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TMI Blog2015 (6) TMI 514X X X X Extracts X X X X X X X X Extracts X X X X ..... l income of Rs. 11,47,33,153/-. The AO noticed that the assessee had entered into following international transactions: Nature of International transaction Method Selected Amount(In INR) Purchase of hip. Knee and trauma implants etc. TNMM 475,487,449 Purchase of instruments 21,494,576 Reimbursement of expenses received CUP 2,126,571 Reimbursement of expenses paid CUP 4,814,142 4. Accordingly, reference was made to TPO for determination of ALP of international transactions. 5. Ld. TPO has not disputed the ALP of above transactions. However, he noted from the audited accounts that the assessee was incurring huge amount on advertisement and market promotion ("AMP"). He was of the opinion that the assessee was spending this amount on extending the reach of the brands owned by the AEs. The final beneficiary was the AE as the brands owned by it were gaining in value due to the marketing efforts of the assessee. 6. Ld. TPO issued a detailed show cause notice which is reproduced in para 3 of his order. In this notice primarily TPO pointed out that the functional profiles as per TP documentation of the assessee, was as under: (i) Distribution operations (i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... utors discount 308,000 Selling expenses 2,563,000 Distribution Expense 3,277,000 1.89 7. Remi Elektrotechnik Ltd. This segment of Remi Group is a manufacturer of laboratory and blood bank instruments 10. Based on above analysis, he proposed that following companies shall be used as comparables for determining the bright line with reference to the AMP expenses incurred by them: S No. Name of the company AMP Head Sales Amount in INR AMP/Sales(%) 1. Remi Sales & Engg. Ltd. Advertisement & Sales promotion 3,702,485 781,192,364 Commission on sales 4,220,610 Discount allowed 786,253 Total 8,709,348 1.11 2. AFCO Industrial & Chemicals Ltd. Nil 6,829,960 0.00 3. Ambalal Sarabhai Enterprises Ltd. Selling commission 5,054,000 591,170,000 Wholesalers/distributors' discount 308,000 Selling expense 2,563,000 Distribution Expense 3,277,000 Total 11,202,000 4. Brawn Biotech Ltd. (Brawn Pharmaceuticals Lt ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment of emergency that is inherent in this business. 12. Ld. TPO in final analysis adopted the following comparables: Sl. No. Name AMP/Sales(%) 1. Trivitron Healthcare Pvt. Ltd. 3.81 2. Frontline Electro Medical Limited 8.47 3. Sataytej Commercial Company Ltd. 3.64 4. Remi Sales & Sales Engg. Ltd. 1.11 5. Lifeline Drugs & Pharma Ltd. 0.01 Average 3.40 13. Accordingly he computed the ALP of the international transactions, related AMP expenditure leading to creation of marketing intangible benefiting the AE as under: Total sales made by you Rs. 77,47,89,626 Arm's length level of AMP exp. (3.40% of sale) Rs. 2,63,42,847 Amount actually spent on AMP exp. Rs. 5,25,19,355 Amount spent on creation of marketing intangible Rs. 2,61,76,508 Mark up @ 12.50% Rs. 32,72,063 Total Rs. 2,94,48,571 14. The AO had passed the draft assessment order in pursuance to the TPO's order. The assessee filed objection to the draft assessment order before DRP. The assessee's main objections were as under: (i) Since the assessee's international transactions were accepted to be at Arm's length under TNMM, therefore, analysing individual elements of cost (like t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e case and in law, the order passed by the Ld. Assessing Officer ("AO") is bad in law and void ab-initio 3. That on facts and circumstances of the case and in law, the Ld. AO/ Ld. Transfer Pricing Officer ("TPO")/ Ld. Dispute Resolution Panel ("DRP") erred on facts and circumstances of the case in determining the arm's length adjustment to the Appellant's alleged international transaction with Associated Enterprises ("AEs"), thereby resulting in the enhancement of returned income of the Appellant by Rs. 29,448,571. 3. That on the facts and circumstances of the case and in law, the reference made by the Ld. AO suffers from jurisdictional error as the Ld. AO has not recorded any reasons in the assessment order based on which he reached the conclusion that it was "expedient and necessary" to refer the matter to the Ld. TPO for computation of the arm's length price, as is required under section 92CA(1) of the Income Tax Act, 1961 ("Act"). 4. That the Ld. AO/ Ld. TPO/ Ld. DRP erred on facts and in law in enhancing the income of the Appellant by Rs. 29,448,571 by making a Transfer Pricing ("TP") adjustment on account of "alleged excessive" advertising, marketing and pro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... istributor is sufficiently compensated by the AE through the pricing of products, i.e. through higher margins, the same would have catered to excess AMP expenses and does not warrant a separate compensation in the form of reimbursement from the AEs; 4.8 by incorrectly determining the AMP expenses as excessive by comparing against the bright line limit arrived at arbitrarily using inappropriate comparables that: (i) are not operating on the same level of business value chain as that of the Appellant; and (ii) are wholly dissimilar to the Appellant in respect of the brands promoted by them; 4.9 erroneously holding that the Appellant has rendered services to the AEs by incurring 'excessive' AMP expenses and by holding that a mark-up has to be earned by the Appellant in respect of the "alleged excessive" AMP expenses; 4.10 erroneously applying an ad-hoc mark-up of 12.50% in respect of Appellant's "alleged excessive" AMP expenses, without any basis for the same whatsoever; 5. That the Ld. AO erred in facts and in law in charging interest under section 234D and 244A of the Act 6. That on the facts and circumstances of the case and in law, the Ld. AO has erred in ini ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of six comparables, selected by assessee was 4.03% whereas assessee was 11.07%, as is evident from page 274 of the TP study. 20. The second limb of ld. counsel's submission was that ld. TPO has wrongly taken the components of AMP which had no role in the brand promotion but were only selling expenses. In this regard ld. counsel referred to paras 175 & 176 in the case of Sony Ericsson Mobile Communications India Pvt. Ltd & Ors. (supra) , wherein the Hon'ble High Court has approved the decision of Special Bench in the case of L.G. Electronics India (P) Ltd. (supra), for excluding direct marketing and sale related expenses or discount/ concession from AMP expenses. He pointed out that selling cost cannot be taken as part of AMP expenses. He, therefore, submitted that there is no dispute that discount allowed and sales commission are purely linked to sales and are not in the nature of advertisement and promotion activities 21. As regards sponsorship and sales promotion expenses, ld. counsel has given details of amount spent on sales promotion, business promotion and business consulting as under: Particulars Description Amount (inRs.) Club Membership Annual fees for Confederatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... core function to be exercised. Performance of this function clearly benefits the brands and market intangibles owned by the parent company. The test to determine whether the Indian subsidiary was/is incurring the AMP expenses for itself or at the instance of the AE was/ is to find out whether an independent party would have undertaken the same level of AMP expenses. An independent party with short-term agreement with an MNE would not incur costs which give longterm benefits of brand and market development advantage to another entity. It is fallacious to contend that brand promotion would benefit an independent entity, for increase in volume of sales largely benefits the manufacturer both in terms of the profit with increased sales and enhanced value to the brand. Benefit to the Indian entity is only marginal or incidental. The contention is that the action of the independent subsidiary amounts to rendering of service to the foreign AE for which arm's length compensation was/is payable. No third party distributor would incur expenditure on development of marketing and brand, which does not eventually belong to it." 24. Ld. CIT(DR) further referred to para 121 of Sony Ericsson ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he statute and the Rules and introducing a new concept which has not been recognised and accepted in any of the international commentaries or as per the general principles of international taxation accepted and applied universally. There is nothing in the Act or the Rules to hold that it is obligatory that the AMP expenses must and necessarily should be subjected to 'bright line test' and the non-routine AMP expenses as a separate transaction to be computed in the manner as stipulated. 25. Ld. CIT(DR) further referred to para 193 in the case of Sony Ericsson Mobile Communications India Pvt. Ltd & Ors. (supra) and pointed out that the Hon'ble High Court taking into consideration the factual findings to be examined, has given sufficient discretion and flexibility to Tribunal to reach a fair and just conclusion on the ALP and if necessary to remand the matter to AO/ TPO if the exercise cannot be carried out at Tribunal's level. 26. In rejoinder, ld. Counsel referred to TPO's order to submit that the bright line was determined by TPO by considering the assessee as a distributor. 27. We have considered the rival submissions and have perused the record of the case. As far as l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... give reliable and more certain measure of arm's length result. All methods including the TNM Method acknowledge that there could be difference between tested part and the comparable on functional analysis, but this would not be material where it is possible to reasonably ascertain the effect on account of the differences for which appropriate adjustments can be made. Thus, selection of the comparable depends upon the functional analysis, similarity as to the several factors and whether or not it is possible to make adjustments to account for the material differences in such circumstances to accept or reject a comparable. Selection of the appropriate comparable ensures similar profit potential and accordingly taxation of the subsidiary AE in the country of its residence. 28. In para 100, Hon'ble High Court has observed as under:- 100. The TPO/ Assessing Officer can overrule the assessee as to the method adopted and select the most appropriate method. The reasons for selecting or adopting a particular method would depend upon functional analysis, comparison, which requires availability of data of comparables performing of similar or suitable functional tasks in a comparable bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... PO for carrying out detailed functional analysis of the comparables. It is pertinent to note that comparables selected by assessee in its TP study for benchmarking the distribution activity were as under: S. No. Name of the company Data Source Average PLI 1 Hicks thermometers (India) P 4.95% 2. Kusam Electrical Inds Ltd. P 11.06& 3. Remi Sales & Engg Ltd. P 3.57% 4. Sataytej Commercial co Ltd. AR 1.60% 5. AFCO Industrial & Chemicals Ltd. Seg-P -2.83% 6. Ambalal Sarabhai Enterprises Ltd. Seg-P 4.39% 7. Remi Elektrotechnik Ltd. Seg-P 5.44% Mean 4.03% Median 4.39% Upper Quartile 5.20% Lower Quartile 2.59% 31. These were accepted by TPO applying TNMM method. However, for benchmarking the AMP functions TPO selected following five comparables:- S. No. Name AMP/Sales (%) 1. Trivitron Healthcare Pvt. Ltd. 3.81 2. Frontline Electro Medical Limited 8.47 3. Sataytej Commercial Company Ltd. 3.64 4. Remi Sales & Sales Engg. Ltd. 1.11 5. Lifeline Drugs & Pharma Ltd. 0.01 Average 3.40 32. Thus, only Remi Elektrotechnik Ltd. is common in both. ..... X X X X Extracts X X X X X X X X Extracts X X X X
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