2023 (9) TMI 797 - AT - Income Tax

Addition u/s 56(2)(viib) - difference between the financial projections and actual projections submitted by the assessee - recognized method of valuation rejected - CIT(A) deleted addition concluding that DCF Method is the correct method for valuation of shares - HELD THAT - There is no dispute that the valuation of the assessee is supported by valuation report from a technical expert who has adopted DCF method, which is one of the recognized methods u/r 11UA of the Rules. Therefore, AO erred in rejecting the method. On a perusal of the relevant sections read with the Rules, we are of the view that the action of the AO in substituting the method of valuation is beyond jurisdiction. DCF Method is based on projections which are based on factors like growth of the company, economic/market conditions, business conditions, expected demand and supply, cost of capital and host of other factors. These factors are considered based on some reasonable approach and they cannot be evaluated purely based on arithmetical precision as value is always worked out based on approximation and catena of underline facts and assumptions. Nevertheless, at the time when valuation is made, it is based on reflections of the potential value of business at that particular time and also keeping in mind underline factors that may change over the period of time and thus, the value which is relevant today may not be relevant after a certain period of time. Valuation of an unquoted equity share, in terms of Rule 11UA of the Rules can, at the option of the assessee, be determined as per either NAV Method or as per DCF Method, which means that the option is given to the assessee and once the assessee has exercised an option, the AO is bound to follow the same unless by bringing cogent material on record, the AO establishes perversity in the method adopted by the assessee. As decided in M/S. CINESTAAN ENTERTAINMENT PVT. LTD 2021 (3) TMI 239 - DELHI HIGH COURT Assessee adopted a recognized method of valuation and Appellant-Revenue is unable to show that the assessee adopted a demonstrably wrong approach, or that the method of valuation was made on a wholly erroneous basis, or that it committed a mistake which goes to the root of the valuation process. - Decided against revenue.

Summary

Issues involved: Appeal against deletion of addition under section 56(2)(viib) of the Income-tax Act, 1961 based on valuation method used for shares.

The judgment pertains to an appeal by the Revenue against the order of the ld. CIT(A) regarding the addition of Rs. 8 crores made by the Assessing Officer under section 56(2)(viib) of the Income-tax Act, 1961. The Revenue contended that the DCF Method used for valuation of shares was incorrect. The facts revealed that the assessee company, a subsidiary of Max Healthcare Institute Ltd, issued equity shares at a premium to another entity. The Assessing Officer, upon noticing discrepancies in financial projections, added the share premium amount. The Assessing Officer rejected the DCF Method and adopted the Book Value Method for valuation, resulting in the addition. The ld. CIT(A) later deleted this addition, leading to the appeal by the Revenue.

Upon careful consideration, the Tribunal found that the valuation of shares by the assessee using the DCF Method was supported by a technical expert and was a recognized method under the Rules. The Tribunal opined that the Assessing Officer erred in substituting the valuation method, as the DCF Method considered various factors like growth, economic conditions, and cost of capital. The Tribunal noted that valuation is not an exact science and is based on approximations and underlying assumptions that may change over time. Additionally, as per Rule 11UA of the Rules, the assessee had the option to choose the valuation method, and the Assessing Officer must follow this choice unless proving perversity in the method.

The Tribunal referred to a case law where it was highlighted that valuation is a complex process based on projections and potential business value, and the methodology adopted by the assessee was considered correct. The Tribunal emphasized that the Revenue failed to provide an alternate fair value of shares and could not challenge the wisdom of outside investors who accepted the valuation. Ultimately, the Tribunal dismissed the appeal of the Revenue, citing the decision of the Hon'ble Delhi High Court and finding no error in the findings of the ld. CIT(A) based on the facts of the case.

In conclusion, the Tribunal upheld the decision of the ld. CIT(A) to delete the addition under section 56(2)(viib) based on the valuation method used by the assessee, emphasizing the importance of recognizing the chosen valuation method and the technical complexities involved in determining the value of shares.