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TMI Blog2013 (12) TMI 140X X X X Extracts X X X X X X X X Extracts X X X X ..... d at the same rate of its operating cost instead of the actual depreciation claimed, if it is lower, this adjustment, will take care of difference in capacity utilization - The order of CIT(A) is set aside for the A.Y. 2008-09. - ITA no. 6490/Mum./2012, ITA no. 7504/Mum./2010 - - - Dated:- 29-11-2013 - Shri P. M. Jagtap And Shri Amit Shukla,JJ. For the Petitioner : Mr. Ajeet Kumar Jain For the Respondent : Mr. Milin Thakare ORDER Per Amit Shukla, J.M. The present appeals have been preferred by the assessee challenging the impugned separate final assessment orders passed for the assessment years 2006-07 and 2008-09, by the Assessing Officer in pursuance of the directions under section 144C(5) of the Income Tax Act, 1961 (for short "the Act") given by the Dispute Resolution Panel (DRP), Mumbai. Since the facts and circumstances of both the appeals are identical and the issues involved are common, therefore, as a matter of convenience, these were heard together and are being disposed off by way of this consolidated order. 2. We first take up appeal in ITA no.7504/Mum./2010, for the assessment year 2006-07, vide which, following issues have been raised:- i) T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e adjustment of Rs. 5.34 crores. While doing so, in principle, he has given adjustment of low capacity utilization but only included expenditure for lease rent, insurance, rent as items of fixed cost and excluded all other expenditure which was considered by the assessee. Further, the Assessing Officer has also made disallowance of Rs. 3,53,207 under section 14A. 5. Against the draft assessment order, the assessee filed detail objections before the DRP challenging the transfer pricing adjustment made by the TPO on various counts. However, the DRP, in a very summarily manner, has rejected the assessee's objection. 6. The learned Counsel for the assessee submitted that before the DRP, the assessee has filed not only a very detail objection but also filed various documents to justify its margin with the A.E. The assessee has pointed out various lacuna and errors in the approach of the TPO. In support of the same, he drew our attention to various objections and the evidences filed before the DRP. Without examining such details and objections, the DRP has confirmed the order passed by the Assessing Officer as well as the TPO without application of mind, therefore, such an order pass ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .6490/Mum./2012, for the assessment year 2008-09, vide which, the main issue relates to transfer pricing adjustment of Rs. 11,66,78,804. 10. In this year, the assessee as well as the TPO has accepted the CPM as the most appropriate method of bench marking the transactions. The assessee has computed its cost plus margin at 7.14% and bench marked the same with 10 comparable companies having an average PLI of 5.37%. In this year also, the assessee, while computing the margin had reduced the fixed expenditure of Rs. 3,39,42,746 on account of lower capacity utilization and has further made an adjustment on account of increase in electricity tariff rate of Rs. 1,89,86,454. The TPO, however, rejected the assessee's determination of PLI and himself computed the assessee's PLI at 3.23% and after taking the average PLI of eight comparables, which was @ 11.27%, has made an upward adjustment. While doing so, he did not allow any adjustment on account of low capacity utilization. From the annual accounts of the assessee, the TPO observed that the assessee's explanation regarding low capacity utilization is not correct as the capacity utilization as per assessee's own annual report is 85.95% a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee's claim about the capacity utilization. On merits, he submitted that he is ready to argue on the issue of capacity utilization also. However, he submitted that it would be proper to first determine what is the annual capacity utilization of the assessee and the actual utilization which can only be done if the matter can be sent back to the file of the Assessing Officer. 14. We have heard the rival contentions, perused the relevant findings of the authorities below and the material placed on record. One of the major objections of the assessee is that the adjustment on account of capacity utilization has not been given by the TPO on the ground that the very basis of the assessee's claim has been refuted by him. This has been affirmed by the DRP also. From the records, it is seen that in the assessment years 2005 -06 and 2006-07, the annual licensed capacity and annual installed capacity is 17 lakhs which has been mentioned as 4 lakhs in the assessment year 2008 -09. Prima-facie, there appears to be inherent contradiction in this figures. The assessee has filed certificate from the auditor and also letters from the director. However, these documents have not been considered by th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ined by following the transactional net margin method as under:- "(e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) The net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) The net p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ixed overheads at lower capacity utilization which comes down as the level of capacity utilization goes up. For instance, as given in the above example, the rate of allocation or absorption of fixed overheads to sales is 40% at 50% capacity utilization while it becomes 33.33% at 60% capacity utilization and 25% at 80% capacity utilization giving more profit margin of 16.67% at 60% capacity utilization and 25% at 80% capacity utilization as against profit margin of 10% at 50% capacity utilization. The difference in capacity utilization thus materially affects the profit margin and if there is a difference in the level of capacity utilization of the assessee and the level of capacity utilization of the comparable companies, adjustment is required to be made to the profit margin of the comparables on account of difference in capacity utilization as per clause (e)(iii) of sub-rule (1) of Rule 10-B of the Income Tax Rules, 1962. 22. Having held that the adjustment is required to be made to the net margin of the comparables on account of difference in capacity utilisation, the next issue that arises is regarding the adoption of proper method by which the same can appropriately be made. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of 10%, 16.67% and 25%. In our opinion, if the fixed overheads allocation or absorption of comparable is brought at the level of the assessee, it would nullify the effect of difference in capacity utilization on the profit margin. For example, if we take the profitability working at 50% capacity utilization as that of the tested party and at capacity utilization of 60% and 80% as that of the comparables and adjust the rate of allocation of fixed overheads of the comparables in order to bring the same at par (i.e. 40% of sales) with the tested party, the resultant position will be as under:- Net Profit Rs.1 crore Rs. 2.00 crores Less additional allocation of depreciation by taking the rate of fixed overheads at 40% of sales: Rs. 0.40 crores Rs.1.20 crores Net profit after adjustment Rs. 0.60 crores Rs. 0.80 crores Profit margin after adjustment 10% 10% 24. The adjustment thus can be made to the profit margin of the comparables by allocating fixed overheads at the same rate at which fixed overheads are allocated in the case of the tested party. For example, in the case of a comparable h ..... X X X X Extracts X X X X X X X X Extracts X X X X
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