENT YEAR. NO FURTHER ADDITION BA SED ON THE SECONDARY AMP ANALYSIS WAS MADE BY THE TPO AND THE AO. IT WAS STATED THAT THIS WAS ONLY A PROTECTIVE ASSESSMENT WHI CH WOULD COME INTO EFFECT IF ON APPEAL THE PRIMARY APPRO ACH WAS DELETED. SINCE THE CIT(A) HAD NEGATED THE PRIMARY APP ROACH OF TREATING THE REIMBURSEMENT OF MARKETING EXPENSES AS EXPENDITURE BUT NOT AS INCOME, HE EXAMINED THE ALTERNATI VE APPROACH BASED ON WHICH PROTECTIVE ASSESSMENT HAD BEEN MADE AND HELD THAT THE ALTERNATIVE APPROACH WAS AN ACCEPTABL E METHOD OF DETERMINING THE ALP OF THE EXCESS AMP EXPEND ITURE. HE HELD AS BELOW: NOW, SINCE THE GROUND OF APPEAL REGARDING UPWARD ADJUSTMENT OF TP HAS BEEN ALLOWED BY TAKING A VIEW THAT HE REIMBURSEMENT OF MARKETING EXPENSES SHALL FORM PART OF OPERATING PROFITS, THE ISSUE OF EXCESS OF ADVERTISE MENT EXPENSES HAS TO BE DECIDED SEPARATELY. THE AO HAS NOT MADE SEPARATE ADDITION ON THIS ACCOUNT BECAUSE THIS ADDI TION ALREADY STANDS INCLUDED IN UPWARD ADJUSTMENT OF TP AND THEREFORE THIS ADDITION WAS IN EFFECT ECLIPSED BY T HE ADDITION 13 MADE ON ACCOUNT OF TP. NOW SINCE THE ECLIPSE CAUSED BY THE TP ADDITION HAS BEEN REMOVED, THE ADDITION ON ACCOU NT OF EXCESS ADVERTISEMENT EXPENSES BECOMES APPARENT. AS IT IS NOT A NEW ADDITION MADE BY THE AO ON ACCOUNT OF TP, NO NOTICE OF ENHANCEMENT IS REQUIRED TO BE GIVEN TO THE APPELLAN T. THE APPELLANT HAS NOT SUBMITTED ANY SUBSTANTIAL ARGUMEN T ON THIS ISSUE AND HAS SIMPLY ARGUED THAT SINCE THE PRODUCTS THAT WERE ADVERTISED IN INDIA WERE NOT DEALT WITH ANYONE ELSE IN INDIA THEREFORE BENEFIT OF SUCH EXPENDITURE ENURES TO NO ONE ELSE. TPO HAS ALREADY TAKEN CARE OF THIS ARGUMENT. TPO HA S WORKED OUT EXCESS ADVERTISEMENT EXPENSES BY MAKING PROPER COMPARATIVE ANALYSIS. I THEREFORE HOLD THAT ADDITIO N ON ACCOUNT OF EXCESS MARKETING EXPENSES STANDS CONFIRMED TO TH E TUNE OF RS. 122,25,79,910. (PAGE 31 OF THE IMPUGNED ORDER). (J) THE CIT(A) HELD THAT THE BENEFIT OF 5% PROVIDED IN THE PROVISO TO SECTION 92C(2) IS NOT A STANDARD DEDUCTION AND IF THE DIFFERENCE BETWEEN THE TRANSFER PRICE AND ALP EXCEEDS 5%, THE WHOLE OF SUCH DIFFERENCE SHALL BE TREATED AS AN ADJUS TMENT. (K) THE CIT(A) COMPUTED THE PROFIT MARGIN OF THE APPE LLANT AT (- ) 0.64% AS AGAINST THE COMPARABLES MEAN PROFIT MARGIN AT (-) 7.37% USING CURRENT YEAR DATA FOR THE CLASS I MANUFACTU RING SEGMENT LEADING TO THE DELETION OF THE TP ADJUSTMENT MA DE IN THIS SEGMENT. FURTHER, THE MARGIN OF THE CLASS II DISTRIB UTION SEGMENT OF THE APPELLANT WAS WORKED OUT TO BE 0.21% AS A GAINST THE MEAN MARGIN OF THE COMPARABLES AT 0.38% LEADING TO ADJUSTMENT OF RS. 3,30,33,800 IN THIS SEGMENT. THE MAR GINS WERE COMPUTED AFTER GIVING EFFECT TO THE CIT(A)S FIND INGS ON TREATMENT OF REIMBURSEMENT, EXCLUSION OF CERTAIN COMPARA BLES AND USE OF CURRENT YEAR DATA FOR THE COMPARABLES. (L) AS REGARDS THE DISALLOWANCE PERTAINING TO TREATMEN T OF RECRUITMENT AND TRAINING EXPENSES AS CAPITAL EXPENDITURE AND NOT REVENUE EXPENDITURE, THE CIT(A) DELETED THE DISAL LOWANCE BY 14 RELYING ON THE DECISION OF ITS PREDECESSOR IN AY 2004 -05, AS WELL AS THE ITAT ON THIS ISSUE IN APPELLANTS CASE FOR A.Y . 1998-99. THE CIT(A) OBSERVED THAT AN APPEAL FILED AGAINST THE OR DER OF THE ITAT HAS BEEN DISMISSED BY THE DELHI HIGH COURT ON 11/01/2010. FACTS BEING SAME AS IN EARLIER YEARS, H E HELD THAT THESE EXPENSES ARE FULLY DEDUCTIBLE. (M) THE CIT(A) WHILE EXAMINING THE ISSUE OF DEPRECI ATION ON UPS, PRINTERS AND SERVERS, OBSERVED THAT THIS ISSUE HA S BEEN DECIDED BY THE DELHI HIGH COURT IN FAVOUR OF THE ASSE SSEE IN THE CASE OF CIT V. BSES RAJDHANI POWERS LTD. (ITA NO. 1266/DEL/2010). WHILE FOLLOWING THE SAME, HE HELD TH AT DEPRECIATION IS TO BE ALLOWED @60% ON THESE ITEMS. (N) THE GROUND RELATING TO DISALLOWANCE ON ACCOUNT OF LOSS ARISING FROM FLUCTUATION OF FOREIGN CURRENCY WAS NOT PRESSED BY THE APPELLANT AS THE AO HAD AMENDED THE ASSESSMENT ORDE R DATED JULY 24, 2009 U/S 154 TO ALLOW THE CLAIM OF THIS LOSS. 13. AGGRIEVED BY THE ORDER OF THE CIT (A), THE ASSES SEE AND REVENUE HAVE PREFERRED THE PRESENT APPEALS FOR AY 200 5-06. THE ISSUES INVOLVED IN ALL THE APPEALS FROM AYS 2005-06 TO 2011-12 ARE THOUGH SEVERAL, HOWEVER, ONE COMMON ISSUE PERMEATING IN ALL THE APPEALS (I.E. AY 2005-06, 2007-08 TO 2011-12), EXCEP T FOR AY 2006-07, PERTAINS TO THE TRANSFER PRICING ADJUSTMENT ON ACCOUNT OF AMP EXPENDITURE WHICH WE WILL DEAL FIRSTLY, AS IT IS ONE OF THE CORE ISSUES CONTESTED BY THE PARTIES BEFORE US. THE REMAINDE R OF THE ISSUES SHALL BE DEALT WITH APPEAL WISE SUBSEQUENTLY I N THIS ORDER. ADJUSTMENT MADE IN RESPECT OFADVERTISING AND MARKETING PROMOTION (AMP) EXPENDITURE INVOLVED IN ASSESSEES APPEALS FOR AY 2005-06 (GROUND NO. 3.1 T O 3.6); 2007-08 (GROUND NO. 1.1 TO 1.3); 2008-09 (GRO UND 15 NO. 2.1 TO 2.12); 2009-10 (GROUND NO. 1 TO 12); 201 0-11 (GROUND NO. 1 TO 11); AND 2011-12 (GROUND NO. 2 TO 12) 14. GROUNDS 3.1 TO 3.6 TAKEN BY THE APPELLANT IN I TS APPEAL FOR AY 2005-06 ARE AS BELOW: GROUND NO. 3.1: THE AO/CIT(A) HAS ERRED BY NOT PROVIDING REASONS FOR REJECTING THE ANALYSIS UNDERTAKEN BY TH E APPELLANT FOR BENCHMARKING THE INTERNATIONAL TRANSACTION PERT AINING TO REIMBURSEMENT OF ADVERTISEMENT EXPENSES. GROUND NO. 3.2: THE CIT(A) HAS ERRED IN NOT PROVIDING AN OPPORTUNITY OF BEING HEARD TO THE APPELLANT AND MEC HANICALLY ACCEPTING THE SECONDARY ANALYSIS (OF DETERMINING TH E ARMS LENGTH PRICE OF MARKETING INTANGIBLES) UNDERTAKEN B Y TPO IN RESPECT OF REIMBURSEMENT OF ADVERTISEMENT EXPENSES, THEREBY FAILING TO PASS A SPEAKING ORDER. GROUND NO. 3.3: THE AO/CIT(A) HAS ACTED IN EXCESS OF JURISDICTION ASSIGNED UNDER THE INDIAN TRANSFER PRI CING REGULATIONS BY ANALYZING THE ADVERTISEMENT EXPENDIT URE OF THE APPELLANT, IN PLAIN DISREGARD OF THE FACT OF THE SA ME, BEING A DOMESTIC TRANSACTION UNDERTAKEN BY THE PARTIES, DOE S NOT FALL UNDER THE PURVIEW OF SECTION 92 OF THE ACT. GROUND NO. 3.4: THE AO/CIT (A) HAS ERRED IN CONCLUDING THAT THE APPELLANT HAS INCURRED EXCESS ADVERTISING EXPEN DITURE VIS-- VIS COMPARABLE COMPANIES AND SHOULD HAVE ACCORDINGL Y, BEEN REIMBURSED FOR THE SAME. GROUND NO. 3.5: THE AO/CIT (A) HAS ERRED IN NOT APPRECIATING THAT THE ADVERTISEMENT EXPENDITURE WAS INCURRED EXC LUSIVELY FOR PROMOTION OF PRODUCTS OF THE APPELLANT IN INDIA AND WAS IN THE NATURE OF BUSINESS EXPENDITURE ALLOWABLE AS DEDUCTI ON. GROUND NO. 3.6: THE CIT(A) HAS ERRED IN UPHOLDING THE SECONDARY ANALYSIS UNDERTAKEN BY THE TPO WHEN THE A RMS LENGTH PRICE OF THE APPELLANTS TRANSACTIONS WITH T HE AES HAVE ALREADY BEEN TESTED UNDER THE TRANSACTIONAL NET MAR GIN METHOD. THE GROUNDS AND ISSUES PERTAINING TO AMP TAKEN UP BY T HE APPELLANT IN OTHER AYS ARE SIMILAR AND ARE NOT BEING R EPRODUCED HEREIN FOR THE SAKE OF BREVITY. 16 15. FROM AY 2005-06 TO AY 2011-12 (EXCEPT FOR AY 2006-07), THE TPO HAS MADE SIMILAR ADJUSTMENTS ON ACCOUNT OF AMP EXPENSES INCURRED BY THE ASSESSEE AS HE WAS OF THE VI EW THAT THE ASSESSEE HAD PROVIDED CERTAIN SERVICES IN RESPECT OF CREATION OF MARKETING INTANGIBLES TO ITS AE. THE TPO HELD THAT ANY AM P EXPENDITURE INCURRED BY THE ASSESSEE OVER AND ABOVE T HE AVERAGE AMP SPEND OF THE COMPARABLE COMPANIES (REFERRED TO AS THE BRIGHT LINE TEST) WAS EXTRAORDINARY IN NATURE AND INC URRED FOR THE BENEFIT OF THE AE WHICH OWNED THE SAMSUNG BRAND. IN AY 2005-06 (AS IN OTHER YEARS), THE LD. TPO APPLIED THE BRIGHT LINE TEST (BLT) AND WORKED OUT THE AVERAGE AMP SPEND OF THE COMPARABLES AT 1.05% OF SALES AND THAT OF THE APPELLA NT AT 7.71% OF SALES AND TREATED THE DIFFERENCE AS THE VALUE OF THE SERVICE WHICH THE APPELLANT HAD PROVIDED TO ITS AE. HE ACCORDINGLY HE LD THAT THE EXCESS AMOUNT SHOULD HAVE BEEN RECOVERED BY THE APPE LLANT FROM ITS AE AND MADE AN ADDITION OF RS. 122,25,79,910/-. 16. SIMILAR ADDITIONS WERE MADE BY THE TPO FOR A Y 2007-08 TO AY 2011-12, WHEREIN THE TPO APPLIED THE BLT TO BENCHMA RK THE AMP EXPENDITURE.IN AY 2007-08, THE TPO MADE AN ADDITIO N ON ACCOUNT OF EXCESS AMP EXPENDITURE OF RS. 131,13,25,08 0/- AFTER APPLYING A MARK-UP OF 12%. IN AY 2008-09, THE TPO PR OPOSED AN ADJUSTMENT OF RS.454,94,35,445/- WHICH WAS REVISED TO RS. 48,40,26,768/- BY THE DISPUTE RESOLUTION PANEL (DRP). IN AY 2009-10, THE TPO WORKED OUT THE AVERAGE AMP/SALES OF THE COMPARABLES AT 3.66% AS AGAINST 9.19% IN THE CASE OF THE APPELLANT (RECTIFIED TO 9.03% OF SALES VIDE RECTIFICATIO N ORDER DATED 06 MARCH 2013) AND CONSIDERED THIS DIFFERENCE AS THE VALUE OF THE SERVICE WHICH THE APPELLANT HAD PROVIDED TO ITS AE AND HE PROPOSED AN ADJUSTMENT OF RS. 455,53,39,101/-. IN AY 2010-11, 17 THE TPO PROPOSED AN ADJUSTMENT OF RS.740,15,52,834/- ( RS. 102,15,61,275/- UNDER THE IT BUSINESS AND RS. 637,99 ,91,559/- UNDER THE NON-IT BUSINESS) WITH RESPECT TO AMP EXPENSE S. IN AY 2011-12, THE TPO PROPOSED AN ADJUSTMENT OF RS.1188,4 1,38,456/- (RS. 122,22,38,922/- UNDER THE IT BUSINESS AND RS. 1066,18,99,534/- UNDER THE NON-IT BUSINESS) WHICH WA S REDUCED TO RS. 39,43,68,561/- (I.E. RS. 31,31,05,771/- UNDER THE NON-IT SEGMENT AND RS. 8,12,62,790/- UNDER THE IT SEGMENT) BY THE LD. DRP. 17. ON THIS ISSUE, THE LD. COUNSEL FOR THE APPEL LANT ASSESSEE RIGHT AT THE ONSET SUBMITTED THAT THE APPROACH ADOPTED BY THE TPO AND THE CIT(A) IN RESPECT OF THE AMP EXPENDITURE HAS C OME TO BE KNOWN AS THE BRIGHT LINE TEST WHICH HAS BEEN SUBJECT MATTER OF EXTENSIVE LITIGATION BEFORE THE ITAT AND THE HIGH COUR TS. THE SPECIAL BENCH OF THIS TRIBUNAL IN THE CASE OF L.G. ELECTRONICS [2013] 140 ITD 41 HAD APPROVED THIS APPROACH AND HAD HELD THAT EXCESSIVE EXPENDITURE COULD BE TREATED AS A SEPARATE INTERNATIONAL TRANSACTION THAT COULD BE SUBJECTED TO ARMS LENGTH EXER CISE ON ITS OWN. WHILE HOLDING SO, THE SPECIAL BENCH HAD LAID D OWN EXTENSIVE GUIDELINES TO DETERMINE THE VALUE OF THE INTERNATIONAL T RANSACTION AND THE ALP OF THE SAME. SUBSEQUENTLY, THE HONBLE JUR ISDICTIONAL DELHI HIGH COURT IN THE CASE OF SONY ERICSSON [2015] 374 ITR 118 HAS HELD THAT THE BRIGHT LINE TEST WAS NOT A VALID TEST OF DETERMINING THE ALP OF THE AMP TRANSACTION AS IT WAS NO T STATUTORILY MANDATED. THE HIGH COURT FURTHER LAID DOWN NUMEROUS GUIDELINES AND PRINCIPLES TO DETERMINE THE ALP OF AMP TRANSACTION. SUBSEQUENT TO THIS THE HONBLE DELHI HIGH COURT EXPANDED THE JURISPRUDENCE IN THIS REGARD IN THE CASES OF MARUTI SUZUKI [2016] 381 ITR 117 , WHIRLPOOL [2016] 381 ITR 154 AND BAUSCH & 18 LOMB [2016] 381 ITR 227 BY HOLDING THAT EXISTENCE OF AN INTERNATIONAL TRANSACTION MERELY ON THE GROUND OF EXCES S AMP EXPENDITURE CANNOT BE PRESUMED. IT HAS TO BE SHOWN TO BE EXISTING BASED ON MUTUAL UNDERSTANDING OR ARRANGEMENT BETWEEN T HE ASSESSEE AND ITS ASSOCIATED ENTERPRISE. THE COURT FURTH ER HELD AMP WAS A FUNCTION AND NOT A TRANSACTION. 18. IT WAS ALSO POINTED OUT BY THE LD. COUNSEL THAT SO NY ERICSSONS CASE (SUPRA) WAS A BATCH OF APPEALS DEALI NG WITH ASSESSEES WHO WERE DISTRIBUTORS; AND THE SUBSEQUENT DE CISIONS OF MARUTI SUZUKI AND WHIRLPOOL (SUPRA) DEALT WITH MANUFA CTURERS AND THE TWO CATEGORIES OF ASSESSEES STAND ON A DIFFER ENT FOOTING. THE LICENSED MANUFACTURERS WHO OPERATE AS RISK BEARI NG ENTITIES CANNOT BE EXAMINED UNDER THE SO-CALLED AMP FRAMEWORK AS THEIR INVESTMENTS IN MANUFACTURING AND MARKETING ARE FULLY R EFLECTED IN THEIR PROFIT MARGINS AND THERE CANNOT BE A SEGREGATION O F RETURNS ON MANUFACTURING AND RETURNS ON MARKETING AS BOTH GO HA ND IN HAND AND ARE INEXTRICABLY LINKED. WHEN GOODS ARE MAN UFACTURED AND MARKETED BY THE SAME INDIAN ENTITY, IT WOULD BE IL LOGICAL FOR THE REVENUE TO CONTEND THAT SUCH AN ENTITY SHOULD BE TREAT ED IN THE SAME MANNER AS AN INDIAN DISTRIBUTOR WHICH DISTRIB UTES GOODS IMPORTED FROM A FOREIGN MANUFACTURER UNDER A BRAND O WNED BY AN AE ON THE GROUND THAT BY INCURRING EXCESSIVE AMP EX PENDITURE, THE BRAND-OWNER AE STANDS TO GAIN AT THE EXPENSE OF THE INDIAN ENTITY. 19. HE SUBMITTED THAT SAMSUNG IS A GLOBALLY WELL-KN OWN NAME IN CONSUMER GOODS INDUSTRY AND THE STRENGTH OF THE BRAND ENHANCES THE SALE OF CONSUMER GOODS BY IT IN INDIA, W HILE COMPETING WITH OTHER DOMESTIC AND GLOBAL BRANDS OPERATI NG IN THE 19 INDIAN MARKET. IT IS THE ASSESSEE, AN INDIAN COMPANY, WHO IS ACTUALLY BENEFITTED BY BEING ABLE TO EXPLOIT THE LICENSE FOR THE USE OF BRANDS GRANTED BY THE LICENSOR. HAD THE TAXPAYER S OLD THESE GOODS UNDER AN UNKNOWN BRAND NAME, PRODUCTS COULD N OT HAVE STOOD IN COMPETITION AGAINST OTHER REPUTED BRANDS IN THE MARKET. THE PRIMARY BENEFIT IS OF THE ASSESSEE WHO IS SELLING THE GOODS IN INDIA AND THE BENEFIT OBTAINED BY THE LICENSOR IS ONLY INCIDENTAL. AS PER THE LD. COUNSEL, AFTER THE DECISIONS OF MARUTI SUZ UKI, WHIRLPOOL AND BAUSCH & LOMB (SUPRA), THERE IS NO ROO M FOR ANY CONFUSION REGARDING THE TREATMENT OF AMP EXPENDITURE A S A SEPARATE INTERNATIONAL TRANSACTION. THE HONBLE DELHI HIGH COURT IN THESE DECISIONS HAS CATEGORICALLY HELD THAT FOR AN I NTERNATIONAL TRANSACTION TO EXIST WITHIN THE MEANING OF SECTION 92B, TH E REVENUE HAS TO SHOW THAT THERE EXISTED AN AGREEMENT OR UNDERSTANDING OR ARRANGEMENT, THAT THE INDIAN ENTITY WOUL D INCUR AMP EXPENDITURE FOR OR ON BEHALF OF THE AE WHICH OWNS THE BRAND. IN THE ABSENCE OF SUCH ACTION IN CONCERT, NO INTERNA TIONAL TRANSACTION CAN BE SAID TO EXIST. IF THE EXISTENCE OF INT ERNATIONAL TRANSACTION CANNOT BE ESTABLISHED WITH ANY DEGREE OF C ERTAINTY, THE QUESTION OF DETERMINING THE ALP OF THE SAME WOULD NOT A RISE. 20. THE SAME PRINCIPLE HAS BEEN UPHELD IN NUMERO US OTHER JUDGMENTS OF THE DELHI HIGH COURT AS CITED BELOW:- GOODYEAR INDIA LIMITED (ITA 77/2017 & CM NOS. 3072- 73/2017, ITA 78/2017 & CM NOS. 3074-75/2017, ITA 79/2017 & CM NO. 3076/2017) AMADEUS INDIA PVT. LTD. (ITA 154/2017) CASIO INDIA COMPANY PRIVATE LIMITED (ITA 309/2016) MARUTI SUZUKI INDIA LTD (ITA NO. 110/2014) 20 WHIRLPOOL OF INDIA LTD. (ITA NO. 610/2014) HONDA SIEL POWER PRODUCTS LTD.(ITA NO. 127/2017 & CM NOS. 4906-4907/2017 & 346/ 2015) BAUSCH & LOMB EYECARE INDIA PVT. LTD. (ITA NO. 643/20 14). 21. THE LD. COUNSEL VOCIFEROUSLY ARGUED BY APPLY ING THE AFORESAID PRINCIPLES IN THE INSTANT CASE, WHERE THERE W AS A MARKETING ASSISTANCE AGREEMENT BETWEEN THE ASSESSEE AND ITS PARENT UNDER WHICH IT HAD RECEIVED AN ASSISTANCE TO THE TUNE OF RS. 142.39 CRORES (IN A.Y. 2005-06 AND VARYING AMOU NTS IN OTHER YEARS UNDER APPEAL) FOR THE MARKETING ACTIVITIES IT HAD CONDUCTED, THIS REIMBURSEMENT RECEIVED UNDER THE MDF AGREEMENT WA S DULY DISCLOSED BY THE APPELLANT IN THE LIST OF INTERNATIONAL TR ANSACTIONS IN FORM 3CEB AND FURTHER ITS ARMS LENGTH PRICE (ALP) WAS ALSO JUSTIFIED USING COMPARABLE UNCONTROLLED PRICE (CUP) M ETHOD. THE SAME HAS NOT BEEN DISPUTED BY THE TPO IN ANY MANNER. T HESE REIMBURSEMENTS ARE IN RESPECT OF SPECIFIC THIRD PARTY COSTS INCURRED FOR ADVERTISING AND MARKETING UNDERTAKEN BY T HE APPELLANT AFTER OBTAINING THE APPROVAL OF THE AE UNDER A PRE- AGREED BUDGET. HE DREW OUR ATTENTION TO THE RELEVANT CLAUS ES OF THE MDF AGREEMENT UNDER WHICH THE REIMBURSEMENTS WERE RECE IVED. ACCORDINGLY, HE SUBMITTED THAT AS PER THE RELEVANT TERMS OF THE MDF AGREEMENT, THE ASSESSEE OBTAINS PRIOR APPROVAL UND ER A CAPPED BUDGET SET BY THE AE. IT IS A PURE ASSISTANCE O R SUBSIDY RECEIVED BY THE APPELLANT AND DOES NOT ARISE FROM A SE RVICE RENDERED BY THE APPELLANT. THE APPELLANT AS A MATTER OF RIGHT CANNOT DEMAND THIS ASSISTANCE. THE AE IN ITS OWN DISCR ETION DETERMINES THE ANNUAL BUDGET AND APPROVES SPECIFIC MA RKETING ACTIVITIES FOR THE APPELLANT. THEREFORE, THE ONLY INTERN ATIONAL 21 TRANSACTION WITH AN ASCERTAINABLE PRICE IS LIMITED TO TH E REIMBURSEMENT RECEIVED BY THE APPELLANT UNDER THE MDF AGREEMENT. NOT EVEN A SINGLE RUPEE BEYOND THE AMOUNT RE CEIVED AS REIMBURSEMENT CAN BE TREATED AS AN INTERNATIONAL TRANSAC TION. 22. THE LD. CIT (DR) MR. CHAUDHARY, ON THE OTHER HAND, ARGUED THAT THE EXISTENCE OF THE MDF AGREEMENT BETWEEN THE APPEL LANT AND THE AE CLEARLY DEMONSTRATED THAT THERE EXISTED AN UNDERSTANDING BETWEEN THE TWO PARTIES THAT AMP EXPENDITUR E WOULD BE INCURRED BY THE APPELLANT ON BEHALF OF THE AE FOR THE PROMOTION OF THE BRAND OWNED BY THE AE. HE FURTHER AR GUED THAT ON ACCOUNT OF THIS AGREEMENT, THE VALUE OF THIS INTERNATI ONAL TRANSACTION CANNOT BE LIMITED TO THE AMOUNT OF REIMBURSEME NT RECEIVED (RS. 142.39 CRORES FOR AY 2005-06) BUT EXTE NDED TO THE ENTIRE QUANTUM OF AMP EXPENDITURE INCURRED BY THE APPEL LANT DURING THE YEAR (RS. 306.39 CRORES FOR AY 2005-06). HE REFERRED TO THE TERMS OF THE MDF AGREEMENT WHICH PROVIDED FOR ASS ISTANCE IN RESPECT OF MARKETING ACTIVITIES PERTAINING TO THE SAMSU NG BRAND IN PRINT AND ELECTRONIC MEDIA. THESE OBLIGATIONS, IN H IS VIEW, SHOWED THAT THE APPELLANT WAS ACTING IN CONCERT WITH ITS A E IN RESPECT OF THE BRAND PROMOTION IN INDIA. 23. IN REJOINDER, THE LD. COUNSEL, MR. SINHA SUBMI TTED THAT IT IS AN ADMITTED POSITION OF THE ASSESSEE THAT THERE IS AN UNDERSTANDING OR ARRANGEMENT UNDER THE MDF AGREEMENT IN RESPECT OF AMP EXPENDITURE. HOWEVER, SUCH A TRANSACTION OR ARRANGEMENT IS STRICTLY LIMITED TO THE VALUE OF REIMBURSE MENT (RS. 142.39 CRORE) RECEIVED BY THE APPELLANT UNDER THE AGRE EMENT. THESE REIMBURSEMENTS HAVE BEEN RECEIVED AGAINST PRE-A PPROVED INVOICES UNDER A BUDGET/CAP STIPULATED BY THE AE AT THE BEGINNING 22 OF THE YEAR. THERE IS NO TANGIBLE MATERIAL OR EVIDENC E TO SHOW THAT EVEN A RUPEE BEYOND THIS AMOUNT WAS SPENT UNDER AN UNDERSTANDING OR ARRANGEMENT OR ACTION IN CONCERT WITH TH E PARENT AE. AS PER THE RATIO OF MARUTI SUZUKI, WHIRLPOOL (SUP RA) AND OTHER DECISIONS, NO PRESUMPTION CAN BE MADE ABOUT THE EXIST ENCE OF AN INTERNATIONAL TRANSACTION. IT WAS ALSO POINTED OUT THAT THE APPELLANT HAS NO RIGHT TO DEMAND ANY ASSISTANCE OR SUBS IDY BEYOND THE AMOUNT AGREED UNDER THE MDF. IN THE ABSENCE OF ANY SUCH RIGHT, THE VALUE OF THE INTERNATIONAL TRANSACTION CA NNOT BE EXTENDED BEYOND THE REIMBURSEMENT AMOUNT WHICH HAS ALREADY BEEN DISCLOSED IN THE LIST OF INTERNATIONAL TRANSACTIONS IN FORM 3CEB. THE LD. COUNSEL THEN STRONGLY RELIED UPON THE SO NY ERICSSON (SUPRA) DECISION OF THE HONBLE DELHI HIGH COURT WHERE BRIGHT LINE TEST HAS BEEN CATEGORICALLY REJECTED BY THE COURT AS A METHOD OF DETERMINING THE ALP OF THE AMP TRANSACTION. HE DREW THE ATTENTION OF THE BENCH TOWARDS PARAS 127 AND 135 OF THIS DECISION TO CONTEND THAT IT WAS NOT OPEN FOR THE REVENUE TO MAKE A COMPARISON OF THE AVERAGE AMP EXPENDITURE OF THE COMPA RABLE COMPANIES TO ARRIVE AT A BRIGHT LINE OF AMP EXPENDITUR E BEYOND WHICH IT IS PRESUMED THAT THE EXPENDITURE IS FOR A SERV ICE RENDERED TO THE BRAND-OWING AE. 24. THE LD. COUNSEL ALSO POINTED OUT THAT EVEN THE OFFICIAL POSITION OF THE GOVT. OF INDIA IN RESPECT OF THE BRIGHT L INE TEST HAS CHANGED AS IS EVIDENT FROM THE INDIA CHAPTER OF THE UN TRANSFER PRICING GUIDELINES. IN THE SAID CHAPTER WHICH CONTAIN S THE OFFICIAL POSITION OF THE INDIAN GOVT. ON MARKETING INTANGIBLES, I T HAS BEEN CLEARLY STATED THAT INSTEAD OF APPLYING THE BRIGHT LINE T EST, IT WOULD BE BETTER TO FOCUS ON THE MARKETING FUNCTION OF THE IND IAN ENTITY VIS-A-VIS THE COMPARABLES CHOSEN FOR BENCHMARKING. HE FURTHER 23 CONTENDED THAT THE HONBLE DELHI HIGH COURT IN THE DECISI ONS OF MARUTI SUZUKI, WHIRLPOOL (SUPRA) AND OTHERS HAS RECO GNISED THE FACT THAT AMP EXPENDITURE ARE INCURRED IN RESPECT TO THIR D PARTY COSTS INSOFAR AS THESE REPRESENT AMOUNTS PAID OR PAYAB LE TO UNRELATED PARTIES (MEDIA HOUSES, ADVERTISING AGENCIES , MARKETING BODIES ETC.) AND CANNOT BE TREATED AS RELATED PARTY TRA NSACTIONS MERELY BECAUSE SOME INCIDENTAL BENEFIT IS SAID TO ACCR UE TO THE AES. 24. THE LD. COUNSEL ALSO MADE A WITHOUT PREJUDICE A RGUMENT REGARDING THE QUANTUM AND COMPOSITION OF AMP EXPENDITU RE TAKEN BY THE TPO. THE TPO WHILE DETERMINING THE VALUE OF IN TERNATIONAL TRANSACTION OF AMP AND ITS ALP HAS TAKEN INTO ACCOUNT EXPENDITURE WHICH IS PURELY SELLING AND OPERATIONAL E XPENSES AND HAVE NO NEXUS WITH BRAND PROMOTION OR ADVERTISING IN ANY MANNER. THESE EXPENSES INCLUDE PURELY OPERATIONAL EX PENSES INCURRED IN CONNECTION WITH DEALERS AND SALES PROMOTI ON. THE HONBLE DELHI HIGH COURT IN SONY ERICSSON (SUPRA) HA S HELD THAT SELLING COSTS CANNOT FORM PART OF THE AMP TRANSACTION. O NLY THOSE EXPENSES WHICH RELATED TO PROMOTION OF BRAND AND ADVER TISING OF BRAND CAN BE TAKEN. SALES RELATED COSTS LIKE DEALER C OMMISSION, DISCOUNTS, SALES PROMOTIONS AND TRADE EVENT EXPENDITURE S CANNOT BE TAKEN AS PART OF THE ADVERTISING COSTS. IN THIS CASE, THE TPO AND THE CIT (A) HAVE ERRED IN NOT DISTINGUISHING BETWEEN THE SALES AND BRAND PROMOTION COSTS LEADING TO A DISTORTED PICTURE. I T WAS ACCORDINGLY SUBMITTED THAT IF AT ALL THE AMP EXPENDITURE WAS TO BE PERMITTED TO BE TAKEN AS A SEPARATE INTERNATIONAL TRANSAC TION, THE VALUE AND ALP OF THE SAME HAS TO BE LIMITED TO THE BRAND PROMOTION RELATED EXPENSES AND SHOULD EXCLUDE SELLI NG COSTS.THE LD. COUNSEL ALSO SUBMITTED THAT FOR AYS 2007-08 TO 201 0-11, THE 24 TPO HAS ALSO ERRONEOUSLY CONSIDERED REBATES & DISCO UNTS, IN ADDITION TO SALES PROMOTION AND SELLING EXPENDITURE, A S A PART OF AMP. FURTHER, THE TPO HIMSELF FOR AY 2005-06 & 2011- 12 DID NOT INCLUDE REBATES AND DISCOUNTS AS PART OF AMP. IN THIS RESPECT, THE HE CONTENDED THAT REBATES AND DISCOUNTS AND EXPENSES IN CONNECTION WITH SALES DO NOT LEAD TO BRAND PROMOTION AND CANNOT BE ATTRIBUTED TO BRAND PROMOTION AS THEY REPRESENT POIN T OF SALE EXPENSES. 25. THE LD. CIT(DR) IN HIS REPLY CONTENDED THAT EVE N SELLING COSTS SHOULD BE INCLUDED WITHIN THE AMBIT OF AMP EXPEND ITURE AS EVEN THESE COSTS LEAD TO CREATION OF MARKETING INTANGIBL ES. IN HIS VIEW, THE CONCEPT OF MARKETING INTANGIBLES IS WIDER THA N THAT OF BRAND PROMOTION AND INCLUDES WITHIN ITS AMBIT MARKETING NETWORK, DEALER AND CUSTOMER RELATIONSHIP AND THEREFORE ALL KI NDS OF SELLING EXPENSES SHOULD ALSO FORM PART OF THE AMP EXPENSES. 26. BY WAY OF REJOINDER, LD. COUNSEL SUBMITTED THAT TH IS ISSUE IS NO LONGER RES INTEGRA AS THE HONBLE DELHI HIGH COURT IN SONY ERICSSON AND THE SPECIAL BENCH IN LG ELECTRONICS (SUP RA) HAVE DECIDED THIS ISSUE IN A CATEGORICAL MANNER IN FAVOUR OF THE ASSESSEE BY HOLDING THAT IT WOULD NOT BE FAIR AND LO GICAL TO INCLUDE SELLING COSTS WITHIN THE AMBIT OF THE AMP EXPENDITURE. A BREAK-UP OF THE TOTAL AMP EXPENSES (OPERATIONAL AND PROMOTIONAL E XPENSES) FOR AY 2005-06, 2007-08 TO 2011-12 WAS ALSO SUBMITTED . 27. ON THE ISSUE OF APPLICATION OF TRANSACTION NET MARGIN METHOD, THE LD. COUNSEL SUBMITTED THAT THE HONBLE DELHI H IGH COURT IN SONY ERICSSON (SUPRA) HAS HELD THAT, ONCE THE PROFIT MARGIN OF THE MANUFACTURING AND DISTRIBUTION SEGMENTS ARE TESTED 25 UNDER TNMM, ALL THE INTERNATIONAL TRANSACTIONS WHICH A RE CLUBBED IN THE SEGMENT STAND FULLY COVERED BY THE TNMM ANALYSI S. IN SUCH A SITUATION, IT WOULD BE ILLOGICAL AND INCONGRUOUS TO TREAT AMP EXPENDITURE AS A SEPARATE TRANSACTION AND SUBJECT THE SA ME TO A BRIGHT LINE TEST ON A STAND-ALONE BASIS. UNDER TNMM, TH E NET MARGIN OF THE SEGMENT IS TESTED AND SINCE THE NET MARG IN IS COMPUTED AFTER TAKING INTO ACCOUNT THE ENTIRE AMP EXPEN DITURE, THE IMPACT OF AMP IS FULLY CAPTURED IN THE TNMM ANALYS IS. FURTHERMORE, HE ARGUED THAT THE TPO HAS CHANGED THE COMPARABLES USED IN THE TNMM BENCHMARKING ANALYSIS W HICH IMPLIES THAT HE HAS APPLIED HIS MIND ON THE COMPARABI LITY OF THE COMPANIES CHOSEN FOR THE COMPARISON UNDER TNMM. THE TPO NOT ONLY HAD CHANGED THE COMPARABLES BUT HAD ALSO CHANGE D THE METHOD OF COMPUTATION OF THE PROFIT LEVEL INDICATOR. T HE CIT (A) FURTHER HAD AN OCCASION TO EXAMINE BOTH THE ASPECTS AN D HAS GIVEN HIS CLEAR FINDINGS ON BOTH THESE ASPECTS. ONCE TH E TNMM ANALYSIS HAS BEEN SUBJECT MATTER OF ANALYSIS AT THE HA NDS OF TPO AND THE CIT (A), IT WOULD SERVE NO PURPOSE IN SEGREGA TING THE AMP EXPENDITURE AS A SEPARATE TRANSACTION AT THIS STAGE OF S ECOND APPEAL. 28. THE LD. CIT (DR) SUBMITTED THAT DESPITE HAVING E XAMINED ALL THE INTERNATIONAL TRANSACTIONS IN A BUNDLED MANNER UND ER TNMM, THE LD. TPO AND LD. CIT (A) ARE JUSTIFIED IN SUBJECTIN G THE AMP TRANSACTION TO A COST PLUS METHOD ON A STANDALONE BASIS, BECAUSE THIS EXPENDITURE HAS BEEN INCURRED TO BENEFIT THE BRAND SAMSUNG WHICH IS OWNED BY THE APPELLANTS PARENT COM PANY AND NO REMUNERATION FOR THIS BRAND PROMOTION SERVICE HAS BEEN RECEIVED. 26 29. THE LD. COUNSEL THEN SUBMITTED THAT THE REVENUE HA S GROSSLY ERRED IN EQUATING AMP EXPENDITURE WITH BRAND BUILDING AND IN ALLEGING THAT EXCESSIVE AMP EXPENDITURE BEYO ND THE BRIGHT LINE IS A BRAND PROMOTION SERVICE. HE SUBMITTED THAT BR AND IS A CAPITAL ASSET AND IT WOULD BE FALLACIOUS TO TREAT ANY AN D ALL AMP EXPENDITURE AS LEADING TO BRAND BUILDING. BRAND-BUIL DING LEADS TO ENHANCEMENT OF VALUE OF THE BRAND AND BENEFITS THE BRAN D OWNER AS MUCH AS IT HELPS THE BRAND-EXPLOITER LIKE A LICENS ED MANUFACTURER OR A DISTRIBUTOR. BRAND-BUILDING IS IN THE REALM OF CAPITAL AND BRAND-PROMOTION TARGETED TOWARDS SALE OF GO ODS OR SERVICES IS IN THE REALM OF REVENUE TRANSACTIONS. THER EFORE, ANY DISTRIBUTOR OR LICENSED MANUFACTURER LIKE THE ASSESSEE WHICH INCURS AMP EXPENDITURE FOR PROMOTING THE SALES OF I TS GOODS IS NOT GUIDED BY THE MOTIVE OF ENHANCING BRAND VALUE BUT PUR ELY BY ENHANCING ITS SALES. INCREASE IN BRAND VALUE HAPPEN S SLOWLY OVER A LONG PERIOD OF TIME AND THERE IS NO CORRELATION BETWE EN AMP EXPENDITURE AND BRAND VALUE. THIS IS BECAUSE BRAND V ALUE DEPENDS ON NUMEROUS FACTORS, MOST OF WHICH ARE NOT L INKED WITH AMP EXPENDITURE. THE MOST IMPORTANT COMPONENT OF A BRAND IS ITS RELIABILITY AND QUALITY AND THE RELIABILITY AND QUAL ITY OF GOODS ARE NOT LINKED WITH AMP EXPENDITURE BUT ON OTHER EXPENSES LIKE R&D, QUALITY CONTROL, AFTER-SALES SERVICES, CUSTOMER SERV ICES ETC. AMP EXPENDITURE INCURRED BY SIEL BEING REVENUE EXPENDITUR E CANNOT BE TREATED AS CONTRIBUTING TOWARDS ENHANCEMENT OF VALUE OF THE BRAND OWNED BY THE AE. THERE CAN BE SITUATIONS WHERE AMP EXP ENDITURE INCURRED BY AN INDIAN AFFILIATE LEADS TO ENHANCEMENT O F VALUE OF BRAND OWNED BY AN AE OVER A LONG PERIOD OF TIME, BUT SUCH A RELATIONSHIP CANNOT BE PRESUMED TO EXIST FOR EVERY ASSE SSEE AND FOR EVERY YEAR. IT HAS TO BE SPECIFICALLY DEMONSTRATED THAT BRAND VALUE HAS GONE UP OVER A LONG PERIOD OF TIME AND A PORTION OF THIS 27 ENHANCEMENT IS ATTRIBUTABLE TO SUCCESSFUL AMP CAMPAIGNS CONDUCTED BY THE INDIAN AFFILIATE. EVEN IN THESE SITUATIO NS, THE BENEFIT TO THE BRAND OWNER AE HAS TO BE TREATED AS INCI DENTAL AND NOT A GUIDING FORCE FOR THE AMP EXPENDITURE INCURRE D BY THE INDIAN ASSESSEE. THE LD. COUNSEL FURTHER SUBMITTED THAT IF AN ASSESSEE EXERCISES LONG-TERM DISTRIBUTION AND LONG-TERM LICENSI NG MANUFACTURING RIGHTS, IT IS IMPLICIT THAT ANY INVESTMENT I N AMP WHETHER HIGH OR LOW IS TOWARDS ITS OWN SALES. THE RETU RN ON INVESTMENT IS EXPECTED TO BE REAPED OVER A PERIOD OF TI ME AS SIEL AS AN EXCLUSIVE DISTRIBUTOR/LICENSED MANUFACTURER IN INDIA IS ALONE ENTITLED TO BENEFIT FROM THIS INVESTMENT. 30. THE LD. COUNSEL SUBMITTED THAT EMPIRICAL AND SCH OLARLY STUDIES HAVE SHOWN THAT WITHIN A SECTOR OR INDUSTRY THER E IS HUGE VARIATION OF AMP EXPENDITURE AMONG COMPETITORS. VARIOUS COMPETITORS PLACE DIFFERING LEVELS OF IMPORTANCE ON AD VERTISING AND BRAND PROMOTION DEPENDING UPON THEIR UNDERSTANDING AN D BELIEF REGARDING THE IMPACT OF ADVERTISING ON SALES. EMPIRIC AL STUDIES HAVE SHOWN THAT THERE IS NO POSITIVE CORRELATION BETWEE N ADVERTISING AND INCREASE IN SALES AND NO SPECIFIC RE TURN ON INVESTMENT (ROI) CAN BE INFERRED IN RESPECT OF EXPENDI TURE INCURRED ON ADVERTISEMENT. TO SUPPORT THIS PROPOSITION HE REFERR ED TO A SCHOLARLY ARTICLE AUTHORED BY JUSTIN M. RAO OF MICROSO FT AND RANDALL A. LEWIS OF GOOGLE TITLED THE UNFAVOURABLE E CONOMICS OF MEASURING THE RETURNS TO ADVERTISING PUBLISHED IN THE QUARTERLY JOURNAL OF ECONOMICS (2015) 1941-1973, OXFORD UNIVE RSITY PRESS WHICH CONTAINS A RIGOROUS ANALYSIS OF CORRELATION BET WEEN ADVERTISING SPEND AND INCREASE IN SALES. THE CONCLUS ION DRAWN IN THIS ARTICLE IS THAT IT IS NOT POSSIBLE TO QUANTIFY THE EXTRA SALES THAT CAN BE GENERATED BASED ON INCREMENTAL AMP SPEND. IT A LSO 28 CONTAINS EMPIRICAL DATA SHOWING WIDE VARIATION OF AMP SPEND AMONG COMPETITORS IN THE SAME SECTOR OR INDUSTRY. BASE D ON THE ABOVE, IT HAS BEEN SUBMITTED THAT IT IS NOT POSSIBLE TO DETERMINE THE IMPACT OF INCREASED INTENSITY OF ADVERTISING FUNCTI ON ON PROFIT MARGIN, BECAUSE THE IMPACT OF ADVERTISING ON SALES CAN NOT BE DETERMINED AND QUANTIFIED. IN THE ABSENCE OF A QUANT IFIABLE MEASUREMENT, IT IS NOT POSSIBLE TO MAKE A REASONABLY A CCURATE ADJUSTMENT TO THE PROFIT MARGINS OF THE COMPARABLE COMPA NIES AS MANDATED UNDER LAW.IN VIEW OF THE ABOVE, IT WAS SUBMI TTED THAT IT WOULD BE ERRONEOUS TO TREAT AMP AS A SEPARATE INTERNATIO NAL TRANSACTION AND ANY ATTEMPT TO BENCHMARK SUCH AN IMAGINAR Y TRANSACTION IN ANY MANNER (WHETHER AS BUNDLED TRANSACTIO N OR ON A STAND-ALONE BASIS) WOULD BE AN EXERCISE IN FUTILITY . 31. IN HIS REPLY, THE LD. CIT (DR) FAIRLY CONCED ED THAT BRIGHT LINE TEST IS NO LONGER A VALID AND LEGAL WAY OF DET ERMINING THE EXISTENCE OF AN INTERNATIONAL TRANSACTION PERTAINING TO EXCESSIVE AMP EXPENDITURE. HOWEVER, HE EMPHASISED THAT IN TERMS OF THE PRINCIPLES LAID DOWN BY THE HONBLE DELHI HIGH COUR T, EXISTENCE OF AN INTERNATIONAL TRANSACTION IN RESPECT OF AMP EXPENDITU RE CAN BE SHOWN TO EXIST IF THERE IS AN ARRANGEMENT BETWEEN THE AS SESSEE AND ITS BRAND-OWNING AE TO CARRY OUT BRAND PROMOTION ACTIVITIES IN INDIA. HE SUBMITTED THAT IN THE PRESENT CASE, THE FACTS SHO W THAT SUCH AN ARRANGEMENT EXISTS BY WAY OF AN AGREEMENT (MDF AGREEMENT) BETWEEN THE APPELLANT AND ITS AE. IN THIS RES PECT, HE RELIED UPON THE RULING OF THIS TRIBUNAL IN THE CASE OF BMW INDIA (P.) LTD. V. DCIT [2017] 190 TTJ 717 (DELHI TRIB. ), WHEREIN THE QUESTION OF AMP BEING AN INTERNATIONAL TRANSACTION HAS BEEN DECIDED AGAINST THE ASSESSEE AND THE DETERMINATION OF TH E ALP OF THE SAME HAS BEEN REMANDED TO THE TPO IN VIEW OF THE P RINCIPLES 29 LAID DOWN IN SONY ERICSSON DECISION OF THE HIGH COUR T (SUPRA). IN THIS CASE, IN AN AGREEMENT BETWEEN BMW INDIA AND ITS AE BMW GERMANY, IT WAS FOUND THAT THE BMW INDIA REPRESENTED THE INTERESTS OF BMW GERMANY. IT WAS FOUND THAT BMW INDIA WA S RESPONSIBLE FOR THE SALE PROMOTION AND FULL UTILIZATIO N OF THE MARKET POTENTIAL FOR THE CONTRACT GOODS IN INDIA. FURTHER, IT WAS FOUND THAT BMW INDIA UNDERTOOK THE PERFORMANCE OF ADEQU ATE ADVERTISEMENT AND SALES PROMOTION AS WELL AS PUBLIC A ND MEDIA RELATIONS ACTIVITIES FOR BMW GERMANY AND NOT ON ITS OW N VOLITION. UNDER THESE CIRCUMSTANCES, IT WAS HELD THAT THERE IS AN A GREEMENT BETWEEN BMW INDIA AND BMW GERMANY FOR PROMOTING BMW BRAND IN INDIA WHICH CONSTITUTED AN INTERNATIONAL TRANSACTION. HE FURTHER SUBMITTED THAT EVEN IN THE PRESENT CASE THERE IS AN AGREE MENT BETWEEN THE ASSESSEE AND ITS AE WHEREBY THE ASSESSEE I S UNDERTAKING MARKETING AND ADVERTISING ACTIVITY AT AN E XTENSIVE LEVEL AND THIS ACTIVITY IS BEING CARRIED OUT AT THE BE HEST OF THE AE AND THE BRAND DEVELOPMENT BENEFIT IS SOLELY DERIVED BY THE AE ITSELF. SUCH AN ARRANGEMENT, IN HIS VIEW, CAN BE INFE RRED FROM THE TERMS OF THE AGREEMENT AND THE CONDUCT OF THE ASSESSEE. 32. THE LD. COUNSEL FOR THE APPELLANT IN HIS REJO INDER SUBMITTED THAT IN THE PRESENT CASE, THERE IS NO CLAUSE IN THE MD F AGREEMENT BETWEEN THE ASSESSEE AND ITS FOREIGN AE WHICH SHOWS TH AT THE ASSESSEE REPRESENTED INTERESTS OF THE FOREIGN AE IN I NDIA. FURTHER, THE ASSESSEE HAS ALREADY DISCLOSED THE REIMBURSEMENT O F RS. 142.39 CRORES IN ITS FORM 3CEB AS AN INTERNATIONAL TRAN SACTION AND HAS JUSTIFIED ITS ALP IN THE TP REPORT USING CUP M ETHOD FOR AY 2005-06. SIMILAR DISCLOSURES HAVE BEEN MADE IN OTHE R YEARS AS WELL. THE AMOUNT REIMBURSED IS IN THE NATURE OF ASSIS TANCE RECEIVED AGAINST SPECIFIC PRE-APPROVED INVOICES UNDE R A CAPPED 30 BUDGET SPECIFIED IN ADVANCE. THE VALUE OF THIS INTERNA TIONAL TRANSACTION CANNOT BE EXTENDED OR STRETCHED BEYOND THE AMOUNT REIMBURSED BECAUSE THE UNDERSTANDING BETWEEN THE APPEL LANT AND ITS AE IS LIMITED TO RS. 142.39 UNDER THE TERMS OF THE M DF AGREEMENT ITSELF. ACCORDINGLY, IT WAS NOT POSSIBLE TO RE LY ON THIS AGREEMENT TO ARGUE THAT THE ENTIRE AMP EXPENDITURE (OR THE AMOUNT BEYOND THE SO-CALLED BRIGHT LINE) BE TREATED AS A SEPARATE INTERNATIONAL TRANSACTION. IT WAS ALSO SUBMITTED THAT THE HON BLE DELHI HIGH COURT IN THE CASE OF WHIRLPOOL (SUPRA) HAS HELD THAT A MERE AGREEMENT PROVIDING FOR THE INVOLVEMENT OF THE AE IN THE AMP FUNCTION OF AN INDIAN ASSESSEE CANNOT BE TREATED A S A REASON FOR PRESUMING THE EXISTENCE OF AN INTERNATIONAL TRANS ACTION. THERE HAS TO BE A CLEAR COMMON UNDERSTANDING OR ACTION IN CONCERT IN RESPECT OF THE AMP EXPENDITURE IN INDIA AS BEING INCUR RED AT THE BEHEST OR INSTANCE OF THE FOREIGN AE. 33. THE LD. COUNSEL FURTHER RELIED ON THE FOLLOW ING DECISIONS OF THE TRIBUNAL WHERE EXISTENCE OF AN INTERNATIONAL TRANSA CTION OF AMP EXPENDITURE HAS BEEN NEGATED: - NIPPON PAINT INDIA (P) LTD V ACIT: [2017] 79 TAXMANN. COM 8 (CHENNAI-TRIB) - WIDEX INDIA (P)LTD V ACIT: [2017] 78 TAXMAN.COM 348 (CHANDIGARH-TRIB) - MSD PHARMACEUTICALS(P) LTD V ACIT: 2017] 88 TAXMANN.CO M 54 (DEL-TRIB) - PHILIPS INDIA LTD V ACIT: [2018] 90 TAXMANN.COM 357 (KOLKATA-TRIB) - CIT V JOHNSON & JOHNSON LTD: [2017] 80 TAXMANN.COM 26 9 (BOMBAY HC) 31 - ACIT V COLGATE PALMOLIVE (INDIA) LTD: ITA NO. 6073/MUM/2014 (MUM-TRIB). 34. THE LD. COUNSEL ON A WITHOUT PREJUDICE BASIS, SUBMITTED THAT THE LD. TPO IN AYS 2007-08 TO 2011-12 HAS ADDED A MARK-UP ON THE EXCESS AMP EXPENSES. HE SUBMITTED THAT NO MARK-UP MUST BE CHARGED ON THE SAME AS THE CONSUMER ELECTRONICS AN D IT HARDWARE INDUSTRY IS HIGHLY COMPETITIVE IN NATURE, FE ATURED BY AGGRESSIVE MARKETING STRATEGIES UNDERTAKEN BY VARIOUS P LAYERS IN THE INDUSTRY DUE TO VARIOUS FACTORS SUCH AS PRICE SENSI TIVITIES, DIFFERENT PREFERENCES IN URBAN AND RURAL MARKETS ETC. TO CREATE/RETAIN THE CUSTOMER BASE. IT IS EXTREMELY IMPO RTANT FOR THE PLAYERS IN THIS INDUSTRY TO UNDERTAKE SUCH STRATEGIES TO CREATE/MAINTAIN THEIR MARKET POSITION. HE CONTENDED THAT PAYMENTS MADE TO THIRD PARTIES SUCH AS ADVERTISEMENT AGEN CIES, PRINTING PRESS ETC. SHOULD BE EXCLUDED FROM THE COST BA SE WHILE COMPUTING A MARK-UP AND THE SAME DOES NOT REFLECT THE VA LUE ADDITION/ EFFORTS OF THE ASSESSEE AND ARE MERELY THIRD- PARTY COSTS. IN THIS REGARD, HE HAS PLACED HIS RELIANCE ON ITAT D ECISION IN THE CASE OF CHEIL COMMUNICATIONS INDIA PRIVATE LIMITED (2011) 4 6 SOT 60. PROTECTIVE ASSESSMENT IN AY 2005-06 35. AS REGARDS THE APPROACH OF THE TPO TO MAKE A PR OTECTIVE ASSESSMENT, THE LD. COUNSEL SUBMITTED THAT SUCH AN APP ROACH IS IMPERMISSIBLE IN LAW. PROTECTIVE ASSESSMENT CANNOT BE M ADE IN THE HANDS OF THE SAME ASSESSEE ON AN ALTERNATIVE BASIS. IT HAS A LIMITED APPLICATION TO CASES WHERE A SINGLE ITEM OF I NCOME IS ASSESSED IN THE HANDS OF TWO DISTINCT PERSONS AS THE ID ENTITY OF THE 32 REAL OWNER OF INCOME IS NOT KNOWN OR IS NOT CLEAR. I N THIS REGARD HE RELIED ON THE DECISION OF THE ITAT IN THE CASE OF MSD PHARMACEUTICALS (P.) LTD. V. ACIT [2018] 191 TTJ 702 (DELHI TRIB.). THE LD. COUNSELALSO PLACED RELIANCE ON THE DECISION OF HONBLE SUPREME COURT IN THE CASE OF LALJI HARIDAS V INCOME TAX OFFICER: [1961] 43 ITR 387 WHEREIN IT WAS HELD THAT PROTECTIVE ASSESSMENT CAN ONLY BE MADE IN RESPECT OF TW O SEPARATE ENTITIES TO ENSURE THAT INCOME DOES NOT ESCAPE TAXATION. LD . CIT(DR) RELIED ON THE ORDER OF THE LOWER AUTHORITIES. DECISION 36. WE HAVE HEARD THE RIVAL SUBMISSIONS, PERUSED THE RELEVANT FINDINGS GIVEN IN THE IMPUGNED ORDERS AS WELL AS MAT ERIAL REFERRED TO BEFORE US IN RESPECT OF TRANSFER PRICING ISSUE PERTA INING TO AMP ADJUSTMENT MADE BY THE TPO. WE HAVE ALREADY DISCUSSED IN DETAIL, THE BRIEF FACTS AND BACKGROUND OF THE CASES IN THE LIG HT OF THE MATERIAL ON RECORD AND AS CAPTURED IN THE ARGUMENTS PL ACED BY THE PARTIES. FROM THE DISCUSSION MADE ABOVE, WE WILL DEAL WITH VARIOUS ISSUES RELATING TO AMP ADJUSTMENT. THE FIRST ISSUE FOR O UR CONSIDERATION IS:- WHETHER AMP EXPENDITURE INCURRED BY THE ASSESSEE DU RING THE YEAR IS AN INTERNATIONAL TRANSACTION? IN THE PRESEN T CONTEXT CAN THE VALUE OF THE AMP TRANSACTION BE EXTENDED OR EXP ANDED BEYOND THE AMOUNT RECEIVED AS REIMBURSEMENT UNDER T HE MDF AGREEMENT ? 37. FIRST OF ALL, IF ASSESSEE IS A FULL FLEDGED R ISK BEARING MANUFACTURER AND IS CARRYING OUT SALES THROUGH THE TE RRITORY OF INDIA ON ITS OWN WITH ALL THE RISKS AND REWARDS, THE N IN OUR OPINION, AMP EXPENDITURE INCURRED BY AN ASSESSEE IS 33 DEMONSTRATIVE OF ITS MARKETING AND ADVERTISING FUNCTION. THIS FUNCTION IS CARRIED OUT BY THE ASSESSEE WITH THE INTENTIO N OF DRIVING ITS SALES IN INDIA AND RESULTANT PROFIT AND LOSS. AMP E XPENDITURE INCURRED IS MEANT TO AID AND FACILITATE THE MAIN SALES FUNCTION. THE QUESTION BEFORE US IS THAT, WHETHER THIS FUNCTION CAN BE CHARACTERIZED AS A TRANSACTION WHICH FALLS UNDER THE AM BIT OF AN INTERNATIONAL TRANSACTION U/S 92B OF THE ACT. ORDINARIL Y, AMP EXPENDITURE IS MANIFESTED IN THE FORM OF THIRD-PARTY TR ANSACTIONS BY WAY OF PAYMENTS FOR ADVERTISEMENT AND BRAND PROMOTI ON ACTIVITIES. THESE TRANSACTIONS CANNOT PER SE PARTAKE THE CHARACTER OF AN INTERNATIONAL TRANSACTION WITHIN THE MEANING OF SECTION 92B UNLESS THE CONDITIONS LAID DOWN IN THE PROVISION ARE MET. SECTION 92B COVERS TRANSACTIONS BETWEEN AES HAVING CRO SS-BORDER ELEMENT (I.E., INVOLVING A NON-RESIDENT). SECTION 92B ALSO CONTEMPLATES EXISTENCE OF INTERNATIONAL TRANSACTIONS WH ERE THE PARTIES ARE NOT RELATED TO EACH OTHER AND DONT QUALIFY A S AES UNDER SECTION 92A OF THE ACT. THESE SITUATIONS ARE THO SE WHERE THOUGH IN FORM THE TRANSACTION IS ENTERED INTO BETWEEN U NRELATED PARTIES THE SUBSTANCE OF THE SAME IS GOVERNED BY AN UNDERSTANDING OR ARRANGEMENT BETWEEN AE OF ONE PARTY WITH ANOTHER ENTERPRISE.THEREFORE, FOR ANY TRANSACTION OF AMP ENTERED INTO BETWEEN THE ASSESSEE AND ANOTHER ENTERPRISE WHIC H IS NOT AN AE U/S 92A OF THE ACT, THIS UNDERSTANDING OR ARRANGEMEN T HAS TO BE SHOWN TO EXIST. IF THE ASSESSEE DENIES HAVING ANY S UCH ARRANGEMENT OR UNDERSTANDING WITH ITS AE OR WHEN THERE IS NO APPARENT MATERIAL ON RECORD TO SHOW THAT THERE EXISTS AN Y AGREEMENT, ARRANGEMENT OR ACTION IN CONCERT BETWEEN THE TWO RELATED PARTIES, THE ONUS RESTS ON THE REVENUE TO DEMONS TRATE THE SAME BEFORE IT CAN APPLY THE PROVISIONS OF CHAPTER X O N THE AMP EXPENDITURE. IN THE PRESENT CASE, THE ONLY GROUND ON WH ICH THE LD. 34 TPO AND THE LD. DRP HAVE CONCLUDED THAT THE AMP EXPENDI TURE CONSTITUTES AN INTERNATIONAL TRANSACTION IS THE EXCESS IVE QUANTUM OF EXPENDITURE WHICH IS STATED TO BE MUCH AB OVE THE BRIGHT LINE OF THE AVERAGE AMP SPEND OF THE COMPAR ABLE COMPANIES. THIS APPROACH, TO OUR MIND, IS CONTRARY TO LAW AND UNTENABLE. 38. OUR VIEW IS BOLSTERED BY THE VARIOUS DECISIONS OF THE HONBLE DELHI HIGH COURT AND COORDINATE BENCHES OF THIS TRIBUN AL IN THIS REGARD. IN WHIRLPOOL OF INDIA LTD. V. DCIT (2016) 381 ITR 154 (DEL), THE FOLLOWING RELEVANT PRINCIPLES HAVE BEEN LAID DOW N BY THE COURT WHICH HAVE BEEN REITERATED/FOLLOWED IN OTHER D ECISIONS AS WELL: (A) SECTIONS 92B TO 92F CONTEMPLATE THE EXISTENCE OF AN INTERNATIONAL TRANSACTION AS A PRE-REQUISITE FOR COMMENC ING THE TP EXERCISE. THE COURT OBSERVED THAT TO BEGIN WITH THERE HAS TO BE AN INTERNATIONAL TRANSACTION WITH A CERTA IN DISCLOSED PRICE. THE TP ADJUSTMENT ENVISAGES THE SUBSTITUTION OF THE PRICE OF SUCH INTERNATIONAL TRANSACTION WITH THE AL P . (PARA 33). (B) THE COURT WENT TO HOLD THAT, THE TP ADJUSTMENT IS NOT EXPECTED TO BE MADE BY DEDUCING THE DIFFERENCE BETW EEN THE EXCESSIVE AMP EXPENDITURE INCURRED BY THE ASSESSEE AND THE AMP EXPENDITURE OF A COMPARABLE ENTITY THAT AN INTE RNATIONAL TRANSACTION EXISTS AND THEN PROCEED TO MAKE THE ADJ USTMENT OF THE DIFFERENCE IN ORDER TO DETERMINE THE VALUE OF S UCH AMP EXPENDITURE INCURRED FOR THE AE . IT IS FOR THIS REASON THAT THE BRIGHT LINE TEST HAS BEEN REJECTED AS A VALID METHO D FOR EITHER DETERMINING THE EXISTENCE OF INTERNATIONAL TRANSACT ION OR FOR THE DETERMINATION OF ALP OF SUCH TRANSACTION. ALTHO UGH, UNDER 35 SECTION 92B READ WITH SECTION 92F(V), AN INTERNATIO NAL TRANSACTION COULD INCLUDE AN ARRANGEMENT, UNDERSTAN DING OR ACTION IN CONCERT, THIS CANNOT BE A MATTER OF INFER ENCE. THERE HAS TO BE SOME TANGIBLE EVIDENCE ON RECORD TO SHOW THAT THE TWO PARTIES HAVE ACTED IN CONCERT. (PARAS 34-35). (C) THE COURT CITED THE SUPREME COURT DECISION OF DAICHI SANKYO V. J. CHIGURIPATI (CIVIL APPEAL NO. 7148 OF 2009) TO EMPHASIZE THAT ACTION IN CONCERT WOULD NECESSARILY E NTAIL A SHARED COMMON OBJECTIVE OR PURPOSE BETWEEN TWO OR MORE PERSONS. IN THE ABSENCE OF SUCH SHARED OBJECTIVE OR PURPOSE, NO PRESUMPTION OF A TRANSACTION CAN BE MADE. (D) AS REGARDS THE ONUS TO SHOW THE APPLICATION OF TP PROV ISIONS, THE COURT HELD THAT INITIAL ONUS IS ON THE REVENUE TO DEMONSTRATE THROUGH SOME TANGIBLE MATERIAL THAT THE TWO PARTIES ACTED IN CONCERT AND FURTHER THERE WAS AN A GREEMENT TO ENTER INTO AN INTERNATIONAL TRANSACTION CONCERNING AMP EXPENSES . (PARA 37). (E) AS REGARDS THE PRESUMPTION FOR IMPOSING A TRANSFER PR ICING ADJUSTMENT IN RELATION TO AMP, THE COURT HELD THAT 37. THE PROVISIONS UNDER CHAPTER X DO ENVISAGE A SEPARATE ENTITY CONCEPT. IN OTHER WORDS, THERE CANNOT BE A PRESUMP TION THAT IN THE PRESENT CASE SINCE WOIL IS A SUBSIDIARY OF WHIR LPOOL USA, ALL THE ACTIVITIES OF WOIL ARE IN FACT DICTATED BY WHIRLPOOL USA. MERELY BECAUSE WHIRLPOOL USA HAS A FINANCIAL INTERE ST, IT CANNOT BE PRESUMED THAT AMP EXPENSE INCURRED BY THE WOIL ARE AT THE INSTANCE OR ON BEHALF OF WHIRLPOOL USA. (PARA 37) (F) THERE IS NO MACHINERY PROVISION IN THE ACT TO BRING AN INTERNATIONAL TRANSACTION INVOLVING AMP EXPENSE UNDER TH E AMBIT OF TRANSFER PRICING PROVISION IF IT CANNOT BE SHO WN THAT SUCH AN INTERNATIONAL TRANSACTION WAS ENTERED INTO BY TH E 36 ASSESSEE. IN COURTS WORDS, IT IS IN THIS CONTEXT THAT IT IS SUBMITTED AND RIGHTLY BY THE ASSESSEE THAT THERE MU ST BE A MACHINERY PROVISION IN THE ACT TO BRING AN INTERNAT IONAL TRANSACTION INVOLVING AMP EXPENSE UNDER THE TAX RAD AR. IN THE ABSENCE OF CLEAR STATUTORY PROVISION GIVING GUIDANC E AS TO HOW THE EXISTENCE OF AN INTERNATIONAL TRANSACTION INVOL VING AMP EXPENSE, IN THE ABSENCE OF AN EXPRESS AGREEMENT IN THAT BEHALF, SHOULD BE ASCERTAINED AND FURTHER HOW THE A LP OF SUCH A TRANSACTION COULD BE ASCERTAINED, IT CANNOT BE LE FT ENTIRELY TO SURMISES AND CONJECTURES OF THE TPO. (PARA 39). THE COURT FURTHER HELD THAT AFTER THE INVALIDATION OF THE BRIGHT LI NE TEST BY THE DELHI HIGH COURT IN SONY ERICSSON (SUPRA), EXI STENCE OF AN INTERNATIONAL TRANSACTION OF AMP EXPENDITURE HAS TO BE ESTABLISHED DE HORS THE BRIGHT LINE TEST. 39. IT IS ALSO PERTINENT THAT THE HONBLE COURT FURTHE R HELD THAT AS PER THE PRINCIPLES LAID DOWN BY THE APEX COURT IN CIT V. B.C. SRINIVASA SETTY [1981] 128 ITR 294 (SC) AND PNB FINANCE LTD. V. CIT [2008] 307 ITR 75 (SC) , IN THE ABSENCE OF A MACHINERY PROVISION, BRINGING AN IMAGINED TRANSACTION TO TAX IS NOT POSSIBLE. IF SUCH A TRANSACTION WITH AN ASCERTAINABLE PRICE IS NOT SHOWN TO EXIST, CHAPTER X CANNOT BE INVOKED. THE AFOREMENTIONED PRINCIPLES HAVE ALSO BEEN APPLIED BY THE HONBLE DELHI HIGH COU RT IN THE CASE OF VALVOLINE CUMMINS PRIVATE LTD. (ITA 158/2016) WHEREIN THE COURT OBSERVED AS BELOW: 17. THE MERE FACT THAT THE ASSESSEE WAS PERMITTE D TO USE THE BRAND NAME VALVOLINE WILL NOT AUTOMATICALLY L EAD TO AN INFERENCE THAT ANY EXPENSE THAT THE ASSESSEE INCURR ED TOWARDS AMP WAS ONLY TO ENHANCE THE BRAND VALVOLINE. THE ONUS WAS ON THE REVENUE TO SHOW THE EXISTENCE OF ANY ARRANGEMEN T OR 37 AGREEMENT ON THE BASIS OF WHICH IT COULD BE INFERRE D THAT THE AMP EXPENSE INCURRED BY THE ASSESSEE WAS NOT FOR ITS OW N BENEFIT BUT FOR THE BENEFIT OF ITS AE. THAT FACTUAL FOUNDATION HAS BEEN UNABLE TO BE LAID BY THE REVENUE IN THE PRESENT CASE. ON T HE BASIS OF THE EXISTING RECORD, THE TPO HAS FOUND NO BASIS OTHER T HAN BY APPLYING THE BLT, TO DISCERN THE EXISTENCE OF INTER NATIONAL TRANSACTION. THEREFORE, NO PURPOSE WILL BE SERVED I F THE MATTER IS REMANDED TO THE TPO, OR EVEN THE ITAT, FOR THIS PUR POSE . 40. THEREFORE, THE ARGUMENT ADVANCED BY THE LD. CIT (DR) THAT THE MDF AGREEMENT SHOULD BE VIEWED AS AN EVIDENCE TO DEMONSTRATE THE EXISTENCE OF AN UNDERSTANDING AND ARRANG EMENT TO CARRY OUT AMP IN INDIA AT THE BEHEST OF THE AE NEEDS TO BE EXAMINED IN LIGHT OF THE ABOVE PRINCIPLES LAID DOWN B Y THE DELHI HIGH COURT. IN THE PRESENT FACTS, WE FIND THAT THIS TRANSA CTION OF HAVING RECEIVED ASSISTANCE /REIMBURSEMENT HAS ALREADY BEEN SHOWN BY THE ASSESSEE IN ITS FORM 3CEB AS AN INTERNATIO NAL TRANSACTION. IT HAS BEEN CONTENDED BY THE REVENUE THAT BY VIRTUE OF THIS AGREEMENT, THE ENTIRE AMP EXPENDITURE INCURRED B Y THE ASSESSEE SHOULD BE TREATED AS AN INTERNATIONAL TRANSACTI ON AND SUBJECT TO THE PROVISIONS OF CHAPTER X OF THE ACT. 41. WE FIND THAT THE APPELLANT-ASSESSEE HAS ENTERED INTO AN UNDERSTANDING WITH ITS AE IN RESPECT OF A PORTION OF THE AMP EXPENDITURE BY WAY OF THE MDF AGREEMENT. UNDER THIS AGR EEMENT, THE AE OF THE ASSESSEE GIVES ASSISTANCE TO THE ASSESSEE FOR CARRYING OUT CERTAIN ADVERTISING AND MARKETING ACTIVITIES IN INDI A. VARYING AMOUNTS HAVE BEEN RECEIVED BY THE ASSESSEE FROM ITS AE UNDER THIS AGREEMENT AS REIMBURSEMENTS IN ALL THE ASSESSMENT Y EARS IMPUGNED BEFORE US. THE AMOUNTS RECEIVED AS ASSISTA NCE UNDER THIS AGREEMENT IN ALL THESE YEARS HAVE ALSO BEEN INDIS PUTABLY 38 DISCLOSED AND EXPLAINED IN THE FORM 3CEB AND IN THE T P STUDY. THE QUESTION THAT REQUIRES OUR ADJUDICATION IS WHETHER BY VIRTUE OF THIS AGREEMENT, THE SO-CALLED EXCESSIVE AMP EXPENDITU RE OF THE ASSESSEE (WHICH IS MUCH HIGHER THAN THE ASSISTANCE RE CEIVED UNDER THE MDF AGREEMENT) CAN BE TREATED AS AN INTERNATI ONAL TRANSACTION U/S 92B. FOR THIS WE NEED TO ADVERT TO THE TERM S OF THE MDF AGREEMENT. RELEVANT CLAUSES OF THE MDF AGREEMENT APPLICABLE FOR A.Y. 2005-06 (THE AGREEMENTS PERTAINING TO OTHER YEARS ARE MATERIALLY SIMILAR) ARE EXTRACTED AS BELOW: MARKETING FUND AGREEMENT THIS AGREEMENT MADE AND ENTERED INTO THIS 1 ST DAY OF JANUARY, 2004 BY AND BETWEEN SAMSUNG ELECTRONICS CO ., LTD., A CORPORATION DULY ORGANIZED AND EXISTING UNDER THE L AWS OF THE REPUBLIC OF KOREA, HAVING ITS HEAD OFFICE AT SAMSUN G MAIN BLDG, 250-2KA TAEPYUNG-RO, CHUNG-GU, SEOUL, KOREA (HEREIN AFTER REFERRED TO AS SEC) AND SAMSUNG INDIA ELECTRONICS A CORPORATION DULY ORGANIZED AND EXISTING UNDER THE L AWS OF INDIA, HAVING ITS PRINCIPAL OFFICE AT 3 RD , IFCI TOWER, NEHRU PLACE, NEW DELHI, INDIA (HEREINAFTER REFERRED TO AS DISTRIBUT OR) ARTICLE 1. PURPOSE 1.1 THE OBJECTIVES OF THIS AGREEMENT ARE TO PROVIDE FOR TERMS AND CONDITIONS OF THE MARKETING FUND ACTIVITIES AS SET FORTH IN ARTICLE 4.3 WHICH SHALL BE CARRIED OUT BY DISTRIBUTOR ON BEHALF OF SEC IN THE TERRITORY TO FU RTHER ENHANCE SAMSUNG CORPORATE AND BRAND IMAGES THEREIN. 1.2 THE MARKETING FUND SHALL MEAN A STRATEGIC FUND SPECIFICALLY RESERVED BY SEC TO SUPPORT ACTIVITIES FOR UPGRADING CORPORATE AND BRAND IMAGES IN THE TARGET MARKETS AND DEVELOPING NEW OPPORTUNITIES TO PROMOTE THE SALES OF THE TARGET PRODUCTS THEREIN. ARTICLE 4. SCOPE OF REIMBURSEMENT 4.1 THE AMOUNT OF REIMBURSEMENT SHALL BE THE ACTUAL MARKETING FUND RELATED EXPENSES DISTRIBUTOR INCURS TO CARRY OUT THE PERTINENT ACTIVITIES AS SPECIFIED IN ARTICLE 3 AND 4.3 FOR THE TERM OF THIS AGREEMENT AND THE YEAR LY TOTAL AMOUNT OF SUCH REIMBURSEMENT SHALL BE LIMITED TO USD 30,000,000 ASSIGNED BY SEC. 39 4.2 DISTRIBUTOR SHALL SUBMIT TO SEC A DETAILED IMPLEMENTATION PLAN PURSUANT TO THE ANNUAL MARKETIN G FUND SCHEDULE IN WRITING AT LEAST TWO WEEKS IN ADVA NCE OF THE PROPOSED IMPLEMENTATION DATE FOR APPROVAL OF SA ID ACTIVITIES. DISTRIBUTOR SHALL BE ENTITLED TO CLAIM A REIMBURSEMENT FOR THE EXPENSES HEREOF ONLY WHEN EXECUTION OF SUCH ACTIVITIES ARE PRE-APPROVED BY SE C IN A MANNER STATED HEREIN. 4.3 THE EXTENT OF THE MARKETING FUND RELATED ACTIVI TIES TO BE REIMBURSED SHALL BE LIMITED TO THE FOLLOWING: CATEGORY ACTIVITIES ADVERTISING BROADCAST MEDIA, PRINT MEDIA, OUTDOOR AD. SPONSOR, INTENT AD PR MARKETING INFRASTRUCTURE MARKET RESEARCH, CONSULTING, MARKET DATA SUBSCRIPTION DATABASE OTHER MARKETING INFRASTRUCTURE ACTIVITIES PROMOTION SALES PROMOTION ACTIVITIES DEALER SUPPORT ACTIVITIES (DEALER CONVENTION, PRODUCT TRAINING, INCENTIVE TOUR) EXHIBITION, TRADE, ROADSHOW SALES KIT AND POP MATERIALS SHOP DISPLAY SAMSUNG SHOP CORNER RACK & SHOP LIGHT BOX OTHER STORE DISPLAY ACTIVITIES A PERUSAL OF THE AFORESAID TERMS OF THE MDF AGREEMEN T SHOWS THAT THE REIMBURSEMENT OF A PORTION OF THE ADVERTISING AND MARKETING EXPENDITURE INCURRED BY THE ASSESSEE BY ITS AE IS ON A PRE- APPROVAL BASIS AND UNDER AN ANNUAL BUDGET DECIDED SO LELY BY THE AE. THE NATURE OF REIMBURSEMENT RECEIVED IS A FORM OF ASSISTANCE OR SUBSIDY AND DOES NOT ARISE ON ACCOUNT OF ANY SERVI CE RENDERED BY THE ASSESSEE. THERE IS NO OBLIGATION ON THE AE TO APPROVE ANY PARTICULAR ITEM OF EXPENDITURE. IT IS SOLELY ON ITS OWN VOLITION THAT THE AE DETERMINES THE ACTIVITY IT WANTS TO FINANCE/REIMBURSE/ASSIST. THEREFORE, IT IS NOT POSSIBL E TO INFER THE 40 EXISTENCE OF AN INTERNATIONAL TRANSACTION BEYOND WHAT HAS BEEN REIMBURSED. 42. IN A SIMILAR SITUATION, COORDINATE BENCH OF THIS TRIBUNAL HAS EXAMINED THE ISSUE OF EXISTENCE OF AN INTERNATIONAL TRA NSACTION IN THE CASE OF PEPSICO INDIA HOLDINGS PVT. LTD. V. ADDL. CIT (I.T.AS. NO. 1334/CHANDI/2010, 1203/ CHANDI /2011, 2511/DEL/2013, 1044/DEL/2014 & 4516/DEL/2016) WHERE THE ASSESSEE, AN INDIAN COMPANY HAD REIMBURSED A PORTION OF THE SPONSORSHIP EXPENDITURE (FOR INTERNATIONAL CRICKET EV ENTS) INCURRED BY THE AE FOR THE BENEFIT OF CERTAIN GROUP COMPANIES IN CLUDING THE ASSESSEE. THE REVENUE HAD CONTENDED THAT BY VIRTUE OF TH IS REIMBURSEMENT THE ENTIRE AMP EXPENDITURE OF THE ASSESSE E SHOULD BE TREATED AS AN INTERNATIONAL TRANSACTION AND SUBJECT TO DETERMINATION OF ARMS LENGTH PRICE UNDER CHAPTER X O F THE ACT. THIS VIEW WAS CATEGORICALLY REPELLED BY THE COORDIN ATE BENCH BY OBSERVING AS BELOW: 52. IN ANY CASE, IF AT ALL, ALP WAS TO BE DETERM INED THEN IT SHOULD HAVE BEEN STRICTLY CIRCUMSCRIBED TO THE REIM BURSEMENT OF THE COST AGGREGATING TO RS.33,60,15,501/-. FURTHER, THE TRANSACTION OF REIMBURSEMENT OF EXPENDITURE OF RS.33,60,15,501/- CANNOT BE EXPANDED TO THE ENTIRE EXPENDITURE OF AMP OF RS.202.34 CRORES. THE REASON BEING, THE A MOUNT OF RS.202.34 CRORES HAVE BEEN INCURRED BY THE ASSESSEE ON ITS OWN VOLITION AND BUSINESS REQUIREMENT TO BE IN COMPETIT ION WITH OTHER BIG PLAYERS IN THE FIELD OF AERATED AND NON-AERATED BEVERAGES AND FOOD PRODUCTS. IT IS ACCLAIMED FACT THAT INDUST RY IN WHICH ASSESSEE COMPANY IS OPERATING HAS TO FACE STIFF COM PETITION NOT ONLY FROM THE INDIAN COMPANIES BUT ALSO FROM MANY M ULTINATIONAL 41 COMPANIES; AND TO REMAIN IN THE COMPETITION AS A LE AD BRAND IT HAS TO AGGRESSIVELY PROMOTE ITS PRODUCT UNDER THE B RAND TO REMAIN IN THE COMPETITION AND TO AUGMENT ITS SALE. ALL THE NECESSARY FUNCTIONS OF STRATEGIZING, ADVERTISING AN D MARKETING ACTIVITIES, ITS IMPLEMENTATION FOR MARKET PENETRATI ON IN INDIA IS SOLELY CARRIED OUT BY THE ASSESSEE AND THERE IS NO MATERIAL ON RECORD TO INFER THAT THERE IS ANY ARRANGEMENT OR AG REEMENT WITH THE AE AT ANY POINT OF TIME THAT ASSESSEE IS REQUIR ED TO SPENT ON AMP OR IT HAS BEEN DONE AT THE BEHEST OF THE AE. TH E REASON ADOPTED BY THE REVENUE TO CONCLUDE THAT THE INCURRE NCE OF AMP EXPENDITURE BY THE ASSESSEE FOR PROMOTING THE BRAND S WHICH IS OWNED BY ITS AE CONSTITUTING A SEPARATE INTERNATION AL TRANSACTION FOR THE PURPOSE OF SECTION 92B WHICH REQUIRES SEPAR ATE BENCH MARKING, DOES NOT HAS ANY LEGS TO STAND, BECAUSE TH E REVENUE HAS FAILED TO SHOW THE EXISTENCE OF ANY AGREEMENT, UNDERSTANDING OR ARRANGEMENT BETWEEN THE ASSESSEE C OMPANY AND AE REGARDING THE QUANTUM OF AMP SPENT OR IT WAS SPENT ON BEHEST OF AE. THE TPO HAS NOT RECORDED OR IDENTIFIE D ANY SUCH SEPARATE ARRANGEMENT OR AGREEMENT THAT AMP EXPENSES INCURRED BY THE ASSESSEE COMPANY ARE IN PURSUANCE OF ANY AGR EEMENT OR ARRANGEMENT. IT IS ALSO NOT THE CASE OF THE DEPARTM ENT THAT THE EXPENSES WHICH HAS BEEN INCURRED BY THE ASSESSEE CO MPANY DURING THE COURSE OF ITS BUSINESS HAVE ANY BEARING WHATSOEVER ON ANY OTHER INTERNATIONAL TRANSACTION WITH THE AE, OTHER THAN REIMBURSEMENT OF EXPENDITURE OF RS.33.60 CRORES AS DISCUSSED ABOVE. 53. SECTION 92B DEFINES THE INTERNATIONAL TRANSACTI ON IN THE FOLLOWING MANNER: - (1) FOR THE PURPOSES OF THIS S ECTION AND SECTIONS 92, 92C, 92D AND 92E, INTERNATIONAL TRANS ACTION 42 MEANS A TRANSACTION BETWEEN TWO OR MORE ASSOCIATED ENTERPRISES, EITHER OR BOTH OF WHOM ARE NON-RESIDEN TS, IN THE NATURE OF PURCHASE, SALE OR LEASE OF TANGIBLE OR IN TANGIBLE PROPERTY, OR PROVISION OF SERVICES, OR LENDING OR B ORROWING MONEY, OR ANY OTHER TRANSACTION HAVING A BEARING ON THE PR OFITS, INCOME, LOSSES OR ASSETS OF SUCH ENTERPRISES AND SHALL INCL UDE A MUTUAL AGREEMENT OR ARRANGEMENT BETWEEN TWO OR MORE ASSOCI ATED ENTERPRISES FOR THE ALLOCATION OR APPORTIONMENT OF, OR ANY CONTRIBUTION TO, ANY COST OR EXPENSE INCURRED OR TO BE INCURRED IN CONNECTION WITH A BENEFIT, SERVICE OR FACILITY PROV IDED OR TO BE PROVIDED TO ANYONE OR MORE OF SUCH ENTERPRISES. FROM THE PLAIN READING OF THE AFORESAID SECTION, IT IS QUITE CLEAR THAT: (I) THE TRANSACTION HAS TO BE BETWEEN TWO OR MORE ASSOCIATED ENTERPRISES EITHER OR BOTH OF WHOM ARE NON-RESIDENT ; (II) THE TRANSACTION IS IN THE NATURE OF PURCHASE, SALE OR L EASE OF TANGIBLE OR INTANGIBLE PROPERTY OR PROVISION OF SERVICES OR LENDING OR BORROWING MONEY; (III) OR ANY OTHER TRANSACTION HAV ING BEARING ON THE PROFITS, INCOME, LOSS OR ASSETS OF SUCH ENTERPR ISES; (IV) ALL SUCH NATURE OF TRANSACTION DESCRIBED IN THE SECTION WILL ALSO INCLUDE MUTUAL AGREEMENT AND THE ARRANGEMENT BETWEEN THE P ARTIES FOR ALLOCATION OR APPORTIONMENT OR ANY CONTRIBUTION TO ANY COST OR EXPENSES INCURRED OR TO BE INCURRED IN CONNECTION W ITH BENEFIT, SERVICES AND FACILITY PROVIDED TO ANY OF SUCH PARTI ES. RELEVANT EXPLANATION TO SECTION 92B AS INSERTED BY THE FINAN CE ACT, 2012 READS AS UNDER: - I. THE EXPRESSION 'INTERNATIONAL TRANSACTION' SHALL INCLUDE (B) THE PURCHASE, SALE, TRANSFER, LEASE OR USE OF INTANGIBLE PROPERTY, INCL UDING THE TRANSFER OF OWNERSHIP OR THE PROVISION OF USE OF RI GHTS REGARDING LAND USE, COPYRIGHTS, PATENTS, TRADEMARKS, LICENCES , FRANCHISES, 43 CUSTOMER LIST, MARKETING CHANNEL, BRAND, COMMERCIAL SECRET, KNOW-HOW, INDUSTRIAL PROPERTY RIGHT, EXTERIOR DESIG N OR PRACTICAL AND NEW DESIGN OR ANY OTHER BUSINESS OR COMMERCIAL RIGHTS OF SIMILAR NATURE; CLAUSE (II) OF THE SAID EXPLANATION READS AS FOLLOW SII. THE EXPRESSION 'INTANGIBLE PROPERTY' SHALL INCLUDE (A) MARKETING RELATED INTANGIBLE ASSETS, SUCH AS, TRADEMARKS, TRA DE NAMES, BRAND NAMES, LOGOS;.. THUS, UNDER THE EXPANDED DEFINITION OF THE TERM IN TERNATIONAL TRANSACTION INTANGIBLE PROPERTY HAS BEEN DEFINED T O INCLUDE MARKETING RELATED INTANGIBLE ASSETS SUCH AS TRADEMA RK, TRADE NAME, BRAND NAME AND LOGOS, ETC. THIS INTER ALIA ME ANS THAT WHERE TWO AES ENGAGED IN THE TRANSACTION WHICH INVO LVED, PURCHASE, SALE, TRANSFER, LEASE OR USE OF INTANGIBL ES RIGHTS THEN THE SAME SHALL BE CLASSIFIED AS INTERNATIONAL TRANS ACTION. FROM THE ABOVE, DEFINITION, APART FROM TRANSACTION RELAT ING TO PURCHASE, SALE OR LEASE OF TANGIBLE OR INTANGIBLE PROPERTY, S ERVICES LENDING OR BORROWING MONEY, ETC. FUNCTIONS HAVING BEARING O N THE PROFITS, INCOME, LOSSES OR ASSETS IS RECKONED AS INTERNATION AL TRANSACTION. BESIDES THIS, IF SUCH A TRANSACTION IS BASED ON ANY MUTUAL AGREEMENT OR ARRANGEMENT BETWEEN THE AES FOR ALLOCA TION OR ANY CONTRIBUTION TO ANY COST OR EXPENDITURE INCURRED OR TO BE INCURRED FOR THE BENEFIT, SERVICE OR FACILITY, THEN ALSO SUC H AN AGREEMENT OR ARRANGEMENT IS TREATED AS INTERNATIONAL TRANSACTION . CLAUSE (V) OF SECTION 92F READS AS UNDER: 92F (V). TRANSACTION INCLUDES AN ARRANGEMENT, UNDERSTANDING OR ACTION IN CONCERT, - (A) WHETHER OR NOT SUCH ARRANGEMENT, UNDERSTANDING OR A CTION IS FORMAL OR IN WRITING; OR (B) WHETHER OR NOT SUCH AR RANGEMENT, 44 UNDERSTANDING OR ACTION IS INTENDED TO BE ENFORCEAB LE BY LEGAL PROCEEDINGS. THIS DEFINITION OF TRANSACTION HAS TO BE READ IN CONJUNCTION WITH THE DEFINITION GIVEN IN SECTION 92 B, WHICH MEANS THAT THE TRANSACTION HAS TO BE FIRST IN THE NATURE GIVEN IN SECTION 92B (1); AND THEN WHEN SUCH TRANSACTION INCLUDES AN Y KIND OF ARRANGEMENT, UNDERSTANDING OR ACTION IN CONCERT AMO NGST THE PARTIES, WHETHER IN WRITING OR FORMAL, THEN TOO IT IS TREATED AS INTERNATIONAL TRANSACTION. HERE THE CONJOINT READIN G OF BOTH THE SECTIONS LEAD TO AN INFERENCE THAT IN ORDER TO CHAR ACTERIZED AS INTERNATIONAL TRANSACTION, IT HAS TO BE DEMONSTRATE D THAT TRANSACTION AROSE IN PURSUANT TO AN ARRANGEMENT, UN DERSTANDING OR ACTION IN CONCERT. SUCH AN ARRANGEMENT HAS TO BE BETWEEN THE TWO PARTIES AND NOT ANY UNILATERAL ACTION BY ONE OF THE PARTIES WITHOUT ANY BINDING OBLIGATION ON THE OTHER OR WITH OUT ANY MUTUAL UNDERSTANDING OR CONTRACT. IF ONE OF THE PAR TY BY ITS OWN VOLITION IS ENTERING ANY EXPENDITURE FOR ITS OWN B USINESS PURPOSE, THEN WITHOUT THERE BEING ANY CORRESPONDING BINDING OBLIGATION ON THE OTHER OR ANY SUCH KIND OF AN ARRA NGEMENT ACTUALLY EXISTING IN WRING OR ORAL OR OTHERWISE, IT CANNOT BE CHARACTERIZED AS INTERNATIONAL TRANSACTION WITHIN T HE SCOPE AND DEFINITION OF SECTION 92B (1). HERE, IN THIS CASE, IT HAS BEEN VEHEMENTLY ARGUED F ROM THE SIDE OF THE ASSESSEE THAT ASSESSEE-COMPANY HAD INCURRED EXP ENDITURE ON AMP TO CATER TO THE NEEDS OF THE CUSTOMERS IN TH E LOCAL MARKET AND SUCH AN EXPENDITURE WAS NEITHER INCURRED AT THE INSTANCE OR BEHEST OF OVERSEAS AE NOR THERE WAS ANY MUTUAL UNDE RSTANDING OR ARRANGEMENT OR ALLOCATION OR CONTRIBUTION BY THE AE TOWARDS REIMBURSEMENT OF ANY PART OF AMP EXPENDITURE INCURR ED BY IT FOR THE PURPOSE OF ITS BUSINESS. IF NO SUCH UNDERSTANDI NG OR 45 ARRANGEMENT EXISTS, THEN NO TRANSACTION OR INTERNAT IONAL TRANSACTION COULD BE SAID TO BE INVOLVED BETWEEN TH E AE AND THE ASSESSEE WHICH CAN BE RECKONED TO BE COVERED WITHIN THE PROVISION OF TRANSFER PRICING REGULATION. THE INCUR RING OF EXPENDITURE BY THE ASSESSEE IS IN FACT PURELY A DOM ESTIC TRANSACTION BY A DOMESTIC ENTERPRISE WITH A THIRD P ARTY IN INDIA FOR ITS OWN BUSINESS PURPOSE. EVEN THE REIMBURSEMEN T, AS DISCUSSED ABOVE, BY THE ASSESSEE TO ITS AE WAS IN L IEU OF SPONSORSHIP FEE PAID TO ICC WHICH AGAIN WAS WHOLLY AND EXCLUSIVELY FOR THE ASSESSEES OWN BUSINESS AND WAS NOT AT THE BEHEST OR MANDATE OF AE. THIS CONTENTION OF THE LEA RNED COUNSEL ON THE FACE OF RECORD IS LIABLE TO BE ACCEPTED AND IN ABSENCE OF ANY MATERIAL OR ANY KIND OF ARRANGEMENT DISCOVERED OR BROUGHT ON RECORD BY THE REVENUE, REMAINS UNREBUTTED. THE O NUS IS ON THE REVENUE TO SHOW THAT THE TWIN REQUIREMENT OF SE CTION 92B EXISTS, THAT IS, FIRSTLY, THE TRANSACTION INVOLVED WAS BETWEEN THE AE, ONE OF WHICH IS RESIDENT AND OTHER A NON-RESIDE NT WAS INVOLVED; AND SECONDLY, THE TRANSACTION OF AMP EXPE NSES HAS TAKEN PLACE BETWEEN THE TWO AES (EXCEPT FOR REIMBUR SEMENT OF RS.33.60 CRORE). NOW IT HAS BEEN WELL SETTLED BY TH E HON'BLE JURISDICTIONAL HIGH COURT IN THE CASE OF MARUTI SUZ UKI INDIA PVT. LTD. (SUPRA) THAT ONUS IS UPON THE REVENUE TO DEMON STRATE THAT THERE EXISTED AN ARRANGEMENT BETWEEN THE ASSESSEE A ND ITS AE UNDER WHICH ASSESSEE WAS OBLIGED TO INCUR EXCESS AM OUNT OF AMP EXPENSES TO PROMOTE THE BRANDS OWNED BY THE AE. THE RELEVANT OBSERVATION AND THE FINDING OF THE HON'BLE HIGH COURT IN PARAGRAPH 60 READS AS UNDER: 60EVEN IF THE RESORT IS HAD TO THE RESIDUARY PAR T OF CLAUSE (B) TO CONTEND THAT THE AMP SPEND OF MSIL IS ANY OTHER TRANSACTION 46 HAVING A BEARING ON ITS PROFITS, INCOME OR LOSSES FOR A TRANSACTION THERE HAS TO BE TWO PARTIES. THEREFOR E, FOR THE PURPOSES OF THE MEANS PART OF CLAUSE (B) AND THE INCLUDES PART OF CLAUSE (C,) THE REVENUE HAS TO SHOW THAT THERE E XISTS AN AGREEMENT OR ARRANGEMENT OR UNDERSTANDING BET WEEN MSIL AND SMC WHEREBY MSIL IS OBLIGED TO SPEND EXCESSIVEL Y ON AMP IN ORDER TO PROMOTE THE BRAND SMC 61EVEN IF THE WORD TRANSACTION TO INCLUDE ARRA NGEMENT, UNDERSTANDING OR ACTION IN CONCERT, WHETHER FO RMAL OR IN WRITING, IT STILL INCUMBENT ON THE REVENUE TO SHOW THE EXISTENCE OF AN UNDERSTANDING OR AN ARRANGEMENT OR ACTION I N CONCERT BETWEEN MSIL AND SMC AS REGARDS AMP SPEND FOR BRAND PROMOTION. IN OTHER WORDS, FOR BOTH THE MEANS PAR T AND THE INCLUDES PART OF SECTION 92B (1) WHAT HAS TO BE D EFINITELY SHOWN IS THE EXISTENCE OF TRANSACTION WHEREBY MSIL HAS BE EN OBLIGED TO INCUR AMP OF A CERTAIN LEVEL FOR SMC FOR THE PURPOS ES OF PROMOTING THE BRAND OF SMC. SAME PROPOSITION HAS BEEN UPHEL D BY THE HON'BLE JURISDICTIONAL HIGH COURT IN THE CASE OF WH IRLPOOL OF INDIA LTD. VS. DCIT, BAUSCH & LOMB EYECARE INDIA PVT. LTD . VS. ACIT (SUPRA) AND HONDA SIEL POWER PRODUCTS LTD. VS. DCIT (SUPRA) 43. IN THE PRESENT CASE WE FIND THAT THE REVENUE HA S NOT BEEN ABLE TO PLACE ANY MATERIAL TO RECORD TO SHOW OR SUGGES T THAT THE APPELLANTS AMP ACTIVITY WAS CARRIED OUT AT THE BEHEST OF ITS AE, BEYOND WHAT WAS APPROVED AND REIMBURSED UNDER THE MDF AGREEMENT. NO UNDERSTANDING OR ARRANGEMENT OR ACTION I N CONCERT CAN BE INFERRED FROM THE TERMS OF THE MDF AGR EEMENT OR THE CONDUCT OF THE ASSESSEE TO SHOW THAT EXCESSIVE AMP EXPENDITURE HAS BEEN INCURRED AT THE BEHEST OF THE BRAN D-OWNING 47 AE. THE APPELLANT BEING ONE OF THE MAJOR PLAYERS IN THE INDIAN MARKET HAS CARRIED OUT ITS AMP ACTIVITY AND FUNCTION BAS ED ON ITS OWN JUDGEMENT AND COMMERCIAL REALITIES. REVENUE HAS N OT PLACED ANY MATERIAL OR EVIDENCE TO SHOW THAT THERE EXISTED AN UNDERSTANDING TO INCUR EXCESSIVE AMP EXPENDITURE. TH E ARRANGEMENT AND UNDERSTANDING WERE LIMITED TO THE AMOU NTS AGREED TO BE PAID AS ASSISTANCE UNDER THE MDF AGREEMEN T. THE AMOUNTS INCURRED AS AMP EXPENDITURE BY THE APPELLANT UN DER THE MDF AGREEMENT HAVE ALREADY BEEN RECEIVED AS REIMBURSEMENT/ASSISTANCE AND HAVE INDISPUTABLY BEEN DI SCLOSED AS AN INTERNATIONAL TRANSACTION IN FORM 3CEB AND FORM PART OF THE TRANSFER PRICING STUDY CONDUCTED UNDER RULE 10D. THE A MP EXPENDITURE WHICH IS OUTSIDE THE AMBIT OF REIMBURSEMEN T RECEIVED UNDER THE MDF AGREEMENT, HAS BEEN INCURRED BY THE APPE LLANT ON ITS OWN VOLITION AS PER ITS OWN REQUIREMENTS AND WITHOUT ANY INTERFERENCE OF THE AE AND HAVE BEEN PAID TO THIRD PAR TIES. 44. IN VIEW OF THE ABOVE, WE HOLD THAT THE SCOPE AN D VALUE OF INTERNATIONAL TRANSACTION CANNOT BE EXPANDED BEYOND THE REIMBURSEMENTS RECEIVED UNDER MDF AGREEMENT TO COVER TH E ENTIRE GAMUT OF AMP EXPENDITURE INCURRED BY THE ASSESSEE DUR ING THE YEAR. 45. NOW THE SECOND ISSUE BEFORE US IS, WHETHER: BRIGHT LINE TEST A VALID TEST THAT CAN BE USED BY THE TPO TO DETERMINE THE EXISTENCE OF AN INTERNATIONAL TRANSAC TION AND ALSO FOR THE DETERMINATION OF ITS ARMS LENGTH VALU E ? IN ALL THE YEARS UNDER APPEAL, THE TPO HAS APPLIED THE BRIGHT LINE TEST TO DETERMINE THE EXCESSIVE AMP EXPENDITURE INCURRED 48 BY THE APPELLANT. THIS EXCESSIVE AMOUNT HAS BEEN TRE ATED AS A SEPARATE INTERNATIONAL TRANSACTION AND SUBJECT TO TRANSFE R PRICING ADJUSTMENT. THE BRIGHT LINE TEST WHICH WAS FIRST APPRO VED BY A SPECIAL BENCH OF THIS TRIBUNAL IN LG ELECTRONICS NOW STANDS REJECTED BY THE DELHI HIGH COURT DECISION IN SONY ERI CSSON. IN SONY ERICSSON, THE HONBLE HIGH COURT EXAMINED THE CON CEPT OF BRIGHT LINE IN THE CONTEXT OF DOMESTIC LAW AND INTERNA TIONAL JURISPRUDENCE AND ARRIVED AT A CONCLUSION THAT SUCH A N APPROACH IS UNTENABLE AND CONTRARY TO LAW AND NOT SANCTIONED BY INTERNATIONAL JURISPRUDENCE. THE CONCLUDING REMARKS O F THE HONBLE HIGH COURT ARE AS BELOW: 127. WE AGREE AND ACCEPT THE POSITION IN THE PORTI ON REPRODUCED ABOVE IN BOLD AND ITALICS. THE OBJECT AND PURPOSE O F TRANSFER PRICING ADJUSTMENT IS TO ENSURE THAT THE CONTROLLED TAXPAYERS ARE GIVEN TAX PARITY WITH UNCONTROLLED TAXPAYERS BY DET ERMINING THEIR TRUE TAXABLE INCOME. THERE SHOULD BE ADEQUATE AND P ROPER COMPENSATION FOR THE FUNCTIONS PERFORMED INCLUDING AMP EXPENSES. THUS, WE DISAGREE WITH THE REVENUE AND DO NOT ACCEPT THE OVERBEARING AND OROTUND SUBMISSION THAT THE EXE RCISE TO SEPARATE 'ROUTINE' AND 'NON-ROUTINE' AMP OR BRAND B UILDING EXERCISE BY APPLYING 'BRIGHT LINE TEST' OF NON-COMP ARABLES AND IN ALL CASE, COSTS OR COMPENSATION PAID FOR AMP EXPENS ES WOULD BE 'NIL', OR AT BEST WOULD MEAN THE AMOUNT OR COMPENSA TION EXPRESSLY PAID FOR AMP EXPENSES. UNHESITATINGLY, WE ADD THAT IN A SPECIFIC CASE THIS CRITERIA AND EVEN ZERO ATTRIBU TION COULD BE POSSIBLE, BUT FACTS SHOULD SO REVEAL AND REQUIRE. T O THIS EXTENT, WE WOULD DISAGREE WITH THE MAJORITY DECISION IN L.G . ELECTRONICS INDIA (P) LTD. (SUPRA). 135. IT IS, THEREFORE, INCORRECT TO SUGGEST OR OBSE RVE THAT INTERNATIONAL TAX JURISPRUDENCE OR COMMENTARIES REC OGNISE 'BRIGHT 49 LINE TEST' FOR BIFURCATION OF ROUTINE AND NON-ROUTI NE AMP EXPENDITURE, AND NON-ROUTINE AMP EXPENSES IS AN IND EPENDENT INTERNATIONAL TRANSACTION WHICH SHOULD BE SEPARATEL Y SUBJECTED TO ARM'S LENGTH PRICING. 45. IN VIEW OF THE ABOVE, WE HOLD THAT THE BRIGHT L INE APPROACH IS UNTENABLE IN LAW EITHER AS A WAY TO DETERMINE THE EX ISTENCE OF AN INTERNATIONAL TRANSACTION OR AS A METHOD TO DETERMIN E THE ALP OF AN INTERNATIONAL TRANSACTION PERTAINING TO AMP. NO I NTERNATIONAL TRANSACTION CAN BE PRESUMED TO EXIST MERELY ON THE BASIS OF BRIGHT LINE OF EXPENDITURE INCURRED BY COMPARABLE C OMPANIES. 46. THE THIRD ISSUE FOR OUR CONSIDERATION IS, IF TNMM HAS BEEN ADOPTED AT SEGMENTAL/ENTITY LEVEL, THEN CAN INDIVIDUAL COMPONENT OF AMP BE SEGREGATED? TNMM ANALYSIS ENTAILS COMPARISON OF NET LEVEL PROFIT M ARGINS OF THE ASSESSEE WITH THAT OF THE COMPARABLES. NET LEVEL MARG INS ARE DETERMINED AFTER REDUCING THE ENTIRE OPERATING EXPENS ES INCURRED BY THE BUSINESS ENTITY WHICH NECESSARILY INCLUDES AM P EXPENDITURE. THEREFORE, ONCE A TNMM EXERCISE IS UNDE RTAKEN AT ENTITY LEVEL BY SUBSUMING THE ENTIRE AMP EXPENDITURE A S PART OF THE OPERATING EXPENDITURE, THE ARMS LENGTH NATURE OF ALL THE TRANSACTIONS THAT ARE ACCOUNTED FOR WITHIN THE NET PROFI T MARGIN STAND FULLY ACCOUNTED FOR. IN THE PRESENT CASE, THE REI MBURSEMENT RECEIVED BY THE APPELLANT FROM ITS AE UNDER THE MDF AGR EEMENT FOR A PART OF THE AMP EXPENDITURE FORMS PART OF THE OP ERATING INCOME AS WELL AS EXPENDITURE WHICH GOES INTO THE COM PUTATION OF THE NET PROFIT MARGIN (WHICH IS PROFIT LEVEL INDICATOR) . ONCE A GROUP OF TRANSACTIONS PERTAINING TO OPERATING INCOME AND EXPEN DITURE ARE 50 BEING TESTED UNDER TNMM, IT WOULD NOT BE OPEN FOR THE REVENUE TO SEGREGATE ONE ITEM OF EXPENDITURE/INCOME FOR A SEPAR ATE BENCHMARKING UNLESS FOR COGENT REASONS IT IS OF THE V IEW THAT A TNMM IS NOT THE MOST APPROPRIATE METHOD TO TEST ALL THE INTERNATIONAL TRANSACTIONS TOGETHER. IN SUCH A SITUATION THE REVENUE WOULD HAVE TO TEST EACH OF THE TRANSACTIONS SEPA RATELY AND NOT LEAVE ANY OF THE TRANSACTIONS UNTESTED LEADING TO AN INCONGRUOUS SITUATION. WE ARE FORTIFIED IN OUR VIEW BY THE DECISION OF THE HONBLE DELHI HIGH COURT IN THE CASE OF SONY ER ICSSON (SUPRA) WHEREIN THE COURT OBSERVED AS BELOW: 101. HOWEVER, ONCE THE ASSESSING OFFICER/TPO ACCEPTS AND ADOPTS TNM METHOD, BUT THEN CHOOSES TO TREAT A PART ICULAR EXPENDITURE LIKE AMP AS A SEPARATE INTERNATIONAL TR ANSACTION WITHOUT BIFURCATION/SEGREGATION, IT WOULD AS NOTICE D ABOVE, LEAD TO UNUSUAL AND INCONGRUOUS RESULTS AS AMP EXPENSES IS THE COST OR EXPENSE AND IS NOT DIVERSE. IT IS FACTORED IN TH E NET PROFIT OF THE INTER-LINKED TRANSACTION. THIS WOULD BE ALSO IN CON SONANCE WITH RULE 10B(1)(E), WHICH MANDATES ONLY ARRIVING AT THE NET PROFIT MARGIN BY COMPARING THE PROFITS AND LOSS ACCOUNT OF THE TESTED PARTY WITH THE COMPARABLE. THE TNM METHOD PROCEEDS ON THE ASSUMPTION THAT FUNCTIONS, ASSETS AND RISK BEING BR OADLY SIMILAR AND ONCE SUITABLE ADJUSTMENTS HAVE BEEN MADE, ALL T HINGS GET TAKEN INTO ACCOUNT AND STAND RECONCILED WHEN COMPUT ING THE NET PROFIT MARGIN. ONCE THE COMPARABLES PASS THE FUNCTI ONAL ANALYSIS TEST AND ADJUSTMENTS HAVE BEEN MADE, THEN THE PROFI T MARGIN AS DECLARED WHEN MATCHES WITH THE COMPARABLES WOULD RE SULT IN AFFIRMATION OF THE TRANSFER PRICE AS THE ARM'S LENG TH PRICE. THEN TO MAKE A COMPARISON OF A HORIZONTAL ITEM WITHOUT SEGR EGATION WOULD BE IMPERMISSIBLE. 51 IN THE PRESENT FACTS, WE FIND THAT THE TPO HAS SUBJECTED VARIOUS INTERNATIONAL TRANSACTIONS OF THE ASSESSEE TO TNMM ANALY SES UNDER VARIOUS SEGMENTS AND MADE TRANSFER PRICING ADJU STMENTS ON THE BASIS OF EXTERNAL COMPARABLES CHOSEN BY HIM. SEV ERAL OF THESE COMPARABLE COMPANIES INCLUDED/EXCLUDED BY HIM FORM SUBJECT MATTER OF THE PRESENT APPEALS. IT IMPLIES THAT THE TPO HAS APPLIED HIS MIND ON THE SUITABILITY OF TNMM AND MADE ADJUSTME NTS. HAVING ADOPTED TNMM IN A CONSIDERED MANNER, IT IS NOT OPEN FOR HIM TO TAKE UP AMP AS A SEPARATE TRANSACTION AND SUBJE CT TO THE SAME TO A COST PLUS TYPE OF BENCHMARKING BECAUSE THE E NTIRE AMP EXPENDITURE FORMS PART OF THE OPERATING EXPENDITURE THAT H AS BEEN TAKEN INTO ACCOUNT WHILE COMPUTING THE PROFIT LEVEL IND ICATOR (NET PROFIT MARGIN). 47. NEXT ISSUE IS, BRAND BUILDING EXERCISE EQUIVALENT TO INCURRING AMP EXPENDITURE? IN OUR VIEW, IT WOULD BE ERRONEOUS TO TREAT ANY AND AL L AMP EXPENDITURE AS BEING A BRAND BUILDING EXERCISE. THER E IS NO BASIS TO PRESUME THAT THERE IS A POSITIVE CORRELATION BETWEEN A MP EXPENDITURE AND BRAND-VALUE. BRAND VALUE IS A FAR MO RE COMPLEX CONCEPT THAN MERE AMP EXPENDITURE. BRAND IS AN INTANGIB LE ASSET THAT ENCAPSULATES THE REPUTATION OF AN ENTITY AND A REPUTAT ION IS BUILT OVER A LONG PERIOD OF TIME PRIMARILY ON THE BASI S OF TRUST IT INVOKES. YEAR TO YEAR AMP EXPENDITURE MAY VARY DUE TO MARKET CONDITIONS, BUT THE BRAND VALUE DOES NOT GET ALTERED IN PROPORTION TO EXPENDITURE. AMP FUNCTION ITSELF IS A COMPLEX ACTIV ITY INVOLVES SEVERAL NUANCED ASPECTS OF MARKETING MANAGEMENT TARGET ED TOWARDS INCREASING SALES. SUCH AN EXERCISE IS SOMETIM ES PREMISED ON PRODUCT PROMOTION AND SOMETIMES BRAND MESSAGING AND OCCASIONALLY FOR BRAND FAMILIARIZATION. BUT THE CORE O F BRAND VALUE 52 IS NOT DETERMINED BY THE QUANTUM OF EXPENDITURE INCURRE D BUT THE OVERALL LEVEL OF TRUST INSPIRED IN THE MINDS OF THE CON SUMERS. THE HONBLE DELHI HIGH COURT IN THE CASE OF SONY ERICSSON (SUPRA) HAS EXAMINED THIS ASPECT IN DETAIL. THE RELEVANT OBSERVATION S ARE EXTRACTED BELOW: 103. BRAND HAS BEEN DESCRIBED AS A CLUSTER OF FUNCTIONA L AND EMOTIONAL VALUES. IT IS A MATTER OF PERCEPTION AND REPUTATION AS IT REFLECTS CUSTOMERS' EXPERIENCE AND FAITH. BRAND VAL UE IS NOT GENERATED OVERNIGHT, BUT IS CREATED OVER A PERIOD O F TIME, WHEN THERE IS RECOGNITION THAT THE LOGO OR THE NAME GUAR ANTEES A CONSISTENT LEVEL OF QUALITY AND EXPERTISE. LESLIE D E CHERNATONY AND MCDONALD HAVE DESCRIBED 'A SUCCESSFUL BRAND IS AN IDENTIFIABLE PRODUCT, SERVICE, PERSON OR PLACE, AUG MENTED IN SUCH A WAY THAT THE BUYER OR USER PERCEIVES RELEVANT, UN IQUE, SUSTAINABLE ADDED VALUES WHICH MATCH THEIR NEEDS MO ST CLOSELY.' THE WORDS OF THE SUPREME COURT IN CIVIL APPEAL NO.1 201 OF 1966 DECIDED ON 12TH FEBRUARY, 1970 IN KHUSHAL KHENGER S HAH V. MRS. KHORSHEDBANU, DABRIDABOATWALA, TO DESCRIBE 'GO ODWILL', CAN BE ADOPTED TO DESCRIBE A BRAND AS AN INTANGIBLE ASS ET BEING THE WHOLE ADVANTAGE OF THE REPUTATION AND CONNECTIONS F ORMED WITH THE CUSTOMER TOGETHER WITH CIRCUMSTANCES WHICH MAKE THE CONNECTION DURABLE. THE DEFINITION GIVEN BY LORD MA CNAGHTEN IN COMMISSIONER OF INLAND REVENUE V. MULLER & CO' & MA RGARINE LTD. [1901] 217 AC 223 CAN ALSO BE APPLIED WITH MAR GINAL CHANGES TO UNDERSTAND THE CONCEPT OF BRAND. IN THE CONTEXT OF 'GOODWILL' IT WAS OBSERVED: 'IT IS VERY DIFFICULT, AS IT SEEMS TO ME, TO SAY TH AT GOODWILL IS NOT PROPERTY. GOODWILL IS BOUGHT AND SOLD EVERY DAY. IT MAY BE ACQUIRED. I THINK, IN ANY OF THE DIFFERENT WAYS IN WHICH PROPERTY IS USUALLY ACQUIRED. WHEN A MAN HAS GOT IT HE MAY K EEP IT AS HIS OWN. HE MAY VINDICATE HIS EXCLUSIVE RIGHT TO IT IF NECESSARY BY PROCESS OF LAW. HE MAY DISPOSE OF IT IF HE WILL - O F COURSE, UNDER THE CONDITIONS ATTACHING TO PROPERTY OF THAT NATURE ..WHAT IS GOOD-WILL? IT IS A THING VERY EASY TO DESCRIBE VERY DIFFICULT TO DEFINE. IT IS THE BENEFIT AND ADVANTAGE OF THE GOOD NAME, REPUTATION, AND CONNECTION OF A BUSINESS. IT IS THE ATTRACTIVE FORCE WHICH BRINGS IN CUSTOM. IT IS THE ONE THING WHICH D ISTINGUISHES AN OLD ESTABLISHED BUSINESS FROM A NEW BUSINESS AT ITS FIRST START. THE GOODWILL OF A BUSINESS MUST EMANATE FROM A PARTICULAR CENTRE OR SOURCE. HOWEVER, WIDELY EXTENDED OR DIFFU SED ITS 53 INFLUENCE MAY BE, GOODWILL IS WORTH NOTHING UNLESS IT HAS POWER OF ATTRACTION SUFFICIENT TO BRING CUSTOMERS HOME TO THE SOURCE FROM WHICH IT EMANATES. GOODWILL IS COMPOSED OF A V ARIETY OF ELEMENTS. IT DIFFERS IN ITS COMPOSITION IN DIFFEREN T TRADES AND IN DIFFERENT BUSINESSES IN THE SAME TRADE. ONE ELEMENT MAY PREPONDERATE HERE AND ANOTHER ELEMENT THERE. TO ANA LYSE GOODWILL AND SPLIT IT UP INTO ITS COMPONENT PARTS, TO PARE IT DOWN AS THE COMMISSIONERS DESIRE TO DO UNTIL NOTHING IS LEFT BUT A DRY RESIDUUM INGRAINED IN THE ACTUAL PLACE WHERE THE BU SINESS IS CARRIED ON WHILE EVERYTHING ELSE IS IN THE AIR, SEE MS TO ME TO BE AS USEFUL FOR PRACTICAL PURPOSES AS IT WOULD BE TO RESOLVE THE HUMAN BODY INTO THE VARIOUS SUBSTANCES OF WHICH IT IS SAID TO BE COMPOSED. THE GOODWILL OF A BUSINESS IS ONE WHOLE, AND IN A CASE LIKE THIS IT MUST BE DEALT WITH AS SUCH. FOR M Y PART, I THINK THAT IF THERE IS ONE ATTRIBUTE COMMON TO ALL CASES OF GOODWILL IT IS THE ATTRIBUTE OF LOCALITY. FOR GOODWILL HAS NO INDE PENDENT EXISTENCE. IT CANNOT SUBSIST BY ITSELF. IT MUST BE ATTACHED TO A BUSINESS. DESTROY THE BUSINESS, AND THE GOODWILL PE RISHES WITH IT, THOUGH ELEMENTS REMAIN WHICH MAY PERHAPS BE GAT HERED UP AND BE REVIVED AGAIN. ' 104. 'BRAND' HAS REFERENCE TO A NAME, TRADEMARK OR TRAD E NAME. A BRAND LIKE 'GOODWILL', THEREFORE, IS A VALUE OF A TTRACTION TO CUSTOMERS ARISING FROM NAME AND A REPUTATION FOR SK ILL, INTEGRITY, EFFICIENT BUSINESS MANAGEMENT OR EFFICIENT SERVICE. BRAND CREATION AND VALUE, THEREFORE, DEPENDS UPON A GREAT NUMBER OF FACTS RELEVANT FOR A PARTICULAR BUSINESS. IT REFLEC TS THE REPUTATION WHICH THE PROPRIETOR OF THE BRAND HAS GATHERED OVER A PASSAGE OR PERIOD OF TIME IN THE FORM OF WIDESPREAD POPULARITY AND UNIVERSAL APPROVAL AND ACCEPTANCE IN THE EYES OF THE CUSTOMER . TO USE WORDS FROM CIT V. CHUNILAL PRABHUDAS& CO. AIR 1971 CAL 70, IT WOULD MEAN: ' IT HAS BEEN HORTICULTURALLY AND BOTANICALLY VIEW ED AS 'A SEED SPROUTING' OR AN 'ACORN GROWING INTO THE MIGHTY OAK OF GOODWILL'. IT HAS BEEN HISTORICALLY EXPLAINED AS GROWING AND CRYSTALLISING TRADITIONS IN THE BUSINESS. IT HAS BEEN DESCRIBED I N TERMS OF A MAGNET AS THE 'ATTRACTING FORCE'. IN TERMS OF COMPA RATIVE DYNAMICS, GOODWILL HAS BEEN DESCRIBED AS THE 'DIFFE RENTIAL RETURN OF PROFIT.' PHILOSOPHICALLY IT HAS BEEN HELD TO BE INTANGIBLE, THOUGH IMMATERIAL, IT IS MATERIALLY VALUED. PHYSICA LLY AND PSYCHOLOGICALLY, IT IS A 'HABIT' AND SOCIOLOGICALLY IT IS A 'CUSTOM'. BIOLOGICALLY, IT HAS BEEN DESCRIBED BY LORD MACNAGH TEN IN TREGO V. HUNT, 1896 AC 7 AS THE 'SAP AND LIFE' OF THE BUS INESS. IT HAS BEEN HORTICULTURALLY AND BOTANICALLY VIEWED AS 'A S EED SPROUTING' OR AN 'ACORN GROWING INTO THE MIGHTY OAK OF GOODWILL'. 54 IT HAS BEEN GEOGRAPHICALLY DESCRIBED BY LOCALITY. I T HAS BEEN HISTORICALLY EXPLAINED AS GROWING AND CRYSTALLISING TRADITIONS IN THE BUSINESS. IT HAS BEEN DESCRIBED IN TERMS OF A M AGNET AS THE 'ATTRACTING FORCE'. IN TERMS OF COMPARATIVE DYNAMIC S, GOODWILL HAS BEEN DESCRIBED AS THE 'DIFFERENTIAL RETURN OF P ROFIT.' PHILOSOPHICALLY IT HAS BEEN HELD TO BE INTANGIBLE, THOUGH IMMATERIAL, IT IS MATERIALLY VALUED. PHYSICALLY AND PSYCHOLOGICALLY, IT IS A 'HABIT' AND SOCIOLOGICALLY IT IS A 'CUSTOM'. BIOLOGICALLY, IT HAS BEEN DESCRIBED BY LORD MACNAGH TEN IN TREGO V. HUNT, 1896 AC 7 AS THE 'SAP AND LIFE' OF THE BUS INESS.' 105. THERE IS A LINE OF DEMARCATION BETWEEN DEVELOPMENT AND EXPLOITATION. DEVELOPMENT OF A TRADEMARK OR GOODWIL L TAKES PLACE OVER A PASSAGE OF TIME AND IS A SLOW ONGOING PROCES S. IN CASES OF WELL RECOGNISED OR KNOWN TRADEMARKS, THE SAID TRADE MARK IS ALREADY RECOGNISED. EXPENDITURES INCURRED FOR PROMO TING PRODUCT(S) WITH A TRADEMARK IS FOR EXPLOITATION OF THE TRADEMARK RATHER THAN DEVELOPMENT OF ITS VALUE. A TRADEMARK I S A MARKET PLACE DEVICE BY WHICH THE CONSUMERS IDENTIFY THE GO ODS AND SERVICES AND THEIR SOURCE. IN THE CONTEXT OF TRADEM ARK, THE SAID MARK SYMBOLISES THE GOODWILL OR THE LIKELIHOOD THAT THE CONSUMERS WILL MAKE FUTURE PURCHASES OF THE SAME GO ODS OR SERVICES. VALUE OF THE BRAND ALSO WOULD DEPEND UPON AND IS ATTRIBUTABLE TO INTANGIBLES OTHER THAN TRADEMARK. I T REFERS TO INFRASTRUCTURE, KNOW-HOW, ABILITY TO COMPETE WITH T HE ESTABLISHED MARKET LEADERS. BRAND VALUE, THEREFORE, DOES NOT RE PRESENT TRADEMARK AS A STANDALONE ASSET AND IS DIFFICULT AN D COMPLEX TO DETERMINE AND SEGREGATE ITS VALUE. BRAND VALUE DEPE NDS UPON THE NATURE AND QUALITY OF GOODS AND SERVICES SOLD O R DEALT WITH. QUALITY CONTROL BEING THE MOST IMPORTANT ELEMENT, W HICH CAN MAR OR ENHANCE THE VALUE. 106. THEREFORE, TO ASSERT AND PROFESS THAT BRAND BU ILDING AS EQUIVALENT OR SUBSTANTIAL ATTRIBUTE OF ADVERTISEMEN T AND SALE PROMOTION WOULD BE LARGELY INCORRECT . IT REPRESENTS A COORDINATED SYNERGETIC IMPACT CREATED BY ASSORTME NT LARGELY REPRESENTING REPUTATION AND QUALITY. THERE ARE A GO OD NUMBER OF EXAMPLES WHERE BRANDS HAVE BEEN BUILT WITHOUT INCUR RING SUBSTANTIAL ADVERTISEMENT OR PROMOTION EXPENSES AND ALSO CASES WHERE IN SPITE OF EXTENSIVE AND LARGE SCALE ADVERTI SEMENTS, BRAND VALUES HAVE NOT BEEN CREATED. THEREFORE, IT W OULD BE ERRONEOUS AND FALLACIOUS TO TREAT BRAND BUILDING AS COUNTERPART OR TO COMMENSURATE BRAND WITH ADVERTISEMENT EXPENSES. BRAND BUILDING OR CREATION IS A VEXED AND COMPLEXED ISSUE , SURELY NOT JUST RELATED TO ADVERTISEMENT. ADVERTISEMENTS MAY B E THE 55 QUICKEST AND EFFECTIVE WAY TO TELL A BRAND STORY TO A LARGE AUDIENCE, BUT JUST THAT IS NOT ENOUGH TO CREATE OR BUILD A BRAND. MARKET VALUE OF A BRAND WOULD DEPEND UPON HOW MANY CUSTOMERS YOU HAVE, WHICH HAS REFERENCE TO BRAND GO ODWILL, COMPARED TO A BASELINE OF AN UNKNOWN BRAND. IT IS I N THIS MANNER THAT VALUE OF THE BRAND OR BRAND EQUITY IS CALCULAT ED. SUCH CALCULATIONS WOULD BE RELEVANT WHEN THERE IS AN ATT EMPT TO SELL OR TRANSFER THE BRAND NAME. REPUTED BRANDS DO NOT GO I N FOR ADVERTISEMENT WITH THE INTENTION TO INCREASE THE BR AND VALUE, BUT TO INCREASE THE SALES AND THEREBY EARN LARGER AND G REATER PROFITS. IT IS NOT THE CASE OF THE REVENUE THAT THE FOREIGN AES ARE IN THE BUSINESS OF SALE/TRANSFER OF BRANDS. 107. ACCOUNTING STANDARD 26 EXEMPLIFIES DISTINCTION BET WEEN EXPENDITURE INCURRED TO DEVELOP OR ACQUIRE AN INTAN GIBLE ASSET AND INTERNALLY GENERATED GOODWILL. AN INTANGIBLE AS SET SHOULD BE RECOGNISED AS AN ASSET, IF AND ONLY IF, IT IS PROBA BLE THAT FUTURE ECONOMIC BENEFITS ATTRIBUTABLE TO THE SAID ASSET WI LL FLOW TO THE ENTERPRISE AND THE COST OF THE ASSET CAN BE MEASURE D RELIABLY. THE ESTIMATE WOULD REPRESENT THE SET OFF OF ECONOMI C CONDITIONS THAT WILL EXIST OVER THE USEFUL LIFE OF THE INTANGI BLE ASSET. AT THE INITIAL STAGE, INTANGIBLE ASSET SHOULD BE MEASURED AT COST. THE ABOVE PROPOSITION WOULD NOT APPLY TO INTERNALLY GEN ERATED GOODWILL OR BRAND. PARAGRAPH 35 SPECIFICALLY ELUCID ATES THAT INTERNALLY GENERATED GOODWILL SHOULD NOT BE RECOGNI SED AS AN ASSET. IN SOME CASES EXPENDITURE IS INCURRED TO GEN ERATE FUTURE ECONOMIC BENEFITS, BUT IT MAY NOT RESULT IN CREATIO N OF AN INTANGIBLE ASSET IN FORM OF GOODWILL OR BRAND, WHIC H MEETS THE RECOGNITION CRITERIA UNDER AS-26. INTERNALLY GENERA TED GOODWILL OR BRAND IS NOT TREATED AS AN ASSET IN AS-26 BECAUSE I T IS NOT AN IDENTIFIABLE RESOURCE CONTROLLED BY AN ENTERPRISE, WHICH CAN BE RELIABLY MEASURED AT COST. ITS VALUE CAN CHANGE DUE TO A RANGE OF FACTORS. SUCH UNCERTAIN AND UNPREDICTABLE DIFFERENC ES, WHICH WOULD OCCUR IN FUTURE, ARE INDETERMINATE. IN SUBSEQ UENT PARAGRAPHS, AS-26 RECORDS THAT EXPENDITURE ON MATER IALS AND SERVICES USED OR CONSUMED, SALARY, WAGES AND EMPLOY MENT RELATED COSTS, OVERHEADS, ETC. CONTRIBUTE IN GENERA TING INTERNAL INTANGIBLE ASSET. THUS, IT IS POSSIBLE TO COMPUTE G OODWILL OR BRAND EQUITY/VALUE AT A POINT OF TIME, BUT ITS FUTURE VAL UATION WOULD BE PERILOUS AND AN IFFY EXERCISE. 108. IN PARAGRAPH 44 OF AS-26, IT IS STATED THAT INTANG IBLE ASSET ARISING FROM DEVELOPMENT WILL BE RECOGNISED ONLY AN D ONLY IF AMONGST SEVERAL FACTORS, IT CAN DEMONSTRATE A TECHN ICAL FEASIBILITY 56 OF COMPLETING THE INTANGIBLE ASSET SO THAT IT WILL BE AVAILABLE FOR USE OR SALE AND THE INTENTION IS TO COMPLETE THE IN TANGIBLE ASSET FOR USE OR SALE IS SHOWN OR HOW THE INTANGIBLE ASSE T WILL GENERATE PROBABLE FUTURE BENEFITS, ETC. 109. THE AFORESAID POSITION FINDS RECOGNITION AND WAS A CCEPTED IN CIT V. B.C. SRINIVASA SETTY [1981] 2 SCC 460, A DECISION RELATING TRANSFER TO GOODWILL. GOODWILL, IT WAS HEL D, WAS A CAPITAL ASSET AND DENOTES BENEFITS ARISING FROM CONNECTION AND REPUTATION. A VARIETY OF ELEMENTS GO INTO ITS MAKIN G AND THE COMPOSITION VARIES IN DIFFERENT TRADES, DIFFERENT B USINESSES IN THE SAME TRADE, AS ONE ELEMENT MAY PRE-DOMINATE ONE BUS INESS, ANOTHER ELEMENT MAY DOMINATE IN ANOTHER BUSINESS. I T REMAINS SUBSTANTIAL IN FORM AND NEBULOUS IN CHARACTER. IN P ROGRESSING BUSINESS, BRAND VALUE OR GOODWILL WILL SHOW PROGRES SIVE INCREASE, BUT IN FALLING BUSINESS, IT MAY VAIN. THU S, ITS VALUE FLUCTUATES FROM ONE MOMENT TO ANOTHER, DEPENDING UP ON REPUTATION AND EVERYTHING ELSE RELATING TO BUSINESS , PERSONALITY, BUSINESS RECTITUDE OF THE OWNERS, IMPACT OF CONTEMP ORARY MARKET REPUTATION, ETC. IMPORTANTLY, THERE CAN BE NO ACCOU NT IN VALUE OF THE FACTORS PRODUCING IT AND IT IS IMPOSSIBLE TO PR EDICATE THE MOMENT OF ITS BIRTH FOR IT COMES SILENTLY INTO THE WORLD UNHERALDED AND UNPROCLAIMED. ITS BENEFIT AND IMPACT NEED NOT B E VISIBLY FELT FOR SOME TIME. IMPERCEPTIBLE AT BIRTH, IT EXITS UNW RAPPED IN A CONCEPT, GROWING OR FLUCTUATING WITH NUMEROUS IMPON DERABLES POURING INTO AND AFFECTING THE BUSINESS. THUS, THE DATE OF ACQUISITION OR THE DATE ON WHICH IT COMES INTO EXIS TENCE IS NOT POSSIBLE TO DETERMINE AND IT IS IMPOSSIBLE TO SAY W HAT WAS THE COST OF ACQUISITION. THE AFORESAID OBSERVATIONS ARE RELEVANT AND ARE EQUALLY APPLICABLE TO THE PRESENT CONTROVERSY. 110. IT HAS BEEN REPEATEDLY HELD BY DELHI HIGH COURT TH AT ADVERTISEMENT EXPENDITURE GENERALLY IS NOT AND SHOU LD NOT BE TREATED AS CAPITAL EXPENDITURE INCURRED OR MADE FOR CREATING AN INTANGIBLE CAPITAL ASSET. APPROPRIATE IN THIS REGAR D WOULD BE TO REPRODUCE THE OBSERVATIONS IN CIT V. MONTO MOTORS L TD. [2012] 206 TAXMAN 43/19 TAXMANN.COM 57 (DELHI) , WHICH READ: '4. ADVERTISEMENT EXPENSES WHEN INCURRED TO INCRE ASE SALES OF PRODUCTS ARE USUALLY TREATED AS A REVENUE EXPEND ITURE, SINCE THE MEMORY OF PURCHASERS OR CUSTOMERS IS SHORT. ADV ERTISEMENT ARE ISSUED FROM TIME TO TIME AND THE EXPENDITURE IS INCURRED PERIODICALLY, SO THAT THE CUSTOMERS REMAIN ATTRACTE D AND DO NOT FORGET THE PRODUCT AND ITS QUALITIES. THE ADVERTISE MENTS PUBLISHED/DISPLAYED MAY NOT BE OF RELEVANCE OR SIGN IFICANCE 57 AFTER LAPSE OF TIME IN A HIGHLY COMPETITIVE MARKET, WHEREIN THE PRODUCTS OF DIFFERENT COMPANIES COMPETE AND ARE AVA ILABLE IN ABUNDANCE. ADVERTISEMENTS AND SALES PROMOTION ARE C ONDUCTED TO INCREASE SALE AND THEIR IMPACT IS LIMITED AND FE LT FOR A SHORT DURATION. NO PERMANENT CHARACTER OR ADVANTAGE IS AC HIEVED AND IS PALPABLE, UNLESS SPECIAL OR SPECIFIC FACTORS ARE BROUGHT ON RECORD. EXPENSES FOR ADVERTISING CONSUMER PRODUCTS GENERALLY ARE A PART OF THE PROCESS OF PROFIT EARNING AND NOT IN THE NATURE OF CAPITAL OUTLAY. THE EXPENSES IN THE PRESENT CASE WERE NOT INCURRED ONCE AND FOR ALL, BUT WERE A PERIODICAL EX PENSES WHICH HAD TO BE INCURRED CONTINUOUSLY IN VIEW OF THE NATU RE OF THE BUSINESS. IT WAS AN ON-GOING EXPENSE. GIVEN THE FAC TUAL MATRIX, IT IS DIFFICULT TO HOLD THAT THE EXPENSES WERE INCU RRED FOR SETTING THE PROFIT EARNING MACHINERY IN MOTION OR NOT FOR E ARNING PROFITS.' (ALSO SEE, CIT V. SPICE DISTRIBUTION LTD. [2015] 229 TAXMAN 400/54 TAXMANN.COM 325 (DELHI) BY THE DELHI HIGH COURT ON 19TH SEPTEMBER, 2014; AND CIT V. SALORA INTERNATIONAL LT D. [2009] 308 ITR 199 111. ACCEPTING THE PARAMETERS OF THE 'BRIGHT LINE TEST' AND IF THE SAID PARAMETERS AND TESTS ARE APPLIED TO INDIAN COM PANIES WITH REPUTED BRANDS AND SUBSTANTIAL AMP EXPENSES, WOULD LEAD TO DIFFICULTY AND UNFORESEEN TAX IMPLICATIONS AND COMP LICATIONS. TATA, HERO, MAHINDRA, TVS, BAJAJ, GODREJ, VIDEOCON GROUP AND SEVERAL OTHERS ARE BOTH MANUFACTURERS AND OWNERS OF INTANGIBLE PROPERTY IN THE FORM OF BRAND NAMES. THEY INCUR SUB STANTIAL AMP EXPENDITURE. IF WE APPLY THE 'BRIGHT LINE TEST' WIT H REFERENCE TO INDICATORS MENTIONED IN PARAGRAPH 17.4 AS WELL AS T HE RATIO EXPOUNDED BY THE MAJORITY JUDGMENT IN L.G. ELECTRON ICS INDIA (P) LTD CASE (SUPRA) IN PARAGRAPH 17.6 TO BIFURCATE AND SEGREGATE AMP EXPENSES TOWARDS BRAND BUILDING AND CREATION, T HE RESULTS WOULD BE STARTLING AND UNACCEPTABLE. THE SAME IS TH E SITUATION IN CASE WE APPLY THE PARAMETERS AND THE 'BRIGHT LINE T EST' IN TERMS OF PARAGRAPH 17.4 OR AS PER THE CONTENTION OF THE REVE NUE, I.E. AMP EXPENSES INCURRED BY A DISTRIBUTOR WHO DOES NOT HAV E ANY RIGHT IN THE INTANGIBLE BRAND VALUE AND THE PRODUCT BEING MARKETED BY HIM. THIS WOULD BE UNREALISTIC AND IMPRACTICABLE, I F NOT DELUSIVE AND MISLEADING. (AFORESAID REPUTED INDIAN COMPANIES , IT IS PATENT, ARE NOT TO BE TREATED AS COMPARABLES WITH T HE ASSESSED, I.E. THE TESTED PARTIES IN THESE APPEALS, FOR THE L ATTER ARE NOT LEGAL OWNERS OF THE BRAND NAME/TRADEMARK.). 58 48. PLACING RELIANCE ON THE ABOVE EXTRACTS OF THE SO NY ERICSSON DECISION (SUPRA), A COORDINATE BENCH OF THIS TRIBUNAL IN PEPSICO (SUPRA) HELD AS BELOW: 60. THUS, THE HON'BLE HIGH COURT AFTER DESCRIBING THE CONCEPT OF THE BRAND HAD MADE A CLEAR CUT DEMARCATION BETWEE N DEVELOPMENT AND EXPLOITATION OF BRAND WHICH IS EITH ER IN THE FORM OF TRADEMARK OR GOODWILL WHICH TAKES PLACE OVER A P ASSAGE OF TIME BY WHICH ITS VALUE DEPENDS UPON AND IS ATTRIBU TABLE TO INTANGIBLES OTHER THAN TRADEMARK LIKE, INFRASTRUCTU RE, KNOWHOW, ABILITY TO COMPETE IN THE ESTABLISHED MARKET, LEASE , ETC. BRAND VALUE DOES NOT REPRESENT TRADEMARK AS ASSET AND IT IS QUITE DIFFICULT TO DETERMINE AND SEGREGATE ITS VALUE. BRA ND VALUE LARGELY DEPENDS UPON THE NATURE OF GOODS AND SERVIC ES SOLD, AFTER SALES SERVICES, ROBUST DISTRIBUTORSHIP, QUALI TY CONTROL, CUSTOMER SATISFACTION AND CATENA OF OTHER FACTORS. THE ADVERTISEMENT IS MORE TELLING ABOUT THE BRAND STORY , PENETRATING THE MIND OF THE CUSTOMERS AND CONSTANTLY REMINDING ABOUT THE BRAND, BUT IT IS NOT ENOUGH TO CREATE BRAND, BECAUS E MARKET VALUE OF A BRAND WOULD DEPEND UPON HOW MANY CUSTOME RS YOU HAVE, WHICH HAS REFERENCE TO A BRAND GOODWILL. THER E ARE INSTANCES WHERE REPUTED BRAND DOES NOT GO FOR ADVER TISEMENT WITH THE INTENTION TO INCREASE THE BRAND VALUE BUT TO ONLY INCREASE THE SALE AND THEREBY EARNING GREATER PROFI TS. IT IS ALSO NOT THE CASE HERE THAT FOREIGN AE IS IN THE BUSINES S OF SALE/TRANSFER OF BRANDS. THEIR LORDSHIPS HAVE ALSO REFERRED TO ACCOUNTING STANDARD 26 WHICH PROVIDES FOR COMPUTATI ON OF GOODWILL AND BRAND EQUAL VALUE AT A POINT OF TIME B UT NOT ITS FUTURE VALUATION OR HOW SUCH AN INTANGIBLE ASSET WI LL GENERATE PROBABLE FUTURE BENEFIT. BECAUSE, THE VALUE FLUCTUA TES FROM ONE MOMENT TO OTHER DEPENDING UPON REPUTATION AND OTHER FACTORS. REPUTATION OF A BRAND ONLY ENHANCES THE SALE AND PR OFITABILITY AND HERE IN THIS CASE IS ONLY BENEFITTING THE ASSES SEE COMPANY WHEN 86 MARKETING ITS PRODUCTS USING THE TRADE MARK AND THE BRAND OF AE. EVEN OTHERWISE ALSO, THE VALUE OF THE BRAND WHICH HAS BEEN CREATED IN INDIA BY THE ASSESSEE COMPANY W ILL ONLY BE RELEVANT WHEN AT SOME POINT OF TIME THE FOREIGN AE DECIDES TO SELL THE BRAND, THEN PERHAPS THAT WOULD BE THE TIME WHEN BRAND VALUE WILL HAVE SOME SIGNIFICANCE AND RELEVANCE. BU T TO MAKE ANY TRANSFER PRICING ADJUSTMENT SIMPLY ON THE GROUN D THAT ASSESSEE HAS SPENT ADVERTISEMENT, MARKETING EXPENDI TURE WHICH IS BENEFITTING THE BRAND/TRADEMARK OF THE AE WOULD NOT BE 59 CORRECT APPROACH. THUS, THIS LINE OF REASONING GIVE N BY THE TPO IS REJECTED. 49. IN PEPSICO (SUPRA), THIS TRIBUNAL, WHILE EXA MINING THE AMP ISSUE EXAMINED THE IMPLICATIONS OF THE RECENT DEVELOPM ENTS IN TRANSFER PRICING SPEARHEADED BY OECD IN ITS BASE ERO SION AND PROFIT SHIFTING (BEPS) PROJECT AND OBSERVED AS BELOW: 61. FURTHER IN THE FINAL REPORT OF ACTION 8-10 OF BASE EROSION AND PROFIT SHIFTING PROJECT (BEPS) OF OECD TITLED A S ALIGNING TRANSFER PRICING OUTCOMES WITH VALUE CREATION. IT HAS BEEN SUGGESTED THAT NO ADJUSTMENT IS REQUIRED ON AMP EXP ENDITURE INCURRED BY FULL-FLEDGED MANUFACTURERS. THE REPORT CONTAINS VARIOUS EXAMPLES PERTAINING TO MANUFACTURER. THE FO LLOWING PASSAGE FROM THE REPORT IS QUITE RELEVANT WHICH FOR THE SAKE OF READY REFERENCE IS QUOTED HEREINBELOW: 6.40 THE LEGAL OWNER WILL BE CONSIDERED TO BE THE OWNER OF THE INTANGIBLE FOR TRANSFER PRICING PURPOSES. IF NO LEGAL OWNER OF THE INTANGIBLE IS IDENTIFIED UNDER APPLICABLE LA W OR GOVERNING CONTRACTS, THEN THE MEMBER OF THE MNE GRO UP THAT, BASED ON THE FACTS AND CIRCUMSTANCES, CONTROL S DECISIONS CONCERNING THE EXPLOITATION OF THE INTANG IBLE AND HAS THE PRACTICAL CAPACITY TO RESTRICT OTHERS FROM USING THE INTANGIBLE WILL BE CONSIDERED THE LEGAL OWNER OF TH E INTANGIBLE FOR TRANSFER PRICING PURPOSES. 6.41 IN IDENTIFYING THE LEGAL OWNER OF INTANGIBLES, AN INTANGIBLE AND ANY LICENCE RELATING TO THAT INTANGI BLE ARE CONSIDERED TO BE 87 DIFFERENT INTANGIBLES FOR TRANS FER PRICING PURPOSES, EACH HAVING A DIFFERENT OWNER. SEE PARAGR APH 6.26. FOR EXAMPLE, COMPANY A, THE LEGAL OWNER OF A TRADEMARK, MAY PROVIDE AN EXCLUSIVE LICENCE TO COMP ANY B TO MANUFACTURE, MARKET, AND SELL GOODS USING THE TRADEMARK. ONE INTANGIBLE, THE TRADEMARK, IS LEGALL Y OWNED BY COMPANY A. ANOTHER INTANGIBLE, THE LICENCE TO US E THE TRADEMARK IN CONNECTION WITH MANUFACTURING, MARKETI NG AND DISTRIBUTION OF TRADEMARKED PRODUCTS, IS LEGALLY OW NED BY COMPANY B. DEPENDING ON THE FACTS AND CIRCUMSTANCES , MARKETING ACTIVITIES UNDERTAKEN BY COMPANY B PURSUA NT TO ITS LICENCE MAY POTENTIALLY AFFECT THE VALUE OF THE UNDERLYING INTANGIBLE LEGALLY OWNED BY COMPANY A, THE VALUE OF COMPANY BS LICENCE, OR BOTH. 60 6.42 WHILE DETERMINING LEGAL OWNERSHIP AND CONTRACT UAL ARRANGEMENTS IS AN IMPORTANT FIRST STEP IN THE ANAL YSIS, THESE DETERMINATIONS ARE SEPARATE AND DISTINCT FROM THE QUESTION OF REMUNERATION UNDER THE ARMS LENGTH PRI NCIPLE. FOR TRANSFER PRICING PURPOSES, LEGAL OWNERSHIP OF INTANGIBLES, BY ITSELF, DOES NOT CONFER ANY RIGHT U LTIMATELY TO RETAIN RETURNS DERIVED BY THE MNE GROUP FROM EXPLOI TING THE INTANGIBLE, EVEN THOUGH SUCH RETURNS MAY INITIALLY ACCRUE TO THE LEGAL OWNER AS A RESULT OF ITS LEGAL OR CONTRAC TUAL RIGHT TO EXPLOIT THE INTANGIBLE. THE RETURN ULTIMATELY RETAI NED BY OR ATTRIBUTED TO THE LEGAL OWNER DEPENDS UPON THE FUNC TIONS IT PERFORMS, THE ASSETS IT USES, AND THE RISKS IT ASSU MES, AND UPON THE CONTRIBUTIONS MADE BY OTHER MNE GROUP MEMB ERS THROUGH THEIR FUNCTIONS PERFORMED, ASSETS USED, AND RISKS ASSUMED. FOR EXAMPLE, IN THE CASE OF AN INTERNALLY DEVELOPED INTANGIBLE, IF THE LEGAL OWNER PERFORMS N O RELEVANT 88 FUNCTIONS, USES NO RELEVANT ASSETS, AND ASSUMES NO RELEVANT RISKS, BUT ACTS SOLELY AS A TITLE HOLDING ENTITY, THE LEGAL OWNER WILL NOT ULTIMATELY BE ENTITLED TO ANY PORTION OF THE RETURN DERIVED BY THE MNE GROUP FROM THE EXPLOI TATION OF THE INTANGIBLE OTHER THAN ARMS LENGTH COMPENSATION , IF ANY, FOR HOLDING TITLE. FROM THE ABOVE QUOTED PASSAGE, IT CAN BE SEEN THAT THE GUIDELINES CLEARLY ENVISAGE THAT LEGAL OWNERSHIP OF INTANGIBLES, BY ITSELF, DOES NOT CONFER ANY RIGHT ULTIMATELY TO RETAIN RETURNS DERIVED BY MNE GROUP FROM EXPLOITING THE INTANGIBLE S, EVEN THOUGH SUCH RETURNS IS INITIALLY ACCRUING TO THE LE GAL OWNER AS A RESULT OF ITS LEGAL/CONTRACTUAL RIGHT TO EXPLOIT TH E INTANGIBLE. THE RETURN DEPENDS UPON THE FUNCTIONS PERFORMED BY THE LEGAL OWNER, ASSETS IT USES, AND THE RISKS ASSUMED; AND IF THE L EGAL OWNER DOES NOT PERFORM ANY RELEVANT FUNCTION, USES NO REL EVANT ASSETS, AND ASSUMES NO RELEVANT RISKS, BUT ACTS SOLELY AS A TITLE HOLDING ENTITY, THEN THE LEGAL OWNER OF THE INTANGIBLE WILL NOT BE ENTITLED TO ANY PORTION OF THE RETURN DERIVED BY THE MNE GRO UP FROM THE EXPLOITATION OF THE INTANGIBLE OTHER THAN THE ARMS LENGTH COMPENSATION IF ANY FOR HOLDING THE TITLE. 50. IN VIEW OF THE ABOVE, WE HOLD THAT IN CASE OF LICENSED MANUFACTURERS LIKE THE APPELLANT WHO BEAR THE FULL RIS KS AND REWARDS OF MANUFACTURING AND SELLING THEIR GOODS IN TH E INDIAN MARKET, THE CONCEPT OF BRAND PROMOTION BEING FOR THE BE NEFIT OF THE AE HAS NO APPLICATION AT ALL. AS REGARDS BRAND BUILDI NG EXPENSES 61 INCURRED BY A DISTRIBUTOR WHO DOES NOT OWN THE BRAND, THE SAME NEEDS TO BE EXAMINED FROM A LONG-TERM PERSPECTIVE WHE REBY THE ABILITY OF THE DISTRIBUTOR TO RECOVER THE ADVERTISING CO STS BY WAY OF INCREASED SALES FOR A REASONABLE PERIOD OF TIME IS TO BE JUDGED. ONCE A DISTRIBUTOR ARRANGEMENT IN PLACE FOR A FAIRLY LONG PERIOD OF TIME (AS IN THE PRESENT SITUATION WHERE THE ASSESSEE IS THE DISTRIBUTOR OF SAMSUNG PRODUCTS IN INDIA), EXPENSE S ON ADVERTISING CANNOT BE SUBJECTED TO A STAND-ALONE ANALY SIS AS A SERVICE TO ITS AE ON A YEAR TO YEAR BASIS. THIS QUES TION OF COMPENSATING AN INDIAN DISTRIBUTOR WOULD ARISE ONLY I F THE PARTIES PREMATURELY TERMINATE THE DISTRIBUTORARRANGEMENT. IN SUC H AN EVENT, IF THE INDIAN DISTRIBUTOR HAS BEEN DEPRIVED OF THE OPPORTUNITY OF RECOVERING ITS INVESTMENT IN AMP, IT COU LD BE A VALID REASON FOR A TRANSFER PRICING ADJUSTMENT BECAUSE THIRD PARTIES WOULD NOT AGREE TO A PREMATURE TERMINATION OF THIS KIN D WITHOUT DEMANDING COMPENSATION. THEREFORE, THE QUESTION OF COM PENSATING THE TAXPAYER FOR ANY LOSS SUFFERED DUE TO EXCESS AMP S PEND WOULD ARISE ONLY AT THE TIME OF SUCH PREMATURE TERMINATION AN D NOT DURING THE PENDENCY OF THE DISTRIBUTORSHIP ARRANGEMEN T. THUS, IN CASE OF A ROUTINE DISTRIBUTOR, DISALLOWANCE/ADJUSTMENT ON ACCOUNT OF AMP SPEND ON THE MERE ASSUMPTION THAT THE SUPPLIER M AY TERMINATE THE AGREEMENT IN THE FUTURE IS NOT SUSTAINABLE. A TAXPAYER CANNOT BE PENALIZED ON THE PRESUMPTION OF A FU TURE EVENT (WHICH MAY NOT EVEN OCCUR) WHILE IGNORING THE PRESEN T FACTS AND CIRCUMSTANCES. IT IS ALSO WORTHWHILE TO NOTE THAT IN THE PR ESENT CASE, THE ASSESSEE HAS NOT PAID ANY TRADE-MARK OR BRAN D ROYALTY TO ITS AE FOR HAVING USED ITS BRAND. 51. NEXT ISSUE BEFORE US IS: 62 WHETHER IT IS PERMISSIBLE FOR THE TPO TO MAKE A SUB STANTIVE AND PROTECTIVE ASSESSMENT ON THE SAME ISSUE USING T WO ALTERNATIVE APPROACHES? IT IS SETTLED LAW THAT PROTECTIVE ADDITION ALONG WITH SUBSTA NTIVE ADDITION OF AN ITEM OF INCOME CAN BE MADE ONLY WHEN TH E IDENTITY OF THE REAL OWNER OF THE INCOME IS UNCLEAR. THE FOLLO WING OBSERVATIONS MADE BY THE COORDINATE BENCH IN MSD PHARMACEUTICALS PVT. LTD. (SUPRA) MAKE THIS AMPLY CLEAR : THE VERY CONCEPT OF PROTECTIVE ADDITION IS RELEVAN T ONLY WHEN AN INCOME IS TO BE ADDED IN THE HANDS OF MORE THAN ONE TAXPAYER, IN A SITUATION IN WHICH THERE IS AN ELEMENT OF AMBIGUI TY AS TO IN WHOSE HANDS THE SAID INCOME CAN BE RIGHTLY BROUGHT TO TAX. THAT'S NOT THE CASE BEFORE US. IN OUR HUMBLE UNDERS TANDING, THEREFORE, THE CONCEPT OF 'PROTECTIVE ASSESSMENT', AS IS KNOWN TO THE INCOME TAX LAW, HAS NO APPLICATION IN THE CASES LIKE THE ONE BEFORE US. 52. THE LAST ISSUE BEFORE US IS: IF AMP EXPENDITURE INCURRED BY THE APPELLANT IS HEL D TO BE AN INTERNATIONAL TRANSACTION, CAN IT INCLUDE SELLING C OSTS WITHIN ITS AMBIT? FURTHER, WOULD THE APPELLANT BE ELIGIBLE TO RECEIVE A MARK-UP ON THE AMP EXPENDITURE TO CAPTURE THE ARMS RETURN ON THE COST? SINCE WE HAVE HELD THAT THERE IS NO INTERNATIONAL TRANSA CTION IN THE NATURE OF AMP EXPENDITURE WHICH NEEDS TO BE SUBJECTED TO CHAPTER X ANALYSIS, THESE ISSUES ARE RENDERED INFRUCTUOUS AN D ACADEMIC. 53. THUS, IN VIEW OF OUR FINDING GIVEN ABOVE WE HOLD THAT, NO ADJUSTMENT CAN BE MADE IN THE CASE OF THE APPELLANT ON A CCOUNT OF AMP EXPENSES AND SAME IS DIRECTED TO BE DELETED. OTHER GROUNDS IN ITA NO. 3248/DEL/2012)AY 2005-06 63 GROUND NO. 4 : THE CIT HAS ERRED IN NOT APPRECIATING THAT NO ADJUSTMENT IS WARRANTED IN RESPECT OF TRANSACTIONS UNDERTAKEN BY THE APPELLANT WITH ITS AES IN CLASS II SEGMENT S INCE THE UNDERLYING DIFFERENCE BETWEEN THE TRANSFER PRICE AN D ARMS LENGTH PRICE DOES NOT EXCEED 5% OF THE LATTER AND T HUS, THE CASE IS SQUARELY COVERED BY THE PROVISO TO SECTION 92C ( 2) OF THE ACT. 54. IN RESPECT OF CLASS II (DISTRIBUTION OF CONSU MER ELECTRONICS, HOME APPLIANCES AND OTHER IT AND TELECOM PRODUCTS) SEGMENT, THE APPELLANT HAD ADOPTED RESALE PRICE METHOD (RPM) AND HA D CHOSEN 5 COMPARABLES IN ITS TRANSFER PRICING DOCUMENTATION WIT H A MEAN MARGIN OF 6.45%. THE LD. TPO REJECTED RPM AND CHOSE TNMM AS THE MOST APPROPRIATE METHOD. FURTHER, THE TPO ALSO ALTERE D THE SET OF COMPARABLES AND ADOPTED A SET 13 COMPARABLES WITH A MEAN NET PROFIT MARGIN OF (-) 0.447%. THE TPO ALSO COMPUTED THE NET PROFIT MARGIN OF THE APPELLANT AFTER GIVING EFFECT TO THE MDF E XPENDITURE TREATMENT TO -3.50%. ON APPEAL, THE LD. CIT (A) REJECTED 2 OF TPOS COMPARABLES NAMELY CONTROL PRINT LTD. AND GEMINI COMMUNICATION LTD. AND APPLIED CURRENT YEAR DATA ON THE REMAINING COMPARABLES. THE MEAN MARGIN OF THE REMAIN ING COMPARABLES CAME TO 0.38% AS AGAINST 0.21% OF THE APP ELLANT (AFTER TREATING REIMBURSEMENT FOR ADVERTISEMENT EXPENSES AS OPERATING EXPENSE). THE LD. CIT (A) ACCORDINGLY CONC LUDED THAT AN ADJUSTMENT OF RS. 3.3 CRORES IS REQUIRED TO BE DONE BE CAUSE THE DIFFERENCE BETWEEN ALP AND THE TRANSFER PRICE EXCEEDS 5% OF THE ALP. THE LD. COUNSEL FOR THE APPELLANT SUBMITTED THAT TH E LD. CIT (A) ERRED IN MAKING AN INCORRECT CALCULATION IN THIS R EGARD. THE DIFFERENCE BETWEEN THE ALP AND TRANSFER PRICE IS WITH IN THE PERMISSIBLE 5% RANGE AS SHOWN IN THE COMPUTATION BELOW : PARTICULARS REFERENCE AMOUNT (IN RS.) SALES A 19,431,647,242 AE COSTS B 9,205,413,953 64 THIRD PARTY COSTS C 10,184,978,943 TOTAL COSTS D= B+C 19,390,392,896 OPERATING PROFIT E= A-D 41,254,346 APPELLANTS OP/SALES F= E/A 0.21% ARMS LENGTH OP/SALES G 0.38% ARMS LENGTH OP H=A*G 73,840,260 SHORTFALL IN APPELLANTS OP I=H-E 32,585,913 ARMS LENGTH AE COSTS J=B-I 9,172,828,040 105% OF ARMS LENGTH AE COSTS K=J*1.05 9,631,469,442 TP ADJUSTMENT (IF ANY) L=B-K NIL 55. THE LD. COUNSEL SUBMITTED THAT NO ADJUSTMENT TO THE A LP COULD BE MADE AS UNDER THE PROVISO TO SECTION 92C(3), IF THE DIFFERENCE BETWEEN THE PRICE RECORDED IN THE BOOKS A ND THE ALP DETERMINED WAS LESS THAN 5%, NO ADJUSTMENT COULD BE M ADE. THE LD. CIT (DR) RELIED ON THE ORDERS OF THE TPO AND THE CIT(A). 55. IN VIEW OF THE DETAILS SUBMITTED BY THE ASSESS EE WHICH HAVE NOT BEEN DISPUTED OR CONTROVERTED BY THE LD. CIT(DR), I T IS APPARENT THAT BY APPLYING THE PERMISSIBLE 5% MARGIN UN DER THE SECOND PROVISO TO SECTION 92C(2), NO ADJUSTMENT IS WARRANTED. ACCORDINGLY, THIS GROUND IS ALLOWED AND THE ADJUSTMENT MADE BY THE LD. CIT (A) IS DIRECTED TO BE DELETED. 56. GROUND NO. 5 : THIS GROUND HAS NOT BEEN PRESSED BY THE ASSESSEE AND IS ACCORDINGLY DISMISSED. GROUNDS IN DEPARTMENTS APPEAL (ITA NO. 3410/DEL/12 ) FOR AY 2005-06 GROUND NO. 1: THE LD. CIT (A) HAS ERRED IN EXCLUDING CERTAIN COMPARABLES WHILE BENCHMARKING INTERNATIONAL TRANSA CTIONS 65 UNDER CLASS I MANUFACTURING AND CLASS II DISTRI BUTION SEGMENT . 57. THE ASSESSEE IS ENGAGED IN MANUFACTURING OF CONSUMER ELECTRONICS, HOME APPLIANCES &COLOUR MONITORS (KNOW N AS CLASS I- MANUFACTURING SEGMENT) WHICH INCLUDES THE IMPORT OF RAW MATERIALS, IMPORT OF SPARE PARTS, EXPORT OF FINISHED GOODS, PURCHASE OF SAMPLES AND PURCHASE OF SALES PROMOTION MATERIAL. IN THE TP STUDY, THE ASSESSEE SELECTED 11 COMPARABLES. THE TPO PROCEEDED TO UNDERTAKE A FRESH ANALYSIS AND ARRIVED A T A FRESH SET OF COMPARABLES BY ACCEPTING CERTAIN COMPARABLES OF THE ASSESSEE AND INTRODUCING CERTAIN NEW COMPARABLES. THE COMPARAB LES WHICH WERE INTRODUCED BY THE TPO AND THEREAFTER REJECTED BY THE CIT (A) ARE UNDER CHALLENGE BY THE DEPARTMENT IN ITS APPEAL. TH E DEPARTMENTS APPEAL IS IN RESPECT OF TWO COMPARABLES, NAMELY, VIDEOCON INDUSTRIES LTD. AND SAMTEL COLOUR LTD. 58. VIDEOCON INDUSTRIES LTD (CLASS I- MANUFACTURING): THE COMPANY WAS INCLUDED BY THE LD. TPO IN THE FINAL LIS T OF COMPARABLES BY MERELY RELYING ON ITS PREDECESSORS ORDER FOR AY 2004-05. ON APPEAL BY THE ASSESSEE, THE LD. CIT(A) E XCLUDED THIS COMPARABLE BY RELYING ON ITS PREDECESSORS ORDER FO R AY 2004-05 WHEREIN IT WAS HELD THAT THE COMPANY IS ENGAGED IN BAC KWARD INTEGRATION AND INDIGENOUS MANUFACTURING OF COMPONENTS , HENCE IT CANNOT BE TREATED AS AN APPROPRIATE COMPARABLE. 59. BEING AGGRIEVED BY THE CIT (A)S ORDER, THE DE PARTMENT IS IN APPEAL ASKING FOR INCLUSION OF THIS COMPARABLE. THE LD. CIT (DR) ARGUED THAT UNDER TNMM BROAD LEVEL OF FUNCTION AND PR ODUCT SIMILARITY IS MANDATED AND THIS COMPANY IS ENGAGED I N MANUFACTURING WHICH IS ALSO THE FUNCTION OF THE TESTED PARTY. HE 66 VEHEMENTLY ARGUED THAT PRODUCT SIMILARITY MAY NOT BE EXA CT AND AS LONG AS THERE IS A BROAD LEVEL OF SIMILARITY, COM PARABLES SHOULD BE ACCEPTED. IN THIS CASE, HE SUBMITTED THAT COMPONENTS OF COLOUR TVS ARE BEING MANUFACTURED BY THIS COMPARABLE, WHICH FALLS UNDER THE BROAD CATEGORY OF CONSUMER GOODS. HE ALSO ARGUED THAT PRIOR YEARS PRECEDENTS SHOULD NOT BE APPLIED TO QUESTIONS OF FACT. 60. THE LD. COUNSEL FOR THE ASSESSEE WHILE SUPPOR TING THE ORDER OF THE CIT (A) SUBMITTED THAT THE COMPANY SHOULD NOT BE TAK EN AS A COMPARABLE DUE TO FOLLOWING REASONS: (A) VIDEOCON DID NOT FORM A PART OF SIELS TP STUDY AND T HE SAME WAS INCLUDED BY THE TPO BY MERELY RELYING ON ITS OW N ORDER FOR AY 2004-05 WITHOUT CONDUCTING ANY FUNCTIONAL ANAL YSIS. (B) IT MAY BE NOTED THAT VIDEOCON WAS EXCLUDED AS A COMPARA BLE BY CIT (A) IN AYS 2003-04 AND 2004-05 AS WELL. ALSO , THE DEPARTMENT DID NOT FILE AN APPEAL ON THIS ISSUE AGAINST THE ORDER OF THE CIT (A) FOR AY 2004-05. THERE IS NO CHA NGE IN THE FACTS AND CIRCUMSTANCES OF THE CASE FROM AY 2004-05 A ND AY 2005-06. THE FUNCTIONAL DESCRIPTION OF THIS COMPANY AN D THAT OF THE APPELLANT HAS REMAINED THE SAME AND HENCE THE DECISION OF THE PRIOR YEAR SHOULD BE FOLLOWED. (C) THE COMPANY IS ENGAGED IN BACKWARD INTEGRATION AND INDIGENOUS MANUFACTURING OF COMPONENTS (GLASS SHELLS) AND DERIVES SIZEABLE PORTION OF INCOME FROM MANUFACTURE O F GLASS SHELLS, FUNNELS AND PANELS WHICH ARE USED IN MANUFA CTURING OF COLOUR TV. VIDEOCON ENJOYS COST BENEFITS DUE TO CAPTIVE MANUFACTURING OF CTV SHELLS. THE LD. COUNSEL RELIED ON THE DECISION OF THIS TRIBUNAL IN THE CASE OF SONY INDIA P. LTD V DCIT [2008] 114 ITD 448 (DEL) IN THIS REGARD WHERE ON SIMILAR FACTS VIDEOCON WAS HELD TO BE INCOMPARABLE TO SONY 67 INDIA, A COMPANY THAT WAS ENGAGED IN THE MANUFACTURE O F TVS AND OTHER CONSUMER GOODS, ON THE GROUND THAT IT UNDERTAK ES MANUFACTURING OF COMPONENTS FOR CTV UNITS WHICH REND ERS IT FUNCTIONALLY INCOMPARABLE TO COMPANIES WHICH IMPORT TH E SAME PARTS. 61. WE HAVE ANALYZED THE FUNCTIONAL AND PRODUCT PR OFILE OF VIDEOCON AND FIND THAT IT IS A COMPONENT MANUFACTURER, WHEREAS THE ASSESSEES MANUFACTURED GOODS ARE IN THE CATEGORY OF FINISHED GOODS. THOUGH THE COMPONENTS LIKE GLASS SHELLS AND F UNNELS ARE COMPONENTS OF TV SETS WHICH ARE MANUFACTURED BY THE AS SESSEE, IT WOULD BE WHOLLY INAPPROPRIATE TO TREAT THE TWO AS COMPAR ABLES UNDER TNMM AS THEY OPERATE IN ENTIRELY DIFFERENT SECTO RS. WHILE COMPONENTS ARE SOLD TO OEMS, FINISHED GOODS ARE SOLD TO END- CUSTOMERS AND FACE ENTIRELY DIVERSE MARKET RISKS AND D YNAMICS. FURTHERMORE, IN THE PRIOR YEARS THIS COMPARABLE HAS BE EN REJECTED IN FIRST APPEAL BY THE CIT (A) AND NO APPEAL WAS PREF ERRED AGAINST THE SAME. IT IS IMPORTANT TO MAINTAIN CONSISTENCY IF THERE IS NO CHANGE IN FACTS. WE ALSO NOTE THAT THE COORDINATE BENCH H AS, UNDER SIMILAR FACTS, EXAMINED THE APPROPRIATENESS OF THIS COMPARABLE IN SONY INDIA (SUPRA) AND HELD IT TO BE IN APPROPRIATE. IN VIEW OF THE ABOVE, WE DISMISS THIS GROUND OF APPEA L AND HOLD THAT VIDEOCON HAS BEEN RIGHTLY EXCLUDED BY THE CIT (A) FROM THE LIST OF COMPARABLES. 62. SAMTEL COLOUR LIMITED (CLASS I- MANUFACTURING): SAMTEL WAS INTRODUCED BY THE LD. TPO IN THE FINAL LIST OF COM PARABLES BY MERELY RELYING ON ITS PREDECESSORS ORDER FOR AY 200 4-05. THE COMPANY OPERATES IN ONLY ONE SEGMENT I.E. MANUFACTURE OF COLOUR 68 PICTURE TUBES AND ELECTRON GUN. IT HAS A RELATED PART Y TRANSACTION (RPT) AS A PERCENTAGE OF SALES OF 23.85%. 63. ON APPEAL BY THE ASSESSEE, THE LD. CIT (A) REL IED ON THE DECISIONS OF SONY INDIA (SUPRA) AND AVAYA INDIA PVT. LTD (ITA NO. 5150/DEL/2010) WHEREIN IT WAS HELD THAT COMPANIES HAVING MORE THAN 15% RPT SHOULD NOT BE TAKEN AS COMPARABLE. EVEN F OR AY 2004-05, IN ASSESSEES OWN CASE, KHAITAN ELECTRICALS LTD WAS EXCLUDED AS IT HAD RPT IN EXCESS OF 15%. BASED ON AB OVE, LD. CIT (A) EXCLUDED SAMTEL AS A COMPARABLE. 64. BEING AGGRIEVED BY THE CIT (A)S ORDER, THE DE PARTMENT IS IN APPEAL BEFORE THIS TRIBUNAL FOR INCLUSION OF THIS COM PARABLE. IT IS THE DEPARTMENTS CONTENTION THAT RPT FILTER SHOULD BE 25% I NSTEAD OF 15% AS IT IS A REASONABLE THRESHOLD FOR COMPARABIL ITY. THE LD. CIT (DR), FURTHER SUBMITTED THAT THE TRIBUNAL IN NUMEROUS DECISIONS HAS APPROVED A 25% THRESHOLD AND THE SAME SHOULD BE FOLLOWED IN THIS CASE AS WELL. 65. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THAT TH E COMPANY SHOULD NOT BE TAKEN AS A COMPARABLE ON THE GRO UND OF CONSISTENCY AS THE TPO IN SUBSEQUENT YEAR I.E. AY 200 6-07 HAS HIMSELF EXCLUDED COMPANIES HAVING RPT IN EXCESS OF 15%. FURTHER, EVEN AFTER APPLYING RPT FILTER OF 15%, IF SUFFICIENT NUMBER OF COMPARABLE COMPANIES ARE AVAILABLE FOR DETERMINATION OF ARMS LENGTH PRICE, THEN SUCH TOLERANCE LIMIT IS PROPER.THE L D. COUNSEL FOR THE ASSESSEE PLACED RELIANCE ON LSI TECHNOLOGIES INDIA PRIVATE LIMITED VS. ITO (IT (TP)A NOS.1380 & 1381/BANG/ 2010) AND TEXTRON INDIA PVT. LTD. V. DCIT (IT(TP)ANO.1228/BANG/2010, ETC) . 69 66. WE HAVE HEARD THE PARTIES AND ALSO PERUSED TH E RELEVANT FINDING AND THE MATERIAL REFERRED TO BEFORE US. THE E XERCISE OF DETERMINATION OF ARMS LENGTH PRICE U/S 92 OF THE ACT ENTAILS FINDING COMPARABLE UNCONTROLLED TRANSACTIONS/ENTITIES F OR THE PURPOSE OF COMPARISON. IF THE LEVELS OF RELATED PART Y TRANSACTIONS ARE HIGHER THE UNCONTROLLED NATURE OF THE COMPARABLE TRANSACTION OR ENTITY IS DILUTED AND THE COMPARABILITY IS COMPROM ISED. THEREFORE, IN PRINCIPLE, LOWER THE LEVEL OF RPT, MOR E ACCURATE THE RESULT IS LIKELY TO BE. HOWEVER, IF SUFFICIENT NUMBER OF COMPARABLES IS NOT AVAILABLE DUE TO PAUCITY OF DATA OR COMPARABLES , THE RPT THRESHOLD MAY HAVE TO BE RELAXED UPWARDS FOR REASONS OF PRACTICALITY. HOWEVER, IN SITUATIONS WHERE SUFFICIEN T NUMBERS OF COMPARABLES ARE AVAILABLE BY APPLYING A LOWER THRESH OLD, THE SAME SHOULD BE PREFERRED AS THE RESULTS ARE LIKELY TO BE MO RE ACCURATE. THE SAME VIEW HAS BEEN EXPRESSED BY THE COORDINATE BE NCH IN THE CASE OF MOTOROLA SOLUTIONS INDIA PVT. LTD.[2014] 35 IT R(T) 546 (DELHI - TRIB.) WE ACCORDINGLY HOLD THAT SINCE IN THE GIVEN SITUATION SUFFICIENT NUMBERS OF COMPARABLES ARE AVAILABLE EVEN BY FOLLOWING THE LOWER LEVEL OF THRESHOLD OF 15%, THE SAME SHOULD BE FOLLOWED. THIS GROUND IS ACCORDINGLY DISMISSED AND THE ORDER O F THE LD. CIT (A) IS UPHELD. 67. NOW WE COME TO CLASS II-, WHICH IS DISTRIBUTION SEGMENT : THE ASSESSEE IS ENGAGED IN DISTRIBUTION OF CONSUMER ELECTRONICS, HOME APPLIANCES, COLOUR MONITORS AND O THER IT & TELECOM PRODUCTS (KNOWN AS CLASS II- DISTRIBUTION SEG MENT) WHICH INCLUDES IMPORT OF FINISHED GOODS, IMPORT OF SPARE PA RTS, EXPORT OF SPARE PARTS, PURCHASE OF SAMPLES, EXPORT OF SAMPLES, PAYMENT FOR PACKING & R&D EXPENSES, PURCHASE OF SALES PROMOTION MATERIAL. IN 70 THE TP STUDY, THE ASSESSEE SELECTED 5 COMPARABLES. TH E TPO PROCEEDED TO UNDERTAKE A FRESH ANALYSIS AND ARRIVED A T A FRESH SET OF COMPARABLES. HE ACCEPTED SOME OF THE COMPARABLES OF THE ASSESSEE BUT ALSO INTRODUCED 8 NEW COMPARABLES. SOME OF THE COMPARABLES WHICH WERE INTRODUCED BY THE TPO WERE THER EAFTER REJECTED BY THE CIT (A) AND THE SAME ARE UNDER CHALLE NGE BY THE DEPARTMENT IN ITS APPEAL AS UNDER. LD. CIT (DR) SUBMITTE D THAT THE REVENUE IS AGGRIEVED IN RESPECT OF TWO COMPARABLE S, NAMELY CONTROL PRINT (INDIA) LTD. AND GEMINI COMMUNICATIONS L TD. 68. CONTROL PRINT (INDIA) LIMITED (CLASS II- DISTR IBUTION): THIS COMPARABLE WAS INTRODUCED BY THE LD. TPO IN THE FINAL LIST OF COMPARABLES BY MERELY RELYING ON HIS PREDECESSORS ORDER FOR AY 2004-05. THE COMPANY OPERATES IN ONLY ONE SEGMENT AN D IS ENGAGED IN CODING, MARKING SYSTEMS AND DEVELOPMENT OF DIGITAL PRINTING SYSTEMS FOR VARIOUS MARKETS & APPLICATIONS INC LUDING PACKAGING APPLICATIONS, SPECIALTY INDUSTRIAL APPLICAT IONS, TEXTILE PRINTING AND SECURITY PRINTING. 69. ON APPEAL BY THE ASSESSEE, THE LD. CIT (A) EX CLUDED THIS COMPARABLE BY RELYING ON HIS PREDECESSORS ORDER FO R AY 2004-05 WHEREIN IT WAS HELD THAT THE COMPANYS FUNCTIONAL/BUSINE SS PROFILE OF THE COMPANY VIS--VIS THE ASSESSEE IS DISSIMILAR. 70. THE LD. CIT (DR) SUBMITS THAT THE COMPANY HAS BEEN TAKEN AS A COMPARABLE AFTER CONDUCTING A DETAILED FUNCTIONAL ANALYSIS AND IS FUNCTIONALLY SIMILAR TO THE APPELLANT. HE EMPHA SIZED THAT UNDER TNMM BROAD LEVEL OF PRODUCT SIMILARITY IS REQU IRED AND SOME DEGREE OF DIVERGENCE IS ACCEPTABLE BOTH IN RESPE CT OF PRODUCT DIFFERENCE AND FUNCTIONAL DIFFERENCE. 71 71. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THAT TH E COMPANY SHOULD NOT BE TAKEN AS A COMPARABLE DUE TO FOL LOWING REASONS: (A) ________________________________ THE SAME WAS INCLUDED BY THE TPO BY MERELY RELYING ON HIS OWN ORDER FOR A Y 2004- 05 WITHOUT CONDUCTING ANY FUNCTIONAL ANALYSIS. THIS WA S EXCLUDED AS A COMPARABLE BY CIT(A) IN AY 2004-05 AS WELL. AND THE DEPARTMENT DID NOT FILE AN APPEAL ON THIS ISSUE AGAINST THE ORDER OF THE CIT(A) FOR AY 2004-05. (B) ________________________________ THE COMPANY IS NOT A TRADER BUT A MANUFACTURER CUM ASSEMBLER OF SOLVENTS, IN K- ROLLS, CODING MACHINES. IT HAS A COMPLETELY DIFFEREN T FUNCTIONAL PROFILE AS IT IS ENGAGED MANUFACTURING OF MARKING AND CODING MACHINES. NOT ONLY THE ACTIVITY IS DIFFEREN T, THE PRODUCTS ARE ALSO COMPLETELY DISSIMILAR. 72. WE HAVE PERUSED THE ANNUAL REPORT OF THIS COMP ANY AND WE FIND THAT THIS COMPANY IS ENGAGED IN MANUFACTURING AC TIVITY. THE PRODUCTS ARE ALSO VERY DISSIMILAR TO THOSE TRADED BY TH E ASSESSEE IN ITS CLASS II SEGMENT. THE FINANCIALS OF THIS COMPANY S TATE THAT IT HAS A SINGLE SEGMENT COMPRISING OF, CODING AND MARK ING MACHINES AND CONSUMABLES THEREOF. IT IS QUITE OBVIOUS THAT THIS COMPARABLE IS WHOLLY UNFIT TO BE CHOSEN AS A COMPARA BLE TO THE TRADING SEGMENT OF THE ASSESSEE AS IT IS FUNCTIONALLY D ISSIMILAR. IN A.Y 2004-05, THIS COMPARABLE WAS ORDERED TO BE REMOV ED BY THE CIT (A) AND NO APPEAL WAS FILED AGAINST HIS ORDER. I N THESE CIRCUMSTANCES, WE HOLD THAT THE LD. CIT (A)S ORDER IN THIS REGARD IS CORRECT AND JUSTIFIED AND DOES NOT WARRANT ANY INTER FERENCE. 72 73. GEMINI COMMUNICATIONS LIMITED (CLASS II- DISTRI BUTION): THE LD. TPO INCLUDED THIS COMPARABLE BY MERELY RELYI NG ON ITS PREDECESSORS ORDER FOR AY 2004-05. THE LD. CIT (A) EXCLUDED THIS COMPARABLE BY RELYING ON HIS PREDECESSORS ORDER FO R AY 2004-05 WHEREIN IT WAS HELD THAT THE FUNCTIONAL/BUSINESS PROFILE OF THE COMPANY VIS--VIS THE ASSESSEE IS DISSIMILAR. IT IS A FULL-FLEDGED AND END-TO-END IT SOLUTIONS AND SERVICE PROVIDER UNLI KE THE ASSESSEE WHICH IS ENGAGED IN DISTRIBUTION OPERATIONS O NLY. 74. BEFORE US, THE CIT (DR) SUBMITS THAT THE COMPAN Y HAS BEEN TAKEN AS A COMPARABLE AFTER CONDUCTING A DETAILED FUN CTIONAL ANALYSIS AND IS SIMILAR TO THE APPELLANT IN SEVERAL M ATERIAL RESPECTS. 75. THE LD. COUNSEL FOR THE ASSESSEE WHILE SUPPO RTING THE ORDER OF THE CIT (A) SUBMITTED THAT THE COMPANY SHOULD NOT BE TAK EN AS A COMPARABLE DUE TO FOLLOWING REASONS: (A) ________________________________ GEMINI IS ENGAGED IN THE BUSINESS OF PROVIDING SOLUTIONS ON NETWORKING AND COMMUNICATIONS WITH PRODUCTS OF COMPANIES LIKE CISCO, NORTEL, AVAYA, ETC. (B) ________________________________ THE SAME WAS EXCLUDED BY THE CIT (A) FOR AY 2004-05 BUT THE DEPARTMENT DID NOT FILE AN APPEAL ON THIS ISSUE. SINCE, DEPARTMENT HAS ACCEPTED IT AS A COMPARABLE IN ONE YEAR, IT CANNOT CHANGE ITS STAN D AND CHALLENGE IT IN THE SUBSEQUENT YEAR, IF THERE IS NO CH ANGE IN THE FACTS AND CIRCUMSTANCES OF THE CASE. (C) ________________________________ FURTHER, THE MAJOR PRODUCTS DEALT BY IT ARE COMMUNICATION EQUIPMENT AND ITS MAJOR SOURCE OF REVENUE IS SALE OF NETWORK PRODUCTS AS WELL 73 AS NETWORK SERVICE SOLUTIONS. IT IS A LEADING NETWOR KING SOLUTIONS AND TECHNICAL SERVICE PROVIDER. 76. WE HAVE PERUSED THE ORDERS OF THE LOWER AUTHOR ITIES AND THE ANNUAL REPORT OF THIS COMPANY. WE FIND THAT THIS COMPAN Y IS A LEADING NETWORKING SOLUTIONS SERVICE PROVIDER. AS PA RT OF THE NETWORKING SOLUTIONS IT PROVIDES TO ITS CLIENTS, IT SELLS COMMUNICATION EQUIPMENT AS WELL. THE SOLUTIONS COMPRIS E OF LAN AND WAN DESIGNS, ITES CONSULTING SOLUTIONS, DATA CENTE R DESIGN SOLUTIONS, SECURITY CONSULTING SOLUTIONS ETC. ENTIRE RE VENUE HAS BEEN REPORTED UNDER A SINGLE SEGMENT OF NETWORK PROD UCTS AND SERVICES. THESE FACTS SHOW THAT THE CIT (A) HAS RIGHTL Y ORDERED ITS EXCLUSION ON ACCOUNT OF FUNCTIONAL DISSIMILARITY. TH E ASSESSEE IN ITS CLASS II SEGMENT IS ENGAGED IN PURE TRADING/DISTRIB UTION OF CONSUMER ELECTRONICS, HOME APPLIANCES, MONITORS AND OTHER PRODUCTS. THE FACTORS OF COMPARABILITY PROVIDED IN RU LE 10B (2) ARE NOT SATISFIED AT ALL AND ACCORDINGLY WE HOLD THAT THE LD. CIT (A) HAS RIGHTLY ORDERED ITS EXCLUSION. GROUND NO. 2: DISALLOWANCE OF EXPENDITURE ON RECRUITMENT AND TRAINING 77. THE LD. COUNSEL SUBMITTED THAT THE SAID ISSUE IS C OVERED BY DECISION OF HONBLE DELHI HIGH COURT IN ASSESSEES O WN CASE FOR AY 1999-2000, 2002-03 AND AY 2003-04 WHEREIN THE DELHI HIGH COURT AFFIRMED THE DECISION OF THIS ITAT OF ALLOWING TH E DEDUCTION OF EXPENDITURE INCURRED ON RECRUITMENT AND TRAINING OF EMPLOYEES. THE LD. AO ERRED IN TREATING IT AS A DEFERRED REVENUE EXPENDITURE ON THE ASSUMPTION THAT RECRUITMENT EXPENSES WILL RESULT I N LONG TERM BENEFIT. HE FAILED TO APPRECIATE THAT SUCH EXPENDI TURE WAS REVENUE IN NATURE, INCURRED FOR THE PURPOSE OF BUSIN ESS AND 74 THEREFORE ALLOWABLE UNDER SECTION 37(1) OF THE ACT. LD. CIT (DR) RELIED ON THE ORDER OF THE CIT (A). 78. IT HAS NOW BEEN SETTLED THAT RECRUITMENT AND TRAININ G EXPENSES HAVE TO BE TREATED AS REVENUE EXPENDITURE AND CANNOT BE SEEN AS LEADING TO ENDURING BENEFIT WARRANTING ANY DI SALLOWANCE. WE OBSERVE THAT SIMILAR DISALLOWANCES WERE MADE IN THE PRIOR YEARS AS WELL WHICH HAVE BEEN DELETED IN APPEAL. TH E ISSUE TRAVELLED UP TO THE HIGH COURT AND THE HONBLE DELHI HI GH COURT HAS AFFIRMED THE VIEW TAKEN BY THIS TRIBUNAL THAT THESE EXPENSES ARE ALLOWABLE IN FULL IN THE YEAR IN WHICH IT IS INCU RRED. ORDERS DATED 9.06.2013 AND 15.05.2017 IN THE APPEALS FOR A.Y RS 1999- 2000 AND 2003-04 RESPECTIVELY OF THE DELHI HIGH COURT HAVE BEEN PLACED BEFORE US. RESPECTFULLY FOLLOWING THE DECISION OF THE DELHI HIGH COURT WE DISMISS THIS GROUND OF APPEAL. AY 2006-07 (ITA NO. 5856/DEL/10) 79. THE FACTS AND BUSINESS MODEL IN THE PRESENT ASS ESSMENT YEAR I.E. 2006-07 ARE SIMILAR TO THE FACTS ALREADY STAT ED FOR AY 2005-06. THE APPELLANT HAD FILED ITS RETURN OF INCOME ON NOVEMBER 29, 2006, DECLARING AN INCOME OF RS. 36,26,44,434. A SUMMARY OF THE INTERNATIONAL TRANSACTIONS AND THE APPELLANTS APPROA CH IN DETERMINING THEIR ALP IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPRIATE METHOD AS PER TP STUDY PROFIT LEVEL INDICAT OR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPAR ABLES CONSID ERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS I MANUFACTURING (CONSUMER TRANSACTIONAL NET MARGIN METHOD OP/OR 2.22% 6 2.52% 75 PARTICULARS MOST APPROPRIATE METHOD AS PER TP STUDY PROFIT LEVEL INDICAT OR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPAR ABLES CONSID ERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY ELECTRONICS, AND HOME APPLIANCES) IMPORT OF RAW MATERIALS, IMPORT OF STORES AND SERVICE PARTS, EXPORT OF FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS (TNMM) CLASS II TRADING (CONSUMER ELECTRONICS, AND HOME APPLIANCES) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICE PARTS, EXPORT OF FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS RESALE PRICE MARGIN (RPM) GROSS PROFIT MARGIN (GPM) 24.78% 12 23.16% CLASS III MANUFACTURING (COLOR MONITORS) IMPORT OF RAW MATERIALS, IMPORT OF STORES AND SERVICE PARTS, EXPORT OF FINISHED GOODS, IMPORT OF FIXED ASSETS TNMM OP/OR 6.80 5 2.29% CLASS IV TRADING (COLOR MONITORS AND OTHER IT PRODUCTS) IMPORT OF FINISHED GOODS, IMPORT OF RPM GPM 10.15% 9 8.69% 76 PARTICULARS MOST APPROPRIATE METHOD AS PER TP STUDY PROFIT LEVEL INDICAT OR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPAR ABLES CONSID ERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY STORES AND SERVICE SPARES, SERVICE INCOME FROM HAND HELD PHONES 80. THE DISPUTE IN THE PRESENT APPEAL (ITA NO. 585 6/DEL/2010) FILED BY THE APPELLANT PERTAINS TO THE INTERNATIONAL TRANS ACTIONS GROUPED UNDER CLASS-I AND CLASS-III (MANUFACTURING) SEGMENT AND CLASS-II AND CLASS-IV (TRADING) SEGMENTS. THERE IS NO DISPUTE WITH RESPECT TO CLASS V (CONTRACT SOFTWARE DEVELOPMENT AND REIMBURSEMENT OF EXPENSES) TRANSACTIONS. 81. IN CLASS-I (MANUFACTURING SEGMENT) THE APPELLAN T WAS ENGAGED IN THE MANUFACTURING OF CONSUMER ELECTRONIC G OODS AND HOME APPLIANCES AND IN CLASS-III (MANUFACTURING SEG MENT), THE APPELLANT WAS ENGAGED IN THE MANUFACTURING OF COLOUR M ONITORS. TRANSACTIONAL NET MARGIN METHOD WAS CHOSEN AS THE MOST APPROPRIATE METHOD IN ITS TRANSFER PRICING STUDY FOR BO TH THESE SEGMENTS. THE PROFIT LEVEL INDICATOR TAKEN WAS OPERATING PROFIT/OPERATING REVENUE. FOR THE BENCHMARKING EXERCIS E IN CLASS-I AND CLASS-III SEGMENTS, AN ECONOMIC ANALYSIS WAS CAR RIED OUT IN THE TP STUDY LEADING TO IDENTIFICATION OF 6 AND 5 UNCO NTROLLED COMPARABLE COMPANIES RESPECTIVELY. SINCE THE APPELLAN T HAD EARNED PROFIT MARGIN OF 2.22% AND 6.8% IN THE CLASS- I AND CLASS- III SEGMENTS RESPECTIVELY WHICH WAS WITHIN THE 5% RA NGE OF THE PROFIT MARGIN EARNED BY THE COMPARABLES, IT WAS CONCLU DED THAT THE INTERNATIONAL TRANSACTIONS WERE AT ARMS LENGTH. 77 82. IN CLASS-II (TRADING SEGMENT), THE APPELLANT WA S ENGAGED IN THE TRADING OF CONSUMER ELECTRONIC GOODS AND HOME APPL IANCES AND IN CLASS-IV (TRADING SEGMENT), THE APPELLANT WAS ENGAGE D IN THE TRADING OF COLOUR MONITORS AND OTHER IT PRODUCTS. FOR CLASS-II AND CLASS-IV SEGMENTS, RESALE PRICE METHOD (RPM) WAS CHOS EN AS THE MOST APPROPRIATE METHOD TO DETERMINE THE ALP WITH GROSS PROFIT MARGIN (GROSS PROFIT /SALES) AS THE PROFIT LEVEL INDIC ATOR. THE ECONOMIC ANALYSIS CARRIED OUT IN THE TP STUDY FOR CLAS S-II AND CLASS-IV SEGMENTS RESULTED IN IDENTIFICATION OF 12 AND 9 UNCONTROLLED INDEPENDENT COMPARABLE COMPANIES RESPECTI VELY. SINCE THE APPELLANT HAD EARNED GROSS PROFIT MARGIN OF 24.78% AND 10.15% IN THE CLASS-II AND CLASS-IV SEGMENTS RESPECTIV ELY WHICH WAS HIGHER THAN THE PROFIT MARGIN EARNED BY THE COMPARA BLES, IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS WERE AT A RMS LENGTH. 83. THE TPO REJECTED THE MOST APPROPRIATE METHOD ADO PTED BY THE ASSESSEE. HE DISCARDED THE RESALE PRICE METHOD FOR CLASS-II (TRADING) AND CLASS-IV (TRADING) SEGMENT. AS PER THE T PO, FOR BOTH THE SEGMENTS TRANSACTIONAL NET MARGIN METHOD (TNMM) WAS THE MOST SUITABLE METHOD FOR DETERMINING OF ARMS LENGTH P RICE. UNDER TNMM HE SELECTED OPERATING PROFIT MARGIN ON REVENUES (OP/OR; OP = OPERATING PROFIT/ OR = OPERATING REVENUE) AS THE P ROFIT LEVEL INDICATOR FOR BOTH THE SEGMENTS. FURTHER, THE TPO WHILE COMPUTING THE PROFIT LEVEL INDICATOR OF THE APPELLANT FOR MANUFAC TURING AND TRADING SEGMENTS INCREASED THE QUANTUM OF OPERATING EXPE NDITURE TAKEN INTO ACCOUNT TO INCREASE THE OPERATING PROFIT BY RS . 86.22CRORES. THE AFORESAID AMOUNT OF RS. 86.22 CRORE S HAD BEEN RECEIVED BY THE APPELLANT DURING THE RELEVANT FINANCIAL YEAR FROM ITS PARENT COMPANY AS A REIMBURSEMENT UNDER AN ASSISTA NCE 78 AGREEMENT REFERRED TO AS MARKETING DEVELOPMENT FUND (MD F) AGREEMENT. IN TERMS OF MDF AGREEMENT, AS IN PRIOR YEA RS, THE APPELLANT HAD RECEIVED THE ASSISTANCE FROM ITS PARENT CO MPANY TO CONDUCT CERTAIN PREDEFINED MARKETING ACTIVITIES. THIS A MOUNT HAS BEEN SHOWN AS REIMBURSEMENT IN THE FORM 3CEB AND THE TR ANSFER PRICING STUDY AND WAS REDUCED FROM THE EXPENDITURE SH OWN UNDER THE HEAD ADVERTISEMENT. ACCORDINGLY, IN THE PROFIT A ND LOSS ACCOUNT OF THE FINANCIAL STATEMENT UNDER HEAD ADVERTIS EMENT EXPENDITURE ONLY THE NET AMOUNT WAS SHOWN. THOUGH THE G ROSS AMOUNT EXPENDED FOR ADVERTISEMENT WAS RS 229.84 CRORES , ON ACCOUNT OF REIMBURSEMENT RECEIVED OF RS. 86.22CRORES, THE NET AMOUNT OF RS. 229.84-RS.86.22 CRORES = 143.61 CRORES WAS SHOWN AS THE NET ADVERTISEMENT EXPENDITURE. THE TPO CONCLUDED THAT THIS WAS AN ERRONEOUS APPROACH AND WAS OF THE VIEW THAT THE ENTIRE AMOUNT OF RS. 229.84 CRORES INCURRED UNDER THE HEAD ADVERTISEMENT SHOULD BE TAKEN INTO ACCOUNT TO COMPUTE OPERATING PROFIT AND THE OPERATING PROFIT MARGIN. THIS APPROACH AND CALCULATION OF THE TPO WAS BASED ON A SIMILAR APP ROACH ADOPTED IN THE PRIOR ASSESSMENT YEARS. ACCORDINGLY, W HILE THE OPERATING EXPENDITURE UNDER THE HEAD ADVERTISEMENT WAS INCREASED FROM RS. 143.61 CRORES TO RS. 229.84 CRORE S LEADING TO FALL IN OPERATING PROFIT AND MARGIN, THE CORRESPONDING REIMBURSEMENT OF RS. 86.22 CRORES RECEIVED FROM THE A PPELLANTS PARENT COMPANY WAS NOT INCLUDED AS PART OF THE REVENUE. BASED ON THIS APPROACH, THE OPERATING PROFIT MARGIN (OP/OR) OF CLASS-I AND CLASS-III MANUFACTURING SEGMENTS WAS DETERMINED A T (-) 0.16% AND 4.42% RESPECTIVELY. FURTHER, THE OPERATING PROFIT MA RGIN (OP/OR) OF CLASS-II AND CLASS-IV TRADING SEGMENTS WAS DETERMINED AT (-) 1.94% AND (-) 3.36% RESPECTIVELY. 79 84. THE TPO FURTHER PROCEEDED TO UNDERTAKE A FRES H BENCHMARKING ANALYSIS OF THE UNCONTROLLED COMPARABLE COMPANIES AND ARRIVED AT A SET OF 5 COMPARABLE COMPANIES FOR T HE CLASS-I MANUFACTURING SEGMENT, 3 COMPARABLES FOR THE CLASS-II TRADING SEGMENT AND 11 COMPARABLES FOR CLASS-IV TRADING SEGME NTS. THE ARITHMETIC MEAN OF THE OPERATING PROFIT MARGIN (OP/OR) O F THESE COMPARABLES FOR THE CLASS-I MANUFACTURING SEGMENT WAS COMPUTED AT 2.74%. SIMILARLY, THE PROFIT MARGIN OF THE COMPARABL ES IN THE CLASS-II AND CLASS-IV TRADING SEGMENTS WERE CARRIED O UT AT 2.45% AND 1.61% RESPECTIVELY. TO COMPUTE PROFIT LEVEL INDI CATORS OF THE COMPARABLE COMPANIES, THE TPO USED MULTIPLE YEARS D ATA (CURRENT AND TWO PREVIOUS YEARS TO THE EXTENT OF AVAILABILITY O F DATA). THE MARGINS COMPUTED BY THE TPO ARE AFTER MAKING ADJUSTME NTS ON ACCOUNT OF WORKING CAPITAL DIFFERENCES 85. BASED ON THE ABOVE APPROACH, THE TPO WORKED O UT AN ADJUSTMENT TO THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS PERTAINING TO CLASS-I MANUFACTURING SEGM ENT AT RS. 439,163,419/-. IN RESPECT OF CLASS-II AND CLASS-IV TRADING SEGMENTS, THE ADJUSTMENT TO THE ARMS LENGTH WAS WORKED OU T TO BE AT RS. 509,049,110 AND RS. 300,466,885 RESPECTIVEL Y. THERE WAS NO ADJUSTMENT MADE TO THE CLASS III AND CLASS V SE GMENTS. 86. THE AO INCORPORATED THE ADJUSTMENT TO THE ALP MAD E BY THE TPO AND ALSO MADE THE FOLLOWING ADDITIONS TO TOTAL INCO ME: (A) ________________________________ RECRUITMENT AND TRAINING EXPENSE OF RS. 1,03,07,792 WAS TREATED AS CA PITAL EXPENDITURE AND NOT ALLOWABLE AS A REVENUE EXPENDITURE U/S 37 OF THE ACT; 80 (B) ________________________________ DEPRECIATION ON UPS, PRINTERS AND SERVERS WAS RESTRICTED TO 15% AS AGAINST 6 0% CLAIMED BY THE APPELLANT LEADING TO A DISALLOWANCE OF RS. 7,72,086. 87. THE ASSESSEE BEING AGGRIEVED BY THE ORDERS OF THE TPO AND AO FILED OBJECTIONS BEFORE THE DRP, NEW DELHI CONTESTI NG THE AFORESAID ADDITIONS MADE TO THE TOTAL INCOME OF THE ASSES SEE ON VARIOUS GROUNDS. THE LD. DRP DISPOSED OFF THE OBJECTI ONS FILED BY THE ASSESSEE VIDE ITS DIRECTIONS UNDER SECTION 144C OF THE INCOME TAX ACT, 1961 30 TH SEPTEMBER 2010 AND UPHELD THE ORDER OF THE TPO/AO. 88. IN PURSUANCE TO THE DRP DIRECTIONS, THE AO PASSE D THE FINAL ASSESSMENT ORDER DATED 19 TH OCTOBER 2010. AGGRIEVED BY THE ORDER OF THE AO (IMPUGNED ORDER), THE ASSESSEE HAS PREFERRE D THE PRESENT APPEAL AND HAS PRAYED FOR ADJUDICATION OF THE FOLLOW ING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL (ITA NO. 5856/DEL/10) FOR AY 2006-07 GROUND NO. 1 & 2: THESE ARE GENERAL IN NATURE. GROUND NO. 3 & 4.1: THESE GROUNDS HAVE NOT BEEN PRESSED BY THE ASSESSEE. THESE GROUNDS ARE ACCORDINGLY DISMISSE D AS NOT BEING PRESSED. GROUND NO. 4.2: THAT ON FACTS AND IN LAW, THE TPO/AO HAS ERRED IN REJECTING VOLTAS LIMITED AS A COMPARABLE COMPANY FOR BENCHMARKING THE INTERNATIONAL TRANSACTIONS UNDER C LASS II (TRADING OF CONSUMER ELECTRONICS AND HOME APPLIANCES SEGMENT ) 81 89. THE LD. TPO HAS REJECTED VOLTAS LTD. ON THE S OLE GROUND THAT THE COMPANY IS PERSISTENTLY MAKING LOSSES WITH DECLININ G NET MARGINS AND THE LD. DRP HAS UPHELD THE LD. TPOS REAS ONING. THE LD. COUNSEL FOR THE APPELLANT SUBMITTED THAT THIS COMPAR ABLE HAS BEEN ACCEPTED BY THE LD. TPO IN AYS. 2004-05 AND 200 8-09. THE LD. COUNSEL SUBMITTED THAT VOLTAS HAS 4 SEGMENTS I.E. ELE CTRO- MECHANICAL PROJECTS AND SERVICES, ENGINEERING PRODUC TS AND SERVICES, UNITARY COOLING PRODUCTS FOR COMFORT AND COM MERCIAL USE AND OTHERS. VOLTAS IS NOT A LOSS-MAKING COMPANY O N AN ENTITY LEVEL, RATHER, LOSSES ARE SUFFERED ONLY IN ONE SEGME NT. HOWEVER, THE SAME SEGMENT IS EARNING PROFITS IN FUTURE YEARS AND TH E LOSS IS ONLY IN THE CURRENT FINANCIAL YEAR AND IMMEDIATELY PR ECEDING FINANCIAL YEAR. IT HAS RECORDED A PROFIT IN THE FINANC IAL YEAR 2003- 04 AND THEREFORE IT IS FACTUALLY INCORRECT TO TREAT THIS C OMPANY AS A PERSISTENTLY LOSS-MAKING COMPANY. UNDER RULE 10B(4) D ATA OF CURRENT YEAR AND TWO IMMEDIATELY PRIOR YEARS CAN BE CONSIDERED IF THE SAME HAS A BEARING ON THE PROFITABILITY OF THE COMP ANY. THIS TRIBUNAL IN NUMEROUS CASES HELD THAT TO CHECK WHETHER A PERSISTENTLY LOSS COMPANY SHOULD BE EXCLUDED, DATA OF AT LEAST THREE YEARS (CURRENT PLUS TWO PRIOR YEARS) HAVE TO BE SEEN. 90. THE LD. COUNSEL ARGUED THAT VOLTAS CANNOT BE SAID TO BE CATEGORIZED AS A PERSISTENTLY LOSS-MAKING ENTITY BECAUS E PERSISTENT LOSS-MAKING ENTITIES IMPLY THAT LOSSES ARE SUFFERED YE AR AFTER YEAR LEADING TO EROSION OF NET WORTH. IN THE PRESENT CASE, A COMPANY SUFFERING LOSSES ONLY IN TWO YEARS CANNOT BE SAID TO BE PERSISTENT LOSS-MAKING COMPANY. FURTHER, IT HAS BEEN POINTED OUT TH AT TURNOVER OF THE COMPANY HAS INCREASED OVER THE YEARS, AND IT HAD NO INTENTION TO CLOSE DOWN ITS BUSINESS AND IS IN THE M ARKET FOR THE LONG RUN. THE LD. COUNSEL CONTENDED THAT THE COURTS HAVE 82 CONSISTENTLY HELD THAT IF A COMPANY IS FUNCTIONALLY COMP ARABLE, THEN IT CANNOT BE REJECTED MERELY ON THE BASIS THAT IT IS MAKING LOSSES. IN THIS REGARD, THE LD. COUNSEL PLACES RELIAN CE ON THE CASE LAWS BELOW: (A) ________________________________ IN THE CASES OF DCIT VS. EXXON MOBIL COMPANY INDIA PVT. LTD. (ITA NO. 4389/MUM/2010)(PARA 7) AND BOBST INDIA (P.) LTD. V. DCIT (ITA NO. 1380 (PN) OF 2010) , IT HAS BEEN OBSERVED THAT EXCLUSION OF A COMPARABLE MERELY ON THE GROUND TH AT THE COMPARABLE IS INCURRING ABNORMAL PROFIT MARGIN OR PE RSISTENT LOSSES WITHOUT CONSIDERING THE APPLICABLE LAW UNDER RU LE 10B OF THE INCOME TAX RULE, 1962 (RULES) IS UNTENABLE UNDER LAW; (B) ________________________________ THE SPECIAL BENCH OF HONBLE CHANDIGARH ITAT HELD IN THE CASE OF DCIT VS. QUARK SYSTEMS (P.) LTD [2010] 38 SOT 307 (CHD.) (SB) THAT IF A COMPANY IS FUNCTIONALLY COMPARABLE AND THE TURNOVER DO ES NOT SHOW DECLINING TREND, THEN MERELY ON THE BASIS THAT THE COMPARABLE COMPANY IS INCURRING LOSSES, THE COMPARAB LE CANNOT BE EXCLUDED. THE HONBLE AHMEDABAD ITAT REITER ATED THE ABOVE POSITION BY RELYING ON QUARK SYSTEMS SUPRA IN THE CASE OF ERHARDT+LEIMER (INDIA) PRIVATE LIMITED VS ACIT (ITA NOS. 3298/AHD/2011 & 2880/AHD/2012 ; (C) ________________________________ IN THE CASE OF CHRYSCAPITAL INVESTMENT ADVISORS (INDIA) PVT. LTD. VS. DCITDELHI)/[2015] 376 ITR 183 (DELHI), THE HONBLE JURISDICTIONAL HIGH COURT REITERATED THE SAME POSITIO N SUPRA THAT IT IS A SETTLED LAW THAT COMPARABLES CANNOT BE EXCL UDED 83 MERELY ON THE GROUND THAT IT IS MAKING ABNORMALLY HIG H PROFITS OR LOSSES. 91. THE LD. COUNSEL FURTHER RELYING ON 24/7 CUSTOMER.COM (P.) LTD. V. DCIT [2013] 21 ITR (TRIB) 514 (BANGALORE) SUBMITTED THAT WHEN IN A PARTICULAR ASSESSMENT YEAR, IF ARITHMETI C MEAN METHOD HAS BEEN APPLIED, COMPARABLES WITH ABNORMAL PROFITS/LOSSES CANNOT BE EXCLUDED. THIS IS FOR THE R EASON THAT UP UNTIL APRIL 1, 2014, INDIAN TRANSFER PRICING REGULATI ONS FOLLOWED THE ARITHMETIC MEAN METHOD WHICH TOOK INTO ACCOUNT ALL COM PARABLES IRRESPECTIVE OF THEIR MARGIN VARIANCE AND CALCULATES TH E AVERAGE OF ALL COMPARABLES FOR CALCULATING THE ALP. IN CONTRAST T O THIS, POST APRIL 1, 2014, INDIAN TRANSFER PRICING REGULATIONS NO W EMPLOY THE QUARTILE METHOD WHEREIN, THE COMPANIES THAT FALL IN THE EXTREME QUARTILES (I.E. ABNORMALLY HIGH PROFITS/LOSSES) GET EX CLUDED AND ONLY THOSE THAT FALL IN THE MIDDLE QUARTILE ARE RETAINE D FOR COMPARABILITY. FOR THE AY UNDER CONSIDERATION, ARITHME TIC MEAN METHOD HAS BEEN APPLIED AND THUS, COMPARABLES WITH HI GHER PROFITS/LOSSES CANNOT BE EXCLUDED. 92. FURTHER, THE LD. COUNSEL SUBMITTED THAT THE EXCLUSIO N OF PERSISTENT LOSS-MAKING COMPANIES HAS BEEN IN THE CONTEX T OF IT COMPANIES WHICH IS A BOOMING SECTOR WHERE THE INDUSTRY TREND HAS BEEN OF GROWTH AND PERSISTENT LOSSES IS NOT NORMAL. H OWEVER, THIS APPROACH CANNOT BE IPSO FACTO EXTENDED TO OTHER INDUSTRIES SUCH AS CONSUMER ELECTRONICS ETC. WHICH ARE VERY COMPETITIVE IN DUSTRIES AS IS EVIDENT FROM THE LOW MARGINS OF THE COMPARABLE COMP ANIES. 93. THE LD. CIT (DR) RELIED VEHEMENTLY ON THE ORD ERS OF THE LD. TPO AND DRP AND SUBMITTED THAT TWO YEARS OF CONTINUOUS L OSSES 84 DEMONSTRATED THAT THE COMPANY WAS IN A DOWNWARD TREND AND WAS EXPERIENCING A SITUATION THAT WAS DIFFERENT FROM THAT OF TH E APPELLANT. ON ACCOUNT OF THE EXTRAORDINARY SITUATION, THIS COMPANY CANNOT BE TAKEN AS A COMPARABLE. THE LD. CIT (DR) FUR THER SUBMITTED THAT THE TRIBUNAL IN VARIOUS DECISIONS HAS UPH ELD THE APPLICATION OF PERSISTENT LOSS MAKING AS A FILTER. 94. WE HAVE PERUSED THE ORDERS OF THE LOWER AUTHORITI ES AND EXAMINED THE ANNUAL REPORT OF THIS COMPANY AND SEEN TH E PROFITABILITY TREND AS WELL. THIS COMPANY IS INDISPUTA BLY A FUNCTIONALLY COMPARABLE COMPANY AND THEREFORE THE QUE STION THAT REQUIRES OUR CONSIDERATION IS WHETHER IT HAS SHOWN PE RSISTENT LOSSES AND WHETHER PERSISTENT LOSSES CAN BE A GROUND F OR EXCLUDING A COMPARABLE. IT IS NOW SETTLED THAT A MERE LOSS-MAKING OR ABNORMALLY HIGH LOSS/PROFIT MAKING COMPANY CANNOT BE EXCLUDED UNLESS IT CAN BE SHOWN THAT EXTRAORDINARY ECONOMIC FAC TORS ARE PRESENT. IT IS ALSO NOW SETTLED THAT IF A COMPANY HAS BEE N EXHIBITING PERSISTENT LOSSES FOR A LONG PERIOD LEADING TO EROSION OF ITS NET WORTH, IT WOULD BE CONSIDERED AS FACING AN EXTRA ORDINARY ECONOMIC SITUATION AND AS NOT BEING REPRESENTATIVE OF T HE ECONOMY/SECTOR IN WHICH IT OPERATES. IN THE PRESENT FA CTS WE FIND THAT THIS COMPARABLE (VOLTAS) HAS SHOWN AN OPERATING LO SS ONLY IN THE CURRENT YEAR AND ONE PRIOR YEAR (F.Y. 04-05). IN THE FINANCIAL YEAR 2003-04, IT IS STATED TO HAVE EARNED A POSITIVE PRO FIT MARGIN OF 4% IN THE RELEVANT SEGMENT. IT HAS ALSO BEEN CONTENDED TH AT ITS NET WORTH HAS NOT BEEN RENDERED NEGATIVE AND HAS SHOWN C ONSISTENT INCREASE IN TURNOVER FROM F.Y. 2003-04 ONWARDS FOR F IVE YEARS IN A ROW. IN OUR VIEW WHILE EXAMINING WHETHER A COMPANY C AN BE EXCLUDED ON THE GROUND OF PERSISTENT LOSSES, A LONG TER M TREND HAS TO BE SEEN AND AT LEAST A PERIOD OF 3 YEARS (CURRENT YE AR AND TWO 85 PRIOR YEARS) IS MANDATORY UNDER RULE 10B(4). THIS IS AN EXERCISE WHICH HAS NOT BEEN CARRIED OUT BY THE TPO. WE ACCORDIN GLY SET ASIDE THIS MATTER TO THE FILE OF THE TPO TO DETERMINE WHE THER VOLTAS HAD SHOWN LOSSES IN THE THREE YEARS COVERED UNDER RU LE 10B (4) AND WHETHER ITS NET WORTH HAD BEEN RENDERED NEGATIVE. I F BOTH THE CONDITIONS ARE FOUND TO HAVE BEEN MET, I.E., THREE YEA RS CONTINUOUS LOSSES LEADING TO EROSION OF NET WORTH, VOLTAS WOULD H AVE TO BE EXCLUDED. IF IT IS FOUND TO HAVE FAILED EITHER OR BOTH OF THE CONDITIONS, IT SHALL BE RETAINED AS A COMPARABLE. W HILE DETERMINING THIS, THE TPO SHALL TAKE INTO ACCOUNT ONL Y THAT SEGMENT OF VOLTAS WHICH IS COMPARABLE TO THAT OF THE ASSE SSEE, I.E., COOLING PRODUCTS. THIS GROUND IS THEREFORE DISPOSED OFF IN TERMS OF THE ABOVE DIRECTIONS. GROUND NO. 4.3: THAT ON FACTS AND IN LAW, THE TPO/AO HAS ERRED IN CONSIDERING BAJAJ ELECTRICALS LIMITED AS A COMPARABLE COMPANY WHILE APPLYING THE TRANSACTIONAL NET MARGIN METHOD TO BENCHMARK THE INTERNATIONAL TRANSACTIONS UNDER CLAS S II (TRADING OF CONSUMER ELECTRONICS AND HOME APPLIANCES SEGMENT ) 95. THE LD. TPO HAS INCLUDED THIS COMPARABLE ON GROUND THAT IT IS FUNCTIONALLY SIMILAR AND HAS BEEN ACCEPTED AS COM PARABLE BY THE APPELLANT IN FY 2004-05. THE LD. DRP HAS UPHELD TH E LD. TPOS REASONING. THE LD. COUNSEL FOR THE APPELLANT SU BMITTED THAT BAJAJ IS ENGAGED IN MANUFACTURING AND DISTRIBUTION OF VARIOUS LIGHTING, CONSUMER DURABLES, GALVANIZED STRUCTURES A ND OTHER PRODUCTS. IT HAS FOUR SEGMENTS AS BELOW: 'LIGHTING' INCLUDES LAMPS, TUBES AND LUMINARIES; 'CONSUMER DURABLES' INCLUDES APPLIANCES & FANS; 86 'ENGINEERING & PROJECTS' INCLUDES TRANSMISSION LINE TOWERS, TELECOMMUNICATIONS TOWERS, HIGHMAST, POLES AND SPECI AL PROJECTS; 'OTHERS' INCLUDES DIE-CASTING AND WIND ENERGY. 96. THE LD. COUNSEL POINTED OUT THAT THE GROSS-PROFIT MARGIN OF APPLIANCE PRODUCTS WERE COMPUTED FROM THE PRODUCT SCHE DULE AND USED FOR RESALE PRICE METHOD (RPM) COMPUTATION IN THE TP REPORT. HOWEVER, WHEN RPM WAS DISCARDED IN FAVOUR OF TNMM B Y THE TPO, THE NET PROFIT MARGIN OF THE ENTIRE CONSUMER DURABLES SE GMENT WAS SELECTED FOR COMPUTATION OF NET PROFIT MARGIN. IT WAS AL SO POINTED OUT BY THE LD. COUNSEL THAT THE ASSESSEE APPLIED RPM FO R THIS SEGMENT AND COMPUTED THE GROSS PROFIT MARGIN OF THE PROD UCTS APPEARING UNDER THE HEAD APPLIANCES IN THE PRODUC T SCHEDULE OF THE ANNUAL REPORT. IN THE PRODUCT SCHEDULE, THERE WERE T WO CATEGORIES, APPLIANCES AND FANS IN THIS SEGMENT OF CON SUMER DURABLE. THE LD. TPO HAS REJECTED RPM AND HAS ADOPTE D TNMM AND USED THE NET MARGIN OF THE CONSUMER DURABLE SEGME NT WHICH INCLUDES FANS. 97. THE LD. COUNSEL CONTENDED THAT THE LD. TPO HAS CO MMITTED A GROSS ERROR IN INCLUDING THE NET PROFIT MARGIN DERIVED FROM THE MANUFACTURING OF FANS AS A PART OF THE SEGMENTAL PROFI T MARGIN TAKEN FOR BENCHMARKING THE ASSESSEES CLASS II TRADING TRANSACTION.THE LD. COUNSEL HAS PLACED HIS RELIANCE I N THIS RESPECT ON ADIDAS TECHNICAL SERVICES (P.) LTD. V. DCIT [2016] 69 TAXMANN.COM 401 (DELHI - TRIB.), WHEREIN IT WAS HELD THAT, WHERE SEGMENTAL DATA IS NOT AVAILABLE, THE COMPARABLE IS LIAB LE TO BE REJECTED. 87 98. THE LD. CIT (DR) RELIED VEHEMENTLY ON THE ORD ERS OF THE LD. TPO AND DRP AND SUBMITTED THAT THE COMPANY WAS FUNCTIONA LLY COMPARABLE TO THE APPELLANT AND WAS RIGHTLY INCLUDED IN THE LIST OF COMPARABLES BY THE LD. TPO. HE FURTHER SUBMITTED THAT BA JAJ ELECTRICALS WAS CHOSEN BY THE ASSESSEE ITSELF AS A COM PARABLE AND IT CANNOT NOW ASK FOR ITS EXCLUSION. THE LD. CIT (DR) FURTHER SUBMITTED THAT FANS AS A PRODUCT FALLS UNDER THE CATEGORY OF HOME APPLIANCES AND THOUGH THE ASSESSEE IS NOT TRADING IN F ANS, IT IS ENGAGED IN TRADING OF OTHER HOME APPLIANCES AND UNDE R TNMM BROAD LEVEL OF PRODUCT SIMILARITY IS REQUIRED. 99. WE HAVE PERUSED THE ORDER OF THE LD. TPO AND TH E DRP IN THIS REGARD AS WELL AS EXAMINED THE ANNUAL REPORT OF B AJAJ ELECTRICALS. WHILE IT IS CORRECT THAT THE ASSESSEE ITSELF HAD SELECTED BAJAJ ELECTRICALS AS A COMPARABLE, THE SAME WAS DONE UNDER RESALE PRICE METHOD WHICH REQUIRES COMPARISON AT GROS S PROFIT LEVEL. FURTHER, THE ASSESSEE IN ITS TP REPORT HAD TAKEN ONLY THE APPLIANCES CATEGORY AS A COMPARABLE CATEGORY AND H AD EXCLUDED THE GROSS PROFIT MARGIN EARNED FROM MANUFACTURING OF FANS. WHEREAS, THE TPO HAS DISCARDED RPM AND HAS ADOPTED T NMM WHICH IS A COMPARISON OF NET PROFIT MARGINS AND THE T PO HAS TAKEN THE NET PROFIT MARGIN OF THE ENTIRE CONSUMER DURAB LE SEGMENT OF BAJAJ ELECTRICALS WHICH INCLUDES BOTH APPL IANCES AND FANS. MOST SIGNIFICANTLY THE FUNCTION IN RELATION TO FA NS IN THIS SEGMENT IS OF MANUFACTURING AND NOT TRADING. FROM THE ANNUAL REPORT, IT EMERGES THAT DURING THE YEAR, BAJAJ ELECTRICAL S HAD MANUFACTURED 537,000 PIECES OF FANS. WHILE THE CONSO LIDATED SALES QUANTITY OF FANS HAS BEEN GIVEN AT 1,784,000, THE SEG MENTAL BREAK- UP OF MANUFACTURED FANS AND TRADED FANS IS NOT PROVIDE D. IN THESE 88 CIRCUMSTANCES IT IS NOT POSSIBLE TO DETERMINE THE NET PRO FIT MARGIN DERIVED FROM THE SALE OF TRADED FANS. WE ALSO NOTE THAT THE RANGE OF TRADED PRODUCTS OF THE ASSESSEE DOES NOT INCLUDE FANS A ND IS LIMITED TO CONSUMER PRODUCTS LIKE COLOUR TVS, AIR COND ITIONERS, WASHING MACHINES, MICROWAVE OVENS AND REFRIGERATORS. WE THEREFORE ORDER THE EXCLUSION OF THIS COMPARABLE FOR D ETERMINATION OF ALP OF THE INTERNATIONAL TRANSACTIONS OF THE SEGMENT P ERTAINING TO TRADING OF CONSUMER PRODUCTS OF THE ASSESSEE. THIS G ROUND IS ACCORDINGLY ALLOWED. GROUND NO. 4.4: THAT ON FACTS AND IN LAW, THE TPO/AO HAS ERRED IN ADDITIONALLY IDENTIFYING CONTROL PRINT LIM ITED AND GEMINI COMMUNICATIONS LIMITED AS A COMPARABLE COMPANY FOR BENCHMARKING THE INTERNATIONAL TRANSACTIONS UNDER C LASS IV (TRADING OF COLOUR MONITORS AND OTHER IT PRODUCTS) 100. THE LD. COUNSEL POINTED OUT THAT THIS ISSUE HAS A LREADY BEEN DECIDED IN FAVOUR OF THE ASSESSEE BY CIT (A) I N PRIOR YEARS I.E. AY 2004-05 AND 2005-06. HE POINTED OUT THAT NO APPEAL HAS BEEN FILED BY THE DEPARTMENT BEFORE THE ITAT ON THIS ISSUE IN AY 2004- 05. HOWEVER, IN AY 2005-06, THE DEPARTMENT HAS FILED A N APPEAL ON THE SAME ISSUES AND THE SAME HAS BEEN COVERED IN T HE SUBMISSIONS FOR AY 2005-06. THE LD. CIT (DR) RELIED ON THE ORDERS OF THE LD. TPO AND DRP. 101. WHILE ADJUDICATING THE APPEAL FILED BY THE DEP T. FOR A.Y. 2005-06, WE HAVE HELD THAT THE LD. CIT (A) WAS RIGHT I N EXCLUDING THESE TWO COMPARABLES. IN THIS ASSESSMENT YEAR AS WELL , WE FIND THAT THE FACTS AND CIRCUMSTANCES RELATING TO THESE TWO COM PANIES (CONTROL PRINT AND GEMINI COMMUNICATIONS) REMAIN THE S AME. A PERUSAL OF THEIR ANNUAL REPORTS SHOWS THAT THEIR FUNCTIO NAL AND 89 PRODUCT PROFILE IS UNCHANGED. CONTROL PRINT IS A MANU FACTURER OF CODING AND MARKING MACHINES AND GEMINI COMMUNICATION S IS ENGAGED IN PROVIDING NETWORK SOLUTIONS AND AS PART O F THIS EXERCISE SELLS COMMUNICATION EQUIPMENT. IN ORDER TO MAINTAIN CON SISTENCY WITH THE APPROACH APPROVED BY US IN THE PRIOR YEAR, IN THE ABSENCE OF CHANGE OF FACTS, WE ORDER THE EXCLUSION OF THESE TW O COMPANIES. GROUND NO. 5: THAT ON FACTS AND IN LAW, THE TPO/AO HAS ERRED IN LAW AND FACTS BY GROSSING UP THE ADVERTISE MENT AND SALES PROMOTION EXPENSES AND NOT INCLUDING THE ADVE RTISING REIMBURSEMENTS AS PART OF INCOME RECEIVED BY THE AP PELLANT FROM ITS ASSOCIATED ENTERPRISES WHILE COMPUTING THE OPER ATING MARGINS OF THE RESPECTIVE SEGMENTS 102. THE LD. COUNSEL FOR THE APPELLANT CONTENDS THA T THE LD. DRP HAS MERELY STATED THAT THE REASONS GIVEN BY THE TPO I N HIS ORDER ARE CORRECT AND HAS FAILED TO TAKE INTO ACCOUNT TH E DECISION RENDERED BY HONBLE ITAT IN THE CASE OF SONY INDIA PRIVATE LIMITED 114 ITD 448 ON THIS ISSUE. THE LD. COUNSEL POINTED OUT THAT AFTER THE LD. DRP ISSUED ITS DIRECTIONS, THE HONBLE ITAT RENDERED A DECISION ON THIS ISSUE IN FAVOUR OF THE A SSESSEE IN ITS OWN CASE FOR AY 2002-03 TO 2004-05 WHEREIN IT WAS HEL D THAT THE ASSESSEE HAS A PRIOR AGREEMENT FOR REIMBURSEMENT OF S PECIFIC AMP EXPENSES AND GENUINENESS OR BONA FIDE OF THE SAID AG REEMENT CANNOT BE DISPUTED. FURTHER, IT WAS HELD THAT BASED ON E VIDENCE ON RECORD, THE RECOVERIES DIRECTLY CORRESPOND TO ACTUAL E XPENSES INCURRED BY THE ASSESSEE AND SUCH EXPENDITURE WAS INC URRED IN LINE WITH TERMS OF AFORESAID AGREEMENT. 103 FURTHER, THE CIT(A), IN AY 2005-06 (AS WELL AS IN THE EARLIER YEARS), BASED ON MERITS OF THE CASE AND PLACING RELIA NCE ON ITAT 90 JUDGMENT IN CASE OF SONY INDIA (P) LTD SUPRA DECIDED THE MATTER IN FAVOUR OF THE ASSESSEE BY TREATING AMP RECOVERY AS OPE RATING INCOME AT PARA NO. 105.4 OF THE SAID ORDER. IT HAS BE EN SUBMITTED THAT IT HAS CLEARLY BEEN HELD THAT THE PRIOR AGREEMENT PRO VIDED FOR REIMBURSEMENT OF SPECIFIC AMP EXPENSES AND GENUINENE SS OR BONA FIDE OF THE AGREEMENT CANNOT BE QUESTIONED. ALSO, THERE ARE EVIDENCES ON RECORD TO PROVE THAT THE EXPENSES DIRECTLY CORRESPOND TO ACTUAL EXPENSES INCURRED. THE LD. COUNSEL CONTENDS THAT THE ISSUE STANDS SQUARELY COVERED IN FAVOUR OF THE APPELL ANT IN ITS OWN CASE FOR THREE PRIOR YEARS BY THIS HONBLE ITAT. 104. LD. DR ARGUED THAT THE MARKETING DEVELOPMENT FU ND ENTERED INTO BY THE APPELLANT WITH ITS AE WAS FOR PROM OTION OF BRAND OF THE AE IN INDIA. THUS, ACTION OF THE LD. TPO OF MAKING AN ADDITION BY TREATING AMP RECOVERY AS NON-OPERATING INCO ME AND INCLUDING THE SAME AS PART OF THE OPERATING EXPENSES WA S CORRECT. HE ALSO PLACED RELIANCE ON THE DRP ORDER WHEREIN THE DRP HAS UPHELD THE ACTION TAKEN BY THE LD. TPO ON THE SAME REAS ONING. 105. WE HAVE PERUSED THE ORDERS OF THE TPO AND THE DRP AS WELL AS THE APPELLATE ORDERS PASSED BY THIS TRIBUNAL ON THIS ISSUE IN THE PRIOR YEARS. WE OBSERVE THAT A COORDINATE BENC H OF THIS TRIBUNAL WHILE DECIDING THE APPEALS OF THE APPELLANT -ASSESSEE IN A.YRS 2002-03, 2003-04, 2004-05 HAS EXAMINED THIS IS SUE IN DETAIL AND HAS CONCLUDED THAT THE APPROACH OF THE TPO TO TREAT THE REIMBURSEMENT RECEIVED UNDER THE MDF AGREEMENT AS NON - OPERATING INCOME WHILE TREATING THE SAME AS OPERATING E XPENDITURE FOR COMPUTING THE NET PROFIT MARGIN IS UNJUSTIFIED AND C ONTRARY TO LAW AND PRINCIPLES OF TRANSFER PRICING. IN A.Y. 2005 -06 AS WELL, THE TPO HAD ADOPTED A SIMILAR APPROACH WHICH WAS HELD TO BE 91 IMPERMISSIBLE BY THE CIT (A). NO APPEAL WAS PREFERRE D BY THE REVENUE BEFORE THE TRIBUNAL IN RESPECT OF THIS ISSUE. RESPECTFULLY FOLLOWING THE ORDERS OF THE COORDINATE BENCH ON THIS IS SUE, WE HOLD THAT REIMBURSEMENTS RECEIVED BY THE APPELLANT FROM ITS A E UNDER THE MDF AGREEMENT HAS TO BE TAKEN INTO ACCOUNT BOTH AS OP ERATING INCOME AS WELL AS OPERATING EXPENDITURE WHILE COMPUTI NG THE NET PROFIT MARGIN UNDER TNMM ANALYSIS. THIS GROUND IS THE REFORE ALLOWED. GROUND NO. 6: THAT ON FACTS AND IN LAW, THE TPO/AO HAS ERRED IN NOT RESTRICTING THE TRANSFER PRICING ADJUS TMENT IN PROPORTION TO THE VALUE OF IMPUGNED INTERNATIONAL T RANSACTIONS WITH THE ASSOCIATED ENTERPRISE VIS--VIS THE TOTAL COST BASE OF THE VARIOUS BUSINESS SEGMENTS WHICH INCLUDED THE COST O F UNCONTROLLED TRANSACTIONS WITH INDEPENDENT THIRD PA RTIES ALSO. 106. THE LD. COUNSEL ARGUED THAT THE LD. TPO ERRED IN NOT GRANTING THE PROPORTIONATE ADJUSTMENT TO THE APPELLANT. IT I S SETTLED LAW THAT THE ADJUSTMENT IS TO BE MADE ONLY ON INTE RNATIONAL TRANSACTIONS AND NOT ON OTHER UNRELATED TRANSACTIONS. HE PLACED RELIANCE ON THE FOLLOWING CASE LAWS FOR GRANT OF PRO PORTIONATE ADJUSTMENT: (A) ________________________________ IL JIN ELECTRONICS (I) (P.) LTD. V. ACIT ITA NO. 438/DEL/2008, [2010] 36 SOT 227 DELHI) (PARA 15) (B) ________________________________ CIT V. KEIHIN PANALFA LTD. ITA NO. 11 AND 12/2015 (DEL HC) (PARA 12) (C) ________________________________ CIT V. THYSSEN KRUPP INDUSTRIES INDIA (P.) LTD. ITA NO. 2201 OF 2013, [201 6] 381 ITR 413 (BOMBAY) (PARAS 3 AND 4) 92 (D) ________________________________ TASTY BITE EATABLES LTD. V. ACIT ITA NO. 1682/PN/2011 (PARA 37) 107. LD. CIT (DR) RELIED ON THE ORDER OF LD. TPO AND DRP AND CONTENDED THAT PROPORTIONATE ADJUSTMENT SHOULD NOT BE GIV EN TO THE APPELLANT. LD. TPO HAS ALLOWED PROPORTIONATE ADJUSTM ENT IN AY 2014-15 & AY 2015-16. 108. IT IS NOW WELL SETTLED THAT THE TRANSFER PRICING E XERCISE IS STRICTLY LIMITED TO THE TRANSACTIONS WITH AES AND TRANSACTIO NS WITH UNRELATED PARTIES DO NOT COME WITHIN ITS AMBIT. IT HAS ALSO BEEN BROUGHT TO OUR NOTICE THAT IN A.Y. 2013-14 THE DRP ITSEL F HAS ISSUED DIRECTIONS TO THE TPO TO CONFINE THE ADJUSTMENTS TO THE PROPORTIONATE VALUE OF THE INTERNATIONAL TRANSACTIONS WITH AES. ACCORDINGLY, THE TPO IS DIRECTED TO RESTRICT THE AMOUNT OF ADJUSTMENT, IF ANY, MADE UNDER CHAPTER X OF THE ACT LIMI TED AND PROPORTIONATE TO THE VALUE OF THE INTERNATIONAL TRANSACTI ONS WITH AES. GROUND NO. 7: AS THIS GROUND HAS NOT BEEN PRESSED BY THE ASSESSEE, IT IS DISMISSED. GROUND NO. 7.1: THAT ON FACTS AND IN LAW, THE AO HAS ERRED IN HOLDING THAT THE BENEFIT OF EXPENDITURE ON RECRUITM ENT AND TRAINING OF EMPLOYEES IS NOT RESTRICTED TO ONE YEAR AND ACCORDI NGLY HAS TO BE APPORTIONED OVER 6 YEARS, ACCORDINGLY, THE AO HAS E RRED IN DISALLOWING EXPENDITURE OF RS. 1,03,07,792. GROUND 7.2: THAT ON FACTS AND IN LAW, THE AO HAS ERRED IN NOT ALLOWING IN THE YEAR UNDER ASSESSMENT, 1/6 TH OF THE EXPENDITURE ON RECRUITMENT AND TRAINING THAT WAS SIMILARLY DISALLO WED IN THE PRECEDING FIVE ASSESSMENT YEARS 93 109. THE LD. COUNSEL SUBMITTED THAT THE SAID ISSUE IS COVERED BY DECISION OF HONBLE DELHI HIGH COURT IN ASSESSEES O WN CASE FOR AY 1999-2000, 2002-03 AND AY 2003-04 WHEREIN THE DELHI HIGH COURT AFFIRMED THE DECISION OF THIS HONBLE TRIBUNAL A LLOWING THE DEDUCTION OF EXPENDITURE INCURRED ON RECRUITMENT AND TR AINING OF EMPLOYEES. THE LD. COUNSEL SUBMITTED THAT THE LD. AO ER RED IN TREATING IT AS A DEFERRED REVENUE EXPENDITURE ON THE ASS UMPTION THAT RECRUITMENT EXPENSES WILL RESULT IN LONG TERM BENEFI T. HE FAILED TO APPRECIATE THAT SUCH EXPENDITURE WAS REVENUE IN NATU RE, INCURRED FOR THE PURPOSE OF BUSINESS AND THEREFORE A LLOWABLE UNDER SECTION 37(1) OF THE ACT. LD. CIT (DR) RELIED ON ORDER OF THE LD. TPO AND DRP. 110. WE HAVE ALREADY DECIDED THIS ISSUE UNDER GR OUND NO. 2 IN THE DEPTS APPEAL FOR A.Y. 2005-06 (ITA NO. 3410/DEL/ 12) IN ASSESSEES FAVOUR RELYING ON THE ORDERS OF THE HONB LE DELHI HIGH COURT ON THIS ISSUE. ORDERS DATED 9.06.2013 AND 15.0 5.2017 IN THE APPEALS FOR A.YRS 1999-2000 AND 2003-04 RESPECTI VELY OF THE DELHI HIGH COURT HAVE BEEN PLACED BEFORE US. RESPEC TFULLY FOLLOWING THE DECISION OF THE DELHI HIGH COURT WE AL LOW THIS GROUND OF APPEAL. GROUND NO. 8.1: THAT ON FACTS AND IN LAW, THE AO HAS ERRED IN DISALLOWING DEDUCTION IN RESPECT OF DEPRECIATION ON UPS AMOUNT TO RS. 7,72,086 BY CLASSIFYING THEM TO BE PLANT AND MA CHINERY INSTEAD OF COMPUTERS GROUND 8.2: THAT ON FACTS AND IN LAW, THE AO HAS ERRED IN COMPUTING THE AMOUNT OF THE DEPRECIATION DISALLOWAN CE. 111. THE AO ALLOWED 15% DEPRECIATION ON UPS STATING THAT IT IS COVERED UNDER THE HEAD PLANT AND MACHINERY. THUS, 6 0% 94 DEPRECIATION CLAIMED BY THE ASSESSEE WAS DISALLOWED. IN THIS ASPECT, THE LD. COUNSEL SUBMITS THAT THIS ISSUE IS NO LO NGER RES INTEGRA AS THERE ARE NUMEROUS DECISIONS OF THE HIGH COURTS AN D TRIBUNAL WHERE IT HAS BEEN HELD THAT DEPRECIATION ON UP S IS TO BE ALLOWED AT 60% AND NOT 15%. THE LD. COUNSEL CONTENDS TH AT UPS WERE PURCHASED FOR THE PURPOSE OF RUNNING THE COMPUTER UNINTERRUPTEDLY DURING POWER CUTS AND TO PREVENT THE LOS S OF DATA IN THE COMPUTER DUE TO SUDDEN, FREQUENT POWER CUTS. HE S TATED THAT UPS ALSO CONTROLS VOLTAGE FLUCTUATION AND PREVENTS TH E DAMAGE OF COMPUTER SYSTEM AND ITS PARTS SUCH AS HARD DISK, MEMORY ETC. THESE UPS WERE CONNECTED TO LAN, PCS, SER VERS, ROUTERS, V SATS, ETC. AND THESE WOULD NOT HAVE FUNCTIONE D PROPERLY WITHOUT SUPPORT FROM THE UPS. THUS, UPS FORM A VITAL C OMPONENT OF THE COMPUTER SYSTEM AND THEREFORE, THE APPLICABLE RAT E OF DEPRECIATION ON SUCH UPS SYSTEMS SHOULD BE CONSIDERED AS 60 PERCENT (SAME AS THAT OF COMPUTERS) UNDER THE CATEGORY OF COMPUTERS. THE LD. COUNSEL POINTED OUT THAT 60% DEPR ECIATION ON UPS WAS ALLOWED BY THE CIT (A) IN ASSESSEES OWN CASE FOR AY 2005-06. LD. CIT (DR) RELIES ON THE ORDER OF THE AO A ND THE DRP. 112. WE ARE IN AGREEMENT WITH THE LD. COUNSEL OF THE APPELLANT THAT THIS ISSUE IS NO LONGER RES INTEGRA AS THIS TRIBUNAL HAS ALREADY TAKEN A VIEW THAT FOR DEPRECIATION PURPOSES, UPS FALLS UNDER THE CATEGORY OF COMPUTERS BEING A COMPUTER PERIPHERAL. THE LAW IN THIS REGARD HAS BEEN SETTLED BY VARIOUS DECISIONS, PAR TICULARLY THE DECISION OF THE HONBLE JURISDICTIONAL HIGH COURT IN T HE CASE OF CIT V. BSES RAJDHANI ITA NO. 1266/2010 . THIS GROUND IS THEREFORE ALLOWED. 95 AY 2007-08 (ITA NO. 5315/DEL/11) 113. THE FACTS AND BUSINESS MODEL IN THE PRESENT A SSESSMENT YEAR I.E. 2007-08 ARE SIMILAR TO THE FACTS ALREADY STAT ED FOR AY 2005-06 AND 2006-07. FOR THE RELEVANT ASSESSMENT YEAR, THE APPELLANT HAD FILED ITS RETURN OF INCOME ON 31 OCTOBER 2005 DECLARING AN INCOME OF RS. 104,57,52,771/- A SUMMAR Y OF THE INTERNATIONAL TRANSACTIONS IN DISPUTE AND THE APPELLANTS APPROACH IN DETERMINING THEIR ALP FOR THESE DISPUTED TRANSACTION S IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPRI ATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATO R (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELL ANT AS PER TP STUDY NO. OF COMPARABL ES CONSIDERE D AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS II TRADING (CONSUMER ELECTRONICS AND HOME APPLIANCES) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICE SPARES, EXPORT OF SERVICE SPARES, SERVICE INCOME FROM HAND HELD PHONES RESALE PRICE METHOD (RPM) GROSS PROFIT/SA LES 24.15 % 10 23.08% CLASS III - MANUFACTURING - (COLOUR MONITOR) IMPORT OF RAW MATERIAL IMPORT OF STORES AND SERVICE SPARES, EXPORT OF RAW MATERIALS AND SERVICE SPARES, IMPORT OF FIXED ASSETS, SERVICE TRANSACTI ONAL NET MARGIN METHOD (TNMM) OP/OR 0.17% 6 1.82% 96 PARTICULARS MOST APPROPRI ATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATO R (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELL ANT AS PER TP STUDY NO. OF COMPARABL ES CONSIDERE D AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY INCOME FROM HAND HELD PHONES 114. THE OTHER INTERNATIONAL TRANSACTIONS PERTAIN TO CLASSES I (MANUFACTURING OF CONSUMER ELECTRONICS AND HOME APPL IANCES), CLASS IV (TRADING OF COLOUR MONITORS) AND CLASS V ( CONTRACT SOFTWARE DEVELOPMENT). THERE IS NO DISPUTE IN RESPECT OF THESE TRANSACTIONS. THE DISPUTE IN THE PRESENT AY (ITA NO. 5315/DEL/2011) FILED BY THE APPELLANT PERTAINS TO THE INTERNATIONAL TRANSACTIONS GROUPED UNDER CLASS-II (TRAD ING OF CONSUMER ELECTRONICS AND HOME APPLIANCES) SEGMENT AND CLASS- III (MANUFACTURING OF COLOUR MONITORS) SEGMENT. 115. IN RESPECT OF CLASS -II (TRADING OF CONSUMER ELECTRONICS AND HOME APPLIANCES) SEGMENT, THE FOLLOWING TRANSACTIONS H AVE BEEN GROUPED TOGETHER BY THE APPELLANT IN ITS TRANSFER PRICING STUDY PREPARED UNDER RULE 10B OF THE INCOME TAX RULES 1962 (RULES); I) IMPORT OF FINISHED GOODS; II) IMPORT OF STORES AND SERVICE SPARES; III) EXPORT OF SERVICE SPARES; IV) SERVICE INCOME FROM HAND HELD PHONES. THE APPELLANT IS ENGAGED IN THE TRADING OF CONSUMER EL ECTRONIC GOODS AND HOME APPLIANCES. RESALE PRICE METHOD WAS C HOSEN AS THE MOST APPROPRIATE METHOD IN ITS TRANSFER PRICING STUD Y. THE PROFIT LEVEL INDICATOR TAKEN WAS GROSS PROFIT/ SALES. FOR THE BENCHMARKING EXERCISE, AN ECONOMIC ANALYSIS WAS CAR RIED OUT IN 97 THE TP STUDY LEADING TO IDENTIFICATION OF 10 UNCONTROLLE D COMPARABLE COMPANIES. SINCE APPELLANT HAD EARNED GRO SS PROFIT MARGIN OF 24.15% WHICH WAS HIGHER THAN THE GROSS PROF IT OF 23.08% EARNED BY THE COMPARABLE COMPANIES CHOSEN IN THE TP STUDY, IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS IN CLASS-II (TRADING OF CONSUMER ELECTRONIC GOODS AND H OME APPLIANCES) SEGMENT WAS AT ARMS LENGTH PRICE. 116. IN CLASS-III (MANUFACTURING OF COLOUR MONITOR) SEGMENT, TRANSACTIONAL NET MARGIN METHOD (TNMM) WAS CHOSEN AS TH E MOST APPROPRIATE METHOD TO DETERMINE THE ALP WITH OPERATING PROFIT/ OPERATING REVENUE AS THE PROFIT LEVEL INDICATOR. THE ECONOMIC ANALYSIS CARRIED OUT IN THE TP STUDY RESULTED IN IDEN TIFICATION OF 6 UNCONTROLLED INDEPENDENT COMPARABLE COMPANIES. SINCE THE APPELLANT HAD EARNED PROFIT MARGIN OF 0.17% WHICH WAS WITHIN THE 5% RANGE OF THE PROFIT MARGIN EARNED BY THE COMPARAB LES, IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTION WAS AT ARMS L ENGTH. 117. THE TRANSFER PRICING OFFICER REJECTED THE MOST APPROPRIATE METHOD ADOPTED BY THE ASSESSEE. HE DISCARDED THE RESAL E PRICE METHOD FOR CLASS-II (TRADING OF CONSUMER ELECTRONIC G OODS AND HOME APPLIANCES) SEGMENT AND ADOPTED TRANSACTIONAL NE T MARGIN METHOD (TNMM) AS THE MOST SUITABLE METHOD FOR DETERMINI NG OF ARMS LENGTH PRICE. UNDER TNMM, HE SELECTED OPERATI NG PROFIT MARGIN ON REVENUES (OP/OR; OP = OPERATING PROFIT/ OR = OPERATING REVENUE) AS THE PROFIT LEVEL INDICATOR. THE TPO FURTHER PROCEEDED TO UNDERTAKE A FRESH BENCHMARKING ANALYSIS OF THE UNCONTROLLED COMPARABLE COMPANIES AND ARRIVED AT A SE T OF 3 COMPARABLE COMPANIES FOR THE CLASS-II (TRADING OF CO NSUMER ELECTRONIC GOODS AND HOME APPLIANCES) SEGMENT AND 2 98 COMPARABLES FOR THE CLASS-III (MANUFACTURING OF COLOU R MONITORS) SEGMENT. THE ARITHMETIC MEAN OF THE OPERATING PROFIT MARG IN (OP/OR) OF THESE COMPARABLES FOR THE CLASS-II (TRADIN G OF CONSUMER ELECTRONIC GOODS AND HOME APPLIANCES) SEGME NT WAS COMPUTED AT 4.59% AND FOR CLASS-III (MANUFACTURING OF COLOUR MONITORS) SEGMENT WAS COMPUTED AT 5.64%. BASED ON THE A BOVE APPROACH, THE TPO WORKED OUT AN ADJUSTMENT TO THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS PERTAINING TO C LASS-II SEGMENT AT RS. 310,027,372/-. IN RESPECT OF CLASS-III SEGMENT, THE ADJUSTMENT TO THE ARMS LENGTH WAS WORKED OUT TO BE AT RS. 291,019,708/-. THE TPO ALSO CARRIED OUT AN ADJUSTMENT WITH RESPECT TO THE ADVERTISEMENT, MARKETING AND PROMOTION (AM P) EXPENSES INCURRED BY THE APPELLANT COMPANY AS HE WAS OF THE VIEW THAT THE APPELLANT HAS PROVIDED CERTAIN SERVICES IN RES PECT OF CREATION OF MARKETING INTANGIBLES, TO ITS AE. THE TPO W AS OF THE VIEW THAT ANY AMP EXPENDITURE INCURRED BY THE APPELLANT OVER AND ABOVE THE AVERAGE AMP SPEND OF THE COMPARABLE COMPANI ES WAS EXTRAORDINARY IN NATURE AND INCURRED FOR THE BENEFIT O F THE AE WHICH OWNED THE SAMSUNG BRAND. THE TPO WORKED OUT THE AVERAGE AMP SPEND OF THE COMPARABLES AT 6.55% OF SALE S AND THAT OF THE APPELLANT AT 10.44% OF SALES AND TREATED THE DIFF ERENCE AS THE VALUE OF THE BRAND PROMOTION SERVICE WHICH THE APP ELLANT HAD PROVIDED TO ITS AE. HE ACCORDINGLY HELD THAT THIS AMOU NT SHOULD HAVE BEEN RECOVERED BY THE APPELLANT FROM ITS AE. THE APPROACH FOLLOWED BY THE TPO IN RESPECT OF THIS ADJUSTMENT IS AS FOLLOWS: PARTICULARS AMOUNT (RS.) TOTAL INCOME (A) 44,89,80,86,000 ADVERTISEMENT AND SALES PROMOTION EXPENSES INCURRED (B) 469,10,06,942 AMP / TOTAL INCOME OF SIEL (C) = (B)/(A) 10.44% BRIGHT LINE (AMP/TOTAL INCOME OF 6.55% 99 COMPARABLES) (D) AMP AS PER BRIGHT LINE (E) = (A)*(D) 294,08,24,633 EXCESS AMOUNT SPENT ON ADVERTISEMENT AS COMPARED TO THE COMPARABLES (F) = (B)-(E) 175,01,82,309 LESS: REIMBURSEMENT RECEIVED FROM ITS PARENT SEC 57,93,56,345/- AMP REIMBURSEMENT THAT SHOULD HAVE BEEN MADE 117,08,25,964/- MARK-UP AT 12% 14,04,99,115 ADJUSTMENT PROPOSED ON ACCOUNT OF AMP (INCLUDING MARK-UP) 131,13,25,080 118. THE AO INCORPORATED THE ADJUSTMENT TO THE ALP M ADE BY THE TPO AND ALSO MADE THE FOLLOWING ADDITIONS TO TOTAL IN COME: (A) RECRUITMENT AND TRAINING EXPENSES OF RS. 1,20,69,362/- WAS TREATED AS CAPITAL EXPENDITURE AND NOT ALLOWABLE AS A REVENUE EXPENDITURE U/S 37 OF THE ACT; (B) LOSS ARISING ON ACCOUNT OF FLUCTUATION OF FOREIGN EXC HANGE CURRENCY AMOUNTING TO RS. 206,77,205/- WAS DISALLOWE D AS BEING NOTIONAL AND CONTINGENT IN NATURE; (C) DEPRECIATION ON UPS, PRINTERS AND SERVERS WAS RESTRICTE D TO 15% AS AGAINST 60% CLAIMED BY THE APPELLANT LEADING TO A DISALLOWANCE OF RS. 7,12,027/-. 119. THE ASSESSEE BEING AGGRIEVED BY THE ORDERS OF THE TPO AND AO FILED OBJECTIONS BEFORE THE DRP, NEW DELHI CONTESTI NG THE AFORESAID ADDITIONS MADE TO THE TOTAL INCOME OF THE ASSES SEE ON VARIOUS GROUNDS. THE LD. DRP DISPOSED OF THE OBJECTI ONS FILED BY THE ASSESSEE VIDE ITS DIRECTIONS UNDER SECTION 144C OF THE INCOME TAX ACT, 1961 30 TH AUGUST 2011 AND UPHELD THE ORDER OF THE TPO/AO. IN PURSUANCE TO THE DRP DIRECTIONS, THE AO PAS SED THE FINAL ASSESSMENT ORDER DATED 19 TH SEPTEMBER 2011. AGGRIEVED BY THE ORDER OF THE AO (IMPUGNED ORDER), THE ASSESSEE HAS PREFERRED 100 THE PRESENT APPEAL AND HAS PRAYED FOR ADJUDICATION OF THE FOLLOWING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL (ITA NO. 5315/DEL/11) FOR AY 2007-08 GROUND NOS. 1 AND 2: THESE GROUNDS ARE GENERAL IN NATURE. GROUND NOS. 1.1 TO 1.3: THESE GROUNDS PERTAIN TO THE AMP ISSUE AND ARE IDENTICAL TO THOSE ALREADY ADJUDICATED BY US IN ITA NO. 3248/DEL/2012 FOR A.YR. 2005-06. THESE GROUNDS ARE THEREFORE ALLOWED IN LINE WITH OUR FINDINGS AND OBSER VATIONS GIVEN IN RESPECT OF GROUNDS 3.1 TO 3.6 OF ITA NO. 3248/DEL/ 2012. GROUND NOS. 1.4, 1.8 AND 3: THESE GROUNDS ARE DISMISSED AS NOT BEING PRESSED. GROUND NO. 3.1: THAT, ON FACTS AND IN LAW, THE LD. TPO/ AO HAS ERRED IN REJECTING VOLTAS LIMITED AS A COMPARABLE COMPANY FOR BENCHMARKING THE INTERNATIONAL TRANSACTIONS UNDER C LASS II SEGMENT (TRADING OF CONSUMER ELECTRONICS AND HOME APPLIANCE S SEGMENT)- 120. THE INCLUSION OF THIS COMPARABLE CAME UP FO R OUR CONSIDERATION IN THE APPEAL NO. ITA NO. 5856/DEL/201 0 UNDER GROUND NO. 4.2 (AND HAS BEEN DISCUSSED AT LENGTH ABOV E). AS THE FACTS AND CIRCUMSTANCES OF THIS YEAR REMAIN THE SAME (A ND THE ARGUMENTS OF THE TWO PARTIES REMAIN THE SAME), WE HOLD THAT THE DIRECTION GIVEN BY US IN THE PRIOR YEAR WOULD APPLY F OR THIS YEAR AS WELL. THE EXAMINATION OF THIS COMPARABLE COMPANY IS, THEREFORE, REMANDED TO THE FILE OF THE TPO WITH A DIRECTION TO DETER MINE WHETHER THE TWIN CONDITIONS OF PERSISTENT LOSS FOR THRE E YEARS AND EROSION OF NET WORTH ARE MET. IF A CLEAR THREE YEARS TR END OF PERSISTENT LOSS COUPLED WITH NEGATIVE NET WORTH IS FOUND, IT CAN BE 101 EXCLUDED FROM THE LIST OF COMPARABLES. THIS GROUND IS THEREFORE ALLOWED IN TERMS OF THE ABOVE DIRECTIONS. GROUND NO. 3.2: THAT, ON FACTS AND IN LAW, THE LD. TPO/ AO HAS ERRED IN CONSIDERING BAJAJ ELECTRICALS LIMITED AS A COMPARABLE COMPANY WHILE APPLYING THE TRANSACTIONAL NET MARGIN METHOD TO BENCHMARK THE INTERNATIONAL TRANSACTIONS UNDER CLAS S II SEGMENT (TRADING OF CONSUMER ELECTRONICS AND HOME APPLIANCE S SEGMENT) 121. AN IDENTICAL GROUND IN RESPECT OF THIS COMPARA BLE (BAJAJ ELECTRICALS) CAME UP FOR CONSIDERATION IN THE APPEAL F OR A.Y. 2006- 07 (ITA NO. 5856/DEL/2010) WHERE WE HAVE ALREADY GI VEN OUR FINDING UNDER GROUND NO. 4.3. THE FACTS FOR THIS YEAR ARE IDENTICAL AND THE ARGUMENTS ADVANCED BY THE TWO SIDES ARE ALSO IDENTICAL. THEREFORE, OUR DECISION IN THIS REGARD IN ITA NO. 58 56/DEL/2010 IS TO BE FOLLOWED. WHILE DECIDING THIS GROUND IN FAVOUR OF THE ASSESSEE WE HAD DIRECTED THE EXCLUSION OF THIS COMPARABLE AS TH E SEGMENTAL RESULT TAKEN INTO CONSIDERATION INCLUDES MANUFACTURING O F FANS AND THE ASSESSEES ACTIVITY IS LIMITED TO TRADING OF CO NSUMER PRODUCTS (BUT NOT FANS). A PERUSAL OF THIS YEARS ANNU AL REPORT SHOWS THAT A SIMILAR SITUATION EXISTS IN THIS YEAR AS BAJAJ ELECTRICALS HAD MANUFACTURED 379,000 FANS OUT OF TOTAL OF 21,78,000 FANS SOLD BY THEM. A BIFURCATION OF PROFIT MARGIN OF FANS MANUFACTURED FANS AND TRADED FANS ARE NOT PROVIDED. W E ACCORDINGLY ALLOW THIS GROUND BY FOLLOWING THE EARLIE R YEARS POSITION IN THIS RESPECT. GROUND NO. 4: THAT, ON FACTS AND IN LAW, THE LD. TPO/AO HAS ERRED IN REJECTING PCS TECHNOLOGY LIMITED, SPICE LIMITED AND VXL INSTRUMENTS AS COMPARABLE COMPANIES FOR BENCHMARKIN G THE INTERNATIONAL TRANSACTIONS UNDER CLASS III SEGMENT (MANUFACTURING OF COLOR MONITORS) 102 VXL INSTRUMENTS 122. THE LD. COUNSEL CONTENDS THAT THE TPO COMMITTED AN ERROR BY REJECTING VXL INSTRUMENTS ON THE SOLE GROUND THAT IT IS A PERSISTENT LOSS-MAKING COMPANY WITH DECLINING NET MARG INS. THE LD. DRP UPHELD THE ORDER AND REASONING OF THE TPO. TH E LD. COUNSEL SUBMITS THAT IT IS FACTUALLY INCORRECT THAT THE SAI D COMPARABLE IS INCURRING PERSISTENT LOSSES. AS PER TH E SECOND PROVISO TO RULE 10B (4), WE SHOULD BE CHECKING LOSS ES IN THE CURRENT YEAR AND TWO PRIOR YEARS. 123. THE LD. COUNSEL POINTED OUT THAT IN SUBSEQUENT Y EARS, TURNOVER OF VXL INSTRUMENTS HAS INCREASED AND IT CONTIN UES TO HAVE OPERATIONS. HE CONTENDS THAT DE-FACTO REJECTION OF A NEGATIVE MARGIN COMPANY IS NOT CORRECT. HE FURTHER CONTENDED THAT IF A COMPANY IS FUNCTIONALLY COMPARABLE, THEN IT CANNOT BE R EJECTED MERELY ON THE BASIS OF SUFFERING LOSSES. IN THIS REGA RD, HE HAS PLACED RELIANCE ON THE FOLLOWING JUDICIAL DECISIONS: (A) DCIT VS. EXXON MOBIL COMPANY INDIA PVT. LTD. (ITA N O. 4389/MUM/2010) (PARA 7) AND BOBST INDIA (P.) LTD. V. DCIT (ITA NO. 1380 (PN) OF 2010): IN BOTH THESE CASES, IT WAS HELD THAT EXCLUSION OF A COMPARABLE MERELY ON THE GROUND T HAT THE COMPARABLE IS INCURRING ABNORMAL PROFIT MARGIN OR PE RSISTENT LOSSES WITHOUT CONSIDERING THE APPLICABLE LAW UNDER RU LE 10B OF THE INCOME TAX RULE, 1962 (RULES) IS UNTENABLE UND ER LAW; (B) DCIT VS. QUARK SYSTEMS (P.) LTD [2010] 38 SOT 307 ( CHD.) (SB) : IN THIS CASE, IT WAS HELD THAT IF THE COMPANY IS FUNCTIONALLY COMPARABLE AND THE TURNOVER DOES NOT SHO W DECLINING TREND THEN, MERELY ON THE BASIS THAT THE COM PARABLE COMPANY IS INCURRING LOSSES, THE COMPARABLE CANNOT BE EXCLUDED; 103 (C) ERHARDT+LEIMER (INDIA) PRIVATE LIMITED VS. ACIT (IT A NOS. 3298/AHD/2011 & 2880/AHD/2012) : RELYING ON THE SPECIAL BENCH DECISION IN THE CASE OF QUARK SYSTEMS (SUPRA) TH E HONBLE TRIBUNAL HAS HELD AS BELOW: CONSISTENT LOSS-MAKING ENTITIES CANNOT BE PER SE EXCLUDED MERELY IN VIEW OF THE NEGATIVE INCOME FIGU RES THEREOF. (D) CHRYSCAPITAL INVESTMENT ADVISORS (INDIA) PVT. LTD. VS. DCIT (ITA 417/2014): [2015] 376 ITR 183 (DELHI), THE HONBLE JURISDICTIONAL HIGH COURT REITERATED THE SAME POSITION SUPRA THAT IT IS A SETTLED LAW THAT COMPARABLES CANNOT BE EXCLUD ED MERELY ON THE GROUND THAT IT IS MAKING ABNORMALLY HIG H PROFITS OR LOSSES. 124. THE LD. COUNSEL POINTED OUT THAT IN THE PRESEN T CASE, NO EXTRAORDINARY ECONOMIC FACTOR LEADING TO PERSISTENT LO SSES ARE EVIDENT FROM THE ANNUAL REPORT OF VXL INSTRUMENTS. THE C OMPANY IS SHOWING A STEADY INCREASE OF TURNOVER ON YEAR-ON-Y EAR BASIS EXCEPT FOR A SMALL DIP IN THE F.Y. 2005-06 FOLLOWED B Y A QUICK RECOVERY IN FY 2006-07 WHERE THERE WAS A SHARP INCRE ASE IN TURNOVER. THE TREND ANALYSIS OF THE PROFIT MARGIN AND THE TURNOVER AS GIVEN BELOW CLEARLY SHOWS THAT THIS COMPANY WAS P ASSING THROUGH A TEMPORARY PHASE OF LOSSES FROM WHICH IT HAS RECOVERED. SUCH LOSSES ARE NORMAL INCIDENT IN THE MARKET AND THE PURPOSE OF PROVIDING FOR A COMPUTATION OF AVERAGE UNDER SECTION 9 2C (2) OF THE ACT, HAS BEEN PROVIDED TO ACCOUNT FOR PROFIT AS WELL A S LOSS MAKING COMPANIES. HE SUBMITTED THE TURNOVER AND NET MARGIN TREN D FOR DIFFERENT YEARS: ASSESSMENT YEAR SEGMENTAL TURNOVER (INR IN NPM 104 CRORES) AY 2004-05 49.48 0.96% AY 2005-06 52.38 0.24% AY 2006-07 40.26 -11.09% AY 2007-08 72.81 -1.92% AY 2008-09 93.43 -7.53% AY 2009-10 80.38 2.14% AY 2010-11 76.60 1.26% 125. THUS, HE SUBMITTED THAT IT CAN BE SEEN FROM THE TREND ANALYSIS THAT THERE IS NO TREND OF PERSISTENT LOSSES ON A LONG-TERM BASIS. FURTHER, THE TREND OF SALES ON YEAR-ON-YEAR BA SIS SHOWS THAT THE COMPANY CLEARLY HAS AN UPWARD TREND. THEREFORE, I T CANNOT BE BRANDED AS A PERSISTENT LOSS MAKER. 126. THE LD. CIT (DR) VEHEMENTLY ARGUED THAT SINCE VXL INSTRUMENTS WAS PERSISTENTLY MAKING LOSSES, IT WAS RIGHT LY REJECTED AS A COMPARABLE BY THE LD. TPO AND THE SAID REJECTION WAS RIGHTLY UPHELD BY THE DRP. HE POINTED OUT THAT THIS COMPANY HAS EXPERIENCED LOSSES IN THE CURRENT YEAR, PRIOR YEAR AND THE SUBSEQUENT YEAR AND ON ACCOUNT OF THIS TREND IT IS EVID ENT THAT THIS COMPANY IS A PERSISTENTLY LOSS-MAKING COMPANY. HE FUR THER SUBMITTED THAT THIS HONBLE TRIBUNAL HAS HELD IN VARIOUS JUDGMENTS THAT A PERSISTENTLY LOSS-MAKING COMPANY CANNO T BE TAKEN AS A COMPARABLE. 127. WHILE EXAMINING THE SUITABILITY OF ANOTHER C OMPARABLE, VIZ., VOLTAS INDUSTRIES LTD. IN THIS APPEAL AS WELL IN THE P RIOR YEARS APPEAL, WE HAVE EXAMINED THE ISSUE OF PERSISTENT LOSS MAKING ENTITIES THAT ARE SOUGHT TO BE USED AS FUNCTIONALLY COMPAR ABLE COMPANIES UNDER TNMM. WE HAVE ALREADY HELD THAT A PER SISTENT LOSS TREND HAS TO BE CAREFULLY GLEANED FROM THE FACTS O F THE CASE TO 105 CHECK WHETHER THIS TREND PERSISTS OVER A PERIOD OF AT LE AST THREE YEARS (CURRENT YEAR AND TWO PRIOR YEARS AS SPECIFIED IN RULE 10B (4)). FURTHERMORE, AS LOSS AND PROFIT CYCLES ARE NORM AL INCIDENT OF THE MARKET, IN ORDER TO CHECK WHETHER THE PERSISTENT LOSS SITUATION HAS ARISEN FROM AN EXTRAORDINARY ECONOMIC SITUATION W HICH IS NOT REPRESENTATIVE OF THE SECTOR IN WHICH IT OPERATES, ONE HAS TO SEE WHETHER THE NET WORTH OF THE COMPANY HAS BEEN ERODED. IF THE TWIN CONDITIONS ARE FULFILLED, THE COMPARABLE CAN BE EXCL UDED. IN THIS CASE, THOUGH A CHART OF TREND ANALYSIS HAS BEEN FURNIS HED, IT HAS NOT BEEN EXAMINED BY THE TPO. THE DETAILS OF NET WORTH A RE NOT PLACED BEFORE US. WE ACCORDINGLY REMIT THIS ISSUE TO T HE FILE OF THE TPO WITH A DIRECTION TO APPLY THE AFORESAID PRINCIPLE S TO DETERMINE THE SUITABILITY OF THIS COMPARABLE. THIS GROUND IS THER EFORE DISPOSED OFF IN TERMS OF THE ABOVE OBSERVATIONS. PCS TECHNOLOGY LTD. 128. LD. COUNSEL CONTENDS THAT THE TPO AND THE DRP COMMITTED AN ERROR IN REJECTING PCS TECHNOLOGY ON THE GROUND T HAT IT HAS A DIFFERENT FINANCIAL YEAR ENDING. HE CONTENDS THAT DIFFE RENT FINANCIAL YEAR IS NOT A CRITERION TO REJECT A COMPARABLE COMPANY . HE CONTENDS THAT THIS COMPANY WAS ACCEPTED IN AY 2006-07 B Y THE TPO IN WHICH YEAR TOO, THE FINANCIAL YEAR OF THE COMP ANY ENDED IN JUNE. THE LD. COUNSEL ALSO SUBMITTED THAT THE COMPANY S NET PROFIT MARGIN FOR APRIL-MARCH CAN BE EXTRAPOLATED FRO M THE FIGURES OF THE TWO OVERLAPPING YEARS. HE PLACED RELIANCE ON DCIT VS. MCKINSEY KNOWLEDGE CENTRE INDIA PRIVATE LIMITED (IT A NO. 195/DEL/2011), AFFIRMED BY THE HONBLE HIGH COURT OF D ELHI [TS-672-HC-2015(DEL)-TP] TO CONTEND THAT EXTRAPOLATED FIGURES FOR THE FINANCIAL YEAR HAS BEEN APPROVED BY THE COURT. 106 129. LD. CIT (DR) RELIED ON THE REASONING GIVEN BY LD. TPO AND DRP AND ARGUED THAT SINCE PCS TECHNOLOGY HAS A DIFFER ENT FINANCIAL YEAR ENDING, IT CANNOT BE INCLUDED IN THE LI ST OF COMPARABLES FOR THE APPELLANT. 130. WE HAVE PERUSED THE REASONING GIVEN BY THE T PO AND THE ANNUAL REPORT OF THIS COMPANY (PCS TECHNOLOGY LTD.). AS PER RULE 10B (4) CURRENT YEAR DATA IS TO BE PRIMARILY USED FOR COMPARISON UNDER ANY OF THE SPECIFIED METHODS. IF THE TIME PERIOD OF COMPARISON DOES NOT CONVERGE, THE ACCURACY OF COMPARI SON GETS COMPROMISED. WE DO NOT AGREE WITH THE CONTENTION OF THE LD. COUNSEL THAT FINANCIAL YEAR ENDING IS AN IRRELEVANT FA CTOR FOR THE PURPOSE OF COMPARISON UNDER TNMM. IN OUR VIEW THE LA W CLEARLY STIPULATES THE TIME PERIOD FOR WHICH THE DATA CAN BE USED FOR DETERMINATION OF ALP. IT IS ONLY IN CERTAIN SITUATIONS WHERE THE COMPANY MAINTAINS AND PUBLISHES QUARTERLY RESULTS, THE RESULTS FOR APRIL-MARCH PERIOD CAN BE ACCURATELY EXTRAPOLATED . IN OTHER SITUATIONS WHERE QUARTERLY RESULTS ARE NOT AVAILABLE, A NY EFFORT TO DERIVE AT APRIL-MARCH RESULTS BY EXTRAPOLATING THE FIGUR ES ON A PROPORTIONATE BASIS WOULD BE FRAUGHT WITH THE RISK OF INDUCING INACCURACY IN THE COMPARABILITY PROCESS. THE HONBLE HIGH COURTS DECISION IN MCKINSEY KNOWLEDGE CENTRE (SUPRA) WAS A LSO RENDERED IN THE CONTEXT OF AVAILABILITY OF QUARTERLY RESULTS. I N THE PRESENT CASE, THE EXTRAPOLATED RESULTS SUBMITTED BY THE LD. CO UNSEL HAVE NOT BEEN DRAWN FROM PUBLISHED QUARTERLY RESULTS BUT DE RIVED ON A PROPORTIONATE BASIS FROM THE TWO OVERLAPPING YEARS F INANCIALS. THIS APPROACH IS NOT TENABLE AND IS ACCORDINGLY REJE CTED. THIS GROUND IN RESPECT OF PCS TECHNOLOGY LTD. IS, ACCORDIN GLY, DISMISSED. 107 SPICE MOBILE LTD. 131. LD. COUNSEL POINTED OUT THAT THE TPO ERRED IN REJ ECTING SPICE MOBILE LTD. FROM THE LIST OF COMPARABLES ON THE G ROUND THAT IT IS NOT CLEAR FROM THE FINANCIALS IF THE COMPANY IS P ERFORMING MANUFACTURING OPERATIONS. THE LD. DRP UPHELD ORDER O F THE TPO ON THE SAME REASONING. LD. COUNSEL SUBMITTED THAT THE CO MPANY HAS 2 SEGMENTS - IT SEGMENT AND MOBILE SEGMENT. IN THE IT SEGMENT, THE COMPANY IS ENGAGED IN THE BUSINESS OF MANUFACTURING OF COMPUTER SYSTEMS AND PRINTERS. SALES FROM COMPUTER SYSTEMS AND PRINTERS AMOUNT TO RS. 37.01 CRORE OUT OF TOTAL SALES OF RS. 52.1 CRORE IN THE IT SEGMENT. THIS W ORKS OUT TO BE 71% OF THE TOTAL REVENUE. THE BALANCE 29% IS DERIVED F ROM TRADING, INSTALLATION AND NETWORKING. THE CALCULATED AS SUBMIT TED BY THE LD. COUNSEL FROM THE ANNUAL REPORT IS AS BELOW: PARTICULARS AMOUNT IN INR - THOUSANDS TURNOVER OF IT SEGMENT 521,912 PASSBOOK PRINTERS (MANUFACTURED) 234,423 COMPUTER SYSTEMS (MANUFACTURED) 135,728 SALE FROM MANUFACTURED GOODS 370,151 RATIO OF SALES FROM MANUFACTURING GOODS TO TURNOVER OF IT SEGMENT 71% 132. THE LD. CIT (DR) SUBMITTED THAT SPICE MOBILE WAS RIGHTLY EXCLUDED FROM THE LIST OF COMPARABLES BECAUSE IT WAS N OT FUNCTIONALLY COMPARABLE. FURTHER, HE CONTENDED THAT FRO M THE FINANCIALS OF THE RELEVANT SEGMENT, IT WAS NOT CLEAR IF SPICE MOBILE WAS MANUFACTURING COMPARABLE PRODUCTS. 108 133. WE HAVE PERUSED THE ORDERS OF THE TPO AND THE ANNUAL REPORT OF SPICE MOBILE LTD. THIS COMPANY HAS REPORTED TWO SEGMENTS MOBILES AND INFORMATION TECHNOLOGY. IN THE IT SEGMENT IT HAS SIGNIFICANT OPERATIONS IN MANUFACTURING OF COM PUTER SYSTEMS AND PERIPHERALS WHICH ARE COMPARABLE TO THE A SSESSEES CLASS III SEGMENT WHEREIN COMPUTER PERIPHERALS LIKE M ONITORS ARE BEING MANUFACTURED. HOWEVER, THE IT SEGMENT ALSO HAS TRADING AND INSTALLATION REVENUES. THE SPLIT BETWEEN THE MANU FACTURING SALES AND OTHER SALES IS 70:30 WHEREAS BREAK-UP OF O PERATING COSTS BETWEEN MANUFACTURING AND TRADING IS NOT DISCERNIBLE F ROM THE REPORT. IN THESE CIRCUMSTANCES, IT IS NOT POSSIBLE TO ACC EPT THE INCLUSION OF THIS COMPANY AS A COMPARABLE. IT IS NOW WELL SETTLED THAT IF ACCURATE SEGMENTAL RESULTS ARE NOT AVAILABLE, THE SAME CANNOT BE USED FOR TNMM BENCHMARKING. WE ACCORDINGLY DISMISS THIS GROUND PERTAINING TO INCLUSION OF SPICE MOBILES LTD. GROUND NO. 5: THAT, ON FACTS AND IN LAW, THE LD. TPO/AO HAS FAILED TO MAKE APPROPRIATE ADJUSTMENTS TO ACCOUNT F OR THE DIFFERENCES IN WORKING CAPITAL EMPLOYED BY THE APPE LLANT VIS--VIS THE COMPARABLES, THEREBY DISREGARDING THE PROVISION S OF THE INDIAN TRANSFER PRICING REGULATIONS AND SEVERAL JUDICIAL P RONOUNCEMENTS ON THIS SUBJECT 134. THE LD. COUNSEL CONTENDS THAT APPROPRIATE ADJUSTME NT TO ACCOUNT FOR DIFFERENCES IN WORKING CAPITAL EMPLOYED B Y THE APPELLANT VIS--VIS COMPARABLES OUGHT TO BE ALLOWED. HE SUBMITTED THAT THE TPO ERRED IN NOT GRANTING THE WORKING CAPITAL AD JUSTMENT TO THE APPELLANT TO ACCOUNT FOR DIFFERENCES IN WORKING CAPITAL EMPLOYED BY THE APPELLANT VIS--VIS COMPARABLES. HE A RGUED THAT THE TPO HIMSELF HAS ALLOWED THE WORKING CAPITAL ADJUSTM ENTS IN 109 TWO PRECEDING YEARS, I.E., AY 2005-06 & 2006-07. HE FURTHER SUBMITTED THAT WORKING CAPITAL ADJUSTMENTS USUALLY INCLUDE ADJUSTMENTS FOR ACCOUNTS PAYABLE, ACCOUNTS RECEIVABLE AND INVENTORY. THESE ADJUSTMENTS ENSURE THAT THE ABSOLUTE LEVE LS OF THE RELEVANT BALANCE SHEET ITEMS ARE NORMALIZED BY MEA SURING THEM AGAINST THE TOTAL COST. IN RESPECT OF GRANT OF WORKI NG CAPITAL ADJUSTMENT, THE LD. COUNSEL PLACED RELIANCE ON THE FOLL OWING JUDICIAL DECISIONS: (A) ________________________________ CAPGEMINI INDIA PRIVATE LIMITED ITA NO. 786/MUM/2011), [2013] 27 ITR(T) 74 (MUMBAI - TRIB.) (PARA 6) (B) ________________________________ DEMAG CRANES & COMPONENTS INDIA PRIVATE LIMITED V. DCIT ITA NO. 120/PN/2011, [2012] 144 TTJ 320 (PUNE) (PARA 31) (C) ________________________________ M/S NEVIS NETWORK (INDIA) PVT. LTD V. ITO ITA NO.338/PN/2012, [2015] 55 TAXMANN.COM 519 (PUNE - TRIB.) (PARAS 11 AND 13) (D) ________________________________ NORTEL NETWORKS INDIA PRIVATE LIMITED V. ACIT ____________ ITA NO. 4765/DEL/2011, [2015] 40 ITR(T) 102 (DELHI - TRIB.) (PARA 11.8) (E) ________________________________ M/S MOTOROLA SOLUTIONS INDIA PRIVATE LIMITED V. ACIT CIRCLE-2 ITA NO. 5637/DEL/2011, [2014] 35 ITR(T) 546 (DELHI - TRIB.) (PARA 162.1) (F) _________________________________ QUALCOMM INDIA PVT. LTD. V. ACIT CIRCLE 14(1) ITA NO.5239/DEL/ 2010, [20 14] 147 ITD 17 (DELHI - TRIB.) (PARA 41) (G) ________________________________ MENTOR GRAPHICS (NOIDA) (P) LTD. (109 ITD 101) 110 135. THE LD. CIT (DR) RELIED ON THE ORDERS OF THE LOWER AUTHORITIES. 136. THE ISSUE OF GRANT OF ADJUSTMENT FOR DIFFERE NCE IN LEVELS OF WORKING CAPITALS BETWEEN THE ASSESSEE AND THE COMPARAB LE COMPANIES IS NOW WELL RECOGNIZED BY THIS TRIBUNAL AN D IS NO LONGER RES-INTEGRA. DIFFERENCES IN INVENTORY LEVELS, CREDIT PERIOD ALLOW ED BY THE SUPPLIERS AND CREDIT PERIOD GIVEN TO ITS CUSTOMERS LEAD TO CAPITAL BEING LOCKED IN CIRCULATION. THE NET PROFIT MAR GINS DO NOT REFLECT THIS DIFFERENCE. AN ENTITY WHICH PERMITS A LONG ER CREDIT PERIOD OF REALIZING ITS SALE PROCEEDS WOULD WANT TO RECEIVE COMPENSATORY INTEREST WHICH IS OFTEN INBUILT IN THE P RICE OF GOODS/SERVICES SOLD. SIMILARLY, A CUSTOMER WHO IS PA YING THE FULL PRICE UPFRONT WOULD WANT A DISCOUNT TO ACCOUNT FOR THE P ROMPT PAYMENT THAT IS MADE. THEREFORE, WORKING CAPITAL ADJUSTM ENT IS NOTHING BUT ACCOUNTING FOR TIME VALUE OF MONEY. THE N ECESSITY AND DESIRABILITY OF AN ADJUSTMENT FOR THE SAME IS ADVOCATE D BY THE OECD AND THE UN GUIDELINES ON TRANSFER PRICING AS W ELL. ECONOMIC ADJUSTMENT OF THIS NATURE IS ALSO MANDATED BY RULE 10B(3) AND RULE 10B(1)(E)(III). IN LIGHT OF THIS DIS CUSSION, WE ALLOW THIS GROUND AND HOLD THAT TPO SHOULD, WHILE DETERMINI NG THE NET PROFIT MARGINS OF THE COMPARABLES SHOULD COMPUTE AND A LLOW SUITABLE ADJUSTMENTS FOR DIFFERENCES IN WORKING CAPITA L. WE ALSO NOTE THAT THIS IS JUSTIFIED FROM THE ANGLE OF CONSISTENC Y AS WELL BECAUSE THE TPO HIMSELF HAD MADE WORKING CAPITAL ADJU STMENTS TO THE MARGINS OF THE COMPARABLES IN THE TWO PRIOR ASSESS MENT YEARS. GROUND NO. 6: THAT, ON FACTS AND IN LAW, THE LD. TPO / LD. DRP HAS ERRED IN NOT RESTRICTING THE TRANSFER PRICING A DJUSTMENT IN 111 PROPORTION TO THE VALUE OF IMPUGNED INTERNATIONAL T RANSACTIONS WITH THE ASSOCIATED ENTERPRISE VIS--VIS THE TOTAL COST BASE OF THE VARIOUS BUSINESS SEGMENTS WHICH INCLUDED THE COST OF UNCONT ROLLED TRANSACTIONS WITH INDEPENDENT THIRD PARTIES ALSO GROUND NO. 6.1: WITHOUT PREJUDICE, THE LD. AO / LD. DRP HAS ERRED IN HOLDING THAT THE VALUE OF INTERNATIONAL TR ANSACTIONS IS APPROXIMATELY 50% OF THE TOTAL COST AND THEREFORE T HE INTERNATIONAL TRANSACTIONS HAVE SIGNIFICANT EFFECT ON THE TOTAL P ROFITABILITY WHICH IS NOT TRUE FOR CLASS II TRANSACTIONS FOR WHICH ADJUST MENT MAY BE RESTRICTED IN PROPORTION TO THE VALUE OF INTERNATIO NAL TRANSACTIONS 137. THIS GROUND IS IDENTICAL TO GROUND NO. 6 OF ITA NO. 5856/DEL/2010 FOR A.Y. 2006-07 WHICH HAS BEEN ADJUD ICATED IN FAVOUR OF THE APPELLANT. ACCORDINGLY, FOLLOWING OUR O WN APPROACH IN PRIOR YEAR THIS GROUND IS ALLOWED. GROUND NO. 8 & 8.1: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN HOLDING THAT EXPENDITURE ON RECRUITMENT AN D TRAINING OF EMPLOYEES LEADS TO ENDURING BENEFIT TO THE APPELLA NT AND IN HOLDING TO ALLOW ONLY 1/6TH OF THE TOTAL EXPENDITURE IN THE CURRENT YEAR AND DEFERRING THE BALANCE TO BE ALLOWED IN NEXT FIVE YE ARS WITHOUT PREJUDICE TO THE ABOVE, THE LD. AO HAS ERRE D IN NOT ALLOWING IN THE YEAR UNDER ASSESSMENT, 1/6TH OF THE EXPENDIT URE ON THIS ACCOUNT THAT WAS SIMILARLY DISALLOWED IN THE PRECED ING FIVE ASSESSMENT YEARS. 138. THESE GROUNDS ARE IDENTICAL TO GROUND NO. 2 I N ITA NO.3410/DEL/2012 FOR A.Y. 2005-06 AND GROUND NOS. 7 .1 AND 7.2 IN ITA NO. 5856/DEL/2010 FOR A.YR.2006-07 AND WE HA VE ALLOWED THESE GROUNDS IN THE TWO YEARS BY FOLLOWING THE ORDERS OF THE HONBLE DELHI HIGH COURT IN PRIOR YEARS. FOLLOWING T HE SAME, THESE GROUNDS ARE THEREFORE ALLOWED. 112 GROUND NO. 9: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN NOT TREATING UPS CONNECTED TO COMPUTERS AS COMPUTE RS AND INSTEAD REGARDING IT AS AN ITEM OF GENERAL PLANT AND MACHI NERY FOR THE PURPOSE OF ALLOWING DEPRECATION GROUND NO. 9.1: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LD. AO HAS ALSO ERRED IN NOT REGARDING SAID UPS AS ELE CTRICAL EQUIPMENT BEING AUTOMATIC VOLTAGE CONTROLLERS, ELIGIBLE FOR DEPRECIATION @80% UNDER ITEM III(8)(IX)(E)(C) OF PART A OF APPENDIX I TO THE INCOME TAX RULES, 1962 (THE RULES) 139. WHILE DECIDING THE APPEAL FOR A.Y. 2006-07 (ITA NO. 5856/DEL/2010), WE HAVE ALREADY ALLOWED THE GROUND N O. 8.1 AND 8.2 BY HOLDING THAT DEPRECIATION ON UPS IS TO BE ALLO WED AT 60% UNDER THE CATEGORY OF COMPUTERS. FOLLOWING THE SAME, W E ALLOW THIS GROUND. GROUND NO. 10: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION AMOUNT ING TO RS. 2,06,77,205 DEBITED TO P&L ACCOUNT IS A NOTIONAL LO SS AND IS NOT ALLOWABLE AS A DEDUCTION UNDER THE PROVISIONS OF TH E ACT 140. THE ASSESSEE IN ORDER TO HEDGE ITSELF AGAINST FOREX FLUCTUATIONS WHICH IMPACTS ITS EXPORT PROCEEDS AND IM PORT PRICE IT HAS TO PAY IN THE COURSE OF BUSINESS ENTERS INTO FOR WARD FOREIGN EXCHANGE CONTRACTS FROM TIME TO TIME. THESE CONTRACTS WHI CH REMAIN OPEN AND UNEXPIRED ON MARCH 31 ST ARE MARKED TO THE MARKET AS PER GENERALLY ACCEPTED ACCOUNTING PRINCIPL ES. IF THERE IS LOSS ON THE OPEN CONTRACT THE SAME IS DEBITED TO THE P&L ACCOUNT AND CLAIMED AS A DEDUCTION U/S 37 OF THE ACT. THE AO IN HIS ASSESSMENT ORDER HAS HELD THAT THE PROVISIONS OF ACT DO NOT ALLOW DEDUCTION OF ANY SUCH NOTIONAL LOSS FOR WHICH THE LI ABILITY HAS NOT 113 CRYSTALLIZED. THEREFORE, MARKED TO MARKET (MTM) LOSSES ON ACCOUNT OF REVALUATION OF FOREX FORWARD CONTRACTS ARE ONLY NOTI ONAL AND ARE DEDUCTIBLE AS BUSINESS LOSSES UNDER INCOME TAX PROVIS IONS. FOR THE PURPOSE OF TAXATION, MTM LOSSES SHOULD BE CONSIDERED AS JUST NOTIONAL LOSSES WHICH DO NOT INVOLVE ANY ACTUAL OUTGO AS THE ASSESSEE IS NOT LIABLE TO PAY SUCH LOSSES. THIS VIEW OF THE AO HAS BEEN UPHELD BY THE LD. DRP. 141. THE LD. COUNSEL FOR THE APPELLANT-ASSESSEE SUBMITS THAT THE LD. AO HAS ERRED IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION DEBITED TO P&L ACCOUNT ON ACCOUNT OF REVALUATION OF OPE N FORWARD FOREX CONTRACTS IS A NOTIONAL LOSS FOR WHICH LIABILITY IS NOT CRYSTALLIZED OR IS CONTINGENT UPON THE ACTUAL SETTLEMENT O F FORWARD CONTRACTS AND IS NOT ALLOWABLE AS A DEDUCTION UNDER THE PROVISIONS OF THE ACT. THE FOREIGN EXCHANGE LOSS WAS INCURRED ON THE RESTATEMENT OF VALUE OF FORWARD CONTRACTS WHICH ARE EX ECUTED IN RESPECT OF UNDERLYING TRANSACTIONS OF REVENUE NATURE I. E. TRADE PAYABLES/RECEIVABLES AND NOT FOR PURCHASE OF CAPITAL ASSET OR ANY SPECULATIVE PURPOSES AND, HENCE, THE LOSS WAS CLAIMED AS DEDUCTIBLE EXPENSE. IT WAS EXPLAINED THAT IN A FOREIGN EXCHANGE CONTRACT, THERE IS A BINDING OBLIGATION TO BUY OR SELL A CERTAIN AMOUNT OF FOREIGN CURRENCY AT A PRE-AGREED RATE OF EX CHANGE, ON A CERTAIN FUTURE DATE. DUE TO BINDING NATURE OF AGREEMEN T, THE LIABILITY OF THE APPELLANT ACCRUED THE MOMENT IT ENTERED INTO FORWARD CONTRACT. IT WAS MANDATORY FOR THE APPELLANT TO MEASURE THE MTM LOSSES ON THE UNEXPIRED FORWARD CONTRACTS AT TH E END OF THE YEAR IN ACCORDANCE WITH THE METHOD OF ACCOUNTING C ONSISTENTLY FOLLOWED BY IT WITH RESPECT TO THE EFFECTS OF CHANGES IN FOREIGN EXCHANGE RATES. THE LD. COUNSEL STATED THAT THIS ISSUE IS NOW WELL SETTLED IN VIEW OF THE HONBLE SUPREME COURT DECISIONS OF CIT V. 114 WOODWARD GOVERNOR INDIA PRIVATE LTD. 312 ITR 254 (S C) AND BHARAT EARTH MOVERS V CIT: [2000] 245 ITR 428(SC) . HE FURTHER SUBMITTED THAT IN THE ASSESSEES OWN CASE IN ITA NO. 6508/DEL/2012 THIS TRIBUNAL HAS EXAMINED THIS ISSUE AND GIVEN A FINDING THAT SUCH MTM LOSSES ARE ALLOWABLE U/S 37 OF THE ACT. 142. WE HAVE HEARD BOTH THE SIDES AND EXAMINED THE ORDERS OF THE LOWER AUTHORITIES. WE OBSERVE THAT THE LOSSES HAVE BE EN RECOGNIZED IN ACCORDANCE WITH APPLICABLE ACCOUNTING STANDARDS/CONSISTENT ACCOUNTING POLICY. THE HONBLE S C JUDGMENT OF CIT V. WOODWARD GOVERNOR INDIA PRIVATE LTD. 312 ITR 254 (SC) HAS SETTLED THE ISSUE OF ALLOWABILITY OF FOREX LOSSES RECOGNISED ON THE LAST DATE OF BALANCE SHEET U/S 37 OF THE ACT ARI SING ON ACCOUNT OF TRADING TRANSACTIONS. THE HONBLE APEX COURT HAS CATEGORICALLY HELD THAT LOSS ON ACCOUNT OF EXCHANGE DIF FERENCE OR MARK TO MARKET LOSSES AS ON THE DATE OF BALANCE SHEET I S NOT A NOTIONAL OR CONTINGENT LOSS AND HAS TO BE ALLOWED AS ORDINARY PRINCIPLES OF COMMERCIAL ACCOUNTING SHOULD BE APPLIE D WHILE DECIDING DEDUCTIBILITY UNDER THE ACT SO LONG AS THEY D O NOT CONFLICT WITH ANY EXPRESS PROVISIONS OF THE ACT. FURTHER, IN TH E CASE OF BHARAT EARTH MOVERS V CIT: [2000] 245 ITR 428(SC) , THE HONBLE APEX COURT HAD HELD THAT IF A LIABILITY HAS DE FINITELY ARISEN IN ACCOUNTING YEAR, DEDUCTION SHOULD BE ALLOWED ALTHOU GH LIABILITY MAY HAVE TO BE QUANTIFIED AND DISCHARGED AT A FUTURE D ATE BUT WHAT SHOULD BE DEFINITE IS INCURRING OF LIABILITY. TH E LD. COUNSEL FOR THE APPELLANT HAS PLACED BEFORE US A COPY OF AN ORDER PASSED U/S 154 OF THE ACT WHERE SIMILAR FOREX LOSSES IN A.YR.200 5-06 HAS BEEN ALLOWED BY RELYING ON THE HONBLE SC JUDGEMENT OF WO ODWARD GOVERNOR (SUPRA). FURTHER, THIS TRIBUNAL HAS EXAMINED AND ADJUDICATED THIS ISSUE IN FAVOUR OF THE ASSESSEE IN IT A NO. 115 6508/DEL/2012 IN THE CASE OF SAMSUNG TECHNOLOGY INDI A PVT. LTD WHICH HAD SUBSEQUENTLY MERGED WITH THE ASSESSEE. IN VIEW OF THE ABOVE DISCUSSION AND RESPECTFULLY FOLLOWING THE AUTHOR ITY LAID DOWN BY THE HONBLE SUPREME COURT, THIS GROUND IS ALL OWED. AY 2008-09 (ITA NO. 52/DEL/13) 143. THE FACTS AND BUSINESS MODEL IN THE PRESENT AS SESSMENT YEAR I.E. 2008-09 ARE SIMILAR TO THE FACTS ALREADY STAT ED FOR AY 2005-06, 2006-07 & 2007-08. THE APPELLANT HAD FILED ITS RETURN OF INCOME ON NOVEMBER 30, 2008, DECLARING AN INCOME OF RS. 173,84,64,490/-. A SUMMARY OF THE INTERNATIONAL TRANSA CTIONS OF THE APPELLANT AND THE APPELLANTS APPROACH IN DETERMINI NG THEIR ALP IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPRIA TE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPARABLES CONSIDERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS I MANUFACTURING (CONSUMER ELECTRONICS AND HOME APPLIANCES) IMPORT OF RAW MATERIAL, IMPORT OF STORES AND SERVICES SPARES, EXPORT OF RAW MATERIAL AND SERVICES SPARES, EXPORT OF FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS, IMPORT OF SPARES FOR REPAIR AND MAINTENANCE, AVAILING OF TECHNICAL SERVICES, TRANSACTIO NAL NET MARGIN METHOD (TNMM) OPERATING PROFIT / OPERATING REVENUE 4.43% 7 2.77% 116 PARTICULARS MOST APPROPRIA TE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPARABLES CONSIDERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY REIMBURSEMENT OF MARKETING EXPENDITURE BY AES CLASS II TRADING (CONSUMER ELECTRONICS, HOME APPLIANCES AND MOBILE PHONES) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICE SPARES, SERVICE INCOME, REIMBURSEMENT OF MARKETING EXPENSES BY AES TNMM OPERATING PROFIT / OPERATING REVENUE 2.22% 7 1.78% CLASS III MANUFACTURING (COLOUR MONITORS) IMPORT OF RAW MATERIAL, IMPORT OF STORES AND SERVICE SPARES, EXPORT OF RAW MATERIAL AND SERVICE SPARES, IMPORT OF FIXED ASSETS, REIMBURSEMENT OF MARKETING EXPENSES BY AES TNMM OPERATING PROFIT / OPERATING REVENUE - 1.55% 5 - 2.50% CLASS IV TRADING (COLOUR MONITORS AND OTHER IT PRODUCTS) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICES SPARES, TNMM OPERATING PROFIT / OPERATING REVENUE 3.37% 9 - 0.52% 117 PARTICULARS MOST APPROPRIA TE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPARABLES CONSIDERED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY REIMBURSEM ENT OF MARKETING EXPENSES BY AE CLASS V CONTRACT SOFTWARE DEVELOPMENT SERVICES (PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES) TNMM OPERATING PROFIT / OPERATING COST 17.60% 23 14.65% 144. THE DISPUTE IN THE PRESENT APPEAL (ITA NO. 5 2/DEL/2013) FILED BY THE APPELLANT PERTAINS TO THE INTERNATIONAL TRANS ACTIONS GROUPED UNDER CLASS-II (TRADING OF CONSUMER ELECTRON ICS, HOME APPLIANCES AND MOBILE PHONES) AND CLASS-III (MANUFA CTURING OF COLOUR MONITORS) SEGMENT. THE OTHER INTERNATIONAL TRANSA CTIONS PERTAIN TO CLASSES I (MANUFACTURING OF CONSUMER ELECT RONICS AND HOME APPLIANCES), CLASS IV (TRADING OF COLOUR MONIT ORS AND OTHER IT PRODUCTS) AND CLASS V (CONTRACT SOFTWARE DEVELOPMEN T SERVICES). THERE IS NO DISPUTE IN RESPECT OF THESE TRANSACTIONS. 145. IN CLASS-II (TRADING OF CONSUMER ELECTRONIC S, HOME APPLIANCES AND MOBILE PHONES) SEGMENT, THE APPELLANT WAS ENGAGED IN THE TRADING OF CONSUMER ELECTRONICS, HOME APPLIANCES AND MOBILE PHONES AND IN CLASS-III (MANUFACTURING OF COLOUR MONITORS) SEGMENT, THE APPELLANT WAS ENGAGED IN THE MANUFACTURING OF COLOUR MONITORS. TRANSACTIONAL NET MARGIN METHOD WAS CHOSEN AS THE MOST APPROPRIATE METHOD IN ITS TR ANSFER 118 PRICING STUDY FOR BOTH THESE SEGMENTS. THE PROFIT LE VEL INDICATOR TAKEN WAS OPERATING PROFIT/OPERATING REVENUE. FOR THE BENCHMARKING EXERCISE IN CLASS-II AND CLASS-III SEG MENTS, AN ECONOMIC ANALYSIS WAS CARRIED OUT IN THE TP STUDY LE ADING TO IDENTIFICATION OF 7 AND 5 UNCONTROLLED COMPARABLE COMP ANIES RESPECTIVELY. SINCE THE APPELLANT HAD EARNED PROFIT MAR GIN OF 2.22% AND -1.55% IN THE CLASS-II AND CLASS-III SEGME NTS RESPECTIVELY WHICH WAS HIGHER THAN THE PROFIT MARGIN E ARNED BY THE COMPARABLES, IT WAS CONCLUDED THAT THE INTERNATIONAL TRAN SACTIONS WERE AT ARMS LENGTH. 146. THE TPO REJECTED THE ECONOMIC ANALYSIS UNDERTA KEN BY THE APPELLANT AND PROCEEDED TO UNDERTAKE A FRESH BENCHMARK ING ANALYSIS BY ACCEPTING CERTAIN COMPARABLES OF THE APPEL LANT AND INTRODUCING CERTAIN NEW COMPARABLES. THE TPO ARRIVED AT A SET OF 7 COMPARABLE COMPANIES FOR THE CLASS-II TRADING SEGMENT AND 2 COMPARABLES FOR THE CLASS-III MANUFACTURING SEGMENT. THE ARITHMETIC MEAN OF THE OPERATING PROFIT MARGIN (OP/OR) O F THESE COMPARABLES FOR THE CLASS-II TRADING SEGMENT WAS COMP UTED AT 5.21%. SIMILARLY, THE PROFIT MARGIN OF THE COMPARABLE S IN THE CLASS-III MANUFACTURING SEGMENT WAS CARRIED OUT AT 2.9 4%. VIDE ORDER DATED 14 OCTOBER 2011, THE TPO PROPOSED AN ADJU STMENT OF RS. 50,24,84,061/- PERTAINING TO CLASS-II (TRADING SEG MENT) AND RS. 18,99,32,764/- PERTAINING TO CLASS-III (MANUFACTUR ING SEGMENT). FURTHER, HE PROPOSED AN ADJUSTMENT OF RS. 454,94,35,445/- WITH RESPECT TO AMP EXPENSES INCURRED BY THE APPELLANT BECAUSE HE WAS OF THE VIEW THAT THE APPELLANT H AS PROVIDED CERTAIN SERVICES IN RESPECT OF CREATION OF MA RKETING INTANGIBLES, TO ITS AE. 119 COMPUTATION OF TP ADJUSTMENT (IN RS.) VALUE OF GROSS SALES 55,784,998,000/- AMP/SALES OF THE COMPARABLES 2.07% AMOUNT THAT REPRESENTS BRIGHT LINE 1,154,749,458/- EXPENDITURE ON AMP BY ASSESSEE 5,542,768,817/- EXPENDITURE IN EXCESS OF BRIGHT LINE 4,338,019,359/- MARK-UP AT 15% 658,202,903/- REIMBURSEMENT THAT ASSESSEE SHOULD HAVE RECEIVED 5,046,222,262/- REIMBURSEMENT ACTUALLY RECEIVED 496,786,817/- ADJUSTMENT TO ASSESSEES INCOME 4,549,435,445/- 147. THE ASSESSEE BEING AGGRIEVED BY THE ORDERS O F THE TPO AND AO FILED OBJECTIONS BEFORE THE DRP, NEW DELHI CONTESTI NG THE AFORESAID TRANSFER PRICING ADJUSTMENTS. THE DRP DISPOS ED OF THE OBJECTIONS FILED BY THE ASSESSEE VIDE ITS DIRECTIONS UN DER SECTION 144C OF THE INCOME TAX ACT, 1961 DATED 27 SEPTEMBER 2 012 AND DIRECTED AS FOLLOWS: (A) ________________________________ THE DRP DIRECTED THE EXCLUSION OF SPICE MOBILES LTD. AS A COMPARABLE FOR CLASS II SEGMENT AND ARRIVED AT A FINAL LIST OF 6 COMPARABLES. THE ARITHMETIC MEAN OF THE NET PROFIT MARGIN OF THESE 6 COMPARABLES WAS CALCULATED AT 5.10% VIS--VIS 2.22% O F THE APPELLANT. THUS, THE ADJUSTMENT FOR CLASSS-II SEGMENT WAS REDUCED TO RS. 48,40,26,768; (B) ________________________________ THE DRP ALSO DIRECTED THE TPO TO EXCLUDE THREE COMPANIES I.E. COMPUAGE INFOC OM LTD., REDINGTON INDIA LTD. AND COMPUTER POINT LTD. AS COMPARABLES FOR DETERMINING THE BRIGHT LINE OF AMP EXPENDITURE. THESE COMPANIES WERE DIRECTED TO BE EXCL UDED BECAUSE THE AMOUNT INCURRED BY THESE COMPANIES ON MARKETING AND SELLING WAS NIL. THE DRP DIRECTED TO EXCLUDE VXL INSTRUMENTS LTD. BECAUSE IT WAS A PERSISTENTLY LOSS- 120 MAKING COMPANY. FURTHER, TO FIX THE BRIGHT LINE, THE LD . DRP DIRECTED TO EXCLUDE CASH DISCOUNT FOR CALCULATING AMP EXPENDITURE OF THE APPELLANT AS WELL AS THE COMPARABLE S. FURTHER, IT DIRECTED TO INCLUDE OTHER DISCOUNTS AND COMMISSION PAYMENTS REFLECTED IN P&L ACCOUNT OF COMPARABLES IN THE AMP EXPENDITURE TO FIX THE BRIGHT L INE. A FINAL SET OF 7 COMPARABLES WAS DIRECTED TO BE USED FO R DETERMINING THE BRIGHT LINE. THE COMPUTATION OF AMP ADJUSTMENT WAS REVISED AS UNDER: PARTICULARS AMOUNT (RS.) VALUE OF GROSS SALES 55,784,998,000 AMP/ SALES OF THE COMPARABLES 2.95% AMOUNT THAT REPRESENTS BRIGHT LINE 1,645,657,441 AMOUNT ACTUALLY SPEND ON AMP EXPENDITURE 5,54,27,68,817 AMOUNT SPENT IN EXCESS OF BRIGHT LINE AND ON CREATION OF MARKETING INTANGIBLES 3,89,71,11,376 MARK-UP @15% 58,45,66,706 THE AMOUNT BY WHICH SAMSUNG INDIA SHOULD HAVE BEEN REIMBURSED 4,48,16,78,082 AMOUNT REIMBURSED 49,67,86,817 ADJUSTMENT (RS.) 3,98,48,91,265 148. BASED ON THE ABOVE DIRECTIONS, THE TPO VIDE HI S RECTIFIED ORDER DATED 31 OCTOBER 2012 MADE A FINAL ADJUSTMENT OF RS. 4,65,88,50,797 WHICH COMPRISED OF (I) ADJUSTMENT ON A CCOUNT OF AMP EXPENDITURE AT RS. 398,48,91,265/-, (II) ADJUSTMEN T IN RESPECT OF CLASS-II (TRADING SEGMENT) AT RS. 48,40,26,768/- AN D (III) ADJUSTMENT IN RESPECT OF CLASS-III (MANUFACTURING SEG MENTS) AT RS. 18,99,32,764/-. 149. THE AO INCORPORATED THE ADJUSTMENT TO THE ALP MADE BY THE TPO AND ALSO MADE THE FOLLOWING ADDITIONS TO TOTAL INCO ME: 121 (A) RECRUITMENT AND TRAINING EXPENSE OF RS. 2,07,83,696 WA S TREATED AS CAPITAL EXPENDITURE AND NOT ALLOWABLE AS A REVENUE EXPENDITURE U/S 37 OF THE ACT; (B) FOREIGN EXCHANGE FLUCTUATION LOSS OF RS. 1,74,38,690 WAS NOT ALLOWED AS A DEDUCTION; (C) DEPRECIATION ON UPS, PRINTERS AND SERVERS WAS RESTRICTE D TO 15% AS AGAINST 60% CLAIMED BY THE APPELLANT LEADING TO A DISALLOWANCE OF RS. 7,24,741. 150. AGGRIEVED BY THE ORDER OF THE AO, THE ASSESSEE HAS PREFERRED THE PRESENT APPEAL AND HAS PRAYED FOR ADJUDICATION OF THE FOLLOWING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL (ITA NO. 52/DEL/13) F OR AY 2008-09 GROUND NO. 1 & 2: THESE GROUNDS ARE GENERAL IN NATURE. 151. GROUND NO. 2.1 TO 2.12: THESE GROUNDS PERTAIN TO THE ISSUE OF AMP EXPENDITURE BEING TREATED AS AN INTERNATI ONAL TRANSACTION AND ADJUSTMENT BEING MADE ON THE BASIS OF TH E BRIGHT LINE TEST. WE HAVE ALREADY DECIDED THIS ISSUE IN FAVO UR OF THE APPELLANT IN ITA NO. 3248/DEL/2012 FOR THE A.Y. 2005 -06 BY EXAMINING THIS ISSUE IN DETAIL. THESE GROUNDS FOR THI S YEAR ARE ACCORDINGLY ALLOWED AND DISPOSED-OFF ON THE LINES O F OUR FINDINGS AND OBSERVATIONS MADE WHILE DECIDING GROUNDS NO. 3.1 TO 3.6 OF ITA NO. 3248/DEL/2012. GROUND NO. 3: THAT ON FACTS AND IN LAW, THE LD. AO/TPO ERRED IN REJECTING SHYAM TELECOM LIMITED AS A COMPARABLE COMPANY FOR DETERMINING THE ALP OF INTERNATIONAL TRANSACTIONS U NDER CLASS II 122 SEGMENT (TRADING OF CONSUMER ELECTRONICS, HOME APPL IANCES AND MOBILE PHONES) 152. THE LD. TPO REJECTED SHYAM TELECOM FOR THE S OLE REASON THAT IT WAS A PERSISTENTLY LOSS-MAKING COMPANY. THE LD. DRP WAS OF THE VIEW THAT THE COMPANY WAS FUNCTIONALLY DIFFERENT SINCE THE COMPANY HAS SIGNIFICANT EXPORT INCOME FROM TRADING AND RELEVANT SEGMENT CONSIDERED BY THE APPELLANT IS NOT PURELY A TRAD ING SEGMENT BUT ENGAGED IN TURNKEY PROJECTS AND TRADING. 153. THE LD. COUNSEL ARGUED THAT SHYAM TELECOM IS N OT A PERSISTENT LOSS-MAKER BECAUSE ON AN ENTITY BASIS, THE C OMPANY HAS SHOWN POSITIVE OPERATING PROFIT YEAR ON YEAR EVEN THOUGH RELEVANT SEGMENT INCURRED LOSSES. HE SUBMITTED THAT THIS COMPARABLE HAS BEEN ACCEPTED BY THE LD. TPO IN SUBSE QUENT 2 YEARS AND THUS, THE PRINCIPLE OF CONSISTENCY SHOULD BE FOLLOWED. HE POINTED OUT THAT THE PRINCIPLE OF CONSISTENCY HAS BEEN U PHELD IN BRINTONS CARPETS ASIA P. LTD. V. DCIT (ITA 1296/PN/ 2010). THE LD. COUNSEL SUBMITTED THAT SHYAM TELECOM OPERATES UNDER THREE BUSINESS SEGMENTS AS STATED IN THE TABLE BELOW: SEGMENT NAME SEGMENT DESCRIPTION TELECOM PRODUCTS & SERVICES THE TELECOM PRODUCTS & SERVICES SEGMENT COMPRISE OF MANUFACTURING AND SERVICES IN THE RELATED AREA. TURNKEY PROJECTS AND TRADING TURNKEY PROJECTS AND TRADING SERVICES SEGMENT INCLUDES THE TURNKEY PROJECTS AND TRADING IN TELECOM PRODUCTS. INVESTMENTS (INCLUDING DIVIDEND) INVESTMENTS ARE PRIMARILY IN THE SUBSIDIARIES WHICH ARE DEALING IN TELECOMMUNICATION 123 SECTORS. HE POINTED OUT THAT OVER 99% INCOME UNDER TURNKEY PROJE CTS AND TRADING SEGMENT ARE ATTRIBUTABLE TO TRADING INCOME FROM S ALE OF GSM HANDSETS, ACCESSORIES, COMMUNICATION SYSTEMS AND COMPONENTS. REVENUE FROM GSM HANDSETS & ACCESSORIES I S RS. 157.08 CRORES WHICH IS 99% OF TOTAL REVENUE FROM THE TURNKEY PROJECTS AND TRADING SEGMENT AS IS EVIDENT FROM THE TABLE BELOW: PARTICULARS AMOUNT (IN INR) (IN LAKHS) TOTAL REVENUE FROM TURNKEY PROJECTS AND TRADING SEGMENT 15,893 TOTAL REVENUE FROM TRADED GOODS 15,708 RATIO OF TRADED GOODS TO SEGMENTAL REVENUE 99% 154. LD. COUNSEL ARGUED THAT IN THIS CASE, NO EXTRAO RDINARY ECONOMIC FACTOR LEADING TO PERSISTENT LOSSES ARE EVIDE NT FROM THE ANNUAL REPORT OF THE COMPANY. SUCH LOSSES ARE NORMAL INCIDENT IN THE MARKET AND THE PURPOSE OF PROVIDING FOR A COMPUTATI ON OF AVERAGE UNDER SECTION 92C (2) OF THE ACT, HAS BEEN PR OVIDED TO ACCOUNT FOR PROFIT AS WELL AS LOSS MAKING COMPANIES. 155. THE LD. CIT (DR) VEHEMENTLY RELIED ON THE OR DER OF THE TPO AND ARGUED THAT SHYAM TELECOM WAS CORRECTLY EXCLUDED. HE ARGUED THAT SINCE SHYAM TELECOM IS A PERSISTENTLY LOSS- MAKING COMPANY AND IT HAS A DIFFERENT FUNCTIONAL PROFILE, IT C ANNOT BE INCLUDED IN THE LIST OF COMPARABLES TO DETERMINE ARM S LENGTH PRICE. THE LD. CIT (DR) POINTED OUT THAT THE QUANTUM OF REVENU E DERIVED 124 FROM TURNKEY PROJECT WAS INR 1.85 CRORES OUT OF TOTAL S EGMENT REVENUE OF INR 158.93 CRORES WHICH WAS A MATERIAL AM OUNT AND CANNOT BE IGNORED. 156. WE HAVE EXAMINED AND PERUSED THE ORDERS OF TH E LOWER AUTHORITIES AND ALSO THE ANNUAL REPORT OF SHYAM TELECO M LTD. WHILE THE BASIS OF THE CLAIM THAT THIS COMPANY IS A PER SISTENT LOSS- MAKING ONE IS NOT VERY CLEAR, IT IS MANIFEST THAT THE PRO DUCT PROFILE OF THIS ENTITY IS VERY DISSIMILAR TO THAT OF THE ASSESSEE S. THE RELEVANT SEGMENT WHICH IS BEING SOUGHT TO BE TAKEN FOR C OMPARISON IS CALLED THE TURNKEY SEGMENT. IN THIS SEGMENT, PREDO MINANT PART OF THE REVENUES IS DERIVED FROM TRADING OF GSM SE TS AND COMMUNICATION NETWORK. ONLY A VERY SMALL PORTION OF REVENUE IS DERIVED FROM TURNKEY PROJECTS. HOWEVER, THE BREAKUP OF SALES AND PROFIT MARGINS OF GSM PHONES AND OTHER EQUIPMENT IS NO T AVAILABLE IN THE ANNUAL REPORT. IN SUCH A SITUATION IT WOULD BE AN ERROR TO ALLOW THE INCLUSION OF THIS COMPARABLE. THIS GROUND IS ACCORDINGLY DISMISSED. GROUND NO. 4: THAT, ON FACTS AND IN LAW, THE LD. AO/TPO HAS ERRED IN CONSIDERING BAJAJ ELECTRICALS LIMITED AS A COMPARABLE COMPANY FOR DETERMINING THE ALP OF INTERNATIONAL TR ANSACTIONS UNDER CLASS II SEGMENT (TRADING OF CONSUMER ELECTRONICS, HOME APPLIANCE AND MOBILE PHONES). GROUND NO. 5: THAT, ON FACTS AND IN LAW, THE LD. AO/TPO HAS ERRED IN REJECTING PCS TECHNOLOGY LIMITED AND VXL I NSTRUMENTS LIMITED AS COMPARABLE COMPANIES FOR DETERMINING THE ALP OF INTERNATIONAL TRANSACTIONS UNDER CLASS III SEGMENT (MANUFACTURING OF COLOUR MONITORS) . 125 157. GROUND NO. 4 PERTAINING TO BAJAJ ELECTRICALS L TD. IS IDENTICAL TO THE GROUND NO. 4.3 IN ITA NO. 5856/DEL/2010 FOR A .Y. 2006-07 AND GROUND NO. 3.2 IN ITA NO. 5315/DEL/2011 FOR A.Y . 2007-08. AS THE MATERIAL FACTS AND CIRCUMSTANCES AND THE ARGUME NTS TAKEN BY BOTH SIDES REMAIN THE SAME, THIS GROUND IS DECID ED ON THE FINDINGS AND OBSERVATIONS MADE IN THESE TWO YEARS. AS IN PRIOR YEARS, THE MATERIAL FACT THAT NEEDS TO BE SEEN IS WHETHER THE SEGMENT OF CONSUMER PRODUCTS TAKEN BY THE TPO INCLUDE S MANUFACTURING OF FANS. THE ANNUAL REPORT OF BAJAJ EL ECTRICALS FOR THE F.Y. 2007-08 REVEALS THAT IN THIS YEAR AS WELL THE COMPANY HAD MANUFACTURED 2,87,000 FANS OUT OF A CONSOLIDATED SALE S QUANTITY OF 27,07,000 FANS AND THE NET PROFIT MARGINS OF THE MA NUFACTURED AND TRADED FANS ARE NOT PROVIDED. IN THE ABSENCE OF THE SE DETAILS BAJAJ ELECTRICALS LTD CANNOT BE TAKEN AS A COMPARABLE. 158. GROUND NO. 5 PERTAINS TO TWO COMPANIES WHIC H HAVE BEEN SOUGHT TO BE INCLUDED AS COMPARABLES THESE ARE PCS TECHNOLOGY LTD. AND VXL INSTRUMENTS LTD. THE SUITABILITY OF THESE TW O COMPANIES AS COMPARABLES FOR THE MANUFACTURING SEGME NT HAS ALREADY BEEN EXAMINED BY US IN THE APPEAL FOR A.Y. 2 007-08, WHERE IDENTICAL QUESTIONS AND ARGUMENTS HAD BEEN RAISED BY T HE TWO SIDES. IN THE SAID APPEAL (ITA NO. 5315/DEL/2011) WH ILE ADJUDICATING GROUND NO.4 PERTAINING TO THESE COMPARABL ES, WE HAVE HELD THAT PCS TECHNOLOGY LTD. IS NOT A SUITABLE CO MPARABLE IN THE ABSENCE OF ACCURATE FINANCIALS AND FOR VXL INSTRUM ENTS, WE HAVE ORDERED A REMAND TO THE FILE OF THE TPO TO DETER MINE WHETHER THE TWIN CONDITIONS OF PERSISTENT LOSS (FOR CURRENT AND TWO PRIOR YEARS) COUPLED WITH EROSION OF NET WORTH ARE PRESENT. T HESE DIRECTIONS WOULD BE EQUALLY APPLICABLE TO THESE COMPAR ABLES FOR THIS YEAR AS WELL AS THE FACTS AND CIRCUMSTANCES REMAIN THE SAME. 126 ACCORDINGLY, GROUND NOS. 4 AND 5 ARE PARTLY ALLOWED. GROUND NO. 6: THAT, ON FACTS AND IN LAW, THE LD. AO/TPO HAS ERRED BY NOT MAKING APPROPRIATE ADJUSTMENTS TO ACCO UNT FOR DIFFERENCES IN WORKING CAPITAL EMPLOYED BY THE APPE LLANT VIS--VIS THE COMPARABLES - GROUND NO. 7: THAT, ON FACTS AND IN LAW, THE LD. AO/TPO HAS ERRED IN NOT RESTRICTING THE TP ADJUSTMENT IN PROPO RTION TO THE VALUE OF INTERNATIONAL TRANSACTIONS WITH THE ASSOCIATED E NTERPRISES VIS-- VIS THE TOTAL COST BASE OF THE VARIOUS BUSINESS SEG MENTS WHICH INCLUDED COST OF UNCONTROLLED TRANSACTIONS WITH IND EPENDENT THIRD PARTIES AS WELL 159. GROUND NO. 6 PERTAINS TO THE ISSUE OF ALLOWA BILITY OF ECONOMIC ADJUSTMENT TO ACCOUNT FOR DIFFERENCES IN WORKI NG CAPITAL BETWEEN THE ASSESSEE AND THE COMPARABLES CHOSEN FOR T NMM ANALYSIS AND THE SAME HAS ALREADY BEEN ADJUDICATED BY US UNDER GROUND NO. 5 FOR THE APPEAL FOR A.Y. 2007-08 (ITA NO . 5315/DEL/2011). WE HAVE HELD THAT THIS ISSUE OF WORKIN G CAPITAL ADJUSTMENT IS NOW NO LONGER RES INTEGRA AND HAS TO BE ALLOWED. THIS WOULD BE EQUALLY APPLICABLE FOR THIS YEAR AS WE LL AND THIS GROUND IS ACCORDINGLY ALLOWED. THE TPO IS DIRECTED TO COMPUTE THE ADJUSTMENT WHILE DETERMINING THE ARMS LENGTH PRICE UND ER TNMM. 160. SIMILARLY, GROUND NO. 7 PERTAINING TO RESTRIC TING THE TRANSFER PRICING ADJUSTMENT TO THE PROPORTIONATE VALUE OF THE INTERNATIONAL TRANSACTIONS HAS BEEN DECIDED BY US UNDER GROUND NO. 6 OF ITA NO. 5856/DEL/2010 FOR A.Y. 2006-07 AND GROUND NO. 6 OF ITA NO. 5315/DEL/2011FOR A.Y. 2007-08 BY ALLOW ING THE SAME. OUR OBSERVATIONS AND ORDER IN THIS RESPECT WOULD APPL Y TO THIS GROUND AS WELL. 127 THESE TWO GROUNDS 6 AND 7 ARE ACCORDINGLY DISPOSED OFF IN TERMS OF THE ABOVE OBSERVATIONS. GROUND NO. 8: THIS GROUND IS DISMISSED AS NOT BEING PRESSED . GROUND NO. 9: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN HOLDING THAT EXPENDITURE ON RECRUITMENT AND TRAININ G OF EMPLOYEES LEADS TO ENDURING BENEFIT TO THE APPELLANT AND IN A LLOWING ONLY 1/6 TH OF THE TOTAL EXPENDITURE IN THE CURRENT YEAR AND DE FERRING THE BALANCE TO BE ALLOWED IN NEXT FIVE YEARS AND IN DOI NG SO DISALLOWING EXPENSE OF RS. 2,07,83,696 GROUND 9.1: WITHOUT PREJUDICE TO ABOVE, THE LD. AO HAS ERRED I N NOT ALLOWING IN THE YEAR UNDER ASSESSMENT, 1/6 TH OF THE EXPENDITURE ON THIS ACCOUNT THAT WAS SIMILARLY DISALLOWED IN TH E PRECEDING FIVE ASSESSMENT YEARS 161. WE HAVE ALREADY ADJUDICATED THIS ISSUE IN THE APPEALS FOR PRIOR YEARS (A.Y. 2005-06, 2006-07 AND 2007-08) AND ALLOWED THE SAME. WE HAVE HELD THAT TRAINING AND RECRUITMENT EXPENDI TURE IS FULLY ALLOWABLE AS REVENUE EXPENDITURE IN THE YEAR I N WHICH IT IS INCURRED. THERE BEING NO ENDURING BENEFIT IT CANNOT BE TREATED AS CAPITAL EXPENDITURE OR DEFERRED REVENUE EXPENDITURE. GROUND NO. 9 IS THEREFORE ALLOWED AND GROUND NO. 9.1 IS DISMISSED AS BEING INFRUCTUOUS. GROUND NO. 10: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN NOT TREATING UPS CONNECTED TO COMPUTERS AS COMP UTER AND INSTEAD REGARDING IT AS AN ITEM OF GENERAL PLANT A ND MACHINERY FOR THE PURPOSE OF ALLOWING DEPRECIATION AND IN DOING S O DISALLOWED DEPRECIATION OF RS. 7,24,741 162. WE HAVE ALREADY ADJUDICATED THIS ISSUE IN THE APPEALS FOR PRIOR YEARS (A.YRS. 2006-07 AND 2007-08) AND ALLOWE D THE SAME. WE HAVE HELD THAT IT IS NOW SETTLED THAT DEPRECIATION ON UP S 128 SYSTEMS IS ALLOWABLE AT THE RATE OF 60% UNDER THE CATEG ORY OF COMPUTER AND NOT AT 15% UNDER THE CATEGORY OF PLANT AND MACHINERY. FOLLOWING THE SAME, THIS GROUND IS ALLOWE D. GROUND NO. 11: THAT, ON FACTS AND IN LAW, THE LD. AO HAS ERRED IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION AMOUNT ING TO RS. 1,74,38,690 DEBITED TO P&L ACCOUNT IS A NOTIONAL LO SS AND IN NOT ALLOWABLE AS A DEDUCTION UNDER THE PROVISIONS OF TH E ACT GROUND 11.1: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LD. AO HAS ERRED IN NOT EXCLUDING RS. 2,06,77,205 FROM THE TAXABLE INCOME OF CURRENT YEAR BEING MARKED TO MARKET LOSSES INCUR RED IN RESPECT OF FOREIGN EXCHANGE CONTRACTS WHICH WERE OUTSTANDING A S ON 31 ST MARCH 2007 AND WRITTEN BACK DURING THE YEAR AS SAME WAS NOT ALLOWED AS DEDUCTION IN THE ASSESSMENT PROCEEDINGS FOR AY 2007-08 163. THIS GROUND PERTAINS TO ALLOWABILITY OF LOSS A RISING FROM REVALUATION OF FORWARD FOREX CONTRACTS ON THE LAST DATE OF THE BALANCE SHEET ON ACCOUNT OF RESTATEMENT OF AMOUNTS PAYAB LE AND RECEIVABLE IN FOREIGN EXCHANGE. THIS ISSUE HAS ALRE ADY BEEN DECIDED BY US IN ITA NO. 5315/DEL/2011 FOR A.Y. 200 7-08 UNDER GROUND NO. 10 WHEREIN WE HAVE ALLOWED THE GROUND IN VIEW OF THE LAW BEING SETTLED BY THE HONBLE SUPREME COURT IN CIT V. WOODWARD GOVERNOR INDIA PVT. LTD. 312 ITR 254 (SC) IN THIS REGARD. FOLLOWING THE SAME, THIS GROUND IS ALLOWED. AY 2009-10 (ITA NO. 1567/DEL/14) 164. THE FACTS AND BUSINESS MODEL IN THE PRESENT AS SESSMENT YEAR I.E. 2009-10 ARE SIMILAR TO THE FACTS ALREADY STAT ED FOR AY 2005-06 TO AY 2008-09. THE APPELLANT HAD FILED ITS RE TURN OF INCOME ON NOVEMBER 30, 2009, DECLARING AN INCOME OF RS. 129 143,10,59,696/-. A SUMMARY OF THE INTERNATIONAL TRANSAC TIONS ENTERED INTO BY THE APPELLANT AND THE APPELLANTS APPRO ACH IN DETERMINING THEIR ALP IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPRIATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPARABLES CONSIDERED AS PER TP STUDY ARMS LENGT H MARGI N AS PER TP STUDY CLASS I MANUFACTURING (CONSUMER ELECTRONICS, HOME APPLIANCES AND MOBILE PHONES) IMPORT OF STORES AND SERVICE SPARES, IMPORT OF RAW MATERIAL, EXPORT OF RAW MATERIAL AND SERVICE SPARES, EXPORT OF FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS, IMPORT OF SPARES FOR REPAIR AND MAINTENANCE, AVAILING OF SERVICES, REIMBURSEMENT OF MARKETING EXPENSES BY AES TRANSACTIONAL NET MARGIN METHOD (TNMM) OP/OR 4.13% 6 1.91% CLASS II TRADING (CONSUMER ELECTRONICS, HOME APPLIANCES AND MOBILE PHONES) IMPORT OF FINISHED GOODS, IMPORT OF TNMM OP/ OR 1.38% 8 2.14% 130 PARTICULARS MOST APPROPRIATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLANT AS PER TP STUDY NO. OF COMPARABLES CONSIDERED AS PER TP STUDY ARMS LENGT H MARGI N AS PER TP STUDY STORES AND SERVICE PARTS, EXPORT OF FINISHED GOODS, SERVICES INCOME, REIMBURSEMENT OF MARKETING EXPENSES BY AES CLASS III TRADING (COLOUR MONITORS AND OTHER IT PRODUCTS) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICES SPARES, REIMBURSEMENT OF MARKETING EXPENDITURE BY AE TNMM OP/OR 1.42% 9 - 0.41% CLASS IV CONTRACT SOFTWARE DEVELOPMENT SERVICES PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES TNMM OP/ OC 15% 21 14.33 % 165. THE DISPUTE IN THE PRESENT APPEAL FILED BY TH E APPELLANT PERTAINS TO THE INTERNATIONAL TRANSACTIONS GROUPED UNDER CLASS-IV (CONTRACT SOFTWARE DEVELOPMENT) SEGMENT. THE OTHER INTERN ATIONAL TRANSACTIONS PERTAIN TO CLASSES I (MANUFACTURING OF CON SUMER ELECTRONICS, HOME APPLIANCES AND MOBILE PHONES), CLA SS II (TRADING OF CONSUMER ELECTRONICS, HOME APPLIANCES AN D MOBILE 131 PHONES) AND CLASS III (TRADING OF COLOUR MONITORS A ND OTHER IT PRODUCTS). THERE IS NO DISPUTE IN RESPECT OF THESE TRAN SACTIONS. 166. IN CLASS-IV (CONTRACT SOFTWARE DEVELOPMENT) SE GMENT, THE APPELLANT WAS ENGAGED IN THE PROVISION OF CONTRACT SOF TWARE DEVELOPMENT SERVICES. TRANSACTIONAL NET MARGIN METHOD W AS CHOSEN AS THE MOST APPROPRIATE METHOD IN ITS TRANSFER PRI CING STUDY. THE PROFIT LEVEL INDICATOR TAKEN WAS OPERATING PROFIT/OPERATING COST. FOR THE BENCHMARKING EXERCISE, A N ECONOMIC ANALYSIS WAS CARRIED OUT IN THE TP STUDY LEADING TO ID ENTIFICATION 21 UNCONTROLLED COMPARABLE COMPANIES HAVING MARGIN O F 14.33%. SINCE THE APPELLANT HAD EARNED PROFIT MARGIN OF 15% WH ICH WAS HIGHER THAN THE PROFIT MARGIN EARNED BY THE COMPARABLES , IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS WERE AT ARM S LENGTH. 167. THE DISPUTE IN THE PRESENT APPEAL FILED BY THE APPELLANT PRIMARILY PERTAINS TO THE TRANSFER PRICING ADJUSTMENTS M ADE BY THE TPO VIDE ORDER DATED 30 JANUARY 2013 ON ACCOUNT OF: (A) ALLEGED INTERNATIONAL TRANSACTION OF ADVERTISING, MARKETING AND P ROMOTION ( AMP ) EXPENSES; AND (B) SOFTWARE DEVELOPMENT SEGMENT. 168. THE FIRST ADJUSTMENT RELATES TO ADJUSTMENT MADE ON ACCOUNT OF AMP EXPENSES: THE TPO WAS OF THE VIEW THAT THE APPELLANT HAS PROVIDED CERTAIN SERVICES IN RESPECT OF CREATION OF MARKETING INTANGIBLES TO ITS AE BY SPENDING HUGE AMP EX PENSES AND WORKED OUT THE AVERAGE AMP/SALES OF THE COMPARABL ES AT 3.66% AS AGAINST 9.19% IN THE CASE OF THE APPELLANT (R ECTIFIED TO 9.03% OF SALES VIDE RECTIFICATION ORDER DATED 06 MARC H 2013) AND CONSIDERED THIS DIFFERENCE AS THE VALUE OF THE SERVICE WHICH THE APPELLANT HAD PROVIDED TO ITS AE. HE ACCORDINGLY HELD THAT THIS 132 EXCESS AMOUNT SHOULD HAVE BEEN RECOVERED BY THE APPEL LANT FROM ITS AE OR SHOULD HAVE BEEN COMPENSATED BY ITS AE. THE APPROACH FOLLOWED BY THE TPO IN RESPECT OF THIS ADJUSTMENT IS AS FOLLOWS: PARTICULARS AMOUNT AS PER ORIGINAL TP ORDER AMOUNT AS PER ORIGINAL RECTIFIED TP ORDER ADVERTISEMENT AND SALES PROMOTION A 2,341,766,583 2,341,766,583 REBATES AND DISCOUNTS B 5,100,380,243 5,100,380,243 REIMBURSEMENT OF MARKETING EXPENDITURE CLASS I TRANSACTIONS C 271,038,677 271,038,677 REIMBURSEMENT OF MARKETING EXPENDITURE CLASS II TRANSACTIONS D 97,935,129 97,935,129 REIMBURSEMENT OF MARKETING EXPENDITURE CLASS III TRANSACTIONS E 39,419,164 39,419,164 TOTAL EXPENDITURE ON AMP F = A + B + C + D +E 7,850,539,796 7,850,539,796 LESS: CASH DISCOUNTS* G (489,586,765) (620,056,638) AMP FOR THIS ANALYSIS H = F G 7,360,935,031 7,230,438,158 *WHILE COMPUTING THE TOTAL AMOUNT OF AMP SPENT, CAS H DISCOUNTS WERE ACCEPTED TO BE EXCLUDED FROM THE COMPUTATION PARTICULARS TP ADJUSTMENT AS PER ORIGINAL TP ADJUSTMENT AS PER ORIGINAL 133 TP ORDER RECTIFIED TP ORDER VALUE OF GROSS SALES A 80,092,644,000 80,092,644,000 AMP/ SALES OF THE ASSESSEE (%) B 9.19% 9.03% ARMS LENGTH LEVEL OF AMP (3.66% OF SALE) C 2,931,390,770 2,931,390,770 AMOUNT ACTUALLY SPENT ON AMP D 7,850,539,796 7,230,438,158 AMOUNT SPENT IN EXCESS OF THE BRIGHT LINE E = D C 4,919,149,026 4,299,092,388 MARK UP @ 15.46% F 760,500,439 664,639,683 AMOUNT TO BE REIMBURSED BY THE AE G = E + F 5,679,649,465 4,963,732,071 AMOUNT ALREADY REIMBURSED BY THE AE H 408,392,970 408,392,970 AMOUNT OF TP ADJUSTMENT I = G H 5,271,256,495 4,555,339,101 169. SUBSEQUENTLY, THE APPELLANT FILED A RECTIFICATI ON APPLICATION UNDER SECTION 154 DATED 19 FEBRUARY 2013 WITH THE TPO . THIS APPLICATION WAS FOR CORRECT CONSIDERATION OF THE CASH DISCOUNT AT RS. 620,056,638 AS AGAINST RS. 489,586,765. ACCORDIN GLY, THE TPO PASSED A RECTIFIED ORDER DATED 06 MARCH 2013 AND COM PUTED THE AMP ADJUSTMENT AT RS. 455,53,39,101 AS AGAINST RS. 527,12,56,496 IN HIS ORIGINAL ORDER. 170. FOR COMPUTATION OF THE BRIGHT LINE, THE TPO SE LECTED A LIST OF 10 COMPARABLES WHICH IS AS UNDER: S. NO NAME OF THE COMPANY AMP/ SALES (%) 134 1. HOME SOLUTIONS RETAIL (INDIA) LTD. 4.77% 2. VIVEK LTD. 3.59% 3. INFINITI RETAIL LTD. 4.64% 4. CCS INFOTECH LTD. 0.72% 5. IRIS COMPUTERS LTD. 0.44% 6. CELLUCOM RETAIL INDIA PVT. LTD. 8.16% 7. GENERAL SALES LTD. 10.18% 8. ALLIED PHOTOGRAPHICS INDIA LTD. 0.49% 9. VXL INSTRUMENTS LTD. 2.83% 10. ACI INFOCOM LTD. 0.79% ARITHMETIC MEAN 3.66% FURTHER, FOR COMPUTATION OF THE MARK-UP FOR COMPUTING THE TP ADJUSTMENT ON AMP, THE TPO SELECTED TWO COMPARABLES AS UNDER: S.NO NAME OF THE COMPANY NCP (%) 1. CRYSTAL HUES LTD. 8.03% 2. CYBER MEDIA RESEARCH LTD. 10.89% ARITHMETIC MEAN 9.46% THIS MEAN OF NCP 9.46% HAS BEEN INCREASED BY AN AD- HOC 6% (I.E. HALF OF 12%, BEING THE NOMINAL RATE OF INTEREST TO COVER THE RETURN ON THE FUNDS THAT HAS BEEN BLOCKED), THEREBY, ARRIVING AT A MARK- UP OF 15.46%. 171. IN SO FAR AS ADJUSTMENTS IN THE SOFTWARE DEVELO PMENT SEGMENT, THE APPELLANT IN ITS TRANSFER PRICING REPORT COMPUTED ITS MARGINS AT 15% NCP AS AGAINST AN ALP OF 14.33% (ARITHM ETIC MEAN EARNED BY 21 COMPARABLES COMPANIES). THE TPO A FTER MAKING CERTAIN ALTERATIONS TO THE QUANTITATIVE FILTERS A DOPTED BY THE APPELLANT IN ITS TRANSFER PRICING REPORT AND FURTHE R, ADDING A 135 FEW NEW QUANTITATIVE FILTERS, ACCEPTED 11 COMPARABLES FORMING PART OF THE APPELLANTS TRANSFER PRICING REPORT, INCLUDED 1 ADDITIONAL COMPANY, NAMELY BLUE STAR INFOTECH AT THE BEHEST OF THE A PPELLANT AND 6 ADDITIONAL COMPANIES FROM THE ACCEPT/ REJECT MAT RIX FORMING PART OF THE TRANSFER PRICING REPORT. THERE BY COMPUTING THE ALP AT 25%, BEING THE ARITHMETIC MEAN OF 18 COMPARABLE COMPAN IES. A REPRESENTATION OF THE FINAL COMPARABLE SET ADOPTED BY TH E TPO IS TABULATED BELOW: S.NO COMPARABLES NCP (%) 1. AKSHAY SOFTWARE TECHNOLOGIES LTD. 7.99% 2. AZTECSOFT LTD. (CONSOLIDATED) 27.37% 3. BLUE STAR INFOTECH LTD. (CONSOLIDATED) 17.64% 4. BODHTREE CONSULTING LTD. 69.80% 5. CAT TECHNOLOGIES LTD. 34.43% 6. CG VAK SOFTWARE & EXPORTS LTD. 2.7% 7. GOLDSTONE TECHNOLOGIES LTD. (SEG) 10.28% 8. INFOSYS TECHNOLOGIES LTD. 40.74% 9. LARSEN & TOUBRO INFOTECH LTD. 21.56% 10. LGS GLOBAL LTD. 17.55% 11. MINDTREE LTD. 27.36% 12. PERSISTENT SYSTEMS LTD. 37.77% 13. R S SOFTWARE (I) LTD. 10.15% 14. SASKEN COMMUNICATION TECHNOLOGIES LTD. 22.67% 15. TATA CONSULTANCY SERVICES LTD. 31.44% 16. TATA ELXSI LTD. 16.89% 17. THINKSOFT GLOBAL LTD. 16.56% 18. THIRDWARE SOLUTIONS LTD. 37.37% ARITHMETIC MEAN 25.00% 136 BASED ON THE ABOVE SET OF COMPARABLES, THE TPO COMPUTE D THE ADJUSTMENT AS UNDER: PARTICULARS AMOUNT (RS.) OPERATING COST A 1,071,382,122 ARMS LENGTH MARGIN @ 25% B = A*25% 267,845,531 ARMS LENGTH PRICE C = A + B 1,339,227,653 PRICE CHARGED BY THE ASSESSEE D 1,232,080,000 ADJUSTMENT PROPOSED E = C - D 107,147,653 172. THE LD. DRP PASSED ITS DIRECTIONS UNDER SECTIO N 144C OF THE ACT DATED 30 DECEMBER 2013. VIDE ITS DIRECTIONS, THE LD. DRP UPHELD THE ACTION OF TPO WITH RESPECT TO THE ADJUSTMENT MAD E ON ACCOUNT OF AMP EXPENSES. HOWEVER, FOR THE ADJUSTMENT MA DE ON ACCOUNT OF SOFTWARE DEVELOPMENT SEGMENT, THE LD. DRP AC CEPTED ARGUMENTS OF THE APPELLANT THAT THE COMPARABLE BODHTREE CONSULTING LTD. HAD AN EXPONENTIAL GROWTH IN REVENUE IN THE RELEVANT ASSESSMENT YEAR AND DELETED THE SAID COMPARAB LE FROM THE FINAL LIST OF COMPARABLES. ACCORDINGLY, THE TRANSFE R PRICING ADJUSTMENT WAS REDUCED TO RS. 7,30,77,701 AS THE ALP OF THE 17 COMPARABLES WAS RECOMPUTED AT 21.82%. 173. PURSUANT TO THE DIRECTIONS OF LD. DRP, THE AO P ASSED THE FINAL ASSESSMENT ORDER DATED 28 JANUARY 2014 INCORPO RATING THE TRANSFER PRICING ADJUSTMENT ON ACCOUNT OF AMP EXPENSES OF RS. 455,53,39,101 AND ON ACCOUNT OF SOFTWARE DEVELOPMENT SEGMENT OF RS. 7,30,77,701. THE AO ALSO MADE THE FOLLOWING ADD ITIONS TO TOTAL INCOME: 137 (A) RECRUITMENT AND TRAINING EXPENSE OF RS. 4,61,16,829/- WAS TREATED AS CAPITAL EXPENDITURE AND NOT ALLOWABLE AS A REVENUE EXPENDITURE U/S 37 OF THE ACT; (B) FOREIGN EXCHANGE FLUCTUATION LOSS OF RS. 2,99,52,597 /- WAS NOT ALLOWED AS A DEDUCTION; (C) DEPRECIATION ON UPS, PRINTERS AND SERVERS WAS RESTRICTE D TO 15% AS AGAINST 60% CLAIMED BY THE APPELLANT LEADING TO A DISALLOWANCE OF RS. 2,87,820/- (D) DENIED DEDUCTION CLAIMED UNDER SECTION 10A OF THE ACT AMOUNTING TO RS. 27,74,04,907/-. AGGRIEVED BY THE ORDER OF THE AO (IMPUGNED ORDER), THE ASSESSEE HAS PREFERRED THE PRESENT APPEAL AND HAS PRAYED FOR A DJUDICATION OF THE FOLLOWING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL(ITA NO. 1567/DEL/14) FOR AY 2009-10 174. GROUND NO. 1 TO 12: THESE GROUNDS PERTAIN TO THE ISSUE OF AMP EXPENDITURE BEING TREATED AS AN INTERNATIONAL TRANSA CTION AND ADJUSTMENT BEING MADE ON THE BASIS OF THE BRIGHT LINE TEST. WE HAVE ALREADY DECIDED THIS ISSUE IN ITA NO. 3248/DEL/ 2012 FOR A.Y. 2005-06 BY EXAMINING THE SAME IN DETAIL. THESE GROUND S FOR THIS YEAR ARE ALLOWED AND DISPOSED-OFF IN FAVOUR OF THE APPELLANT ON THE LINES OF OUR FINDINGS AND OBSERVATIONS MADE WHILE DE CIDING GROUNDS NO. 3.1 TO 3.6 OF ITA NO. 3248/DEL/2012. GROUNDS PERTAINING TO ADJUSTMENT ON ACCOUNT OF SOFTWARE DEVELOPMENT (13-23) GROUND NO. 13: THE LD. TPO/AO/DRP HAVE ERRED IN NOT ACCEPTING THE ECONOMIC ANALYSIS UNDERTAKEN BY THE A PPELLANT IN RESPECT OF INTERNATIONAL TRANSACTION PERTAINING TO PROVISION OF 138 CONTRACT SOFTWARE DEVELOPMENT SERVICES BY THE APPEL LANT TO ITS AES AND COMPUTING ADJUSTMENT OF INR 7,30,77,701 TO THE TOTAL INCOME OF THE APPELLANT GROUND NO. 14: THE LD. TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPE LLANT USING TURNOVER LESS THAN INR 5 CRORES AS A COMPARABILIT Y CRITERION GROUND NO. 15: THE LD. TPO/AO/DRP HAVE ERRED, IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPE LLANT ON ACCOUNT OF SHOWING DIMINISHING REVENUES TREND GROUND NO. 16: THE LD. TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPE LLANT FOR HAVING DIFFERENT ACCOUNTING YEAR (I.E. HAVING ACCOUNTING Y EAR OTHER THAN MARCH 31 OR COMPANIES WHOSE FINANCIAL STATEMENTS WE RE FOR A PERIOD OTHER THAN 12 MONTHS) GROUND NO. 17: THE LD. TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPE LLANT USING EMPLOYEE COST GREATER THAN 25 PERCENT OF TOTAL COS T AS A COMPARABILITY SECTION GROUND NO. 18: THE LD. TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPE LLANT USING EXPORT EARNINGS LESS THAN 75 PERCENT OF OPERATING REVENUES AS A COMPARABILITY CRITERION GROUND NO. 19: THE LD. TPO/AO/DRP HAVE ERRED IN WRONGLY REJECTING CERTAIN COMPANIES FROM AND ADDING CERTAIN COMPANIES TO THE FINAL SET OF COMPARABLES FOR THE SAID TRANSACTI ON ON AN AD-HOC BASIS, THEREBY RESORTING TO CHERRY PICKING OF COMPA RABLE FOR BENCHMARKING GROUND NO. 20: THE LD. TPO/AO/DRP HAVE ERRED IN SELECTING CERTAIN COMPANIES (WHICH ARE EARNING SUPERNORMAL PR OFITS) AS COMPARABLE TO THE APPELLANT TO BENCHMARKING THE SAI D TRANSACTION. 139 GROUND NO. 21: THE LD. TPO/AO/DRP HAVE ERRED IN TREATING GAIN ARISING FROM FOREIGN EXCHANGE FLUCTUATION AS N ON-OPERATING IN NATURE WHILE COMPUTING THE PROFIT MARGIN OF THE APP ELLANT. GROUND NO. 22: THE LD. TPO/AO/DRP HAVE ERRED IN NOT MAKING APPROPRIATE ADJUSTMENTS TO ACCOUNT FOR DIFFERENCES IN WORKING CAPITAL EMPLOYED BY THE APPELLANT VIS--VIS THE COM PARABLE COMPANIES. GROUND NO. 23: THE LD. TPO/AO/DRP HAVE ERRED IN NOT ALLOWING APPROPRIATE ADJUSTMENTS TO ACCOUNT FOR DIFFERENCES IN RISK PROFILE OF THE APPELLANT VIS--VIS THE COMPARABLES. 175. THE LD. COUNSEL SUBMITTED THAT IN THIS SEGMENT, OUT OF FINAL SET OF 17 COMPARABLES, THE APPELLANT IS AGGRIEVE D BY 5 COMPARABLES (NAMELY CAT TECHNOLOGIES LTD., INFOSYS TE CNHOLOGIES LTD, THIRDWARE SOLUTIONS LTD, TATA ELXI LTD, TATA CONSUL TANCY SERVICES LTD.). FURTHER, THE APPELLANT IS ALSO AGGRIEVE D BY THE ERRONEOUS EXCLUSION OF 9 COMPARABLE COMPANIES (NAME LY ANCENT SOFTWARE INTERNATIONAL LTD, HELIOS AND MATHESON IT LTD , INDIUM SOFTWARE (INDIA) LTD, KPIT CUMMINS INFO LTD, MAARS SO FTWARE INTERNATIONAL LIMITED, QUNITEGRA SOLUTIONS LTD, SIP TECH NOLOGIES AND EXPORTS LTD, SOFTSOL INDIA LIMITED, ZYLOG SYSTEMS L IMITED). FURTHER, THE APPELLANT HAS ALSO RAISED GROUNDS OF APPE AL IN RESPECT OF DENIAL OF ADJUSTMENT FOR RISK, DENIAL OF WORKING C APITAL ADJUSTMENT, ERRONEOUS TREATMENT OF FOREIGN EXCHANGE LOSS AS NON- OPERATING IN NATURE, ERRONEOUS USE OF FILTERS WHILE S ELECTING COMPARABLES (EXPORT FILTER, EMPLOYEE COST FILTER, DIMIN ISHING REVENUE FILTER, TURNOVER FILTER), ERRONEOUS REJECTION O F COMPANIES HAVING DIFFERENT FINANCIAL YEAR AND ERRONEOUS INCLUS ION OF COMPARABLES HAVING SUPER NORMAL PROFITS. 140 176. HOWEVER, IT HAS BEEN SUBMITTED BY THE LD. COUN SEL OF THE APPELLANT THAT IF ONLY TWO COMPARABLES ( INFOSYS TECHNOLOGIES LTD AND TATA CONSULTANCY SERVICES LTD ) SELECTED BY THE TPO AND DRP HELD TO BE INAPPROPRIATE AND ARE EXCLUDED AND WOR KING CAPITAL ADJUSTMENT IS ALLOWED, THE APPELLANTS TRANSACTION VALUE WILL BE AT ARMS LENGTH AND THE REST OF THE GROUNDS WILL NOT BE REQUIRED TO BE ADJUDICATED AND WOULD BE RENDERED ACAD EMIC IN NATURE. ACCORDINGLY, WE EXAMINE THE VALIDITY OF THESE TWO COMPARABLES AND THE CLAIM OF WORKING CAPITAL ADJUSTMEN T. THE LD. COUNSEL MADE THE FOLLOWING SUBMISSIONS AND PLEADED F OR EXCLUSION OF INFOSYS TECHNOLOGY LTD AND TATA CONSULTANCY SERVICE S LTD. I) INFOSYS TECHNOLOGIES LIMITED (A) THE LD. COUNSEL POINTED OUT THAT THERE IS A HUGE DISP ARITY IN TURNOVER BETWEEN INFOSYS AND THE APPELLANTS SOFTWARE SEGMENT- INR 20,000 CR APPROX. FOR INFOSYS VIS--VI S INR 125 CR (APPROX.) FOR THE APPELLANT. THE LD. COUNSEL ALSO SUBMITTED THE COMPANY WAS ENGAGED IN DIVERSIFIED AND NON-COMPA RABLE SERVICES I.E. DESIGN DEVELOPMENT, RE-ENGINEERING, IN FRASTRUCTURE MANAGEMENT SERVICES AND IT COMMANDS A HUGE BRAND VALU E OF APPROXIMATELY RS. 31,900 CR AND, HENCE, COULD NOT BE COMPARED TO THE APPELLANT WHO IS A CAPTIVE SERVICE PROV IDER. HE FURTHER SUBMITTED THAT THE COMPANY HAS SIGNIFICANT ONSITE REVENUE I.E. 51% OF REVENUE IS FROM ON-SITE JOBS WHE REAS THE COMPARABLES MAARS SOFTWARE INTERNATIONAL LTD. AND ZYLOG SYSTEMS LTD. HAVE BEEN EXCLUDED BY THE TPO ON THE GROU ND THAT THEY HAD ONSITE REVENUE OF APPROXIMATELY 42%. (B) THE LD. COUNSEL ARGUED THAT SINCE THE COMPANY HAS SIGN IFICANT R & D ACTIVITIES (I.E. 1.3% OF REVENUE EARNED), HAS SIGNIFICANT 141 INTANGIBLE ASSETS (PATENTS FILED BY ITS R & D LABS BY THE NAME OF SET LABS & BRANDS) AND HAS SIGNIFICANTLY LARGE SCA LE OF OPERATIONS I.E. IT IS AN INDUSTRY GIANT, THIS CANNOT BE INCLUDED IN THE LIST OF COMPARABLES. HE VEHEMENTLY CONTENDED THA T THERE IS A CATENA OF JUDGMENTS IN WHICH INFOSYS HAS BEEN HE LD TO BE AN INAPPROPRIATE COMPARABLE COMPANY. HE LISTED OUT THE JUDGMENTS AS FOLLOWS: CIT VS. AGNITY INDIA TECHNOLOGIES PVT. LTD. (ITA 1204/2011 DATED JULY 10, 2013) UT STARCOM INC. (INDIA BRANCH) (ITA NO.5848/DEL./2011) TOLUNA INDIA PVT.LTD. (ITA 393/2016 & ITA 394/2016) SUMTOTAL SYSTEMS INDIA PVT. LTD. (I.T.T.A. NO.660 OF 2014) ADAPTEC INDIA LIMITED (I.T.T.A. NO.638 OF 2014) VIRTUSA (INDIA) PRIVATE LIMITED [ITA NO. 1962/HYD/2011] TELCORDIA TECH NOLOGIES INDIA PVT. LTD [ITA NO.7821 /MUM/2011] AGNITY INDIA TECHNOLOGIES PVT. LTD. V. DCIT TS-265- ITAT-2013(DEL)-TP MERCEDES BENZ RESEARCH & DEVELOPMENT INDIA PVT. LTD. [IT(TP)A NO. 1222/BANG/2011] TRANSWITCH INDIA PVT. LTD. [IT(TP)A NO. 948/BANG/2011] YODLEE INFOTECH PRIVATE LIMITED [ITA NO. 1397/BANG/2010] MERITOR LVS INDIA (P) LTD. [ITA NO. 405/BANG/2011] PATNI TELECOM SOLUTIONS PVT.LTD.[ITA NO. 1846/HYD/2011] 142 SONATA SOFTWARE LTD. [ITA NO. 3514/MUM/2010] AGILENT TECHNOLOGIES INTERNATIONAL PVT. LTD. [ITA NO. 6047/DEL/2012] CINCOM SYSTEMS INDIA P.LTD. [ITA NO. 761/DEL/2012] INSILICA SEMICONDUCTORS INDIA P. LTD VS. ITO [ITA NO.1399/BANG/2010] FROST &SUVILIAN (I) PVT. LTD. [ITA NO. 2073/MUM/2010] ADAPTEC (INDIA) PVT. LTD. [ITA 1801/HYD/2009] GENESYS INTEGRATING SYSTEMS (INDIA) PVT. LTD. VS. DCIT [ITA NO. 1231/BANG/2010] TRILOGY-E-BUSINESS SOFTWARE INDIA PVT LTD [TS-748- ITAT-2012-BANG] BEARING POINT BUSINESS CONSULTING P. LTD TS-758-ITAT- 2012(BANG)-TP (AY:2007-2008) CSR PVT LTD VS. ITO TS-68-ITAT-2013(BANG)-TP AY 2007-2008 DCIT VS. M/S HELLOSOFT INDIA P. LTD.TS-59-ITAT- 2013(HYD)-TP 2005-06 LG SOFT INDIA PRIVATE LTD VS. DCIT TS-64-ITAT- 2013(BANG)-TP AY 2007-2008 AUTODESK INDIA PVT LTD VS DCIT TS-62-ITAT- 2013(BANG)-TP 2006-2007 HCL EAI SERVICES LTD V DCIT TS-133-ITAT - 2013(BANG)-TP 2006-2007 NDS SERVICES PAY-TV TECHNOLOGY PRIVATE LIMITED V ACI T TS-127-ITAT-2013-BANG-TP 2007-2008 LOGICA PRIVATE LTD V ACIT TS-131-ITAT-2013(BANG)-TP 2007-2008 143 NTT DATA INDIA ENTERPRISE APPLICATION SERVICO5ES PVT. LTD. VS. ACIT [TS-293-ITAT-2013(HYD)-TP] (AY 2005- 06) 3DPLM SOFTWARE SOLUTIONS LTD. (TS-359-ITAT- 2013(BANG)-TP) (AY 2008-09) HYUNDAI MOTORS INDIA ENGINEERING PVT. LTD. [ITA.NO.1850/HYD/2012] APP LABS TECHNOLOGIES PVT. VS DCIT [TS-316-ITAT- 2013(HYD)-TP] (C) THE LD. CIT (DR) SUBMITTED THAT THE LD. TPO RETAINED THIS COMPARABLE FOR THE REASON THAT MAJOR REVENUE OF THIS C OMPANY WAS FROM SOFTWARE DEVELOPMENT AND THE REVENUE FROM SO FTWARE PRODUCT WAS EXTREMELY LOW AND THAT R&D OF 1.3% OF REV ENUE WAS NOT SIGNIFICANT. THE LD. DRP UPHELD ACTION OF THE TPO FOR THE REASON THAT FAR PROFILE OF THIS COMPANY WAS AKIN TO THE APPELLANT. II) TATA CONSULTANCY SERVICES LTD (A) THIS COMPANY WAS INTRODUCED BY THE LD. TPO AND HIS AC TION WAS UPHELD BY THE LD. DRP FOR THE REASON THAT THIS COMPANY IS FUNCTIONALLY SIMILAR TO THE APPELLANT. (B) THE LD. COUNSEL CONTENDED THAT THIS COMPANY FAILS THE RELATED PARTY TRANSACTION (RPT) FILTER APPLIED BY TH E TPO. HE POINTED OUT THAT THE VALUE OF RPT (ONLY REVENUES DERI VED FROM RELATED PARTIES) IS RS. 12619.79 CRORE AND THE TO TAL REVENUE IS RS. 22,404 CRORES. ACCORDINGLY, THE LD. C OUNSEL CONTENDED THAT THE PERCENTAGE OF RPT AS A RATIO OF TOTAL SALES IS 56.32% AND FAILS THE RPT FILTER OF 25% APPLI ED BY THE LD. TPO HIMSELF. 144 (C) THE LD. COUNSEL POINTED OUT THAT THE COMPANY HAS 42 PATENTS REGISTERED AND OVER 150 APPLICATIONS PENDING REGISTRATION. FURTHER, THE COMPANY HAS HUGE EMPLOYEE BA SE WHICH GIVES IT AN ACCESS TO VARIETY OF TALENT. IT HAS SIGNIFICANT R & D ACTIVITIES AND HAS SIGNIFICANTLY HIGH ER ASSETS OF RS. 2669.08 CRORES (NET BOOK VALUE AS ON 31 MARCH 2009) AS AGAINST RS. 44.90 CRORES OF THE APPELL ANT. (D) THE LD. COUNSEL ALSO SUBMITTED THAT TATA HAS A SIGNIFICA NTLY HIGHER TURNOVER OF RS. 21535.75 CRAS AGAINST RS. 123. 20 CR. IN THE CASE OF THE APPELLANT I.E. 175 TIMES MORE THAN TH E LATTER. E) THE LD. COUNSEL CONTENDED THAT THIS COMPANY HAS TO BE REJECTED AS A COMPARABLES ALSO BECAUSE IT HAS ON-SITE REVENUE OF 51.19% OF THE TOTAL REVENUE. HE SUBMITTED THAT THE COMPARABLES MAARS SOFTWARE INTERNATIONAL LTD. AND ZYLOG SYSTEMS LTD. HAVE BEEN EXCLUDED BY THE LD. TPO IN AY 2008- 09 ON THE GROUND THAT THEY HAD ON-SITE REVENUE OF 42% . F) THE LD. CIT (DR) VEHEMENTLY OPPOSED THE EXCLUSION OF THE SAID COMPARABLES. THE LD. CIT (DR) SUBMITTED THAT THERE IS NO CORRELATION BETWEEN BRANDING AND PROFIT MARGIN. SIMIL ARLY, HE CONTENDED THAT FOR SERVICE COMPANIES THE TURNOVER DOES N OT HAVE A MATERIAL BEARING ON THE PROFIT MARGIN AS LONG AS THE COMPANY IS FUNCTIONALLY SIMILAR, IT SHOULD BE RETAINED AS A COMPARABLE UNDER TNMM BECAUSE SIZE, SCALE AND BRAND NAME DO NOT IMPACT THE PROFIT MARGIN THOUGH THESE ASPECTS MA Y AFFECT THE PROFIT. HE SPECIFICALLY POINTED OUT THAT MANY COMPANIES WITHOUT BRANDS AND OPERATING AT LOW TURNOVER HAVE HIGH PROFIT MARGINS AND COMPANIES WITH BRANDS AND HI GH 145 TURNOVER CAN HAVE LOW MARGINS. THEREFORE, THESE FACTOR S ARE NOT RELEVANT FOR DETERMINATION OF ALP UNDER TNMM. G) THE LD. COUNSEL IN HIS REJOINDER SUBMITTED THAT THE CONTENTIONS RAISED BY THE CIT(DR) DO NOT HAVE ANY MERI T BECAUSE APPLICATION OF TNMM DOES NOT MANDATE A POSITIVE CORRELATION BETWEEN A RELEVANT ECONOMIC FACTOR (BRAND / SCALE/ TURNOVER) AND NET PROFIT MARGIN. HE POINTED OUT THAT RULE 10B(1)(E) READ WITH RULE 10B(2) MANDATE THE FOLLOWING KEY ASPECTS NEED TO BE TAKEN INTO ACCOUNT WHILE SELECTING COMPARABLES: H) APART FROM SIMILARITY OF FUNCTION, SIMILARITY OF ASSET LEVEL AND RISKS UNDERTAKEN BY THE COMPANY SOUGHT TO BE TAKEN A S COMPARABLE HAS TO BE SIMILAR TO THAT OF THE TESTED PAR TY. A COMPANY WHICH IS MUCH BIGGER IN SIZE AND HAS GREATE R NUMBER OF EMPLOYEES REQUIRES MUCH DIFFERENT LEVEL OF ASSETS AND UNDERTAKES MUCH HIGHER LEVELS OF RISK AS COMPARE D TO A COMPANY WHICH IS SMALLER IN SIZE AND LESSER NUMBER OF EMPLOYEES. I) A COMPANY WITH A SIGNIFICANT BRAND AND OTHER VALU ABLE TRADE INTANGIBLES HAS A DISTINCT ADVANTAGE IN THE MARKET PLAC E OVER UNBRANDED COMPANIES. IT IS ALSO IMPORTANT TO EMPHASIZE THAT BRANDED AND UNBRANDED COMPANIES OPERATE AT DIFFERENT LEVELS OF THE MARKET AND COMPETE IN DIFFERENT MARKET SEGMENTS. THIS IS A RELEVANT FACTOR UNDER RULE 10B(2). J) IN THE REAL WORLD, THERE CAN NEVER BE A POSITIVE C ORRELATION BETWEEN TWO ECONOMIC FACTORS / INDICATORS, SPECIALL Y WHILE MEASURING THE IMPACT ON PROFIT MARGINS IT IS NOT POSSIB LE TO JUDGE THE EXACT QUANTUM OF IMPACT OF ANY ONE FACTOR ON THE PROFIT MARGIN BECAUSE PROFIT MARGIN IS IMPACTED BY NUM EROUS FACTORS AND REASONS ALL OF WHICH CANNOT BE DOCUMENTED AND 146 QUANTIFIED. IT IS FOR THIS REASON THAT RULE 10B(1)(E)(I II) CONTAINS THE WORDS COULD MATERIALLY AFFECT THE AMOUNT OF NET PROFIT MARGIN IN THE OPEN MARKET . THEREFORE, THE STATUTE DOES NOT MANDATE THAT AN ECONOMIC FACTOR IS RELEVANT ONLY IF IT I S POSITIVELY CORRELATED WITH NET PROFIT MARGIN BUT AS LON G AS THERE IS A LIKELIHOOD OF IMPACT, THE CONDITIONS ARE FU LFILLED. 177. WE HAVE HEARD THE TWO SIDES AND PERUSED THE O RDERS AND MATERIAL ON RECORD. WE ARE EXAMINING THE SUITABILITY OF BOTH THESE COMPANIES (INFOSYS TECHNOLOGY AND TATA CONSULTANCY SE RVICES) TOGETHER AS THESE TWO ARE SIMILAR IN MANY RESPECTS. AS PER THEIR PROFILE, FUNCTION AND VOLUME OF SCALE, THEY ARE RECK ONED AS THE LEADERS OF THE INDIAN IT SECTOR AND ARE OFTEN CONSIDE RED TO BE THE MOST PRESTIGIOUS BRANDS IN THIS SPACE. THE PROCESS OF SELECTION OF APPROPRIATE COMPARABLES UNDER TNMM IS TO BE GUIDED B Y RULE 10B (2) WHICH LAYS DOWN THE FACTORS OF COMPARABILITY. THE SE FACTORS ARE FUNCTIONS, ASSETS AND RISKS, NATURE OF THE SERVICES, CONTRACTUAL TERMS, LEVEL OF THE MARKET AND OTHER RELEVANT ECONOMIC PARAMETERS WHICH HAVE A MATERIAL EFFECT ON PROFITABILITY. THE OE CD TRANSFER PRICING MANUAL 2017 IN PARA 3.43 AND THE UN TRANSF ER PRICING MANUAL 2017 IN PARA B.2.3.4.40 ALSO PROVIDE GUIDAN CE IN THIS RESPECT, WHICH FOR SAKE OF READY REFERENCE ARE EXTRA CTED BELOW: 3.43. IN PRACTICE, BOTH QUANTITATIVE AND QUALITATI VE CRITERIA ARE USED TO INCLUDE OR REJECT POTENTIAL COMPARABLES. E XAMPLES OF QUALITATIVE CRITERIA ARE FOUND IN PRODUCT PORTFOLIO S AND BUSINESS STRATEGIES. THE MOST COMMONLY OBSERVED QUANTITATIVE CRITERIA ARE: SIZE CRITERIA IN TERMS OF SALES, ASSETS OR NUMBER OF EMPLOYEES. THE SIZE OF THE TRANSACTION IN ABSOLUTE VALUE OR IN PROPORTION TO THE ACTIVITIES OF THE PARTIES MIGHT AFFECT THE RELATIVE COMPETITIVE 147 POSITIONS OF THE BUYER AND SELLER AND THEREFORE COMPARABILITY. INTANGIBLE-RELATED CRITERIA SUCH AS RATIO OF NET VALUE OF INTANGIBLES/ TOTAL NET ASSETS VALUE, OR RATIO OF RESEARCH AND DEVELOPMENT (R&D)/SALES WHERE AVAILABLE: THEY MAY BE USED FOR INSTANCE TO EXCLUDE COMPANIES WITH VALUABLE INTANGIBLES OR SIGNIFICANT R&D ACTIVITIES WHEN THE TESTED PARTY DOES NOT USE VALUABLE INTANGIBLE ASSETS NOR PARTICIPATE IN SIGNIFICANT R&D ACTIVITIES. CRITERIA RELATED TO THE IMPORTANCE OF EXPORT SALES (FOREIGN SALES/ TOTAL SALES), WHERE RELEVANT. OTHER CRITERIA TO EXCLUDE THIRD PARTIES THAT ARE IN PARTICULAR SPECIAL SITUATIONS SUCH AS START-UP COMP ANIES, BANKRUPTED COMPANIES, ETC. WHEN SUCH PECULIAR SITUATIONS ARE OBVIOUSLY NOT APPROPRIATE COMPARISON S. THE CHOICE AND APPLICATION OF SELECTION CRITERIA DE PENDS ON THE FACTS AND CIRCUMSTANCES OF EACH PARTICULAR C ASE AND THE ABOVE LIST IS NEITHER LIMITATIVE NOR PRESCR IPTIVE. B.2.3.4.40. CRITERIA COMMONLY USED FOR INITIAL SCR EENING MAY INCLUDE THE FOLLOWING LIST. THE RELEVANCE OF T HE SCREENING CRITERIA BELOW DEPENDS ON THE FACTS AND CIRCUMSTANCES OF EACH PARTICULAR CASE AND THE LIST HERE IS PURELY INDICATIVE: GEOGRAPHIC RESTRICTIONS WITH RESPECT TO A COUNTRY O R REGION; A SPECIFIC INDUSTRY CLASSIFICATION; CERTAIN KEYWORDS; ELIMINATION OF THOSE ENTERPRISES WHICH MAY HAVE SUBSTANTIAL TRANSFER PRICING ISSUES THEMSELVES AND FAIL AN INDEPENDENCE SCREENING; INCLUSION OR EXPULSION OF SPECIFIC FUNCTIONS SUCH A S RESEARCH AND DEVELOPMENT, PRODUCTION, DISTRIBUTION OR HOLDING OF SHARES; EXCLUSION OF COMPANIES WHICH WERE ONLY RECENTLY SET UP; CONSIDERATION OF DIAGNOSTIC RATIOS SUCH AS TURNOVER PER EMPLOYEE, RATIO OF NET VALUE OF 148 INTANGIBLES/TOTAL NET ASSETS VALUE OR RATIO OF RESEARCH AND DEVELOPMENT/SALES ETC.; AND A FOCUS ON SALES VOLUME, FIXED ASSETS OR NUMBERS OF EMPLOYEES . A PERUSAL OF THE ABOVE PRINCIPLES ALONG WITH THE FACTO RS STIPULATED IN RULE 10B(2) MAKES IT AMPLY CLEAR THAT FUNCTIONS, ASS ETS AND RISKS MANIFESTED IN TERMS OF SCALE, SIZE, HEAD-COUNT, PRESENCE OF VALUABLE INTANGIBLES ARE VERY RELEVANT CONSIDERATIONS TO BE TAKEN INTO ACCOUNT. 178. THE EXCLUSION/INCLUSION OF INFOSYS TECHNOLOG Y LTD. AS A COMPARABLE FOR CAPTIVE SOFTWARE ENTITIES IS AN ISSUE TH AT HAS ARISEN IN LARGE NUMBER OF CASES (SOME OF WHICH HAVE BEEN C ITED ABOVE BY THE LD. COUNSEL ALSO). INFOSYS TECHNOLOGY LTD. IS ONE OF INDIAS LEADING IT COMPANIES HAVE PRESENCE WORLDWIDE. ITS TUR NOVER IS IN EXCESS OF RS. 20,000 CRORE (AS AGAINST RS. 125 CROR E OF THE APPELLANT) AND ITS FUNCTIONS ARE HIGHLY DIVERSIFIED. ONE OF THE IMPORTANT ATTRIBUTES THAT SETS INFOSYS APART FROM SMALL CAP TIVE IT COMPANIES IS THE PRESENCE OF HIGHLY VALUABLE IPRS B Y WAY OF BRAND AND SOFTWARE PRODUCTS WHICH GENERATE LICENSING REVE NUES. IT INVESTS SIGNIFICANT AMOUNTS IN R&D AND ADVERTISING EVER Y YEAR. ITS HEAD COUNT IS SIGNIFICANTLY LARGER THAN THAT OF THE APP ELLANT COMPANY. THE DIVERSIFIED NATURE OF ITS BUSINESS HAS B EEN STATED ON PAGE 78 OF THE ANNUAL REPORT . END TO END BUSINESS SOLUTIONS.. THE SOLUTIONS SPAN THE ENTIRE SOFTWARE LIFE CYCLE ENCOM PASSING TECHNICAL CONSULTING, DESIGN DEVELOPMENT, RE-ENGINEERING, MAI NTENANCE, SYSTEMS INTEGRATION, PACKAGE EVALUATION AND IMPLEME NTATION, AND TESTING AND INFRASTRUCTURE MANAGEMENT SERVICES. IN ADDITION, THE COMPANY OFFERS SOFTWARE PRODUCTS FOR THE BANKING IN DUSTRY . A PERUSAL OF THE ANNUAL REPORT FURTHER REVEALS THAT IT OWNS A WELL- 149 KNOWN PROPRIETARY PRODUCT USED BY THE BANKS CALLED FI NNACLE. THE COMPANY GENERATES LICENSING REVENUE FROM PRODUC TS LIKE FINNACLE. THE ANNUAL REPORT ALSO STATES THAT ITS BRAND HAS BEEN VALUED BY THE COMPANY AT A STAGGERING RS. 31,900 CRORE . FOR THESE REASONS, THE FUNCTIONAL, ASSETS AND RISK PROFILE OF IN FOSYS TECHNOLOGY LTD. IS VERY DISSIMILAR TO THAT OF THE ASS ESSEES SOFTWARE DEVELOPMENT SEGMENT WHICH OPERATES AS A RISK MITIGATE D CAPTIVE ENTITY. IN LARGE NUMBER OF DECISIONS OF THIS TRIBUNAL INFOSYS TECHNOLOGY LTD. HAS BEEN HELD TO BE INCOMPARABLE TO C APTIVE SOFTWARE DEVELOPERS WHO LACK SCALE, SIZE AND HEFT O F INFOSYS TECHNOLOGY LTD. THE HONBLE DELHI HIGH COURT IN THE C ASE OF CIT VS. AGNITY INDIA TECHNOLOGIES PVT. LTD. (SUPRA) HAS U PHELD THE ORDER OF THE TRIBUNAL ORDERING ITS EXCLUSION ON THE A BOVE GROUNDS (VAST DIFFERENCE IN SCALE, SIZE, FUNCTIONS, INTANGIBL E ASSETS AND RISK LEVELS). IN VIEW OF THE ABOVE, WE HOLD THAT INFOSYS T ECHNOLOGY LTD. SHOULD BE EXCLUDED FROM THE LIST OF COMPARABLES. 179. THE FACTUAL MATRIX PERTAINING TO TATA CONSULTANCY SERVICES IS QUITE SIMILAR. WE HAVE PERUSED THE ANNUAL REPORT OF THIS COMPANY AND WE FIND THAT ITS TURNOVER IS IN EXCESS OF RS. 20,000 CRORES. FURTHERMORE, ON PAGE 58 OF THE ANNUAL REPORT I T HAS BEEN STATED THAT THE COMPANY HAS 42 REGISTERED PATENTS AND ANOTH ER 150 ARE PENDING REGISTRATION. THE HEAD-COUNT GIVEN ON PAGE 23 OF THE REPORT INDICATES THAT IT HAS MORE THAN 100,000 EMPLOY EES. ITS ASSET BASE IS IN EXCESS OF RS. 2500 CRORE (AS AGAINS T RS. 45 CRORES OF THE APPELLANT). IN THESE CIRCUMSTANCES, IT IS VASTLY D ISSIMILAR AND DIFFERENT THAT THE SOFTWARE SEGMENT OF THE APPELLANT, WHICH IS OPERATING AT A MUCH SMALLER LEVEL AND SANS ANY OWNERS HIP OF IPRS. FURTHERMORE, THE DETAILS GIVEN ON PAGE 144 OF THE ANNUA L REPORT DEMONSTRATE THAT MORE THAN 50% OF ITS REVENUES ARE DERIVE D FROM 150 RELATED PARTIES. IT, ACCORDINGLY, FAILS THE RPT FILTER OF 25% APPLIED BY THE TPO. THE REASONS FOR EXCLUDING INFOSYS TECHN OLOGY ARE EQUALLY APPLICABLE TO TATA CONSULTANCY SERVICES AS WE LL. WE, THEREFORE, HOLD THAT TATA CONSULTANCY SERVICES LTD. IS A WHOLLY INAPPROPRIATE COMPARABLE FOR THE SOFTWARE DEVELOPMENT SEGMENT OF THE APPELLANT. WORKING CAPITAL ADJUSTMENT 180. THE LD. TPO REJECTED THE REQUEST FOR WORKING CAPITAL (WC) ADJUSTMENT TO THE MARGIN OF THE COMPARABLES BY STATING THAT OUT OF THE 3 COMPONENTS OF WC ADJUSTMENT, ONLY ONE COMPONENT IS AFFECTED BY THE SUBJECT TRANSACTION I.E. RECEIVABLES. O N THIS BASIS, HE STATED THAT IT IS NOT JUSTIFIED TO ALLOW WC ON 3 COMP ONENTS. THE LD. DRP UPHOLDING THE ACTION OF THE LD. TPO DIRECTED TH AT THE WORKING CAPITAL ADJUSTMENT IS DIFFICULT TO MAKE DUE TO L ACK OF ACCURATE AND RELIABLE DATA. IT HELD THAT THE APPELLANT HAS FAILED TO DEMONSTRATE THAT DIFFERENCE IN WORKING CAPITAL DEPLOYED IS MAKING DIFFERENCE IN THE MARGIN EARNED BY THE TAXPAYER AND THE COMPARABLES. 181. THE LD. COUNSEL POINTED OUT THAT DETAILED SUB MISSIONS AND CALCULATIONS HAVE BEEN SUBMITTED BY THE APPELLANT BEFOR E THE LD. DRP. HE ARGUED THAT WC ADJUSTMENT HAS BEEN GRANTED BY TH E LD. TPO IN SUBSEQUENT YEARS I.E. AYS 2010-11 AND 2011-12 . HE SUBMITTED THAT THE DIFFERENCE IN WORKING CAPITAL POSITION HAS A BEARING ON THE ALP. FURTHER, HE DREW OUR ATTENTION TO RULE 10B(1)(E) AND RULE 10B (3) WHICH ALLOWS FOR MAKING REASONABLY ACCURATE ADJUSTMENT TO ARRIVE AT THE ALP. THE LD. COUNSE L ALSO PLACED RELIANCE ON THE OECD GUIDELINES 2017, UNTP MA NUAL 2017 AND ICAI GUIDELINES IN THIS REGARD. 151 182. FURTHER THE LD. COUNSEL RELIED ON THE FOLLOWI NG JUDICIAL DECISIONS WHERE WORKING CAPITAL ADJUSTMENT HAS BEEN HE LD TO BE A PERMISSIBLE AND DESIRABLE ADJUSTMENT TO IMPROVE COMPAR ABILITY: (A) ___________________________________ TNT INDIA PRIVATE LIMITED VS. ASST. COMMISSIONER OF INCOME TAX, ITA NO. 1442 (BNG)/ 08 (B) ___________________________________ THE INCOME-TAX OFFICER VS. M/S NEXTLINX INDIA PVT. LTD., ITA NO. 454/BANG/201 1 (C) ___________________________________ BEARING POINT BUSINESS CONSULTING PRIVATE LIMITED VS. THE DCIT, ITA NO. 1124/BANG/2011 (D) ___________________________________ NORTEL NETWORK VS ACIT [TS-65-ITAT-2014(DEL)] (E) ___________________________________ CENGAGE LEARNING PVT. LTD V ITO: [ITA NO. 5926/DEL/2010] (F) ___________________________________ AMD INDIA (P) LTD V DCIT: ITA NO. 204 & 242/BANG/2015 (G) ___________________________________ DCIT V M/S KYOCERA ASIA PACIFIC INDIA PVT LTD ITA NO. 1029/DEL/2016 (H) __________________________________ M/S NCS PEARSON INDIA PVT LTD V DCIT: ITA NO. 5561/DEL/2014 (I) ___________________________________ DCIT V WHIRLPOOL OF INDIA LTD: ITA NO. 1609/DEL/2013 (J) ___________________________________ UNITED HEALTH GROUP INFORMATION SERVICES PVT LTD V DCIT: ITA NO. 419/DEL/2 014 (K) ___________________________________ ITO V M/S H&S SOFTWARE DEVELOPMENT & KNOWLEDGE MANAGEMENT CENTRE PVT LTD: ITA NO. 6662/DEL/2014 152 (L) ___________________________________ TRANSCEND MT SERVICES PVT LTD (M) __________________________________ ACCENTURE SERVICES (P) LTD V ACIT: ITA NO. 7686/MUM/2012 183. THE LD. CIT (DR) RELIED ON THE ORDERS OF THE L OWER AUTHORITIES AND REITERATED THAT THE APPELLANT HAD FAILED TO SHOW THE DIFFERENCES BETWEEN THE WORKING CAPITAL LEVELS. 184. WE HAVE PERUSED THE ORDERS OF THE LOWER AUTHOR ITIES AND THE MATERIAL ON RECORD. WE FIND THAT THE WC ADJUSTMENT FIGUR ES WERE FURNISHED BY THE APPELLANT WHICH WERE DISREGARDED BY THE TPO. ON THE ISSUE OF ALLOWABILITY OF THIS ADJUSTMENT WE FIND T HAT THIS ISSUED HAS BEEN SETTLED BY THIS TRIBUNAL IN NUMEROUS DECISION S (SOME OF WHICH HAVE BEEN CITED BY THE APPELLANT) IN FAVOUR OF THE ASSESSEES. THE DESIRABILITY OF MAKING THE WC ADJUSTMENT HAS ALSO BEEN ENDORSED BY THE OECD AND UN GUIDELINES. THE RELEVANT EXTRACTS ARE AS BELOW: OECD GUIDELINES 2017 2.87 IN THOSE CASES WHERE THERE IS A CORRELATION B ETWEEN THE CREDIT TERMS AND THE SALES PRICES, I T COULD BE APPROPRIATE TO REFLECT INTEREST INCOME IN RESPECT OF SHORT-TERM WOR KING CAPITAL WITHIN THE CALCULATION OF THE NET PROFIT INDICATO R AND/OR TO PROCEED WITH A WORKING CAPITAL ADJUSTMENT . UN TP MANUAL 2017 5.3.2.14. X..X..ADJUSTMENT MIGHT BE REQUIRED TO ENSURE CONSISTENCY OF ACCOUNTING STANDARDS BETWEEN THE CON TROLLED TRANSACTION AND THE COMPARABLE. DIFFERENCES IN THE USE OF ASSETS CAN BE ELIMINATED OR REDUCED TO A SIGNIFICANT EXTENT BY MAKING COMPARABILITY ADJUSTMENTS ON ACCOUNT OF WORKING CAPITAL OR CAPACITY UTILIZATION. 153 185. FURTHER, THE ISSUE OF ALLOWABILITY OF ECONO MIC ADJUSTMENT TO ACCOUNT FOR DIFFERENCES IN WORKING CAPITAL BETWEEN THE ASSESSEE AND THE COMPARABLES CHOSEN FOR TNMM ANALYSIS HAS ALR EADY BEEN ADJUDICATED BY US UNDER GROUND NO. 5 FOR THE APPEAL F OR A.Y. 2007-08 (ITA NO. 5315/DEL/2011); AND GROUND NO. 6 F OR THE APPEAL FOR A.Y. 2008-09 (ITA NO. 52/DEL/13). WE HAV E HELD THAT THIS ISSUE OF WORKING CAPITAL ADJUSTMENT IS NOW WELL SE TTLED PROPOSITION AND HAS TO BE ALLOWED. THIS WOULD BE EQ UALLY APPLICABLE FOR THIS YEAR AS WELL AND THIS GROUND IS A CCORDINGLY ALLOWED. THE TPO IS DIRECTED TO ALLOW THE WC ADJUSTM ENT WHILE DETERMINING THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS IN THE SOFTWARE SEGMENT UNDER TNMM. IT WOU LD, HOWEVER, BE OPEN TO THE TPO TO VERIFY THE FIGURES GIVE N BY THE ASSESSEE. 186. SINCE WE HAVE HELD THAT INFOSYS TECHNOLOGY LTD . AND TATA CONSULTANCY SERVICES LTD ARE TO BE EXCLUDED FROM THE L IST OF COMPARABLES AND WORKING CAPITAL ADJUSTMENT IS TO BE ALL OWED TO THE PROFIT MARGIN OF THE REMAINING COMPARABLES, THE OTHE R GROUNDS ARE RENDERED ACADEMIC IN NATURE AS THE VALUE OF INTERN ATIONAL TRANSACTION IN THE SOFTWARE SEGMENT WOULD FALL WITHIN THE ARMS LENGTH RANGE. GROUND NO. 24: THE LEARNED AO/DRP HAS ERRED IN HOLDING THAT EXPENDITURE ON RECRUITMENT AND TRAINING OF EMPLOYEES L EADS TO ENDURING BENEFIT TO THE APPELLANT AND IN HOLDING TO ALLOW ONLY 1 /6 TH OF THE TOTAL EXPENDITURE IN THE CURRENT YEAR AND DEFERRING THE BALANCE TO BE ALLOWED IN NEXT FIVE YEARS. 154 GROUND NO. 25: WITHOUT PREJUDICE TO THE ABOVE, LEARNED AO/DRP HAS ERRED IN NOT ALLOWING IN THE YEAR UNDER ASSESSM ENT, 1/6 TH OF THE EXPENDITURE ON THIS ACCOUNT THAT WAS SIMILARLY DISA LLOWED IN THE PRECEDING FIVE ASSESSMENT YEARS 187. WE HAVE ALREADY ADJUDICATED THIS ISSUE IN TH E APPEALS FOR PRIOR YEARS (A.YRS. 2005-06, 2006-07, 2007-08 AND 2 008-09) AND ALLOWED THE SAME. WE HAVE HELD THAT TRAINING AND RECRUI TMENT EXPENDITURE IS FULLY ALLOWABLE AS REVENUE EXPENDITURE IN THE YEAR IN WHICH IT IS INCURRED. THERE BEING NO ENDURING BENEF IT IT CANNOT BE TREATED AS CAPITAL EXPENDITURE OR DEFERRED REVENUE EXP ENDITURE. GROUND NO. 24 IS THEREFORE ALLOWED AND GROUND NO. 25 IS DISMISSED AS BEING INFRUCTUOUS. GROUND NO. 26: THE LEARNED AO/DRP HAS ERRED IN REDUCING THE CLAIM OF DEPRECIATION ON UPS WITHOUT MENTIONING ANY THING IN THE FINAL ASSESSMENT ORDER AND WITHOUT ASSIGNING ANY RE ASONS WHICH IS AGAINST THE PRINCIPLE OF NATURAL JUSTICE GROUND NO. 27: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LEARNED AO/DRP HAS ERRED IN NOT TREATING UPS CONNEC TED TO COMPUTERS AS 'COMPUTER' AND INSTEAD REGARDING IT AS AN ITEM OF GENERAL 'PLANT AND MACHINERY' FOR THE PURPOSE OF AL LOWING DEPRECIATION. 188. WE HAVE ALREADY ADJUDICATED THIS ISSUE IN TH E APPEALS FOR PRIOR YEARS (A.YRS. 2006-07, 2007-08 AND 2008-09) A ND ALLOWED THE SAME. WE HAVE HELD THAT IT IS NOW SETTLED THAT DEPRECIA TION ON UPS SYSTEMS IS ALLOWABLE AT THE RATE OF 60% UNDER THE C ATEGORY OF COMPUTER AND NOT AT 15% UNDER THE CATEGORY OF PLANT AND MACHINERY. FOLLOWING THE SAME, THIS GROUND IS ALLOWE D. 155 GROUND NO. 29: THE LEARNED AO/DRP HAS ERRED IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION AMOUNTING TO RS. 2,99, 52,597 DEBITED TO P&L ACCOUNT IS A NOTIONAL LOSS AND IS NOT ALLOWA BLE AS A DEDUCTION UNDER THE PROVISIONS OF THE ACT. GROUND NO. 30: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LEARNED AO/DRP HAS ERRED IN NOT EXCLUDING RS 1,74,3 8,690 FROM THE TAXABLE INCOME OF CURRENT YEAR BEING MARKED TO MARKET LOSSES INCURRED IN RESPECT OF FOREIGN EXCHANGE CONTRACTS W HICH WERE OUTSTANDING AS ON 31ST MARCH 2008 AND WRITTEN BACK DURING THE YEAR AS SAME WAS NOT ALLOWED AS DEDUCTION IN THE AS SESSMENT PROCEEDINGS FOR AY 2008-09. GROUND NO. 31: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LEARNED AO/DRP ERRED IN NOT EXCLUDING RS. 7,559,120 FROM THE TAXABLE INCOME OF CURRENT YEAR BEING MARKED TO MARK ET LOSSES INCURRED BY SAMSUNG TELECOMMUNICATIONS INDIA PRIVAT E LIMITED (NOW AMALGAMATED WITH THE APPELLANT) IN RESPECT OF FOREIGN EXCHANGE CONTRACTS WHICH WERE OUTSTANDING AS ON 31S T MARCH 2008 AND WRITTEN BACK DURING THE YEAR BY THE APPELLANT A S SAME WAS NOT ALLOWED AS DEDUCTION IN THE ASSESSMENT PROCEEDINGS FOR AY 2008- 09. 189. THIS GROUND PERTAINS TO ALLOWABILITY OF LOSS ARISING FROM REVALUATION OF OPEN FORWARD FOREX CONTRACTS ON THE LAS T DATE OF THE BALANCE SHEET ON ACCOUNT OF RESTATEMENT OF AMOUNTS PAYAB LE AND RECEIVABLE IN FOREIGN EXCHANGE UNDER THE MARKED TO MA RKET (MTM) POLICY MANDATED UNDER ACCOUNTING NORMS. THIS ISSUE H AS ALREADY BEEN DECIDED BY US IN ITA NO. 5315/DEL/2011 FOR A.Y . 2007-08 UNDER GROUND NO. 10 AND ITA NO. 52/DEL/2013 FOR A.Y . 2008-09 UNDER GROUND NO. 11 AND 11.1, WHEREIN WE HAVE ALLOW ED THE GROUND IN VIEW OF THE LAW BEING SETTLED BY THE HONBLE SUPREME 156 COURT IN CIT V. WOODWARD GOVERNOR INDIA PVT. LTD. 312 ITR 254 (SC) IN THIS REGARD. FOLLOWING THE SAME, THIS GROUND IS ALLOWED. GROUND NO. 32: THE LEARNED AO HAS ERRED IN LAW AND ON FACT IN WITHDRAWING A DEDUCTION OF RS 27,74,04,907 CLAIMED BY THE APPELLANT UNDER SECTION 10A OF THE ACT ON THE WRONG PRETEXT THAT MERE SHIFTING OF UNDERTAKING FROM ONE LOCATION TO A NOTHER TANTAMOUNT TO NON-FULFILMENT OF CONDITIONS LAID DOW N IN SECTION 10A(2)(II)/(III) OF THE ACT 190. THE LD. COUNSEL SUBMITTED THAT THIS ISSUE IS COV ERED IN ITS FAVOUR BY THE ORDER OF THIS TRIBUNAL IN ITA NO. 6508/ DEL/2012 IN THE CASE OF SAMSUNG TELECOMMUNICATIONS INDIA PVT. LTD. FOR AY 2008-09, WHICH MERGED WITH THE APPELLANT W.E.F. 1 APRI L 2008. A COPY OF THE ORDER OF THIS TRIBUNAL IN ITA NO. 6508/DE L/2012 DATED 23/05/2017 HAS BEEN PLACED BEFORE US. OUR ATTENTION HA S BEEN DRAWN TOWARDS PARAGRAPHS 19-30 OF THIS ORDER WHERE THE TRIBUNAL HAS EXAMINED THIS ISSUE IN DETAIL AND HAS CONCLUDED TH AT RE- LOCATION OF AN UNIT FROM ONE PLACE TO ANOTHER IN ORDER TO MEET SHORTAGE OF SPACE AND TO EFFECT EXPANSION OF BUSINESS DOES NOT AMOUNT TO SPLITTING OR RECONSTRUCTION OF AN EXISTING BUSI NESS AND WOULD NOT DISENTITLE THE ASSESSEE FROM CLAIMING THE BENE FIT OF SECTION 10A OF THE ACT. THIS ORDER OF THE TRIBUNAL WAS SUBSEQUENTLY CONFIRMED BY THE HONBLE DELHI HIGH COUR T ON THIS ISSUE. RESPECTFULLY FOLLOWING THE DECISION OF THE TRIB UNAL AND THE HONBLE DELHI HIGH COURT WE ALLOW THIS GROUND OF APPE AL. AY 2010-11 (ITA NO. 6741/DEL/14) 191. THE FACTS AND BUSINESS MODEL IN THE PRESENT AS SESSMENT YEAR I.E. 2010-11 ARE SIMILAR TO THE FACTS ALREADY STAT ED FOR AY 2005-06 TO 2009-10. THE APPELLANT HAD FILED ITS RETURN OF INCOME ON SEPTEMBER 30, 2010, DECLARING AN INCOME OF RS. 157 7,52,20,73,240/-. A SUMMARY OF INTERNATIONAL TRANSACTI ONS ENTERED INTO BY THE APPELLANT AND THE APPELLANTS APPRO ACH IN DETERMINING THEIR ALP IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPRI ATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLA NT AS PER TP STUDY NO. OF COMPARAB LES CONSIDERE D AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS I MANUFACTURING (CONSUMER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES AND COLOUR MONITORS) IMPORT OF RAW MATERIAL, IMPORT OF STORES AND SERVICE SPARES, EXPORT OF RAW MATERIAL, SERVICE SPARES AND FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS, IMPORT OF SPARES FOR REPAIR AND MAINTENANCE, AVAILING OF SERVICES, PROVISION OF INTRA- GROUP SERVICES, REIMBURSEMENT OF MARKETING EXPENSES BY AES TRANSACTI ONAL NET MARGIN METHOD (TNMM) OPERATING PROFIT/ OPERATING REVENUE (OP/ OR) 8.14% 10 1.26% CLASS II TRADING (CONSUMER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES, COLOUR MONITORS AND OTHER IT PRODUCTS) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICE SPARES, EXPORT OF TNMM OP/ OR - 0.05% 17 0.43% 158 PARTICULARS MOST APPROPRI ATE METHOD AS PER TP STUDY PROFIT LEVEL INDICATOR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELLA NT AS PER TP STUDY NO. OF COMPARAB LES CONSIDERE D AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY RAW MATERIAL, SERVICE SPARES AND FINISHED GOODS, SERVICE INCOME, REIMBURSEMENT OF MARKETING EXPENSES BY AES CLASS III (CONTRACT SOFTWARE DEVELOPMENT SERVICES) PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES, REIMBURSEMENT OF EXPENSES BY AES, RENTAL INCOME TNMM OPERATING PROFIT / OPERATING COST (OP/OC) 14.84% 4 15.78% 192. THE DISPUTE IN THE PRESENT APPEAL FILED BY THE APPELLANT PERTAINS TO THE INTERNATIONAL TRANSACTIONS GROUPED UNDER C LASS-III (CONTRACT SOFTWARE DEVELOPMENT) SEGMENT. THE OTHER INTERN ATIONAL TRANSACTIONS PERTAIN TO CLASSES I (MANUFACTURING - CONSU MER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES AND COL OUR MONITORS) AND CLASS II (TRADING - CONSUMER ELECTRONICS, HOME A PPLIANCES, MOBILE PHONES, COLOUR MONITORS AND OTHER IT PRODUCTS) . THERE IS NO DISPUTE IN RESPECT OF THESE TRANSACTIONS. 193. IN CLASS-III (CONTRACT SOFTWARE DEVELOPMENT) SEGMENT, THE APPELLANT WAS ENGAGED IN THE PROVISION OF CONTRACT SOF TWARE DEVELOPMENT SERVICES. TRANSACTIONAL NET MARGIN METHOD W AS CHOSEN AS THE MOST APPROPRIATE METHOD IN ITS TRANSFER PRI CING 159 STUDY. THE PROFIT LEVEL INDICATOR TAKEN WAS OPERATING PROFIT/OPERATING COST. FOR THE BENCHMARKING EXERCISE, A N ECONOMIC ANALYSIS WAS CARRIED OUT IN THE TP STUDY LEADING TO IDENTIFICATION 4 UNCONTROLLED COMPARABLE COMPANIES. SINCE THE APPELLAN T HAD EARNED PROFIT MARGIN OF 14.84% WHICH WAS WITHIN +/-5% OF THE PROFIT MARGIN EARNED BY THE COMPARABLES, IT WAS CONCLU DED THAT THE INTERNATIONAL TRANSACTIONS WERE AT ARMS LENGTH. 194. THE DISPUTE IN THE PRESENT APPEAL FILED BY TH E APPELLANT PERTAINS TO THE ADJUSTMENTS MADE BY THE TPO VIDE ORDER DA TED 30 JANUARY 2014 ON ACCOUNT OF: (A) ALLEGED INTERNATIONAL TRANSACTION OF ADVERTISING, MARKETING AND PROMOTION ( AMP ) EXPENSES AND (B) SOFTWARE DEVELOPMENT SEGMENT. 195. ADJUSTMENTS MADE ON ACCOUNT OF AMP EXPENSES: THE LD. TPO PROPOSED AN ADJUSTMENT OF RS. 7,401,552,834 (RS. 1,021,561,275 UNDER THE IT BUSINESS AND RS. 6,379,99 1,559 UNDER THE NON-IT BUSINESS) WITH RESPECT TO AMP EXPENSE S INCURRED BY THE APPELLANT. HE WAS OF THE VIEW THAT THE APPELLANT H AS PROVIDED CERTAIN SERVICES IN RESPECT OF CREATION OF MA RKETING INTANGIBLES TO ITS AE. 196. ALP DETERMINATION FOR PROVISION OF CONTRACT SOFTWA RE DEVELOPMENT SERVICES (CLASS III): IN CLASS III (CONTRACT SOFTWARE DEVELOPMENT SERVICES SEGMENT), THE LD. TPO PROCEEDED TO UNDERTAKE A FRESH BENCHMARKING ANALYSIS OF THE UNCONTR OLLED COMPARABLE COMPANIES AND ARRIVED AT A SET OF 17 COMPA RABLES (REJECTED 2 OUT OF 4 COMPARABLES OF THE APPELLANT AND INTRODUCED 15 OTHER COMPARABLES). THE APPELLANT OFFERED NEW COM PARABLES DURING THE TRANSFER PRICING PROCEEDINGS WHICH WERE NO T ACCEPTED 160 BY THE TPO. FINAL SET OF COMPARABLE FOR BENCHMARKING OF INTERNATIONAL TRANSACTION ARE REPRODUCED IN THE TABLE BEL OW: S.NO. NAME OF COMPARABLE WORKING CAPITAL ADJUSTED NPM FOR AY 2010-11 (%) 1 AKSHAY SOFTWARE TECHNOLOGIES LTD. - 2.93% 2 E - INFOCHIPS 63.63% 3 EVOKE TECHNOLOGIES PVT LTD 17.16% 4 E - ZEST SOLUTIONS 12.30% 5 INFINITE DATA SYSTEMS PVT. LTD 82.23% 6 INFOSYS LTD. 43.89% 7 LARSEN & TOUBRO INFOTECH LTD. 18.47% 8 LGS GLOBAL LIMITED 5.95% 9 MINDTREE LTD. 12.98% 10 R S SOFTWARE (INDIA) LTD 8.66% 11 SASKEN COMMUNICATION TECHNOLOGIES LTD 16.35% 12 TATA ELXSI LTD. 15.52% 13 THINKSOFT GLOBAL SERVICES LIMITED 12.11% 14 THIRDWARE SOLUTIONS LTD. 36.54% 15 CAT TECHNOLOGIES LIMITED 2.13% 16 MAVERIC SYSTEMS LIMITED 13.19% 17 PERSISTENT SYSTEMS AND SOLUTIONS LTD. 10.33% ARITHMETIC MEAN (PAGE 61 OF TP ORDER) 21.68% NPM OF SAMSUNG INDIA (PAGE 5 OF TP ORDER) 14.84% ADJUSTMENT (RS.) 109,395,995 197. THE LD. DRP VIDE ORDER DATED 21 OCTOBER 201 4 UPHELD THE ACTION OF TPO WITH RESPECT TO THE ADJUSTMENT MADE ON ACCO UNT OF AMP EXPENSES. HOWEVER, FOR THE ADJUSTMENT MADE ON ACCO UNT OF SOFTWARE DEVELOPMENT SEGMENT, THE LD. DRP DIRECTED THE LD. TPO TO RECTIFY ARITHMETICAL ERRORS IN MARGIN COMPUTATION OF COMPARABLE COMPANIES. AS A CONSEQUENCE, THE LD. TPO RECTIFIED THE MARGIN COMPUTATION OF ONE COMPARABLE NAMELY MAVERIC SYSTEMS L IMITED FROM 13.19% TO 12.75%, THEREBY REDUCING THE ARMS LENG TH MARGIN FROM 21.68% TO 21.65%. CONSEQUENTLY, THE ADJUSTMENT WAS REDUCED TO INR 10,89,09,254/-. 161 198. PURSUANT TO THE DIRECTIONS OF LD. DRP, THE AO P ASSED THE FINAL ASSESSMENT ORDER DATED 5 NOVEMBER 2014. THE AO WHILE INCORPORATING THE TRANSFER PRICING ADJUSTMENTS MADE BY TH E LD. TPO ON ACCOUNT OF AMP EXPENSES OF RS. 7,40,15,52,834 AND ON ACCOUNT OF SOFTWARE DEVELOPMENT SEGMENT OF RS. 10,89,0 9,254, MADE FURTHER ADDITIONS OF: (I) RS. 3,01,54,176/- ON ACCOUNT OF RECRUITMENT AND TRAINING EXPENSES; (II) RS. 4,86,59,085/- ON ACCOUNT OF FORWARD EXCHANGE CONTRACTS CLASSIFIED UNDER FOREX LOSS; (III) RS. 2,18,19,987/- ON ACCOUNT OF DEDUCTION CLAIMED UNDER SECTION 10A OF THE ACT. 199. AGGRIEVED BY THE ORDER OF THE AO, THE ASSESS EE HAS PREFERRED THE PRESENT APPEAL AND HAS PRAYED FOR ADJUD ICATION OF THE FOLLOWING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL(ITA NO. 6741/DEL/14) FOR AY 2010-11 200. GROUND NO. 1 TO 11: THESE GROUNDS PERTAIN TO THE ISSUE OF AMP EXPENDITURE BEING TREATED AS AN INTERNATIONAL TR ANSACTION AND ADJUSTMENT BEING MADE ON THE BASIS OF THE BRIGHT LI NE TEST. WE HAVE ALREADY DECIDED THIS ISSUE IN ITA NO. 3248/D EL/2012 FOR A.Y. 2005-06 BY EXAMINING THE SAME IN DETAIL. THESE GROUNDS FOR THIS YEAR ARE ALLOWED AND DISPOSED-OFF ON THE LINES O F OUR FINDINGS AND OBSERVATIONS MADE WHILE DECIDING GROUNDS NO. 3.1 TO 3.6 OF ITA NO. 3248/DEL/2012. ADJUSTMENT ON ACCOUNT OF SOFTWARE DEVELOPMENT 162 GROUND NO. 12: THE LEARNED TPO/AO/DRP HAVE ERRED IN NOT ACCEPTING THE ECONOMIC ANALYSIS UNDERTAKEN BY THE A PPELLANT IN RESPECT OF INTERNATIONAL TRANSACTION PERTAINING TO PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES BY THE APPEL LANT TO ITS AES AND COMPUTING ADJUSTMENT OF INR 10,93,95,995 TO THE TOTAL INCOME OF THE APPELLANT GROUND NO. 13: THE LEARNED TPO/AO/DRP HAVE ERRED, IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT FOR HAVING DIFFERENT ACCOUNTING YEAR (I.E. HAVING A CCOUNTING YEAR OTHER THAN MARCH 31 OR COMPANIES WHOSE FINANCIAL ST ATEMENTS WERE FOR A PERIOD OTHER THAN 12 MONTHS) GROUND NO. 14: THE LEARNED TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT USING TURNOVER LESS THAN INR 5 CRORES' AS A COMPARA BILITY CRITERION. GROUND NO. 15: THE LEARNED TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT USING 'EXPORT EARNINGS LESS THAN 75 PERCENT OF OPER ATING REVENUES' AS A COMPARABILITY CRITERION. GROUND NO. 16: THE LEARNED TPO/AO/DRP HAVE ERRED, IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT ON ACCOUNT OF SHOWING DIMINISHING REVENUES TREND GROUND NO. 17: THE LEARNED TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT USING 'EMPLOYEE COST GREATER THAN 25 PERCENT OF TOT AL COST' AS A COMPARABILITY CRITERION GROUND NO. 18: THE LEARNED TPO/AO/DRP HAVE ERRED IN WRONGLY REJECTING CERTAIN COMPANIES FROM AND ADDING CERTAIN COMPANIES TO THE FINAL SET OF COMPARABLES FOR THE S AID TRANSACTION ON AN AD-HOC BASIS, THEREBY RESORTING TO CHERRY PICKIN G OF COMPARABLE FOR BENCHMARKING 163 GROUND NO. 19: THE LEARNED TPO/AO/DRP HAVE ERRED IN SELECTING CERTAIN COMPANIES (WHICH ARE EARNING SUPE RNORMAL PROFITS) AS COMPARABLE TO THE APPELLANT TO BENCHMARK THE SAI D TRANSACTION. 201. AT THE OUTSET, THE LD. COUNSEL SUBMITTED THAT OUT O F 17 COMPARABLES RETAINED BY THE TPO AFTER THE DRP DIRECTION S, THE ASSESSEE IS AGGRIEVED BY THE ERRONEOUS INCLUSION OF 3 COMPARABLES (E-INFOCHIPS, INFOSYS, INFINITE). FURTHERMORE, THE ASS ESSEE IS ALSO AGGRIEVED BY THE ERRONEOUS REJECTION OF 10 COMPARABLE S WHOSE INCLUSION IS BEING SOUGHT. THESE COMPARABLES ARE CAL IBER POINT BUSINESS SOLUTIONS LTD, CG-VAK SOFTWARE & EXPORTS LTD, CIGNITI TECHNOLOGIES LTD, GOLDSTONE TECHNOLOGIES LTD, HELIOS & MATHESON INFORMATION AND TECHNOLOGY LTD, QUINTEGRA SOLUTIONS LT D, R SYSTEMS INTERNATIONAL LTD, SAVEN TECHNOLOGIES LTD, SILV ER LINE TECHNOLOGIES LTD, ZYLOG SYSTEMS LTD. HOWEVER, IT HAS BE EN SUBMITTED BY THE LD. COUNSEL THAT IF ONLY 3 COMPARABLES ARE EXCLUDED NAMELY INFOSYS TECHNOLOGIES LTD, E-INFOCHIP S BANGALORE LTD AND INFINITE DATA SYSTEMS LTD, THEN THE ASSESSEES INTERNATIONAL TRANSACTION WOULD BE AT ARMS LENGTH AND TH E REST OF THE GROUNDS WILL BE RENDERED ACADEMIC IN NATURE. WE THEREFORE PROCEED TO EXAMINE THE VALIDITY OF THIS CLAIM. 202. THE LD. COUNSEL MADE FOLLOWING SUBMISSIONS W ITH RESPECT TO REJECTION OF THE THREE COMPARABLE COMPANIES: E-INFOCHIPS BANGALORE LIMITED (E-INFOCHIPS) (A) THE LD. COUNSEL ARGUED THAT E-INFOCHIPS IS FUNCTIONAL LY DISSIMILAR AS THE COMPANY IS ENGAGED IN BOTH SOFTWAR E DEVELOPMENT AND IT ENABLED SERVICES. HE POINTED OUT TH AT IN THE ANNUAL REPORT, SEGMENTAL INFORMATION IS NOT AVAILABL E AND HE DREW THE ATTENTION OF THE BENCH TO PAGE NO. 63 OF THE 164 ANNUAL REPORT WHERE THIS FACT HAS BEEN CLEARLY STATED AN D THE SEGMENTAL INFORMATION IN RESPECT OF SOFTWARE DEVELOPME NT AND ITES HAS NOT BEEN GIVEN. (B) THE LD. COUNSEL SUBMITTED THAT THE LD. TPO INCLUDED THE SAID COMPARABLE BY MERELY STATING THAT THIS COMPANY CANNOT BE SAID TO BE PROVIDING IT ENABLED SERVICES SINCE ITS COMMUNICATION COSTS ARE VERY LOW AND THAT MERELY HAVING SUPERNORMAL PROFITS IS NOT A CRITERION FOR REJECTION. THE LD. COUNSEL ARGUED THAT THAT THE LD. TPOS CONCLUSIONS ARE B ASED ON SURMISES AND ARE CONTRARY TO THE FACTS ON RECORD AS EVIDENT FROM THE ANNUAL REPORT OF THE COMPANY. HE FURTHER SUBMI TTED THAT THE EXCLUSION OF THIS COMPANY WAS SOUGHT NOT ON THE BASIS OF SUPER NORMAL PROFITS BUT ON THE BASIS OF FU NCTIONAL DISSIMILARITY AND ABSENCE OF SEGMENTAL INFORMATION. (C) THE LD. COUNSEL PLACED RELIANCE ON THE JUDGMENT DELI VERED BY THE COORDINATE BENCH IN THE CASE OF STERIA INDIA LTD. (ITA NO.107/DEL/2016) WHEREIN IT HAS BEEN HELD THAT THE COMPANY IS NOT FUNCTIONALLY COMPARABLE AS IT IS ENGAGE D IN BOTH SOFTWARE DEVELOPMENT AND IT ENABLED SERVICES FO R WHICH NO BIFURCATION IS AVAILABLE (AS SEGMENTAL INFORMATION IS NOT AVAILABLE). THIS JUDGMENT HAS ALSO BEEN UPHELD BY TH E HONBLE DELHI HIGH COURT (ITA 762/2017). (D) THE LD. COUNSEL ALSO PLACED RELIANCE ON THE COORDIN ATE BENCH RULING IN THE CASE OF HEADSTRONG SERVICES (INDIA) PVT. LTD. (ITA NO. 714/DEL/2015). (E) THE LD. COUNSEL FURTHER PLACED RELIANCE ON THE FOLLOW ING JUDGMENTS WHEREIN E-INFOCHIPS HAS BEEN HELD TO BE FUNCTIONALLY DISSIMILAR AND NON-COMPARABLE TO A SOFT WARE DEVELOPMENT COMPANY: 165 PEGASYSTEMS WORLDWIDE INDIA PVT LTD. (ITA NO. 1758/HYD/2014) INTOTO SOFTWARE INDIA PVT. LTD. (1921/HYD/2014 & 25/HYD/2015) ALLSCRIPTS INDIA PVT. LTD. (ITA NO. 771/AHD/2014) FREESCALE SEMICONDUCTOR INDIA PVT LTD (ITA NO1263 /DEL/2015) HEADSTRONG SERVICES (INDIA) PVT. LTD. (ITA NO.714/DEL/2015) STRYKER GLOBAL TECHNOLOGY CENTER PVT LTD V DCIT (ITA NO. 6866/DEL/2014) 204. THE LD. CIT (DR) EMPHASIZED THE FACT THAT THE COMMUNICATION EXPENSES OF THIS COMPANY ARE AT A VERY L OW LEVEL AND ACCORDINGLY, IT IS HIGHLY PROBABLE THAT THIS IS NOT AN ITES COMPANY BECAUSE ITES COMPANIES TYPICALLY INCUR SUBS TANTIAL AMOUNT OF COMMUNICATION EXPENSES TO DELIVER THEIR SERV ICES. 205. WE HAVE HEARD BOTH THE SIDES AND PERUSED THE ANNUAL REPORT OF E-INFOCHIPS BANGALORE. FROM THE PERUSAL OF PAGE 63 OF THE ANNUAL REPORT IT IS EVIDENT THAT THIS COMPANY HAS REP ORTED ITS RESULTS UNDER A SINGLE SEGMENT WHICH HAS BEEN STATED TO BE INCLUDING SOFTWARE AS WELL AS ITES ACTIVITIES WITHOUT A NY BIFURCATION BEING PROVIDED. IT IS A FUNDAMENTAL PRINCI PLE OF TRANSFER PRICING THAT, FUNCTIONALLY DIFFERENT SPHERES LIKE SOF TWARE AND ITES SEGMENTS ARE NOT TO BE TREATED AS COMPARABLE FUNCTIONS . A COMPANY OPERATING IN ONE SECTOR CANNOT BE TAKEN AS COMP ARABLE TO ANOTHER COMPANY IN THE OTHER SECTOR. ONLY IF SEGMENTAL PROFIT MARGINS FOR SOFTWARE AND ITES SEGMENTS ARE SEPARATEL Y PROVIDED IN 166 THE AUDITED RESULTS, THE RESULTS OF THE SOFTWARE SEGMENT CAN BE TAKEN FOR COMPARISON WITH THE SOFTWARE SEGMENT OF THE A SSESSEE. IT IS NOW WELL SETTLED THAT IN THE ABSENCE OF SEGMENTAL MA RGINS, COMBINED ENTITY LEVEL RESULTS CANNOT BE USED FOR A TNM M ANALYSIS. IN HEADSTRONG SERVICES (SUPRA), THIS TRIBUNAL WHILE EXAMINING THE COMPARABILITY OF E-INFOCHIPS BANGALORE TO A SOFTWARE COMPANY HELD AS UNDER: 12.2. AFTER CONSIDERING THE RIVAL SUBMISSION AND PE RUSED THE RELEVANT MATERIAL ON RECORD, WE FIND FROM THE ANNUA L REPORT OF THIS COMPANY AVAILABLE ON PAGE 352 OF THE PAPER BOO K THAT ITS P & L ACCOUNT SHOWS `INCOME FROM SOFTWARE SERVICES A S ONE UNIT AT RS. 43,04,66,481/-. SCHEDULES 7 GIVES BREAK UP O F THIS INCOME WITH INCOME FROM SOFTWARE SERVICES AT RS. 37.13 C RORE AND CONSULTANCY CHARGES AT RS. 5.90 CRORE. SEGMENTAL INFORMATION OF THIS COMPANY IS AVAILABLE ON PAGE 66 OF ITS ANNU AL REPORT WHICH STATES THAT: THE COMPANY IS PRIMARILY ENGAGE D IN SOFTWARE DEVELOPMENT AND I.T. ENABLED SERVICES WHIC H IS CONSIDERED THE ONLY REPORTABLE BUSINESS SEGMENT. T HIS INDICATES THAT THE REVENUE FROM SOFTWARE DEVELOPMENT AND ITES HAS BEEN CLUBBED BY THIS COMPANY WHICH ALSO INCLUDES CONSULT ANCY CHARGES. NO DOUBT CONSULTANCY CHARGES IN RELATION T O SOFTWARE DEVELOPMENT ARE PART OF OVERALL SOFTWARE DEVELOPMEN T, BUT THE INCLUSION OF ITES IN THE OVERALL SEGMENT FRUSTRATES THE COMPARABILITY. WE ARE CURRENTLY DEALING WITH THE IN TERNATIONAL TRANSACTION OF `PROVISION OF SOFTWARE DEVELOPMENT S ERVICES AND THE INTERNATIONAL TRANSACTION OF ITES IS SEPARATE W HICH HAS ALSO BEEN BENCHMARKED DISTINCTLY. IN OUR CONSIDERED OPIN ION, E- INFOCHIPS BANGALORE LTD. HAVING A POOL OF BOTH SOFT WARE DEVELOPMENTS AND ITES SEGMENTS INTO THE OVERALL SEG MENT 167 DESIGNATED AS `SOFTWARE DEVELOPMENT, CANNOT BE CON SIDERED AS COMPARABLE ON ENTITY LEVEL WITH THE INTERNATIONAL T RANSACTION OF `SOFTWARE DEVELOPMENT OF THE ASSESSE. WE, THEREFOR E, ORDER FOR THE EXCLUSION OF THIS COMPANY FROM THE LIST OF COMP ARABLES. 206. WE ALSO DO NOT FIND MERIT IN THE CONTENTION RAIS ED BY THE REVENUE THAT SINCE THE COMMUNICATION EXPENSES SHOWN IN THE P&L ACCOUNT IS AT A LOW LEVEL, THE COMPANY SHOULD BE PRESU MED TO BE NOT BE ENGAGED IN ITES. SUCH A CONCLUSION IS NOT BA SED ON EVIDENCE BUT IS A MERE SPECULATION. IN THE FACE OF A CLEAR DISCLOSURE IN THE ANNUAL REPORT, A SPECULATIVE APPROACH IS TO BE DISCARDED. WE, ACCORDINGLY, HOLD THAT E-INFOCHIPS BANGALORE IS TO BE EXCLUDED FROM THE LIST OF COMPARABLES FOR THE SOFTWARE SEGMENT. INFOSYS TECHNOLOGIES LIMITED- 207. THE LD. COUNSEL SUBMITTED THAT THE FACTS PERTAINI NG TO THIS COMPARABLE AND THE APPELLANT REMAIN THE SAME AS IN TH E PRIOR YEAR I.E. A. YR. 2009-10: (A) AS PER THE ANNUAL REPORT, THE COMPANY PROVIDES END-TO-E ND BUSINESS SOLUTIONS THAT LEVERAGE CUTTING-EDGE TECHNOLO GY, THEREBY ENABLING CLIENTS TO ENHANCE BUSINESS PERFORMA NCE. THE COMPANY PROVIDES SOLUTIONS THAT SPAN THE ENTIRE SO FTWARE LIFECYCLE ENCOMPASSING TECHNICAL CONSULTING, DESIGN, DEVELOPMENT, RE-ENGINEERING, MAINTENANCE, SYSTEMS INTEGRATION, PACKAGE EVALUATION AND IMPLEMENTATION, TESTI NG AND INFRASTRUCTURE MANAGEMENT SERVICES. IN ADDITION, THE COMPANY OFFERS SOFTWARE PRODUCTS FOR THE BANKING INDU STRY. (B) THE LD. TPO/ AO INCLUDED THIS COMPANY AS A COMPARABL E FOR THE REASON THAT IT IS ENGAGED IN SOFTWARE DEVELOPMENT SE RVICES. THE LD. DRP UPHELD ORDER OF THE LD. TPO/ AO. 168 (C) THE LD. COUNSEL POINTED OUT THAT THERE ARE SIGNIFICANT INTANGIBLE ASSETS AND R & D ACTIVITIES LEADING TO CREATI ON OF IP FOR THIS COMPANY. R&D IS CONDUCTED AT THE VARIOUS SOFTW ARE ENGINEERING & TECHNOLOGY LABS (SET LABS) AT INFOSYS. THE SET LABS ARE ENGAGED IN R&D IN VARIOUS TECHNOLOGIES, WH ICH INTER ALIA INCLUDES: NEXT GENERATION OF SOFTWARE ENGINEERING CONVERGENCE OF SERVICES, NETWORK AND APPLICATIONS TEXT ANALYSIS, MACHINELEARNING, SYMBOLIC AND QUANTITATIVE APPROACHES TO REASONING AND DECISION MAKING, AND TASK ORIENTED KNOWLEDGE MANAGEMENT SYSTEMS VIRTUALIZATION, GRID MODELS FOR COMPUTING EFFICIENCIE S AND CLOUD COMPUTING. APPLICATION SECURITY REQUIREMENTS, ETC. THE EFFORTS OF THE SET LABS HAVE LED TO CREATION OF R&D AND FILING OF PATENTS (D) THE LD. COUNSEL POINTED OUT THAT INFOSYS HAS AN ESTABLI SHED BRAND PRESENCE WHICH IS ONE OF THE MOST IMPORTANT INTANG IBLE ASSETS. THE COMPANY ITSELF ACCEPTS THIS IN ITS ANNUAL REPORT. HE FURTHER POINTED OUT THAT FROM A PERUSAL OF INFOSYS A NNUAL REPORT, IT HAS CLAIMED THAT IT IS THE MOST REPUTED AND ADM IRED COMPANY IN INDIA. (E) THE LD. COUNSEL ARGUED THAT INFOSYS WAS ENGAGED IN DIVERSIFIED SERVICES APART FROM SOFTWARE SERVICES IN COME. REVENUES IS ALSO DERIVED FROM SALE OF SOFTWARE PROD UCTS & ON- SITE SERVICES. AS PER THE ANNUAL REPORT, THE COMPANY PR OVIDES END-TO-END BUSINESS SOLUTIONS THAT LEVERAGE CUTTING-EDGE 169 TECHNOLOGY, THEREBY ENABLING CLIENTS TO ENHANCE BUSIN ESS PERFORMANCE. THE COMPANY PROVIDES SOLUTIONS THAT SPA N THE ENTIRE SOFTWARE LIFECYCLE ENCOMPASSING TECHNICAL CONS ULTING, DESIGN, DEVELOPMENT, RE-ENGINEERING, MAINTENANCE, SYS TEMS INTEGRATION, PACKAGE EVALUATION AND IMPLEMENTATION, TESTI NG AND INFRASTRUCTURE MANAGEMENT SERVICES. IN ADDITION, THE COMPANY OFFERS SOFTWARE PRODUCTS FOR THE BANKING INDU STRY. 208. THE LD. CIT(DR) RELIED ON THE ORDERS OF THE L D. TPO AND DRP AND CONTENDED THAT SCALE, SIZE, BRAND MAY IMPACT P ROFITS BUT NOT PROFIT MARGINS. HE REITERATED THAT THERE IS NO POSITI VE CORRELATION BETWEEN TURNOVER AND PROFIT MARGIN. 209. WE HAVE HEARD BOTH THE PARTIES, PERUSED THE OR DERS OF THE TPO AND THE DRP AND ANALYSED THE ANNUAL REPORT OF IN FOSYS TECHNOLOGIES LTD. THE FACTS PERTAINING TO THE ASSESSEE S SOFTWARE SEGMENT AND THE BUSINESS RESULTS OF INFOSYS REMAIN THE SAME AS IN PRIOR YEAR. IN APPEAL OF THE PRIOR A.Y. 2009-10 (ITA NO.1567/DEL/2014) WE HAVE ANALYZED THE SUITABILITY OF THIS COMPANY AS A COMPARABLE TO THE APPELLANTS SOFTWARE SE GMENT AND HELD THAT IT HAS TO BE EXCLUDED FROM THE SET OF COMPARABL ES. FOLLOWING THE SAME, WE HOLD THAT INFOSYS TECHNOLOGIE S LTD IS TO BE EXCLUDED. INFINITE DATA SYSTEMS PRIVATE LIMITED 210. THE LD. COUNSEL ARGUED THAT THIS COMPANY IS FUNCTIONALLY DISSIMILAR TO THE APPELLANT. HE POINTED OUT THAT AS PER T HE ANNUAL REPORT, THE COMPANY IS A FULL-FLEDGED IT CONSULTING OR GANIZATION AND PROVIDES SERVICES IN THE NATURE OF TECHNICAL CONS ULTING, DESIGN AND DEVELOPMENT OF SOFTWARE, MAINTENANCE, SYSTEMS INTE GRATION, 170 IMPLEMENTATION, TESTING AND INFRASTRUCTURE MANAGEMENT SE RVICES. FURTHER, REVENUE IS PRIMARILY DERIVED FROM TECHNICAL SUPPORT AND INFRASTRUCTURE MANAGEMENT SERVICES. THE LD. COUNSEL SU BMITTED THAT THE LD. TPO HAS ACCEPTED THIS COMPANY AS A COMPAR ABLE MERELY ON THE BASIS THAT SERVICES PROVIDED BY THIS COMP ANY WERE IN THE NATURE OF SOFTWARE DEVELOPMENT SERVICES. THE LD. D RP UPHELD THE ORDER OF THE LD. TPO DISREGARDING THE DISCLOSURES MADE IN THE ANNUAL REPORT OF THIS COMPANY WHEREIN IT HAS BEEN CLEA RLY MENTIONED THAT THIS IS A HIGHLY DIVERSIFIED COMPANY. TH E LD. COUNSEL ALSO POINTED OUT THAT THERE WAS EXCEPTIONAL GRO WTH IN OPERATIONS, REVENUE AND PROFITS. HE SUBMITTED A YEAR-ON -YEAR ANALYSIS FOR THE PERIOD FY 2007-08 TO 2009-10 WHICH I S AS UNDER: PARTICULARS FY 2007- 08 FY 2008- 09 FY 2009-10 FY 2010-11 SALES REVENUE NIL 47,407,301 383,160,901 527,524,561 YEAR-ON-YEAR INCREASE (%) - 708.23% 37.67% EMPLOYEE REMUNERATION NIL 18,725,836 109,151,595 143,902,273 YEAR-ON-YEAR INCREASE (%) - 482.29% 31.83% PROFIT BEFORE TAX (49,999) 9,851,316 157,310,476 337,737,471 YEAR-ON-YEAR INCREASE (%) - 1496.85% 114.495% DEBTORS NIL 50,097,205 131,326,992 225,170,269 YEAR-ON-YEAR INCREASE (%) - 162.14% 71.46% THE LD. COUNSEL SUBMITTED THAT THE FACT THAT THIS COMPANY HAS WITNESSED WIDELY FLUCTUATING GROWTH RATES (AS DEPICTE D ABOVE) IS 171 INDICATIVE OF THE FACT THAT THE COMPANY WAS FACING EXCEPTI ONAL OR PECULIAR CIRCUMSTANCES AND RISKS AND CANNOT BE SAID TO BE REPRESENTATIVE OF THE INDIAN SOFTWARE INDUSTRY. IN THIS REGARD, THE LD. COUNSEL PLACED RELIANCE ON THE JURISDICTIONAL ITA T RULING IN THE CASE OF M/S. STRYKER GLOBAL TECHNOLOGY CENTER PRIVATE LIMIT ED VS. DCIT, (ITA NO.6866/DEL./2014) WHEREIN THE ITAT HAS EXAMINED THE FUNCTIONAL PROFILE OF INFINITE DATA SYSTEMS FOR AY 2011-12 AND EXCLUDED IT AS A COMPARABLE. HE ALSO PLA CED RELIANCE ON THE JURISDICTIONAL ITAT RULING IN THE CASE OF M/S FREESCALE SEMICONDUCTOR INDIA PVT LTD (ITA NO1263 /DEL/2015). 211. THE LD. CIT (DR) VEHEMENTLY OPPOSED THE EXCLU SION OF THE ABOVEMENTIONED COMPARABLE AND SUPPORTED THE ORDER OF TH E TPO AND THE DRP. HE SUBMITTED THAT THOUGH THE NATURE OF SERVICE S IS DIVERSIFIED MANY OF THE SERVICES RENDERED BY THIS COM PANY FALL UNDER THE BROAD CATEGORY OF SOFTWARE DEVELOPMENT. 212. WE HAVE HEARD THE TWO SIDES AND PERUSED THE O RDERS OF THE TPO AND THE DRP. WE HAVE ALSO PERUSED THE ANNUAL REP ORT OF INFINITE DATA SYSTEMS LTD. THE BUSINESS ACTIVITY OF THE C OMPANY HAS BEEN PROVIDED AT PAGE 13 OF THE ANNUAL REPORT AS: FULL-FLEDGED IT CONSULTING ORGANIZATION AND PROVIDES SERVICES IN THE NATURE OF TECHNICAL CONSULTING, DESIGN AND DEVELOPMENT OF SOF TWARE, MAINTENANCE, SYSTEMS INTEGRATION, IMPLEMENTATION, T ESTING AND INFRASTRUCTURE MANAGEMENT SERVICES. THE ANNUAL REPORT FURTHER STATES THAT, REVENUE IS PRIMARILY DERIVED FROM TECHNICAL SUPPORT AND INFRASTRUCTURE MANAGEMENT SERVICES . THE COMPANY HAS ENTERED INTO CONTRACTS WITH CUSTOMERS W HERE THE PRICING IS ON TIME AND MATERIAL BASIS . REVENUES FROM THESE CONTRACTS ARE RECOGNIZED AS AND WHEN THE RELATED SE RVICES ARE 172 RENDERED AND RELATED COSTS ARE INCURRED. REVENUE FR OM THE END OF THE LAST BILLING TO THE BALANCE SHEET DATE IS RECOG NIZED AS UNBILLED REVENUES. THE FACT THAT THIS COMPANY IS DERIVING MOST OF ITS REVENUE FROM TECHNICAL SUPPORT AND INFRA MANAGEMENT S ERVICES MAKE IT CLEAR THAT SOFTWARE DEVELOPMENT ACTIVITY IS A MI NOR AND SUBSIDIARY ACTIVITY OF THIS COMPANY. FURTHER, THE AN NUAL REPORT DOES NOT CONTAIN SEGMENTAL BIFURCATION OF PROFITABILITY BETWEEN TECHNICAL SUPPORT SEGMENT AND THE SOFTWARE SEGMENT. BOTH THE ACTIVITIES ARE CLUBBED TOGETHER. IN THE DECISION CITED B Y THE APPELLANT IN THE CASE OF STRYKER GLOBAL TECHNOLOGY CEN TER PVT. LTD. (SUPRA), A COORDINATE BENCH OF THIS TRIBUNAL HAS EX AMINED THE VALIDITY OF INFINITE DATA SYSTEMS PVT. LTD. AS A COMPARA BLE TO A SOFTWARE COMPANY. THE TRIBUNAL ORDERED THE REJECTION OF THIS COMPANY ON THE GROUND OF FUNCTIONAL DISSIMILARITY BY OBSERVING AS UNDER: 24. THE COMPARABILITY OF INFINITE WAS ALSO EXAMINE D IN SUN LIFE INDIA SERVICE CENTRE (P.) LTD. (SUPRA) WITH SUN LIF E INDIA SERVICE CENTRE (P.) LTD. WHICH IS A ROUTINE SOFTWARE DEVELO PMENT AND SERVICE PROVIDER AND HELD TO BE NOT A SUITABLE COMP ARABLE AS IT IS A FULL-FLEDGED IT CONSULTING ORGANISATION AND PROVI DES SERVICES IN THE NATURE OF TECHNICAL CONSULTING, DESIGN AND DEVE LOPMENT OF SOFTWARE, MAINTENANCE, SYSTEM IRRIGATION, IMPLEMENT ATION, TESTING AND INFRASTRUCTURE MANAGEMENT SERVICES. SO, IN VIEW OF THE MATTER, WE ARE OF THE CONSIDERED VIEW THAT INFI NITE IS NOT A SUITABLE COMPARABLE VIS--VIS ASSESSEE COMPANY, HEN CE ORDERED TO BE EXCLUDED. IN LIGHT OF THE AFORESAID WE ORDER THE EXCLUSION OF TH IS COMPANY FROM THE LIST OF COMPARABLES. 213. THE OTHER GROUNDS OF THE SOFTWARE SEGMENT ARE N OT BEING ADJUDICATED AS BEING ACADEMIC IN NATURE IN VIEW OF THE SUBMISSION MADE BY THE LD. COUNSEL REGARDING THE INTERNATIONAL TR ANSACTION OF 173 SOFTWARE SEGMENT BEING AT ARMS LENGTH ON THE BASIS OF DELETION OF THE THREE AFORESAID COMPARABLES, VIZ., INFOSYS TECHNO LOGIES, E- INFOCHIPS BANGALORE AND INFINITE DATA SYSTEMS. GROUND NO. 25: THE LEARNED AO/DRP HAS ERRED IN HOLDING THAT EXPENDITURE ON RECRUITMENT AND TRAINING OF EMPLOYEE S LEADS TO ENDURING BENEFIT TO THE APPELLANT AND IN HOLDING TO ALLOW ONLY 1/6 TH OF THE TOTAL EXPENDITURE IN THE CURRENT YEAR AND DE FERRING THE BALANCE TO BE ALLOWED IN NEXT FIVE YEARS GROUND NO. 26: WITHOUT PREJUDICE TO THE ABOVE, LEARNED AO/DRP HAS ERRED IN NOT ALLOWING IN THE YEAR UNDER ASSESSM ENT, 1/6 TH OF THE EXPENDITURE ON THIS ACCOUNT THAT WAS SIMILARLY DISA LLOWED IN THE PRECEDING FIVE ASSESSMENT YEARS. 214. WE HAVE ALREADY ADJUDICATED THIS ISSUE IN THE APPEALS FOR PRIOR YEARS (A.YRS. 2005-06, 2006-07 AND 2007-08, 2 008-09 AND 2009-10) AND ALLOWED THE SAME. WE HAVE HELD THAT TRAINI NG AND RECRUITMENT EXPENDITURE IS FULLY ALLOWABLE AS REVENUE EXPENDITURE IN THE YEAR IN WHICH IT IS INCURRED. THERE BEING NO E NDURING BENEFIT IT CANNOT BE TREATED AS CAPITAL EXPENDITURE OR DEFERRED REVENUE EXPENDITURE. GROUND NO. 25 IS, THEREFORE, ALLOWED AND GROUND NO. 26 IS DISMISSED AS BEING INFRUCTUOUS. GROUND NO. 27: THE LEARNED AO/DRP HAS ERRED IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION AMOUNTING TO RS. 4,86, 59,085 DEBITED TO P&L ACCOUNT IS A NOTIONAL LOSS AND IS NOT ALLOWA BLE AS A DEDUCTION UNDER THE PROVISIONS OF THE ACT. GROUND NO. 28: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LEARNED AO/DRP HAS ERRED IN NOT EXCLUDING INR 29,95 2,597 FROM THE TAXABLE INCOME OF CURRENT YEAR BEING MARKED TO MARKET LOSSES INCURRED IN RESPECT OF FOREIGN EXCHANGE CONTRACTS W HICH WERE 174 OUTSTANDING AS ON 31ST MARCH 2009 AND WRITTEN BACK DURING THE YEAR AS SAME WAS NOT ALLOWED AS DEDUCTION IN THE AS SESSMENT PROCEEDINGS FOR AY 2009-10. 215. THIS GROUND PERTAINS TO ALLOWABILITY OF LOSS ARISING FROM REVALUATION OF OPEN FORWARD FOREX CONTRACTS THE LAST DA TE OF THE BALANCE SHEET ON ACCOUNT OF RESTATEMENT OF AMOUNTS PAYA BLE AND RECEIVABLE IN FOREIGN EXCHANGE UNDER THE MARKED TO MA RKET (MTM) POLICY MANDATED UNDER ACCOUNTING NORMS. THIS ISSUE HA S ALREADY BEEN DECIDED BY US IN ITA NO. 5315/DEL/2011 FOR A.Y R. 2007-08 UNDER GROUND NO. 10, ITA NO. 52/DEL/2013 FOR A. YR. 2008-09 UNDER GROUND NO. 11 AND 11.1 AND ITA NO. 1567/DEL/1 4 FOR A. YR. 2009-10 UNDER GROUND NO. 29-31 WHEREIN WE HAVE ALLOWED THE GROUND IN VIEW OF THE LAW BEING SETTLED BY THE HONB LE SUPREME COURT IN CIT V. WOODWARD GOVERNOR INDIA PVT. LTD. 312 ITR 254 (SC) IN THIS REGARD. FOLLOWING THE SAME, THIS GROUND IS ALLOWED. GROUND NO. 28 BEING INFRUCTUOUS IS DISMISS ED. GROUND NO. 29: THE LEARNED AO HAS ERRED IN LAW AND ON FACT IN WITHDRAWING A DEDUCTION OF INR 21,819,987 CLAIMED B Y THE APPELLANT UNDER SECTION 10A OF THE ACT ON THE WRONG PRETEXT THAT MERE SHIFTING OF UNDERTAKING FROM ONE LOCATION TO A NOTHER TANTAMOUNT TO NON-FULFILMENT OF CONDITIONS LAID DOW N IN SECTION 10A(2)(II)/(III) OF THE ACT 216. THIS ISSUE HAS ALREADY BEEN DECIDED BY US IN ITA NO. 1567/DEL/14 FOR A. YR. 2009-10 UNDER GROUND NO. 32 WHEREIN WE HAVE ALLOWED THE GROUND. FOLLOWING THE SAME, THIS GROU ND IS ALLOWED. AY 2011-12 (ITA NO. 868/DEL/2016 AND ITA NO. 2511/DEL/2018 ARISING OUT OF ORDER PASSED U/S 154) 175 217. THE FACTS AND BUSINESS MODEL IN THE PRESENT A SSESSMENT YEAR I.E., 2011-12 ARE SIMILAR TO THE FACTS ALREADY STATED FOR AY 2005-06 TO 2010-11. THE APPELLANT HAD FILED ITS RETURN OF INCOME ON NOVEMBER 29, 2011, DECLARING AN INCOME OF RS. 1,73,33,95,170/-. A SUMMARY OF INTERNATIONAL TRANSACTI ONS ENTERED INTO BY THE APPELLANT AND THE APPELLANTS APPRO ACH IN DETERMINING THEIR ALP IS GIVEN IN THE TABLE BELOW: PARTICULARS MOST APPROPR IATE METHOD AS PER TP STUDY PROFIT LEVEL INDICAT OR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELL ANT AS PER TP STUDY NO. OF COMPARA BLES CONSIDER ED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS I MANUFACTURING (CONSUMER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES AND COLOUR MONITORS) IMPORT OF RAW MATERIAL, IMPORT OF STORES AND SERVICE SPARES, EXPORT OF RAW MATERIAL, EXPORT OF STORES, SPARES AND SEMI- FINISHED GOODS, PAYMENT OF ROYALTY, IMPORT OF FIXED ASSETS, IMPORT OF SPARES FOR REPAIR AND MAINTENANCE, PROVISION OF INTRA- GROUP SERVICES, AVAILING OF SERVICES, REIMBURSEMENT OF MARKETING EXPENSES BY AES TRANSAC TIONAL NET MARGIN METHOD (TNMM) OPERATI NG PROFIT/ OPERATI NG REVENU E (OP/ OR) 1.77 9 1.43% 176 PARTICULARS MOST APPROPR IATE METHOD AS PER TP STUDY PROFIT LEVEL INDICAT OR (PLI) AS PER TP STUDY MARGIN EARNED BY THE APPELL ANT AS PER TP STUDY NO. OF COMPARA BLES CONSIDER ED AS PER TP STUDY ARMS LENGTH MARGIN AS PER TP STUDY CLASS II TRADING (CONSUMER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES, COLOUR MONITORS AND OTHER IT PRODUCTS) IMPORT OF FINISHED GOODS, IMPORT OF STORES AND SERVICE SPARES, SERVICE INCOME, REIMBURSEMENT OF MARKETING EXPENSES BY AES TNMM OP/ OR 1.39% 19 0.67% CLASS III - PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES TNMM OPERATI NG PROFIT / OPERATI NG COST (OP/O C) 15.01% 22 8.97% 218. THE DISPUTE IN THE PRESENT APPEAL FILED BY TH E APPELLANT PERTAINS TO THE INTERNATIONAL TRANSACTIONS GROUPED UNDER C LASS-III (CONTRACT SOFTWARE DEVELOPMENT) SEGMENT. THE OTHER INTERN ATIONAL TRANSACTIONS PERTAIN TO CLASSES I (MANUFACTURING - CONSU MER ELECTRONICS, HOME APPLIANCES, MOBILE PHONES AND COL OUR MONITORS) AND CLASS II (TRADING - CONSUMER ELECTRONICS, HOME A PPLIANCES, MOBILE PHONES, COLOUR MONITORS AND OTHER IT PRODUCTS) . THERE IS NO DISPUTE IN RESPECT OF THESE TRANSACTIONS. IN CLASS-III (CONTRACT 177 SOFTWARE DEVELOPMENT) SEGMENT, THE APPELLANT WAS ENGAGE D IN THE PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES. T RANSACTIONAL NET MARGIN METHOD WAS CHOSEN AS THE MOST APPROPRIATE M ETHOD IN ITS TRANSFER PRICING STUDY. THE PROFIT LEVEL INDICATOR TAKEN WAS OPERATING PROFIT/OPERATING COST. FOR THE BENCHMARKING EX ERCISE, AN ECONOMIC ANALYSIS WAS CARRIED OUT IN THE TP STUDY LE ADING TO IDENTIFICATION 22 UNCONTROLLED COMPARABLE COMPANIES. S INCE THE APPELLANT HAD EARNED PROFIT MARGIN OF 15.01% WHICH WA S HIGHER THAN THE PROFIT MARGIN EARNED BY THE COMPARABLES, IT WA S CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS WERE AT ARM S LENGTH. 219. THE DISPUTE IN THE PRESENT APPEAL FILED BY TH E APPELLANT PERTAINS TO THE ADJUSTMENTS MADE BY THE TPO VIDE ORDER DA TED 29 JANUARY 2015 ON ACCOUNT OF (A) ALLEGED INTERNATIONAL TR ANSACTION OF ADVERTISING, MARKETING AND PROMOTION ( AMP ) EXPENSES AND (B) SOFTWARE DEVELOPMENT SEGMENT. 220. ADJUSTMENTS MADE ON ACCOUNT OF AMP EXPENSES: THE LD. TPO WAS OF THE VIEW THAT THE APPELLANT HAS PROVIDED CERTA IN SERVICES IN RESPECT OF CREATION OF MARKETING INTANGIBL ES TO ITS AE. THEREFORE, HE PROPOSED AN ADJUSTMENT OF RS. 11,884,13 8,456 (RS. 1,222,238,922 UNDER THE IT BUSINESS AND RS. 10,661,8 99,534 UNDER THE NON-IT BUSINESS) WITH RESPECT TO AMP EXPENSE S INCURRED BY THE APPELLANT. THE LD. TPO APPLIED THE BRIGHT LINE T EST (BLT) TO COMPARE THE AMP/SALES RATIO OF THE APPELLANT WITH THAT O F THE COMPARABLE COMPANIES AND APPLICATION OF A MARK-UP E QUIVALENT TO SBIS PLR. 221. ALP DETERMINATION FOR PROVISION OF CONTRACT SOFTWA RE DEVELOPMENT SERVICES (CLASS III): IN CLASS III (SOFTWARE 178 DEVELOPMENT SERVICES) SEGMENT, THE LD. TPO PROCEEDED TO UNDERTAKE A FRESH BENCHMARKING ANALYSIS OF THE UNCONTR OLLED COMPARABLE COMPANIES BY MODIFYING THE FILTERS AND AR RIVED AT A FRESH SET OF COMPARABLES. HE SELECTED 11 OUT OF THE 26 COMPARABLES PROVIDED BY THE APPELLANT (I.E. 22 COMPARABLES IDENTIF IED AS PER TP STUDY AND 4 COMPARABLES IDENTIFIED BY THE ASSESSEE DUR ING THE COURSE OF TP ASSESSMENT PROCEEDINGS) AND INTRODUCED 8 ADDITIONAL COMPARABLES. THE FINAL SETS OF COMPARABLES FOR BENCH MARKING INTERNATIONAL TRANSACTION ARE REPRODUCED IN THE TABLE BEL OW: S.NO. NAME OF COMPARABLE WORKING CAPITAL ADJUSTED NCP FOR AY 2011-12 (%) 1 AKSHAY SOFTWARE TECHNOLOGIES LTD. 3.63% 2 E-INFOCHIPS LIMITED 56.42% 3 EVOKE TECHNOLOGIES PVT LTD 10.23% 4 E-ZEST SOLUTIONS 38.19% 5 INFOSYS TECHNOLOGIES LTD. 45.11% 6 LARSEN & TOUBRO INFOTECH LTD. 21.22% 7 LGS GLOBAL LIMITED 13.58% 8 PERSISTENT SYSTEMS AND SOLUTIONS LTD (MERGED) 22.80% 9 PERSISTENT SYSTEMS LTD. 24.10% 10 R S SOFTWARE (INDIA) LTD 18.07% 11 SASKEN COMMUNICATION TECHNOLOGIES LTD 26.68% 12 WIPRO TECHNOLOGIES SERVICES LTD. (MERGED) 55.37% 13 CELSTREAM TECHNOLOGIES PVT. LTD. 15.27% 14 ACROPETAL TECHNOLOGIES LTD. (SEG) 21.34% 15 MINDTREE LTD.(SEG) 11.22% 179 S.NO. NAME OF COMPARABLE WORKING CAPITAL ADJUSTED NCP FOR AY 2011-12 (%) 16 SANKHYA INFOTECH LIMITED(SEG) 24.13% 17 TATA ELXSILTD(SEG) 13.34% 18 THIRDWARE SOL (SEG) 19.54% 19 ZYLOG SYSTEMS LIMITED 27.56% ARITHMETIC MEAN (PAGE 84 OF TP ORDER) 24.62% NCP OF SAMSUNG INDIA (PAGE 5 OF TP ORDER) 15.01% ADJUSTMENT (RS.) 216,107,588 220. THE LD. DRP VIDE ORDER DATED 23 DECEMBER 20 15 UPHELD ADJUSTMENTS MADE BY THE LD. TPO AND STATED THAT INCURRING AMP EXPENSES CONSTITUTES AN INTERNATIONAL TRANSACTION. THE LD. DRP DIRECTED FOR EXCLUSION OF ROUTINE SELLING AND DISTRIB UTION EXPENSES WHILE COMPUTING THE AMP ADJUSTMENT OF COMPARABLES. THE LD. DRP ALSO DIRECTED FOR IMPUTING THE SAID ADJUSTMENT USIN G AMP TO GROSS PROFIT (GP) RATIO AND THE MARK-UP ON EXCESSIV E AMP EXPENSE TO BE AS PER SUB-CLAUSE (II) TO RULE 10(1)(C) I.E. TH E GP/SALES OF COMPARABLE COMPANIES, THUS SELECTED. AS A CONSEQUENC E, THE LD. TPO PASSED AN ORDER DATED 28 JANUARY 2016, GIVING E FFECT TO THE DIRECTIONS OF THE LD. DRP, WHEREIN THE ADJUSTMENT WAS R EDUCED TO RS. 394,368,561 (I.E. RS. 313,105,771 UNDER THE NON- IT SEGMENT AND RS. 81,262,790 UNDER THE IT SEGMENT). 221. ALP DETERMINATION FOR PROVISION OF CONTRACT SOFTWAR E DEVELOPMENT SERVICES (CLASS III): THE LD. DRP DIRECTED TO EXCLUDE INFOSYS LTD. AND SANKHYA INFOTECH LTD. AS A COMPARABL E FOR CLASS III SEGMENT. ACCORDINGLY, THE LD. TPO PASSED AN ORDER DATED 28 180 JANUARY 2016, GIVING EFFECT TO THE DIRECTIONS OF DRP, W HEREIN THE ADJUSTMENT WAS REVISED TO RS. 189,797,464, WITH A REVIS ED ARMS LENGTH NCP OF 23.45% AS AGAINST 24.62% DETERMINED BY THE LD. TPO EARLIER. ACCORDINGLY, THE TOTAL ADJUSTMENTS PURSUANT TO LD. DRPS DIRECTIONS ARE TABULATED AS UNDER: PARTICULARS AMOUNTS AS PER TP ORDER (IN RS.) AMOUNTS PURSUANT TO DRP DIRECTIONS (IN RS.) ADJUSTMENTS MADE ON ACCOUNT OF AMP EXPENSES 11,88 4,138,456 394,368,561 ADJUSTMENT ON ACCOUNT OF PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES 216,107,588 189,797,464 TOTAL 12,100,246,044 584,166,025 222. PURSUANT TO THE DIRECTIONS OF LD. DRP, THE AO P ASSED THE FINAL ASSESSMENT ORDER DATED 28 JANUARY 2015. THE AO WHILE INCORPORATING THE TRANSFER PRICING ADJUSTMENTS MADE BY THE TPO, MADE FURTHER ADDITIONS OF: I) RS. 143,127,352 ON ACCOUNT OF DISALLOWANCE IN RESPEC T OF FOREIGN EXCHANGE CONTRACTS CLASSIFIED UNDER FOREX LO SS II) RS. 889,984,961 ON ACCOUNT OF DISALLOWANCE OF DEDUCTI ON CLAIMED UNDER SECTION 40(A)(I) OF THE ACT. 223. THE LD. TPO INITIATED RECTIFICATION PROCEEDIN GS SUO-MOTO VIDE NOTICES DATED 6 APRIL 2016 AND 12 MARCH 2018. I N RESPONSE TO THESE NOTICES, THE APPELLANT FILED SUBMISSIONS CONTESTIN G THE RECTIFICATIONS SO PROPOSED BY THE LD. TPO DATED 28 APRI L 2016, 19 MAY 2016 AND 22 MARCH 2018. A RECTIFICATION ORDER DAT ED 27 181 MARCH 2018 WAS PASSED BY THE LD. TPO IGNORING THE APP ELLANTS CONTENTIONS AND ENHANCED THE TOTAL ADJUSTMENT AMOUNT AS BEL OW: 224. ADJUSTMENTS MADE ON ACCOUNT OF AMP EXPENSES: THE LD. TPO ENHANCED THE AMP ADJUSTMENT FROM RS. 394,368,561 ( I.E. RS. 313,105,771 UNDER THE NON-IT SEGMENT AND RS. 81,262,7 90 UNDER THE IT SEGMENT) TO RS. 1,936,311,967 (I.E. RS. 1,936,3 11,967 UNDER THE NON-IT SEGMENT AND NIL UNDER THE IT SEGMENT) ON A CCOUNT OF: - REVISION IN THE AMP/ GROSS PROFIT (GP) RATIO OF COMP ARABLE COMPANIES TO 13.14% FROM 22.47% [ON ACCOUNT OF REVISI ON IN THE AMP/ GP MARGINS OF TWO COMPARABLES NAMELY DYNALO G (INDIA) LTD. AND WEP PERIPHERALS LTD. FROM (427.78%) AND 21.36% TO 3.65% AND 7.48% RESPECTIVELY.] - REVISION IN THE AMP/ GP RATIO OF SIEL TO 22.82% FROM 27.55%. 225. ALP DETERMINATION FOR PROVISION OF CONTRACT SOFTWA RE DEVELOPMENT SERVICES (CLASS III): THE LD. TPO RE-COMPUTED THE OPERATING MARGIN OF SIEL BY TREATING FOREIGN EXCHANGE GAIN AS OPERATING INCOME INSTEAD OF ADJUSTING THE SAME AGAINST O PERATING EXPENSES. IN THE RE-COMPUTATION OF OPERATING MARGINS O F COMPARABLE COMPANIES, HE FURTHER TREATED FOREIGN EXCH ANGE GAIN AND AMOUNTS WRITTEN BACK AS OPERATING. ACCORDINGLY, THE ADJUSTMENT UNDER THIS SEGMENT WAS ENHANCED FROM RS. 189,797,464 TO RS. 220,348,249. 226. THE AO PASSED AN ORDER DATED 30 MARCH 2018 INCORPORATING THE ABOVE REVISED ADJUSTMENTS MADE BY TH E LD. TPO VIDE HIS RECTIFIED ORDER AND ENHANCED THE ASSESSED IN COME TO RS. 182 500,44,30,490. AGGRIEVED BY THE ORDER PASSED BY THE A O, THE ASSESSEE HAS PREFERRED THE PRESENT APPEAL AND HAS PRA YED FOR ADJUDICATION OF THE FOLLOWING GROUNDS OF APPEAL. GROUNDS IN APPELLANTS APPEAL (ITA NO. /DEL/16) FOR AY 2011-12 227. GROUND NO. 1 TO 12 AND ALL THE GROUNDS IN ITA NO. 2511/DEL/2018 ARISING OUT OF ORDER PASSED U/S 154): THESE GROUNDS PERTAIN TO THE ISSUE OF AMP EXPENDITURE BEING TREATED AS AN INTERNATIONAL TRANSACTION AND ADJUSTMENT BEING MADE O N THE BASIS OF THE BRIGHT LINE TEST. DURING THIS YEAR AS WE LL THE BRIGHT LINE TEST HAS BEEN USED ALBEIT IN A SLIGHTLY DIFFERENT MANNER. INSTEAD OF AMP/SALES RATIO, THE TPO HAS USED AMP/GP RA TIO TO OVERCOME THE HURDLE POSED BY THE HONBLE DELHI HIGH C OURT DECISION OF SONY ERICSSON (SUPRA) WHERE THE BRIGHT L INE TEST HAS BEEN HELD TO BE CONTRARY TO LAW AND IMPERMISSIBLE. IN OUR VIEW THE APPROACH BY THE TPO IN TREATING THE AMP EXPENDITURE AS A SEPARATE INTERNATIONAL TRANSACTION BASED ON A CLAIM THAT EXCESS IVE EXPENDITURE HAS BEEN INCURRED REMAINS THE SAME AS IN PRIOR YEARS. ONLY THE BRIGHT-LINE HAS VARIED FROM AMP/SALES TO AM P/GP. WE HAVE ALREADY DECIDED THIS ISSUE IN ITA NO. 3248/DEL/ 2012 FOR A.Y. 2005-06 BY EXAMINING THE SAME IN DETAIL. THESE GROUND S FOR THIS YEAR ARE ALLOWED AND DISPOSED-OFF ON THE LINES OF OU R FINDINGS AND OBSERVATIONS MADE WHILE DECIDING GROUNDS NO. 3.1 TO 3.6 OF ITA NO. 3248/DEL/2012. ADJUSTMENT ON ACCOUNT OF SOFTWARE DEVELOPMENT GROUND NO. 13 : THE LEARNED TPO/AO/DRP HAVE ERRED IN COMPUTING ADJUSTMENT OF INR 18,97,97,464 TO THE TOT AL INCOME OF THE APPELLANT ON ACCOUNT OF ADJUSTMENT IN ALP OF THE IN TERNATIONAL 183 TRANSACTION PERTAINING TO PROVISION OF SOFTWARE DEV ELOPMENT SERVICES ENTERED INTO BY THE APPELLANT WITH ITS AE GROUND NO. 14: THE LEARNED TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT USING 'EXPORT EARNINGS LESS THAN 75 PERCENT OF OPER ATING REVENUES' AS A COMPARABILITY CRITERION GROUND NO. 15: THE LEARNED TPO/AO/DRP HAVE ERRED, IN LAW AND ON FACTS AND CIRCUMSTANCES OF THE CASE, BY REJE CTING CERTAIN COMPARABLE COMPANIES IDENTIFIED BY THE APPELLANT ON ACCOUNT OF SHOWING DIMINISHING REVENUES TREND GROUND NO. 16: THE LEARNED TPO/AO/DRP HAVE ERRED IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT USING 'RELATED PARTY FILTER LESS THAN 25 PERCENT OF TOTAL COST' AS A COMPARABILITY CRITERION EVEN THOUGH THEY SATISFY TH E SAME ON A CONSOLIDATED BASIS GROUND NO. 17: THE LEARNED TPO/AO/DRP HAVE ERRED, IN REJECTING CERTAIN COMPARABLE COMPANIES IDENTIFIED B Y THE APPELLANT FOR HAVING DIFFERENT ACCOUNTING YEAR (I.E. HAVING A CCOUNTING YEAR OTHER THAN MARCH 31 OR COMPANIES WHOSE FINANCIAL ST ATEMENTS WERE FOR A PERIOD OTHER THAN 12 MONTHS) GROUND NO. 18: THE LEARNED TPO/AO/DRP HAVE ERRED IN SELECTING CERTAIN COMPANIES (WHICH ARE FUNCTIONALLY DISSIMILAR OR WHICH ARE EARNING SUPER NORMAL PROFITS) AS COMPARAB LE TO THE APPELLANT TO BENCHMARK THE SAID TRANSACTION GROUND NO. 19: THE LEARNED TPO/AO/DRP HAVE ERRED IN WRONGLY REJECTING CERTAIN COMPANIES FROM AND ADDING CERTAIN COMPANIES TO THE FINAL SET OF COMPARABLES FOR THE S AID TRANSACTION ON AN ADHOC BASIS (INCLUDING FUNCTIONAL COMPARABILITY) , THEREBY RESORTING TO CHERRY PICKING OF COMPARABLE FOR BENCH MARKING 184 228. AT THE OUTSET, THE LD. COUNSEL SUBMITTED THAT DESP ITE THERE BEING NUMEROUS GROUNDS AGAINST THE ADJUSTMENT MADE IN THE SOFTWARE SEGMENT, THE APPELLANT WAS PRIMARILY AGGRIEVE D BY THE INCLUSION AND EXCLUSION OF CERTAIN COMPARABLES BY THE TPO. HOWEVER, IF ONLY 2 COMPARABLES ARE EXCLUDED NAMELY E-INFOCHIPS LTD AND WIPRO TECHNOLOGIES SERVICES LTD AND 2 COMPARA BLES ARE INCLUDED NAMELY, R SYSTEMS INTERNATIONAL LTD AND CALI BER POINT BUSINESS SOLUTIONS LIMITED, THEN THE ASSESSEES INTERNA TIONAL TRANSACTION WOULD BE AT ARMS LENGTH AND THE REST OF THE G ROUNDS WILL BE RENDERED ACADEMIC. ACCORDINGLY, WE PROCEED TO EXAMINE THE VALIDITY OF THESE FOUR COMPARABLES. 229. THE LD. COUNSEL MADE HIS SUBMISSIONS WITH R ESPECT TO THE FOLLOWING COMPARABLE COMPANIES: E-INFOCHIPS LIMITED (E-INFOCHIPS) (A) THE LD. COUNSEL CONTENDED THAT E-INFOCHIPS SHOULD BE EXCLUDED BECAUSE THE COMPANY FAILS TPOS FILTER OF SO FTWARE SERVICE INCOME TO TOTAL INCOME FILTER OF AT LEAST 75% S INCE THE REVENUES FROM SOFTWARE DEVELOPMENT SERVICE ACCOUNTS FOR 73.38% AS EVIDENT FROM THE BELOW TABLE: PARTICULARS AMOUNTS (IN INR) REFERENCE INCOME FROM SOFTWARE DEVELOPMENT (A) 192,109,661 PAGE NO. 64 OF ANNUAL REPORT FOR AY 2011-12 (FY 2010-11) INCOME FROM OPERATIONS (B) 260,384,251 PAGE NO. 33 OF ANNUAL REPORT FOR AY 2011-12 (FY 2010-11) REVENUE FROM COMPARABLE 73% 185 SEGMENT (A/B) (B) THE LD. COUNSEL FURTHER SUBMITTED THAT THE COMPANY FAILS TPOS FILTER OF EXPORT INCOME TO TOTAL INCOME FILTER OF A T LEAST 75% - REVENUES FROM EXPORT OF SOFTWARE DEVELOPMENT SE RVICE ACCOUNTS FOR 62.77% AS IS EVIDENT FROM THE TABLE BELOW: PARTICULARS AMOUNTS (IN INR) REFERENCE INCOME FROM EXPORT OF SOFTWARE SERVICES (A) 163,443,751 PAGE NO. 68 OF ANNUAL REPORT FOR AY 2011-12 INCOME FROM OPERATIONS (B) 260,384,251 PAGE NO. 33 OF ANNUAL REPORT FOR AY 2011-12 REVENUE FROM COMPARABLE SEGMENT (A/B) 62.77% (C) THE LD. COUNSEL ARGUED THAT E-INFOCHIPS INCURRED SIGN IFICANT R & D EXPENSES OF 4.15% OF THE TOTAL COST DURING THE Y EAR WHEREAS THE APPELLANT HAS NOT INCURRED ANY AMOUNT TOWAR DS R&D IN THIS SEGMENT. HE FURTHER CONTENDED THAT THE COMPANY IS FUNCTIONALLY DISSIMILAR TO THE APPELLANT ON ACCOUNT OF UNDERTAKING DIVERSIFIED BUSINESS OPERATIONS SINCE IT HAS DERIVED INCOME FROM HARDWARE AND SUCH INCOME ACCOUNTS FOR 15% OF THE TOTAL REVENUE. IT IS EVIDENT FROM THE TABLE BELOW: PARTICULARS AMOUNTS (IN INR) REFERENCE INCOME FROM COMPUTER HARDWARE(A) 39,248,562 PAGE NO. 62 OF ANNUAL REPORT FOR AY 2011-12 INCOME FROM OPERATIONS (B) 260,384,251 PAGE NO. 33 OF ANNUAL REPORT FOR AY 2011-12 REVENUE FROM 15% 186 COMPARABLE SEGMENT (A/B) (D) HE FURTHER POINTED OUT THAT THE COMPANY HAS REPORTED ONLY ONE SEGMENT DESPITE UNDERTAKING DIVERSIFIED OPERATIONS. HE PLACED RELIANCE ON VARIOUS JUDGMENTS WHEREIN IT HAS B EEN HELD THAT E-INFOCHIPS OUGHT TO BE EXCLUDED AS IT IS INVOLVED IN PRODUCTS AND NO SEGMENTAL DATA IS AVAILABLE. THE LIST O F DECISIONS ARE AS BELOW: I) SAXO INDIA (P.) LTD. V. ACIT, CIRCLE 22(2), ALSO UPHELD BY HONBLE DELHI HIGH COURT IN PR. CIT V. SAXO INDIA (P .) LTD. (ITA NO. 682/2016); II) INTOTO SOFTWARE INDIA PVT. LTD. (ITA NO. 1196/HYD/2010); III) CONEXANT SYSTEMS INDIA PVT. LTD. (ITA NO. 1429/HYD/2010 AND 1978/HYD/2011); IV) VIRTUSA I NDIA PRIVATE LIMITED (ITA NO. 1962/HYD/2011; V) EMC SOFTW ARE AND SERVICES (INDIA) PRIVATE LIMITED (IT(TP)A NO. 273/BANG/2016); VI)PHILIPS INDIA LTD (ITA NO.863 & 539/KOL/2016) WHEREIN IT WAS HELD THAT THE COMPANY IS NOT FUNCTIONALLY COMPARABLE AS IT IS ENGAGED IN DIVERSI FIED BUSINESS (SOFTWARE DEVELOPMENT, HARDWARE MAINTENANCE, IT CONSULTANCY), DOES NOT HAVE SEGMENTAL INFORMATION (TO CARVE OUT ITS ITES), WAS INVOLVED IN R&D, AND HAD AN EXCEPTI ONAL YEAR (GREW AT RATE 5 TIMES MORE THAN INDUSTRY AVERAGE). 230. LD. CIT (DR) SUBMITTED THAT E-INFOCHIPS WAS INC LUDED BY THE LD. TPO FOR THE REASON THAT IT IS ENGAGED IN SOFTWA RE DEVELOPMENT. THE LD. TPO WAS OF THE VIEW THAT REVENUE FROM IT CONSULTANCY AND SOFTWARE DEVELOPMENT TAKEN TOGETHER SATIS FY THE SERVICE INCOME FILTER. THE LD. CIT (DR) VEHEMENTLY D EFENDED THE 187 ORDER OF LD. TPO/DRP AND CONTENDED THAT E-INFOCHIPS WA S RIGHTLY INCLUDED FOR THE REASONS MENTIONED IN THEIR ORDERS. 231. WE HAVE HEARD BOTH THE SIDES AND PERUSED THE MA TERIAL ON RECORD. WE FIND THAT THIS COMPANY (E-INFOCHIPS) FAILS THE FILTERS APPLIED BY THE TPO HIMSELF. THE TPO HAS ELIMINATED CO MPANIES FROM HIS LIST OF COMPARABLES WHOSE SERVICE INCOME CO NSTITUTES LESS THAN 75% OF ITS TOTAL REVENUES. SIMILARLY, THE EXPORT FI LTER OF 75% IS ALSO NOT MET. THE DETAILS EXTRACTED FROM THE ANNUAL REPO RT HAVE BEEN EXAMINED BY US AND WE AGREE THAT THESE FILTERS A RE NOT MET. WE ALSO NOTE THAT THIS COMPANY DERIVES A MATERIAL PART O F ITS REVENUES FROM COMPUTER HARDWARE WHICH IS COMMINGLED WITH THE REVENUES FROM SOFTWARE AND THE ANNUAL REPORT DOES NOT PROVIDE BIFURCATION OF PROFITABILITY BETWEEN HARDWARE AND SOF TWARE DEVELOPMENT. IN SUCH A SITUATION THIS COMPANY IS NOT SUITABLE TO BE TAKEN UP FOR A TNMM COMPARISON. 232. WE ALSO DRAW STRENGTH FROM VARIOUS DECISIONS OF THE TRIBUNAL IN THIS RESPECT WHERE THIS COMPARABLE WAS HE LD TO BE INCOMPARABLE TO A SOFTWARE SERVICE COMPANY FOR THE R EASONS DISCUSSED ABOVE. THESE ASPECTS HAVE BEEN DISCUSSED I N DETAIL IN THE DECISION OF A COORDINATE BENCH OF THIS TRIBUNAL IN SAXO INDIA PVT. LTD. (SUPRA) AND INTOTO INDIA PVT. LTD. (SUPRA). I N VIEW OF THE ABOVE FACTUAL ASPECTS AND THE NUMEROUS DECISIONS OF THI S TRIBUNAL, WE HOLD THAT E-INFOCHIPS IS NOT A SUITABLE CO MPARABLE AND IS DIRECTED TO BE EXCLUDED FROM THE LIST OF COMPAR ABLES. WIPRO TECHNOLOGIES LIMITED (WIPRO TECHNOLOGY) 233. THE LD. COUNSEL POINTED OUT THAT, AS PER THE A NNUAL REPORT (PAGE NO. 38) OF WIPRO TECHNOLOGY FOR AY 2011 -12, WIPRO TECHNOLOGY IS ENGAGED IN PROVIDING IT SOFTWARE SOLU TIONS / 188 MAINTENANCE AND TECHNOLOGY INFRASTRUCTURE SUPPORT SERVI CES TO CITI GROUP ENTITIES GLOBALLY. HE CONTENDED THAT WIPRO TECHNOL OGY IS FUNCTIONALLY DISSIMILAR ON ACCOUNT OF UNDERTAKING DI VERSIFIED BUSINESS OPERATIONS COMPRISING SOFTWARE RELATED SUPP ORT SERVICES, PRIMARILY INFORMATION TECHNOLOGY SOFTWARE SOLUTIONS / MAINTENANCE AND TECHNOLOGY INFRASTRUCTURE SUPPORT SERVICES UNLIKE T HE APPELLANT WHO IS ENGAGED IN SOFTWARE DEVELOPMENT SUPP ORT SERVICES ONLY. RELIANCE WAS PLACED BY THE LD. COUNSE L ON THE FOLLOWING JUDGMENTS THAT HOLD THAT IN ABSENCE OF SEGME NTAL DETAILS, A COMPANY CANNOT BE TAKEN INTO ACCOUNT FOR COMPARABILI TY ANALYSIS: LG SOFT INDIA (P.) LTD. VS. DCIT (2014) 48 TAXMANN.COM 237 (BANGALORE-TRIB.) M/S BRITISH MARINE PLC-INDIA BRANCH VS. DCIT(IT)- 1(3)(2) (ITA NO.1908/MUM/2016) THE LD. COUNSEL FURTHER CONTENDED THAT WIPRO HAS SIGNIF ICANT RELATED PARTY TRANSACTIONS. AS PER THE ANNUAL REPORT OF THE WIPRO TECHNOLOGIES LTD. OF FY 2009-10, WIPRO LIMITED, THE HO LDING COMPANY OF THE WIPRO TECHNOLOGIES LTD., HAS ACQUIRED ALL THE INTEREST HELD BY CITIGROUP INC. IN CITI TECHNOLOGY SERV ICES LIMITED (SUBSEQUENTLY RENAMED AS WIPRO TECHNOLOGY SERVICES L IMITED) WITH EFFECT FROM 21 JANUARY 2009. ON THE SAME DATE, W IPRO LIMITED ENTERED A MASTER SERVICE AGREEMENT WITH CITIGROU P INC., ERSTWHILE HOLDING COMPANY OF WIPRO TECHNOLOGY FOR P ROVIDING TECHNOLOGY INFRASTRUCTURE SERVICES AND APPLICATION D EVELOPMENT AND MAINTENANCE SERVICES FOR A PERIOD OF SIX YEARS. THEREFORE, ALL THE TRANSACTIONS BETWEEN WIPRO TECHNOLOGIES LTD AND CIT IGROUP INC. WOULD QUALIFY AS AN INTERNATIONAL TRANSACTION WIT HIN THE 189 MEANING OF SECTION 92B(2) OF THE ACT. THE LD. COUNSEL PLACED RELIANCE ON SAXO INDIA PVT. LTD. (ITA NO. 6148/DEL/20 15) WHICH HAS FURTHER BEEN UPHELD BY THE HONBLE JURISDICTIONA L HIGH COURT VIDE ORDER DATED 28.09.2016 IN ITA NO. 682/2016 (PR .CIT, DELHI-8 V. SAXO INDIA PVT. LTD.): IN THIS CASE, THE RELEVANT PAR A IS REPRODUCED BELOW FOR READY REFERENCE: 16.5. ADVERTING TO THE FACTS OF THE INSTANT CASE, WE FIND THAT WIPRO TECHNOLOGY SERVICES LTD. EARNED A REVENUE FRO M MASTER SERVICES AGREEMENT WITH CITIGROUP INC. FOR THE DELI VERY OF TECHNOLOGY INFRASTRUCTURE SERVICES. THIS AGREEMENT WAS, IN FACT, EXECUTED BETWEEN THE ASSESSEES AE, WIPRO LTD., AND CITIGROUP INC., A THIRD PERSON. THIS UNFOLDS THAT THE TRANSAC TION OF EARNING REVENUE FROM SOFTWARE DEVELOPMENT SUPPORT AND MAINT ENANCE SERVICES BY WIPRO TECHNOLOGY SERVICES LTD., IS AN I NTERNATIONAL TRANSACTION BECAUSE OF THE APPLICATION OF SECTION 9 2B(2) I.E., THERE EXISTS A PRIOR AGREEMENT IN RELATION TO SUCH TRANSA CTION BETWEEN CITIGROUP INC. (THIRD PERSON) AND WIPRO LTD. (ASSOC IATED ENTERPRISE). IN THE LIGHT OF THIS STRUCTURE OF TRAN SACTION, IT CEASES TO BE UNCONTROLLED TRANSACTION AND, HENCE, WIPRO TE CHNOLOGY SERVICES LTD., DISQUALIFIES TO BECOME A COMPARABLE UNCONTROLLED TRANSACTION FOR THE PURPOSES OF INCLUSION IN THE FI NAL LIST OF COMPARABLES UNDER RULE 10B(1)(E)(II). WE, THEREFORE , DIRECT REMOVAL OF THIS COMPANY FROM THE LIST OF COMPARABLE S. THE LD. COUNSEL ALSO RELIED ON THE FOLLOWING DECISIO NS OF THE COORDINATE BENCH OF THIS TRIBUNAL WHEREIN EXCLUSION O F THIS COMPARABLE HAS BEEN UPHELD IN THE CASE OF A SOFTWARE DEVELOPMENT COMPANY: 190 INTOTO SOFTWARE INDIA PRIVATE LTD. [2013] 35 TAXMANN.COM 421 (HYDERABAD - TRIB.) M/S. FCG SOFTWARE SERVICES (INDIA) PVT. LTD. VS. ITO, I.T(T.P) A.NO. L242/BANG/2012 VODAFONE INDIA SERVICES VS. DCIT, ITA NO.7140 /MUM/2012 XANDER ADVISORS INDIA PVT. LTD., VS. ACIT, ITA NO.5840/DEL/2012 NEC TECHNOLOGIES INDIA P LTD. (ITA NO. 6283/DEL/2015) 234. LD. CIT (DR) HAS CONTENDED THAT THE TPO INCLUD ED WIPRO TECHNOLOGY AS A COMPARABLE FOR THE REASON THAT IT IS PR OVIDING SPECIALIZED SERVICES WITHIN SOFTWARE DEVELOPMENT AND IS NOT SELLING PRODUCTS AND THUS, IT IS COMPARABLE TO THE APPELLANT. TH E LD. CIT (DR) CONTENDED THAT THE ORDER OF LD. TPO WAS CORRECT, AN D WIPRO TECHNOLOGY WAS RIGHTLY INCLUDED FOR THE REASONS MENTI ONED IN HIS ORDER. 235. WE HAVE EXAMINED THE FACTS RELATING TO WIPRO T ECHNOLOGY SERVICES AND THE CONTENTION RAISED BY THE TWO SIDES. WE FIND THAT THIS COMPANY HAS BEEN CONSISTENTLY HELD TO BE INCOMPARA BLE ON ACCOUNT OF THE PECULIAR FACTS SURROUNDING ITS HISTORY. THIS COMPANY WAS EARLIER A SUBSIDIARY OF WIPRO LTD. AND H AD A LONG TERM SERVICE CONTRACT WITH CITI GROUP. SUBSEQUENTLY, I T WAS ACQUIRED BY CITI GROUP AND THE LONG TERM SERVICE CONTRA CT CONTINUED POST ACQUISITION. ON THESE FACTS, THE REVENUE S EARNED BY WIPRO TECHNOLOGY SERVICES FROM CITIGROUP ACQUIRE THE DIMENSION OF CONTROLLED TRANSACTIONS BETWEEN RELATED PARTIES W ITHIN THE 191 MEANING OF SECTION 92B(2) OF THE ACT. THIS ISSUE WAS F IRST EXAMINED AND ADJUDICATED BY A COORDINATE BENCH OF THIS TRIBUNAL IN SAXO INDIA PVT. LTD. WHEREIN THE TRIBUNAL OBSERVED AS BELOW: 16.5. ADVERTING TO THE FACTS OF THE INSTANT CASE, WE FIND THAT WIPRO TECHNOLOGY SERVICES LTD. EARNED A REVENUE FRO M MASTER SERVICES AGREEMENT WITH CITIGROUP INC. FOR THE DELI VERY OF TECHNOLOGY INFRASTRUCTURE SERVICES. THIS AGREEMENT WAS, IN FACT, EXECUTED BETWEEN THE ASSESSEES AE, WIPRO LTD ., AND CITIGROUP INC., A THIRD PERSON. THIS UNFOLDS THAT T HE TRANSACTION OF EARNING REVENUE FROM SOFTWARE DEVELOPMENT SUPPOR T AND MAINTENANCE SERVICES BY WIPRO TECHNOLOGY SERVICES L TD., IS AN INTERNATIONAL TRANSACTION BECAUSE OF THE APPLICATIO N OF SECTION 92B(2) I.E., THERE EXISTS A PRIOR AGREEMENT IN RELA TION TO SUCH TRANSACTION BETWEEN CITIGROUP INC. (THIRD PERSON) A ND WIPRO LTD. (ASSOCIATED ENTERPRISE). IN THE LIGHT OF THIS STRUCTURE OF TRANSACTION, IT CEASES TO BE UNCONTROLLED TRANSACTI ON AND, HENCE, WIPRO TECHNOLOGY SERVICES LTD., DISQUALIFIES TO BECOME A COMPARABLE UNCONTROLLED TRANSACTION FOR THE PURPO SES OF INCLUSION IN THE FINAL LIST OF COMPARABLES UNDER RU LE 10B(1)(E)(II). WE, THEREFORE, DIRECT REMOVAL OF THI S COMPANY FROM THE LIST OF COMPARABLES. THE VIEW TAKEN BY THE COORDINATE BENCH IN SAXO INDIA ( SUPRA) WAS SUBSEQUENTLY APPROVED BY THE HONBLE HIGH COURT AND FO LLOWED IN NUMEROUS OTHER CASES (LISTED ABOVE). IN LIGHT OF THE P ECULIAR FACTS WHICH PERMEATE DURING THE YEAR UNDER CONSIDERATION AN D RESPECTFULLY FOLLOWING THESE PRECEDENTS WE HOLD THAT WIP RO TECHNOLOGY SERVICES LTD. CANNOT BE TAKEN AS A COMPARAB LE AS IT IS NOT AN UNCONTROLLED ENTITY AND ACCORDINGLY FAILS THE ES SENTIAL REQUIREMENT OF TRANSFER PRICING ANALYSIS. 236. CALIBER POINT BUSINESS SOLUTIONS LIMITED (CALIB ER) AND R SYSTEM INTERNATIONAL LTD. (R SYSTEM): THE LD. TPO EXCLUDED CALIBER AND R SYSTEM AS COMPARABLES FOR THE REASON TH AT THESE TWO COMPANIES ADOPT FINANCIAL YEAR ENDING IN DECEMBE R AND NOT IN MARCH. THE LD. DRP UPHELD ORDER OF THE LD. TPO. 192 237. THE LD. COUNSEL SUBMITS THAT DIFFERENT FINANCIA L YEAR ENDING IS NOT A CRITERION TO REJECT A COMPARABLE COMPANY. HE POINTED OUT THAT NO ADVERSE INFERENCE WAS MADE BY THE TPO IN AY 20 12-13 WHEREIN CALIBER WAS ACCEPTED AS A COMPARABLE BY THE APPELLANT IN ITS TP STUDY EVEN THOUGH IN THAT YEAR TOO, THE FINANCIA L YEAR OF THE COMPANY WAS DECEMBER AS IN THIS YEAR. THE LD. COUNSE L ARGUED THAT A FUNCTIONALLY COMPARABLE COMPANY CANNOT BE REJECT ED MERELY ON THE GROUNDS OF HAVING DIFFERENT FINANCIAL YEAR IF THE DATA CAN BE REASONABLY EXTRAPOLATED. RELIANCE WAS PLACED BY HIM O N: DCIT VS. MCKINSEY KNOWLEDGE CENTRE INDIA PRIVATE LIMITED (ITA NO. 195/DEL/2011), AFFIRMED BY THE HONBLE HIGH COURT OF DELHI [TS-672-HC-2015(DEL)-TP ] MERCER CONSULTING (INDIA) PVT LTD [TS-664-HC-2016(P & H) EXEVO INDIA PVT. LTD. VS. ITO (I.T.A. NO.907/DEL/2016 ) SSL TTK (TS-887-ITAT-2016) AEGIS LIMITED (ITA NO. 7694/MUM/2014) 238. THE LD. COUNSEL SUBMITTED THAT EXTRAPOLATED ANNUAL PROFITABILITY OF THE COMPARABLE SEGMENT DEPICTING MARC H ENDING RESULTS FOR AY 2011-12 HAVE BEEN COMPUTED AT 4.25% FRO M ANNUAL REPORTS FOR PERIOD DECEMBER 2010 AND DECEMBER 2011. HE PLACED RELIANCE ON THE JUDGMENT DELIVERED IN THE CASE OF MAERSK GLOBAL SERVICES CENTRE (I) PVT LTD (I.T.A. NO.944/MUM/2016 ) PERTAINING TO INCLUSION OF CALIBER POINT SOLUTIONS LTD. AS A COMPARABLE FOR AY 2011-12. AS REGARDS R SYSTEMS, THE LD. COUNSEL SUBMITTED THAT THE EXTRAPOLATED ANNUAL PROFIT MARG IN FOR THE PERIOD ENDING MARCH 2011 HAS BEEN COMPUTED AT 6.55 % FOR THE SOFTWARE DEVELOPMENT AND CUSTOMIZATION SERVICE SEGM ENT FROM 193 THE QUARTERLY STATEMENTS FILED BY THIS COMPANY WITH THE S TOCK EXCHANGES. 239. THE LD. CIT (DR) VEHEMENTLY DEFENDED THE ORDE R OF LD. TPO AND CONTENDED THAT CALIBER AND R SYSTEM WERE RIGHTLY REJ ECTED FOR THE REASONS MENTIONED IN HIS ORDER. HE FURTHER SUBMITTE D THAT THE EXTRAPOLATED ANNUAL FIGURES ARE NOT RELIABLE BECAUSE THESE HAVE BEEN COMPUTED BASED ON WEIGHTED AVERAGE BASIS AND NOT ON ACTUAL QUARTERLY RESULTS WHICH ARE NOT AVAILABLE IN THE PUBLIC DOMAIN. 240. THE ISSUE OF DIFFERENT FINANCIAL YEAR ENDING IN THE CONTEXT OF REJECTION OF COMPARABLES HAS BEEN EXAMINED BY US IN ITA NO. 5315/DEL/2011 (APPEAL FOR A.YR 2007-08) WHILE DETER MINING THE SUITABILITY OF PCS TECHNOLOGY LTD. AS A COMPARABLE UN DER GROUND NO.4. WE HAVE ALREADY HELD THAT IT IS MANDATORY UNDE R RULE 10B (4) TO USE CURRENT YEAR DATA FOR PURPOSE OF COMPARIS ON UNDER TNMM. USE OF DATA FROM DIFFERENT FINANCIAL YEARS WOU LD RESULT IN AN INACCURATE COMPARISON AND MAY ERODE THE CREDIBILIT Y OF THE BENCHMARKING EXERCISE. WE HAD ALSO TAKEN NOTE OF THE T RIBUNAL DECISION IN THE CASE OF MCKINSEY KNOWLEDGE CENTRE (SU PRA) WHICH WAS AFFIRMED BY THE HIGH COURT WHEREIN EXTRAPOLATION OF FIGURES FROM QUARTERLY STATEMENTS WAS PERMITTED. IN THE PRESENT SITUATION, IT HAS BEEN SUBMITTED THAT THE QUARTERLY RESULTS OF R SYSTE M IS AVAILABLE IN PUBLIC DOMAIN AS IT IS A LISTED COMPANY AND IS REQUIRED TO FILE QUARTERLY STATEMENTS WITH THE STOCK EXCHANGES AND REGULATORS. HOWEVER, THE SAME HAS NOT BEEN VERIFIED BY THE TPO. AS REGARDS CALIBER IT IS NOT CLEAR WHETHER THE QUARTERL Y STATEMENT OF THIS COMPANY IS AVAILABLE IN THE PUBLIC DOMAIN. TH E EXTRAPOLATED FIGURES GIVEN BY THE APPELLANT APPEAR TO B E A WEIGHTED AVERAGE MEAN. IN OUR VIEW THIS IS NOT PERMISSIBLE. WE ACCORDINGLY 194 REMAND THE DETERMINATION OF THESE FACTS TO THE FILE OF THE TPO WHO IS DIRECTED TO EXAMINE WHETHER QUARTERLY RESULTS OF R SYSTEM AND CALIBER IS AVAILABLE IN PUBLIC DOMAIN SO THAT THEIR A NNUAL PROFIT MARGIN CAN BE DETERMINED IN AN ACCURATE WAY. IF SUCH INFORMATION IS AVAILABLE, THE COMPARABLE CAN BE INCLUDED. IF SUC H INFORMATION IS NOT AVAILABLE, THE COMPARABLE CANNOT BE INCLUDED ME RELY ON THE BASIS OF EXTRAPOLATED FIGURES DERIVED FROM WEIGHTED AV ERAGE BASIS. THIS GROUND IS DISPOSED OFF IN TERMS OF OUR ABOVE D IRECTIONS. GROUND NO. 23: THE LD. AO/DRP HAS ERRED IN LAW AND IN FACT, IN HOLDING THAT LOSS ON EXCHANGE FLUCTUATION AMOUNTING TO RS. 143,127,352 DEBITED TO P&L ACCOUNT IS A NOTIONAL LO SS AND IS NOT ALLOWABLE AS A DEDUCTION UNDER THE PROVISIONS OF TH E ACT GROUND NO. 24: WITHOUT PREJUDICE TO THE ABOVE GROUND, THE LD. AO/DRP ERRED IN NOT EXCLUDING RS. 48,659,085 FROM T HE TAXABLE INCOME ON THE CURRENT YEAR BEING MARKED TO MARKET L OSSES INCURRED IN RESPECT OF FOREIGN EXCHANGE CONTRACTS WHICH WERE OUTSTANDING AS ON 31ST MARCH 2010 AND WRITTEN BACK DURING THE YEAR AS SAME WAS ALSO NOT ALLOWED AS DEDUCTION IN THE ASSESSMENT PRO CEEDINGS FOR AY 2010-11 241. THIS GROUND PERTAINS TO ALLOWABILITY OF LOSS R ECOGNIZED UNDER ACCOUNTING STANDARDS UNDER MARKED TO MARKET (MTM) GUIDE LINES IN RESPECT OF FORWARD FOREX CONTRACT WHICH ARE OPEN A ND UNEXPIRED ON THE LAST DATE OF THE BALANCE SHEET ON ACCOUNT OF RES TATEMENT OF AMOUNTS PAYABLE AND RECEIVABLE IN FOREIGN EXCHANGE. THIS ISSUE HAS ALREADY BEEN DECIDED BY US IN ITA NO. 5315/DEL/ 2011 FOR A.Y. 2007-08 UNDER GROUND NO. 10, ITA NO. 52/DEL/2013 FO R A. YR. 2008-09 UNDER GROUND NO. 11 AND 11.1, ITA NO. 1567/ DEL/14 FOR 195 A.Y. 2009-10 UNDER GROUND NO. 29-31 AND ITA NO. 6741/DEL/2014 FOR A.Y. 2010-11 UNDER GROUND NO. 27 & 28 WHEREIN WE HAVE ALLOWED THE GROUND IN VIEW OF THE LAW BEING SETTLED BY THE HONBLE SUPREME COURT IN CIT V. WOODWARD GOVERNOR INDIA PVT. LTD. 312 ITR 254 (SC) IN THIS RE GARD. FOLLOWING THE SAME, THIS GROUND IS ALLOWED. GROUND NO. 25: IN THE FACTS AND CIRCUMSTANCES OF THE CASE AND IN LAW, THE LD. AO/DRP HAS ERRED IN MAKING A DISALLOWA NCE/ADDITION OF RS. 88,99,84,961 IN TERMS OF SECTION 40(A)(I)/(I A) OF THE ACT GROUND NO. 26: THE LD. AO/DRP ERRED IN DISALLOWING RS. 88,99,84,961 BEING THE REVERSAL OF EXCESS PROVISION WHICH WAS ALREADY DISALLOWED IN AY 2010-11 GROUND NO. 27: THE LD. DRP FAILED TO ACKNOWLEDGE THE FACTS THAT APPELLANT HAD CLEARLY SUBMITTED THAT REVERSAL WAS O F EXCESS PROVISION AND ACCORDINGLY, IT ERRED IN OBSERVING TH AT THE PROVISIONS HAVE BEEN REVERSED WITHOUT CLARIFYING WHETHER PAYME NTS WERE MADE OR NOT AND IF MADE, THE STATUS OF TDS ON SUCH PAYMENTS GROUND NO. 28: THE LD. AO/DRP HAS FACTUALLY ERRED IN STATING THAT THE APPELLANT HAS NOT CREDITED THE PROFIT AND LOSS ACCOUNT IN THE CURRENT YEAR WITH THE AMOUNT OF EXPENSES OF THE PRE VIOUS YEARS WHICH HAVE BEEN SO REVERSED, WITHOUT APPRECIATING T HAT THE REVERSAL OF PROVISIONS WAS MADE IN THE PROFIT AND LOSS ACCOU NT, BY CREDITING THE AMOUNT IN RESPECTIVE HEADS OF EXPENSES AND THER EBY INCREASING THE INCOME GROUND NO. 29: THE LD. AO/DRP HAS ERRED IN NOT APPRECIATING THAT THE SAID AMOUNT OF RS. 889,984,961 HAS ALREADY BEEN DISALLOWED IN THE PRECEDING YEAR, I.E., AY 2010-11 WHEN IT WAS 196 DEBITED TO THE P&L ACCOUNT, ACCORDINGLY, THE SAME H AS TO BE REDUCED IN COMPUTING THE TOTAL INCOME WHEN IT IS CREDITED T O THE P&L ACCOUNT AT THE TIME OF REVERSAL IN THE CURRENT YEAR, OTHERW ISE IT WOULD LEAD TO DOUBLE DISALLOWANCE/TAXATION OF THE SAME AMOUNT GROUND NO. 30: THE LD. AO HAS ERRED ON FACTS IN OBSERVING THAT THE REVERSAL OF EXPENSES OF RS. 889,984,961 ESTABLI SHES THE SAID EXPENSES AS PRIOR PERIOD EXPENSES WHICH CANNOT BE C LAIMED IN THE CURRENT YEAR, AS HE FAILED TO UNDERSTAND THAT DURIN G THE YEAR UNDER CONSIDERATION THE APPELLANT HAD ONLY REVERSED THE S AID AMOUNT OF RS. 80,99,04,961 BY CREDITING THE P&L ACCOUNT 242. GROUND NOS. 25 TO 30 PERTAIN TO THE ISSUE OF DISALLOWANCE MADE BY THE AO U/S 40(A)(I)/(IA). THE RELEVANT FACTS I N THIS RESPECT ARE THAT, THE ASSESSEE HAD CREATED A YEAR END PROVISIO N OF INR 3,396,650,580 FOR THE YEAR ENDING 31 MARCH 2010. OUT OF THIS PROVISION, INR 889,984,971 WAS IN RESPECT OF VENDORS WHO COULD NOT BE IDENTIFIED, AND NO TDS COULD BE MADE. ACCORDIN GLY, THE ASSESSEE IN ITS COMPUTATION OF INCOME AND IN INCOME TAX RETURN FOR A.Y. 2010-11 DISALLOWED THIS AMOUNT OF INR 889,98 4,971. DURING THIS YEAR I.E. FY 2010-11 (AY 2011-12), THE A SSESSEE REVERSED SUCH PROVISION IN THE BOOKS OF ACCOUNTS AND CREDITED THE SAME IN RESPECT HEADS OF EXPENSES THEREBY REDUCING THE EXPENSES. THIS LED TO AN INCREASE OF THE TOTAL INCOME TO THE EXTENT OF INR 889,984,971.THE LD. AO HELD THAT THE ASSESSEE COMPANY HAS NOT DEDUCTED AND DEPOSITED THE TAX DEDUCTION AT SOURCE (TDS) AND ON A FAILURE TO DEPOSIT WITHHOLDING TAXES ON THIS AMOUNT D ISALLOWED THE SAME UNDER SECTION 40(A)(I)/(IA) OF THE ACT. HE FUR THER HELD THAT CREATION OF PROVISION IS NOTHING BUT A STRATEGY / TOOL FO R DECREASING THE INCOME AND TAXES. THE AO WAS OF THE VIEW THAT THE SUBMISSION OF THE ASSESSEE THAT THE EXPENSE WAS REVERSE D IN THE 197 CURRENT YEAR ESTABLISHES THAT THE PRIOR PERIOD EXPENSE C ANNOT BE CLAIMED IN THE CURRENT YEAR ESPECIALLY WHEN THE ASSESS EE IS FOLLOWING MERCANTILE SYSTEM OF ACCOUNTING. THE AO OBSE RVED THAT THE LEGAL FICTION OF SECTION 40(A)(I)/(IA) IS NOT AVAIL ABLE AS THE ASSESSEE HAS MERELY REVERSED THE ENTRIES OF EXPENSES AND HAS NOT ACTUALLY DEDUCTED THE TAX AND DEPOSITED THE SAME. THE L D. DRP UPHELD THE REASONING AND ACTION OF THE LD. AO. 243. THE LD. COUNSEL FOR THE APPELLANT SUBMITTED THA T THE REVERSAL OF THE PROVISION IN THE BOOKS OF ACCOUNTS OF RS. 889,984,971 WAS CLAIMED AS A DEDUCTION IN COMPUTING TH E TOTAL INCOME OF AY 2011-12 BECAUSE THE SAME HAD ALREADY BE EN TAXED IN THE PRIOR AY 2010-11. HE FURTHER SUBMITTED THAT THE ACTI ON OF THE AO AMOUNTS OF DOUBLE TAXATION OF THE SAME AMOUNT. THE LD. COUNSEL POINTED OUT THAT THE DEDUCTION ON ACCOUNT OF REVE RSAL OF THE PROVISION WAS MISTAKENLY DESCRIBED AS A DEDUCTION UNDER SECTION 40(A)(I) OF THE ACT IN THE COMPUTATION OF INCOME . THIS DEDUCTION WAS MERELY ON THE ACCOUNT OF A REVERSAL OF A PROVISION WHICH HAD ALREADY BEEN SUBJECT TO TAX IN THE PRIOR YEAR . THE RELEVANT DETAILS OF REVERSAL HAD BEEN PLACED BEFORE TH E LD. AO AND HAVE ALSO BEEN PLACED BEFORE US. THE LD. COUNSEL PL ACED RELIANCE ON JOHNSON MATTHEY INDIA PVT. LTD. [I.T.A. NO. 4397/DEL/2011] WHERE IN SIMILAR CIRCUMSTANCES THE TRIBUNAL HAD DELETED THE DISALLOWANCE MADE BY THE AO. IT HAS BE EN SUBMITTED BY THE LD. COUNSEL OF THE APPELLANT THAT AS THE S AID AMOUNT HAS ALREADY BEEN DISALLOWED IN THE PRECEDING YEAR I.E. AY 2010-11 WHEN IT WAS DEBITED IN THE P&L ACCOUNT, THE SA ME IS TO BE REDUCED IN THE COMPUTING THE TOTAL INCOME WHEN IT IS CREDITED TO THE P&L ACCOUNT AT THE TIME REVERSAL IN THE CURRENT YEAR I.E. AY 2011-12. 198 244. LD. CIT(DR) RELIED ON THE ORDERS OF THE AO A ND THE DRP AND CONTENDED THAT SINCE NO TDS HAD BEEN DEDUCTED AND DEPO SITED IN THIS YEAR, THE DISALLOWANCE MADE BY THE AO WAS JUSTIFI ED BECAUSE THE SAME IS MANDATED BY SECTION 40(A)(I)/(IA).IT HAS AL SO BEEN SUBMITTED THAT THE REVERSAL OF PROVISION MADE BY THE ASSE SSEE IN ITS BOOKS IS IN CONFORMITY WITH THE GENERALLY ACCEPTE D ACCOUNTING PRINCIPLES CONSISTENTLY FOLLOWED BY THE ASSESSEE TO RE PRESENT A TRUE AND FAIR VIEW OF THE STATE OF AFFAIRS OF THE FINAN CIAL STATEMENTS AND THE SAME HAS BEEN CERTIFIED BY THE STATUTORY AUDITORS OF THE COMPANY AS WELL. 245. WE HAVE HEARD BOTH SIDES AND EXAMINED THE MAT ERIAL ON RECORD. THE COMPUTATION OF INCOME FOR THE PRIOR YEAR S HOWS THAT THE APPELLANT ON ITS OWN VOLITION HAD ADDED BACK AN A MOUNT OF RS. 889,984,971TO ITS INCOME ON ACCOUNT OF A PROVISION B EING CREATED WITHOUT ANY TDS BEING MADE. WE FIND THAT DURING THE RE LEVANT FINANCIAL YEAR, THIS PROVISION WAS REVERSED AND THE C ORRESPONDING HEADS OF EXPENSES TO WHICH THE PROVISION PERTAINED WE RE REDUCED CORRESPONDINGLY. THIS LED TO INCREASE OF INCOME IN TH E BOOKS OF ACCOUNT. SINCE THIS AMOUNT HAD ALREADY BEEN VOLUNTARILY DISALLOWED IN A.Y. 2010-11 AND OFFERED TO TAX, THE IM PACT OF WRITE- BACK IN THE BOOKS FOR THE CURRENT YEAR HAD TO BE REVER SED. THE ASSESSEE CLAIMED THIS AS A DEDUCTION IN ITS COMPUTATIO N OF INCOME. WE ARE IN AGREEMENT WITH THE SUBMISSION OF THE ASSESSEE THAT THIS APPROACH IS CONSISTENT WITH THE GENERALLY ACCEPTABLE AC COUNTING PRACTICES. 246. IN OUR VIEW, SECTION 40(A)(I)(IA) OF THE ACT COMES INTO PLAY ONLY WHEN AN ASSESSEE CLAIMS ANY EXPENSE AS A DEDUC TION WITHOUT 199 DEDUCTING TDS ON THE SAME. HOWEVER, IN THE PRESENT CA SE, AS THE ASSESSEE HAS REVERSED THE PROVISION CREATED IN THE PR EVIOUS YEAR, THE SAME HAS ACCORDINGLY BE REDUCED FROM THE TOTAL INCO ME AS IT WAS ALREADY ADDED BACK WHILE COMPUTING THE INCOME OF PREVIOUS YEAR. IN THIS SITUATION SECTION 40(A)(I) OR (IA) HAS NO APPLICATION AS THERE IS NO EXPENSE WHICH HAS BEEN INCURRED. THE ALL OWABILITY OF THE REVERSAL OF THE PROVISION IS A DEDUCTION THAT IS C LAIMED ON THE BASIS OF ALIGNMENT OF THE BOOKS OF ACCOUNTS WITH THE TA XABLE INCOME. THEREFORE, THE REASONING OF THE LD. AO THAT AS NO TAX HAS BEEN DEDUCTED AND DEPOSITED THE SAID REVERSAL OF PROVI SION SHOULD NOT BE ALLOWED TO BE REDUCED FROM TAXABLE INCOME IS ON COMPLETELY WRONG FOOTING BECAUSE CLAIM OF THE ASSESSEE PERTAINS TO REVERSAL OF EXCESS PROVISION CREATED IN PRECEDING YEAR FOR WHIC H VENDORS WERE NOT IDENTIFIABLE, AND THUS THE QUESTION OF DEDUCTING TAX ON THE SAME DOES NOT ARISE. 247. ACCORDINGLY, WE HOLD THAT THE LD. AO AND THE DR P HAVE ERRED IN NOT APPRECIATING THAT IN THE PRECEDING YEAR AT THE TIME OF CREATION OF THE SAID PROVISION, THE SAME WAS ALREADY S UO-MOTO ADDED BACK TO THE INCOME UNDER THE HEAD PROFITS AND GA INS OF BUSINESS OR PROFESSION, FOR THE REASON THAT IT IS NOT ALLOWABLE UNDER THE ACT. THEREFORE, IN THE CURRENT YEAR, ON THE R EVERSAL OF THE SAID AMOUNT, THE SAME SHOULD BE ALLOWED TO BE REDUC ED IN COMPUTING THE TOTAL INCOME ELSE IT WOULD LEAD TO DOUBLE TA XATION OF THE SAME. THE DECISION OF THE COORDINATE BENCH IN THE CASE OF JOHNSON MATTHEY INDIA PVT. LTD. [I.T.A. NO. 4397/DEL/ 2011] CITED BY THE APPELLANT IS APPLICABLE TO THE PRESENT FACTS . IN THIS CASE, THE ISSUE BEFORE THE TRIBUNAL WAS WHETHER THE REV ERSAL OF PROVISION (CREATED IN PRECEDING YEARS), WHICH WAS D ISALLOWED IN 200 THOSE YEARS, SHOULD BE TAXED IN THE YEAR OF REVERSAL. THE TRIBUNAL WHILE HOLDING IN FAVOUR OF THE ASSESSEE HELD AS BELO W: 14. EACH YEAR THE ASSESSEE HAS BEEN MAKING A PROVI SION FOR INVENTORY IN THE BOOKS OF ACCOUNT MAINTAINED BY THE COMPANY. WHILE FILING ITS RETURN OF INCOME, THIS PROVISION F OR INVENTORY MADE IN THE BOOKS OF ACCOUNT, IS ADDED BACK TO THE INCOM E UNDER THE HEAD PROFITS AND GAINS OF BUSINESS OR PROFESSION, FOR THE REASON THAT IT IS NOT ALLOWABLE UNDER THE IT ACT. IN OTHER WORDS THE PROVISION FOR SLOW MOVING/OBSOLETE INVENTORY, W HICH IS CREATED EACH YEAR IN THE PROFITS & LOSS ACCOUNT AND BALANCE SHEET PREPARED IN ACCORDANCE WITH THE COMPANIES ACT , 1956, HAS BEEN SPECIFICALLY ADDED BACK WHILE COMPUTING TA XABLE INCOME UNDER THE IT ACT, WHILE FILING THE RETURN OF INCOME OF THE RESPECTIVE YEAR I.E. THE ASSESSEE HAS NOT CLAIMED D EDUCTION ON THE PROVISION CREATED IN ITS ACCOUNTS, IN ITS INC OME TAX COMPUTATION IN THE EARLIER YEARS. 15. DURING THE YEAR UNDER CONSIDERATION THE PROVIS ION IN QUESTION, IN RESPECT OF SLOW MOVING/OBSOLETE INVENT ORY WAS WRITTEN BACK IN THE ACCOUNTS OF THE COMPANY, ON THE GROUND THAT THE SAID PROVISION TO THE EXTENT WRITTEN BACK IS NO LONGER REQUIRED. THE ASSESSEE HAD SOLD THE SLOW MOVING ST OCK AND DISCLOSED THE SALE PROCEEDS, IN ITS SALES ACCOUNT. THE PROVISION WAS WRITTEN BACK AS NO LONGER REQUIRED IN THE ACCOU NTS AND AS THE PROVISION WAS NOT CLAIMED AS AN EXPENSE IN ITS INCOME TAX COMPUTATION IN THE YEAR IN WHICH IT WAS CREATED, TH E SAME NEED NOT BE ADDED BACK ONCE AGAIN. THE ACTION OF THE AO IS A DOUBLE ADDITION. A FIGURE WHICH WAS NEVER CLAIMED OR ALLO WED AS A DEDUCTION IN THE EARLIER YEAR WAS ADDED BACK. 248. IN ANOTHER CASE INVOLVING A SIMILAR SITUATION , THIS TRIBUNAL HAS HELD THAT SUCH REVERSAL HAS TO BE ALLOWED AS A DED UCTION. IN 201 SPX INDIA (P) LTD. VS. CIT (A) [(2014) 147 ITD 120 (DELHI)] WHEREIN IT WAS HELD THAT: AS FAR AS QUANTIFICATION OF THE AMOUNT IS CONCERN , WE FIND THAT ASSESSEE HAS MADE THE PROVISION FOR A SUM OF RS. 2, 61,540/-. THE EXCESS PROVISION HAS BEEN WRITTEN BACK AND A SU M OF RS. 1,05,989/- WAS OFFERED FOR TAX IN THE NEXT YEAR. T HUS THE EXACT AMOUNT PAID WITHOUT DEDUCTING THE TDS IS RS. 1,55,5 51/-. THE ASSESSEE HAS RAISED THE PLEA BEFORE THE AO BUT LD. AO HAS NOT ASSIGN ANY REASON FOR NOT ACCEPTING THIS PLEA. IF WE CONFIRMED THE DISALLOWANCE OF THE TOTAL AMOUNT THEN AMOUNT OF RS.1,05,989/- WOULD SUFFER TAX TWICE I.E. BY WAY OF DISALLOWANCE IN THIS YEAR AND IN THE NEXT YEAR WHEN ASSESSEE HAS WRITTEN BACK THE PROVISION. THEREFORE, WE DIRECT THE AO TO EXCLUDE THIS AMOUNT FROM THE DISALLOWANCE AFTER VERIFICATION THA T IT WAS OFFERED FOR TAX IN THE NEXT YEAR. IN VIEW OF THE FOREGOING DISCUSSION AND THE AUTHORITI ES CITED ABOVE, WE ALLOW THIS GROUND AND DIRECT THE AO TO ALLOW THIS DE DUCTION. 249. IN VIEW OF OUR DISCUSSION AND OUR FINDING GI VEN ABOVE QUA EACH YEAR, ALL THE APPEALS ARE TREATED AS PARTLY ALLO WED. ORDER PRONOUNCED IN THE OPEN COURT ON 4 TH OCTOBER, 2019. SD/- SD/- [PRASHANT MAHARISHI] [AMIT SHUKLA] [ACCOUNTANT MEMBER] JUDICIAL MEMBER DATED: 4 TH OCTOBER, 2019 PKK: