2013 (9) TMI 802 - AT - Income Tax

Arm s length price - transfer pricing adjustments - Risk adjustment in addition to adjustment made through PV factor for future cash flows of the company Held that - Most important aspect in the application of the Discounted Cash Flows (DCF) is the discounting factor used for working out the net present value (NPV) - PV factor is to be spread starting with the year in which the transaction took place - For a valuation to have some amount of objectivity it is imperative that errors in calculations are avoided and variables are considered within a reasonable limit so that acceptable values can be arrived at. Even a slight change in the discounting ratio will result in substantial change in the valuation of the company - A discount for illiquidity of shares should be given, this cannot be accepted for the reason that when weighted average cost of capital is worked out and discounting factor is applied for ascertaining the net present value of the future cash flows, such discounting rate would take into account all associated risks. When the value of an enterprise is fixed based on the present value of its future earnings there is no scope for any further allowance for any perceived risk factor - Discounted cash flow method was appropriate to determine the arm s length price of the international transaction, set aside the issue to the file of the Assessing Officer for re-working the value afresh in accordance with standard practices adopted for such valuation Decided in favor of Assessee.

Summary

Issues Involved:
1. Transfer Pricing
2. Disallowance of Exchange Fluctuation Loss

Detailed Analysis:

1. Transfer Pricing:

Facts:
The assessee, a subsidiary of Ascendas Land International Ltd., engaged in real estate business, entered into joint ventures and sold shares in two companies, LTIAL and AITPL, to Ascendas Property Fund India (APFI), an associated enterprise. The assessee claimed the sale prices were at arm's length.

Contentions of the Assessee:
- LTIL, an equal shareholder in LTIAL, was not an associated enterprise, making the sale price to APFI a valid comparable uncontrolled price (CUP).
- The sale price of AITPL shares was supported by a valuation certificate based on CCI guidelines, which were in line with Foreign Exchange Management regulations.

Transfer Pricing Officer's (TPO) Findings:
- The TPO rejected the CUP method for LTIAL, considering LTIL as an associated enterprise due to common participation in LTIAL.
- The TPO also dismissed the CCI valuation for AITPL, stating it was based on single-year data and not relevant for transfer pricing purposes. Instead, the TPO adopted the discounted cash flow (DCF) method, leading to a significant upward adjustment in the share values.

Dispute Resolution Panel (DRP) Decision:
- The DRP upheld the TPO's use of the DCF method, considering it the most appropriate for reflecting the intrinsic value of the companies.
- The DRP rejected the assessee's objections regarding the parameters used in the DCF method, including cost of debt, cost of equity, and future rental income projections.

Tribunal's Analysis:
- The Tribunal acknowledged that the transactions were unusual and that traditional methods might not be directly applicable.
- It found the CUP method inappropriate for LTIAL due to the joint nature of the sale agreement between the assessee and LTIL.
- The Tribunal supported the use of the DCF method, emphasizing the need for a methodology that reflects the true market potential of the shares.
- The Tribunal noted errors in the TPO's calculations, particularly in the weighted average cost of capital (WACC) and the present value (PV) factors.

Conclusion:
The Tribunal remanded the issue back to the Assessing Officer (AO) and TPO for reworking the valuation using standard practices and correcting errors in the DCF method. The assessee was to be given an opportunity to present its calculations.

2. Disallowance of Exchange Fluctuation Loss:

Facts:
The assessee claimed exchange fluctuation loss on loans used for working capital requirements.

Tribunal's Analysis:
- The Tribunal held that such losses are revenue outgoes, referencing the Supreme Court decision in CIT v. Woodward Governor India P. Ltd., which supports the assessee's claim.

Conclusion:
The Tribunal deleted the disallowance of the exchange fluctuation loss.

Final Decision:
The appeal of the assessee was allowed partially, with the transfer pricing issue remanded for reassessment and the disallowance of exchange fluctuation loss deleted. The order was pronounced on January 2, 2013, in Chennai.