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TMI Blog2015 (8) TMI 755X X X X Extracts X X X X X X X X Extracts X X X X ..... proposition is absolutely absurd. In view of the inherent differences in the characteristics, usage and price of harvester combine and tractors, we are unable to countenance the view taken by the ld. CIT(A) in treating M/s Eicher Motors as a good comparable. The impugned order on this score is overturned and the view of the TPO is restored. M/s Force Motors - facts and circumstances of M/s Force Motors are mutatis mutandis similar to those of M/s Eicher Motors. This company, initially considered as comparable by the assessee, was also excluded by the TPO on the same reasoning as given for M/s Eicher Motors and the ld. CIT(A) also upheld the inclusion of this company in the list of comparables by following the same reasoning as given by him for M/s Eicher Motors. In view of our above discussion made in the context of M/s Eicher Motors, we hold that M/s Force Motors cannot be considered as a good comparable. The impugned order on this score is reversed. Capacity adjustment in respect of certain items of expenses - CIT(A) allowing the claim which was denied by the TPO - Held that:- The authorities below have adjusted the operating costs of the assessee in allowing the capacity a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ity of this amount depends upon the period for which this subscription and from the date on which it was paid. If it is given for a period of more than one year, then naturally, the amount relatable to the period beyond the first year, would not be admissible for deduction during the year in question. If the amount is paid for one year, then the subscription period covered during the year will be deductible and the remaining amount will qualify for deduction in the succeeding year. In the absence of the availability of the date and the period of subscription period, we set aside the impugned order on this issue and send the matter to the AO for deciding it in conformity with our above observations. Website charges - we find that the creation of website is an advantage which facilities carrying on business more efficiently and profitably leaving fixed capital untouched. The Hon’ble Supreme Court in Empire Jute Company Limited VS. CIT (1980 (5) TMI 1 - SUPREME Court) has held that such expenses should be considered as revenue in nature. Also see Addl. CIT Vs. Avendus Advisors Pvt. Ltd. (2011 (2) TMI 1368 - ITAT MUMBAI). Price of modem - The same is a capital expenditure eligib ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e inclusion of two companies by the ld. CIT(A) in the list of comparables. The only issue raised by the assessee in its cross objection is against the affirmation of inclusion of one company in the list of final set of comparables. The ld. AR did not press the cross objection. As such, we are confined to deciding only as to whether the ld. CIT(A) was justified in directing the inclusion of two companies in the final set of comparables, namely, M/s Eicher Motors and M/s Force Motors. 3. Briefly stated, the facts of the case are that the assessee was established as an Indian company in 1990 as a wholly owned subsidiary of a Claas KGaA mbH, Germany. Until 31.8.2002, the assessee was known as Escorts Claas Ltd., with 60:40 joint venture between Escorts India Ltd., and Claas, Germany. Thereafter, the entire shareholding was acquired by Claas, Germany. The assessee s main activity is manufacture and sale of harvester combines in India and export of harvester combines and engine harvester combines and engine related products, licensed by Claas Group. The assessee manufactures two types of harvester combines, namely, wheel based and track based. Certain international transactions were r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le. The Revenue is aggrieved against the inclusion of this company in the final list of comparables drawn by the ld. first appellate authority. 4.2. We have heard the rival submissions and perused the relevant material on record. There is no dispute on the fact that the assessee is following the TNMM as the most appropriate method. It is also admitted that the assessee deals in harvester combines and not tractors. It is equally unopposed that Eicher Motors is engaged in the business of manufacture and sale of tractors and not harvester combines. The question arises as to whether Eicher Motors, manufacturing tractors can be considered as a good comparable of the assessee, manufacturing harvester combines. The first and the foremost parameter for testing the comparability of a company is its functional similarity. Other factors follow later on. Functional similarity is sine qua non for any comparability analysis. The degree of functional similarity may vary depending upon the method of determining arm s length price (ALP). Whereas the Comparable uncontrolled method (CUP) demands the scale of similarity of a highest order, the same can be compromised to some extent under the TNMM. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r on this score is reversed. Capacity utilization adjustment 6. The second segment of Ground no. 1 of the Revenue s appeal is against the allowing of capacity adjustment in respect of certain items of expenses, which was denied by the TPO. 7. The facts apropos this issue are that the assessee claimed to have worked at a capacity of 29% during the year in question. It was further claimed that the three comparables chosen by it worked at the average capacity utilization of 44%. That is how, the assessee claimed capacity utilization adjustment by reducing its operating costs accordingly. In support of deduction, the assessee filed a report of Mr. Chandra Wadhva, a Cost Accountant. As per this report, the capacity utilization of the assessee as well as the comparables was initially raised to 100%. The TPO partly accepted the claim of the assessee. He considered VST Tractors and Tillers and Punjab Tractors Ltd. (Seg.) for the purposes of allowing capacity adjustment with an average capacity utilization taken at 54%. Thereafter, he restricted the reduction in operating costs of the assessee due to capacity utilization, to some Administrative costs and other expenses. As agai ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... authorities below or comparables and second, how to compute capacity utilization adjustment under the TNMM. We will deal with these aspects one by one. i. Capacity adjustment should be allowed in whose hands ? 9.1. It has been noticed above that the assessee claimed idle capacity adjustment by reducing its own operating costs. It is further observed that the authorities below have reduced the amount of adjustment by excluding certain costs from the ambit of the costs qualifying for adjustment. However, the adjustment has been ultimately allowed from the operating costs incurred by the assessee. In such circumstances, the question arises as to whether the action of the authorities in allowing the reduction of the operating costs incurred by the assessee, is in accordance with law? In order to find answer to this question, we need to refer to the manner of computation of the arm s length price under TNMM, which has been set out in Rule 10B(1)(e) 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 incu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 10B(3) states that an uncontrolled transaction shall be comparable to an international transaction, if either there are no differences between the two or a reasonably accurate adjustment can be made to eliminate the material effects of such differences. When we read sub-clauses (ii) (iii) of Rule 10B(1)(e) in juxtaposition to sub-rules (2) (3) of rule 10B, the position which emerges is that the net operating profit margin of comparable companies calls for adjustment in such a manner so as to bring both the international transaction and comparable cases at the same pedestal. In other words, if there are no differences in these two, then the average of the net operating profit margin of the comparable companies becomes a benchmark. However, in case there are some differences between the comparables and the assessee, then the effect of such differences should be ironed out by making suitable adjustment to the operating profit margin of comparables. That is the way for bringing both the transactions, namely, the international transaction and the comparable uncontrolled transactions, on the same platform for making a meaningful and effective comparison. The above analysis overtly ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e percentage of capacity utilizations of the assessee vis- -vis comparables, one by one, in the operating profit of comparables by adjusting their respective operating costs. Operating costs can be either fixed or variable or semi-variable. One needs to split semi-variable costs into the fixed part and variable part. In so far as the variable costs and the variable part of the semi-variable costs are concerned, these remain unaffected due to any under or over utilization of capacity. Accordingly, such variable operating costs remain unchanged. The adjustment is called for only in respect of the fixed operating costs and fixed part of semi-variable costs. Such costs are scaled up or down by considering the percentage of capacity utilization by the assessee and such comparable. It can be illustrated with the help of a simple example. Suppose the fixed costs incurred by a comparable (say, A) are ₹ 100 and it has capacity utilization of 50% as against the capacity utilization of 25% by the assessee. The above percentages show that the assessee has incurred full fixed costs with 25% of the utilization of its capacity, as against A incurring full fixed costs with 50% of its capacit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by us supra inasmuch as we have held that M/s Eicher Motors and M/s. Force Motors are incomparable. Naturally, they would also go out of reckoning in the computation of idle capacity utilization adjustment. In the absence of the availability of financials of all the comparable companies, it is not possible at our end to work out the amount of capacity adjustment in the manner discussed above. Ergo, we set aside the impugned order and direct the TPO/AO to work out the amount of capacity utilization adjustment afresh in terms of our above observations. Needless to say, the assessee will be allowed a reasonable opportunity of hearing in such fresh proceedings. 11.1. Ground no. 2 is against the deletion of addition of ₹ 61,762/- on account of capitalization of Software expenses. Succinctly, the facts of this ground are that the assessee claimed deduction amounting to ₹ 27,97,008/- towards software expenses. On perusal of details of such expenses, it was observed by the AO that a sum of ₹ 1,49,611/- was spent as subscription for anti-virus software, ₹ 2,895/- for website charges and ₹ 1,900/- towards purchase of modem. The AO capitalized these three ite ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is reversed and the action of the AO is restored to this extent. This ground is disposed of accordingly. 12.1. Ground no. 3 is against the deletion of addition of ₹ 37,03,000/- on account of deferred revenue expenditure. The factual matrix of this ground is that the assessee capitalized certain sum for development of a new product called TAF60. Till 30.9.2003, a sum of ₹ 156 lac was capitalized and treated as capital work-in-progress. A further sum of ₹ 28.32 lac was incurred on its development between 1.10.2003 to 31.3.2004. The assessee capitalized the entire sum and claimed deduction @ 25% of the same in the earlier years and in the year in question. The AO treated this amount as capital expenditure and did not allow any deduction. The ld. CIT(A) accepted the assessee s claim. 12.2. After considering the rival submissions and perusing the relevant material on record, we find that similar issue came up for consideration before the Tribunal in the assessee s own case for the AY 2007-08. A copy of such order has been placed on record in which this issue has been decided in the assessee s favour. In the absence of the ld. DR bringing to our notice any distin ..... 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