9911796707
TMI Blog2013 (5) TMI 983X X X X Extracts X X X X X X X X Extracts X X X X ..... f depreciation only ignoring the working done by the TPO. 4. Whether in the facts and circumstances of the case, the Ld. CIT (A) erred in allowing the exceptional replacement cost of ₹ 10.72 crores whereas the MOU between assessee and Honda Seil Cars limited provides for ₹ 6.11 crores. 5. That the order of the Ld CIT (A) is erroneous and is not tenable on facts and in law. 2. The assessee is a company engaged in the business of manufacture and sale of automobile components i . shock absorbers. It filed its return of income at ₹ 10,23,61,920/ and the assessment was made on 31/12/2008 by The Additional Commissioner Of Income Tax, Range 5, Delhi (Ld. AO) u/s 143 (3) read with section 92CA (3) of The Income Tax Act 1961 ( The Act) . The Ld. AO added an adjustment to the total income on account of the difference in the arm‟s length price ( ALP) of the international transaction of ₹ 22,66,12,074/ . 3. Brief facts of TP adjustment shows that assessee has entered into an international transaction with its associated enterprise for purchase of components and parts, purchase of capital goods, export of goods, payment of technical services f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 525/- per unit the assessee must have arrived at the sale price after taking into account the prevailing cost of component and technology. The Ld. TPO also noted that the assessee has failed to furnish any evidence for sudden unavailability and steep rise in cost of component and technology which could prove that the price setting mechanism of the assessee with regard to this of absorber went wrong. It was further noted by him that the import was made from associate companies and the assessee failed to prove if these imports were at arm‟s length price or not. The Ld. Transfer Pricing Officer also noted that assessee failed to substantiate its claim in absence of making CUP for identical products by the associated enterprise of the assessee to other parties. The assessee also sought an adjustment because of the downward revaluation of inventory with respect to Unicorn product. The Ld. Transfer pricing officer rejected the same. However the Ld. assessing officer Granted an adjustment of ₹ 6.11 crores on account of abnormal cost incurred by the assessee in relation to the supply of goods to Honda Seil Car Limited from the total cost incurred by the assessee of ₹ 517 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rn‟. Accordingly he worked out the profit level indicator of operating profit/operating income of the assessee where the total cost was considered at ₹ 517 crores which was further reduced by the Ld. CIT (A) by abnormal cost of ₹ 24.01 crores resulting into adjusted total cost of ₹ 493 crores. The operating revenue of the assessee was ₹ 523.28 crores and the operating profit of the assessee was ₹ 30.24 crores which resulted into the profit level indicator of operating profit/operating income of 5.78 %. He also allowed the capacity utilization adjustment to the extent of the depreciation cost and held that as the profit margin of comparable company is 5.81% as against 5.78% of the appellant company the whole transfer pricing adjustment does not survive. 6. Aggrieved, by the order of the Ld. CIT (A) the revenue is in appeal before us. The main grievance of the revenue is the granting of the deduction of abnormal cost as product recall expenses, inventory valuation, and higher cost of purchases etc. 7. Assessee moved an application under Rule 27 of The Income Tax Appellate Tribunal Rules, 1963 stating that Renowned Auto Products Manufacturing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... FAR analysis this company is one of the good comparable with the FAR of the assessee. Merely because that company has negative net worth in one year does not make it a non-comparable company. It has been shown before us that comparable has negative net worth only in FY 2004-05 and in subsequently it turned out to be in positive. In case of Negative net worth companies if selected by the assessee, it is the duty of the assessee to show that functional similarity between the comparable exists and the negative net worth of the company has no impact on the profitability of that comparable company. If the TPO rejects the comparable selected by the assessee, which is otherwise functionally comparable but has negative net worth, it is the duty of the TPO to show that negative net worth of the company has impacted its profitability in such a manner that its financial operations are not comparable with the assessee or its pricing has been adversely impacted due to it. Comparable having net worth can be rejected only when the parties prove that it has neither impacted Functions, Assets and Risk of the comparable and nor has impacted the pricing thereof. Neither party has shown before us tha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... etain the customer and to make a substantial sales by the assessee. He also submitted a chart which shows that in the subsequent years there is a growth @165%. With respect to the decrease in the value of inventory, he stated that above provision is as per AS-2 and the value of closing stock decreased by ₹ 4.77 crores because of special variety of shock absorber to be used in Unicorn Model of Honda Motorcycles. In view of this it was submitted that aggregate of the adjustment of aforesaid cost is required to be added to the operating profit of the assessee. He therefore, submitted that if then the margin of the assessee is compared with the Gabriel India, then operating profit of the assessee would be higher than operating profit of Gabriel India Ltd. 12. We have carefully considered the rival contentions and also perused the orders of the lower authorities. The assessee has asked for removal of certain cost from the operating cost of the assessee as according to it those costs have not been incurred in the normal course of the business but are extra ordinary items. In fact before deciding on removal of any cost component from the operating cost of the assessee for working ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 33, adjustment was allowed by the TPO only to the extent of ₹ 6,11,62,246 on the basis that as per the MOU with HSCI, only expenses to that extent were required to be reimbursed by the appellant. The aforesaid finding of the TPO is incorrect. Out of the total expenditure of ₹ 10,72,32,133, incurred on replacement of defective parts supplied to HSCI, the TPO has only considered the portion of the expenses which was incurred at the end of the customer, viz., HSCI, and reimbursed by the appellant. The TPO did not take into account remaining amount of expenditure of ₹ 4,60,69,887 incurred on recall of defective products at the end of the appellant. The entire expenditure incurred on recall of defective products supplied to HSCI of ₹ 10,72,32,133 is clearly reflected in the audited financials of the appellant as exceptional item. The assessing officer / TPO is accordingly directed to consider the entire expenditure of ₹ 10,72,32,133 as abnormal expenditure incurred on recall of defective products, viz., Struts (including bottom tube) supplied by the appellant to HSCI as abnormal item of cost which is not present in the financial of the comparable company, v ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of expenditure in the appellant's financials and is accordingly to be excluded for computing operating profit margin for comparison with Gabriel. ( c) Decrease in value of closing stock on account of valuation of inventory of shock absorber for Unicorn at market price as against higher cost of production. 12.7 The appellant has submitted that it has undervalued the closing stock of monoshock absorber manufactured for Unicorn two wheelers by ₹ 4.77 crores as cost of production of such product was higher than the realizable value/market price. The aforesaid is purely an accounting adjustment which results in a mismatch of cost charged to profit and loss account and valuation of stock on the credit side of the profit and loss account. Such adjustment distorting the actual profit is required to be ignored for determining the operating profit margin for undertaking benchmarking analysis applying TNMM. I agree with the contention of the appellant that such distortion is required to be eliminated from the profit and loss account to recompute the correct operating profit margin from transactions entered into by the appellant. From the detail of valuation of closing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es, selling expenses, miscellaneous expenses, etc. do not significantly get influenced by the difference in the level of capacity utilization. Such operating expenses are generally commensurate with the volume of production and/or sales turnover and in case there is lower or higher sale, such expenses would correspondingly be increased or reduced. In other words, such operating expenses are normally commensurate with the level of sales. It would also be appreciated that the effect of high or lower capacity utilization is primarily reflected in the charge of depreciation, which is the major item of fixed cost in the profit and loss account in as much as other costs or expenses are incurred considering the operational capacity and are commensurate with the capacity actually utilized. ( b) Capacity utilization at best may provide the benefit to the appellant on account of lower incidence of depreciation as higher production is achieved using the same plant and machinery and other fixed assets. Even considering the adjustment made on account of capacity utilization by adjusting the depreciation to that extent, the normalized profit and loss account of Gabrial India would reflect ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rating profit margin works out to 3%. Considering the difference in operating profit margin of 3% as aforesaid, the adjustment would be worked out at ₹ 15,69,84,000 as against ₹ 22,66,12,074 computed by the TPO. 14.0 Finding: I have duly considered various contentions raised by the appellant. It is a matter of common understanding that operating profit margin of - a manufacturing enterprise does not vary in direct proportion of the variation in capacity utilization. All variable cost, such as, raw material cost, power and fuel cost, employees cost, manufacturing expenses, selling expenses, miscellaneous expenses, etc. do not significantly get influenced by the difference in the level of capacity utilization. Such operating expenses are generally commensurate with the volume of production and/or sales turnover and in case there is lower or higher sale, such expenses would correspondingly be increased or reduced. In other words, such operating expenses are normally commensurate with the level of sales. It would also be appreciated that the effect of high or lower capacity utilization is primarily reflected in the charge of depreciation, which is the major ite ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t that this expenses needs to be adjusted while working out PLI but he adjusted partially only. The adjustment made by the ld Transfer Pricing Officer was based on the copy of the memorandum of understanding produced between assessee and Honda Seil Cars Ltd dated 24.02.2005. According to those clauses of MOU only 12795 cars were impacted and to this extent the assessee was to bear the loss which amounts to ₹ 6.11 crores. The ld Transfer Pricing Officer granted the above deduction from the overall cost of the assessee as extraordinary cost. Before the ld CIT(A) the assessee submitted that assessee has incurred total cost of ₹ 10.72 crores whereas the TPO considered only the expenses which were incurred by the customer and reimbursed by the appellant. We concur that the assessee over and above the direct expenditure as reimbursement to the customer has other expenditure also in the form of goods lying at the factory. Infact the claim of the assessee is ₹ 13.26 crores out of which the ld Transfer Pricing Officer allowed ₹ 6.11 crores and ld CIT(A) enhanced the deduction to ₹ 10.72 crores. The above facts shows that there is an extraordinary event which ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt of ₹ 2.56 crores on account of valuation of inventory of Unicorn‟ products. The resultant adjustment was sought by the assessee submitted that the value of the inventory is less than the cost incurred by the assessee. The method of valuation of inventory shown by the assessee is at note no (g) of schedule 24 which shows that inventories are to be valued at cost or net realizable value whichever is less‟. This is the method of accounting and valuation of inventory regularly followed by the assessee and the risk of diminution in the value is inherent in any business. Further, the assessee has also not classified it as exception or extra ordinary loss. The inventory has also not been sold. The ld CIT (A) has also gone on estimates without identifying any extra ordinary losss in the inventory but has gone on percentages which is not acceptable. The Differential prices were also calculated by applying the rates of the prouct and not identifying each of the components, which is mandatory at the time of valuation of goods. Assessee before TPO has stated that due to this profit is lowered by 0.79 %. The ld TPO has also given his reason in para no 5.3.3. of his order ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
