9911796707
TMI Blog2017 (4) TMI 343X X X X Extracts X X X X X X X X Extracts X X X X ..... 009 as a subsidiary of Hospira Pte. Ltd, Singapore. Assessee had on 15.12.2009 acquired the generic injectable pharmaceutical business of M/s. Orchid Chemicals & Pharmaceuticals Ltd (in short ''Orchid India) as a going concern on a slump sale basis. For the limited purpose of applying a non compete clause, one Shri.K. Raghavendra Rao who was Managing Director of Orchid Chemicals & Pharmaceuticals Ltd was also made a party to this agreement. Consideration agreed was approximately $400,000,000. By virtue of this slump acquisition, various agreements entered between M/s. Orchid India and distribution partners were inherited by the assessee. Such type of agreements were named as legacy agreements. In support of the consideration paid for the injectable drug division taken over by the assessee from M/s. Orchid India, assessee had filed a valuation report prepared by one M/s. R.B. Shah & Associates who as per assessee were the merchant bankers authorized to make such valuation. The price paid were for the tangible assets as well as the intangible assets like customer relationships, contract manufacturing, developed products, in-process research and development and goodwill. For raising t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... basis of this model was the agreement already entered by M/s.Orchid India with the above enterprises abroad, which agreement became the legacy of the assessee when they acquired the unit of generic injectable drugs from M/s. Orchid India. It is to be noted that M/s. Orchid India was supplying pharmaceuticals products to two other companies named Northstar and Actavis also under the same formula. 6. Ld. Assessing Officer while completing the assessment for the impugned assessment year disallowed the claim of depreciation on intangible assets transferred to the assessee by M/s. Orchid India on acquisition of generic injectable unit and also the claim of non compete fee paid to Mr. K. Raghavendra Rao. Ld. Assessing Officer also disallowed the claim of unamortized expenditure in the nature of payments affected to M/s. Orchid India for its capacity expansion. Ld. Assessing Officer also went by the ld.TPO recommendation with regard to adjustment for the profit shared on sale on the pharmaceuticals products with its Associated Enterprise products and also for the rate of interest paid by the assessee on inter corporate convertible debentures (ICCD) issued to its Associated Enterprise ab ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... "Goodwill" and consequently, depreciation under Section 32 of the Act ought to be allowed on the same. 2.3 The Ld. AO and the Hon'ble DRP erred in disallowing the claim of depreciation of INR 1,13,82,750 on the non-compete fee paid to Mr. K Raghavendra Rao, the principal shareholder of Orchid India are not intangible assets eligible for depreciation under section 32 of the Act on the basis: *That the value it fetches will not be available to the Appellant if it is sold separately in the open market. *That it is not an intangible asset as per Accounting Standard 26. * That the advantage is a restricted one and does not confer an exclusive right to carry on the primary business activity and that such right can be asserted only against Mr. K Raghavendra Rao. 2.4 Without prejudice to the above, the Ld.AO erred in not considering the alternate plea of allowing the non-compete fee as "revenue expenditure" since appropriate taxes have also been withheld on the payment or to allow the expenditure as deduction over the period of the agreement in line with the accounting treatment. 3. Disallowance of expenses paid towards capacity expansion of Orchid India 3.1 The Ld. AO and Hon& ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... alue for the Appellant's case and the method adopted for the adjustment is not one of the prescribed methods under the Act. 6.3 Without prejudice to the above, the Ld. TPO and the Hon'ble DRP erred in disregarding the corroborative methodology (i.e. TNMM analysis) provided by the Appellant upon request of the Ld. TPO during the assessment proceedings. 7. Erroneously applying provisions of Section q2A(2)(i) for sales made to third parties 7.1 The Ld. TPO and the Hon'ble DRP erred in treating Apotex as a deemed AE and making an adjustment of INR 6,01,46,813 on account of revising the pricing arrangement by adopting the ratio provided in the HSC order. The above exercise is violating the provisions of the Act and also does not consider the functional differences between the agreements''. 9. Ground No. 1 is general in nature needing no specific adjudication. 10. Ld. Counsel for the assessee assailing the orders of the lower authorities disallowing the claim of depreciation on intangible assets submitted that assessee had given a valuation done by the Merchant Banker, wherein tangible assets and intangible assets were separately valued. As per ld. Authorised Represe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elopment (IPR &D) Products Awaiting FDA approval Viz. Penems and new molecules of Cephalosporins Income Approach 11.8 530.3 Goodwill Arising out of the transaction Excess of Cost of Acquisation over net of assets acquired and the liabilities assumed 159.2 7,156.4 Ld. Assessing Officer had disallowed depreciation on brand and trademark. The value of these intangible assets has been taken by the ld. Assessing Officer at H396,79,39,500/-. However, this figure is not apparent from the valuation report relied on by the assessee. Whether the valuer namely M/s. R.B. Shah & Associates who assessee has claimed to be a merchant banker was having the authority to make a valuation under Income Tax Act, also requires verification. No doubt as mentioned by ld. Authorised Representative accounting standard AS 26 applies only for internally generated intangible assets. The conditions set out by the ld. Assessing Officer at para 5.3 of his order apply only to internally generated intangible assets and not to the intangible assets acquired by payment of consideration. We therefore remit the issue regarding depreciation on intangible assets back to the file of the ld. Assess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsfer of the injectable drugs division. We are of the opinion that this issue also requires a fresh look by the ld. Assessing Officer . We therefore set aside the orders of the lower authorities with regard to disallowance of depreciation an intangible assets and remit it back to ld. Assessing Officer for to considering afresh, in accordance with law. Concise ground No.2 of the assessee is allowed for statistical purpose. 16. Submitting his arguments on ground No.3, ld. Authorised Representative submitted that by paying H27,13,20,000/- to Orchid India, assessee could ensure continued supply of essential API. As per ld. Authorised Representative, ld. Assessing Officer as well as ld. DRP had held it to be capital outgo even though the expansion of business was that of Orchid India and not of assessee. Further as per ld. Authorised Representative assessee obtained enduring benefit only in the revenue field and not in capital field. M/s. Orchid India had committed to continuous supply of the intermediary drugs Meropenem and Imipenem. This only improved the business chain of the assessee but did not add to any of its capital asset. Reliance was placed on the judgment of Hon'ble Apex Co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ndia and Hospira group concerns. Contention of the ld. Authorised Representative was that revision of the prices was done in line with the legacy agreement between M/s. Orchid India and Hospira group, which assessee had inherited. In any case according to him, only negative differences were considered, ignoring positive difference. This gave a skewed and erroneous result. 21. Contra, ld. Departmental Representative submitted that assessee did not produce documentation to show that it had incurred higher or lower cost of production than what was agreed in the legacy agreement. When assessee supplied at a lower price than what was agreed with its Associated Enterprise then as per ld. Departmental Representative differences were rightly considered for addition by the ld. TPO. 22. We have considered the rival contentions and perused the orders of the authorities below. As already noted by us, assessee had taken over generic injectable drugs division of Orchid India through a slumpsale. By virtue of this, it was obliged to honour the agreements entered by M/s. Orchid India with various third parties in relation to such unit. The business model as already explained by us, was one in wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arked considering the interest charged by these two companies on ICCD. Ld. Authorised Representative submitted that ICCD rate for TPG Wholesale Private Limited was considered by the TPO at 0.5%. According to him, TPG Wholesale Private Limited was not a good comparable since their rate of interest on debentures was based on a corporate restructuring. Relying on the balance sheet of TPG Wholesale Private Limited, ld. Authorised Representative submitted that Debenture rate of the said company was 50% and not 0.5%. Relying on the audit report of the said company, ld. Authorised Representative submitted that it had acquired the assets and liabilities of One M/s.Vishal Retail Limited as a going concern during the relevant previous year and such high rate of interest on debentures was due to this acquisition. 24. Per contra, ld. Departmental Representative strongly supported the orders of the authorities below. 25. We have considered the rival contentions and perused the orders of the authorities below. It is not disputed that assessee had provided for interest at the rate of 10.5% on its ICCD. Ld. TPO had selected two companies for comparison of which one company was having ICCD intere ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rdinate in the case of Orchid Pharma Ltd vs DCIT (ITA No. 771/Mds/2016, dated 30.11.2016) for the very same assessment year, ld. Authorised Representative submitted that the type of influence mentioned in Sec. 92A(2)(i) of the Act was a dominant influence and not a passive one, which happen in course of ordinary business. Otherwise, according to him, even a solitary transaction could be treated as one which gives rise to a relationship of Associated Enterprise. Further, according to him, Bangalore Bench of the Tribunal in the case of Page Industries Ltd vs DCIT, 159 ITD 680 had held that for becoming an Associated Enterprise, parameters in both sub section (1) and (2) of Section 92A had to be satisfied. As per ld. Authorised Representative, assessee did not have either defacto or dejure control over Apotex Corp and Apotex Inc Signet. Once these two enterprises were treated as non Associated, then the pricing of the products and sharing of profit with them, became automatically at Arms Length and a perfect basis for applying Uncontrolled Price (CUP). Vis-à-vis other transactions of the assessee with its Associated Enterprise, namely Hospira group entities, as per the ld. Auth ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... see is that clause (1) and (2) of Section 92A of the Act should not be applied independently. In other words as per the assessee influence in pricing should be such that, an element of control is apparent therefrom. Interpretation of Sec. 92A(2)(i) was an issue which was considered by the Co-ordinate Bench in the case of Orchid Pharma Limited (supra). There one M/s.Northstar with which Orchid India has having a similar profit sharing arrangement was considered as an Associated Enterprise of M/s. Orchid India, by the ld. TPO. Interpreting Sec. 92A(2)(i) of the Act, the Co-ordinate Bench held as under:- ''12. It is in this background that we have to address ourselves to the scope of Section 92A(2)(i) which provides that "......two enterprises will be deemed to beassociated enterprises............when the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise". As we do so, we may take note of the fact, as discussed earlier as well, that the definition of associated enterprises in the cases covered by Se ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rtant principles of law laid down by the coordinate bench. The reasons for this approach are as follows. The expression 'control' appearing in Section 92A(1) is very crucial and the manner in which control is exercised could go well beyond capital and management, but the coordinate bench had no occasion to deal with the "control" aspect at all. As held in the case of Diageo India Pvt Ltd Vs DCIT [(2011) 47 SOT 252 (Mum)], even when an enterprise exercise control over the other enterprises by way of controlling the supply of raw material or use of trade marks, this also constitutes 'participation in control' leading to the status of associated enterprises under section 92A(1). It appears that this aspect of the matter has not been brought to the notice of, or pleaded before, the bench. While the conclusion arrived at by the bench clearly overlooks the specific mention of the word "control" in both limbs of the basic rule under section 92A(1) (i) as also under section 92A(1)(ii), and to that extent we are unable to concur that in the absence of participation in capital or management, two enterprises cannot be 'associated enterprises' under section 92A, what is important to us is that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gotiating power. For example, an Indian software company has a customer in Netherlands which is responsible for more than 90% of turnover of Indian software developer. The Dutch customer is able to dictate the prices to Indian software developer. The Indian software company is, therefore, able to charge a price with 1% margin/mark up, which is very low compared to his Indian counterparts (which apply, for instance, 6% mark up). According to the Indian transfer pricing law, if the gods or articles manufactured or processed by one enterprises, are sold to other enterprise abroad or to person specified by such other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprises, the two enterprises shall be deemed to be associated enterprises [See section 92A(2)(i) of the Indian Income Tax Act, 1961]. The Indian tax authorities consider the Indian software developer and its Dutch customer to be associated. They may adjust the prices and tax an unrealized profit, i.e. difference between real results and results based on prices derived from other software developers in India. The Netherlands does not consider the companies to be associate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l by one of the enterprise over the other enterprise, on account of commercial relationship of its buying the products, either on his own or through any nominated entities, from such other enterprise and in a situation in which it can influence the prices and other related conditions. The wordings of clause (i), however, do not reflect this position in an unambiguous manner inasmuch as it does not set out a threshold of activity, giving de facto control to the other enterprise engaged in such commercial activity, in percentage terms or otherwise- as is set out in clause (g) and (h) or, for that purpose, in all other operative clauses of Section 92A(2). If the words of this clause are to be interpreted literally, as the authorities below have read, even if there is one isolated transaction with an enterprise in such an enterprise can influence the prices, such an enterprise is to be treated as an associated enterprisewhether or not this commercial relationship amounts to control on the other enterprise. That will clearly be an incongruous result. However, as Section 92A(2)(i) is to be read alongwith Section 92(A)(1), in such a situation in which an enterprise does not participate in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d" and that "A statute or any enacting provision therein must be so construed as to make it effective and operative on the principle expressed in maxim utres magis valeat quam pereat i.e., a liberal construction should be put upon written instruments, so as to uphold them, if possible, and carry into effect the intention of the parties. [See Broom's Legal Maxims (10th Edition), p. 361, Craies on Statutes (7th Edition) p. 95 and Maxwell on Statutes (11th Edition) p. 221.]" It is, therefore, important that the expression 'influence' is given a sensible meaning so as to make the provisions of Section 92A(2)(i) workable rather than adopting a literal meaning which will lead to wholly incongruous results. 17. Viewed in this perspective, we must adopt a sensible meaning of expression 'influence' which advances the scheme of the transfer pricing provisions rather than making these provisions unworkable. That meaning had to be a dominant influence which leads to de facto control over the other enterprise rather than an influence simplictor. If we are to adopt literal meaning of influence, as has been adopted by the authorities below, all the transactions on negotiated prices will be hi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... M/s. Northstar was not in a position to exercise any such dominant influence since M/s. Orchid India had also exported through various other distribution partners and dealings with M/s.Northstar constituted less than 5% of the entire exports and less than 6% of the entire sales of M/s.Orchid India. As against this admittedly, in the case before us, the entire sales of the assessee were to Apotex Cort/ Apotex Inc Signet and M/s. Hospira group, concerns of which the latter admittedly were Associated Enterprises of the assessee. The profit share which came to the assessee from these parties were as under:- Party Name Profit Share Amount Apotex Corp 29,21,54,195 Apotex Inc 85,79,870 Total 30,07,34,065 Hospira Enterprises BV 95,19,26,971 95,19,26,971 Grand Total 125,26,61,036 The total sales to Hospira group as already mentioned by us at para 5 above, aggregated to H283,79,39,806/-. It can be safely concluded from the above data that more than 20% of assessee's sales were to Apotex Corp and Apotex Inc. The profit shared earned by the assessee from them aggregated to H30,07,34,065/- out of the total profits of H125,26,61,036/-. We ar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... saction in which they are engaged, is determined ; (ii) the relative contribution made by each of the associated enterprises to the earning of such combined net profit, is then evaluated on the basis of the functions performed, assets employed or to be employ-ed and risks assumed by each enterprise and on the basis of reliable external market data which indicates how such contribution would be evaluated by unrelated enterprises performing comparable functions in similar circumstances ; (iii) the combined net profit is then split amongst the enterprises in proportion to their relative contributions, as evaluated under sub-clause (ii) ; (iv) the profit thus apportioned to the assessee is taken into account to arrive at an arm's length price in relation to the international transaction:'' In our opinion, lower authorities had failed in properly applying the above rule, though what was effectively applied was a profit split method. Essential elements that are required to be verified for applying the said method was never considered by the lower authorities while considering the profit split ratio at 60:40. Considering all these facts, while holding that M/s. Apotex Corp ..... X X X X Extracts X X X X X X X X Extracts X X X X
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