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TMI Blog2019 (4) TMI 1866X X X X Extracts X X X X X X X X Extracts X X X X ..... lusion of one comparable company, namely, Modicare Ltd. For the sake of ready reference, we are taking up the appeal for the Assessment Year 2009-10 and our finding given therein will apply mutatis mutandis in all the years. 3. The brief background and facts of the case are that Oriflame India Pvt. Ltd. is a company incorporated in India, and is a part of Oriflame group founded in 1967. This group provides about 1000 products in skincare, make up, fragrances and toiletries through its various subsidiaries across 60 countries all over the world with 3.6 million independent consultants all over the world. The assessee company is inter alia engaged in trading of cosmetic products and the main business activity of the assessee was purchase of finished goods from its associated enterprises and resale in India without any value addition activities. As a sales strategy, the assessee sells its products through its sales consultants, that is, it is into direct selling model. Beginning from F.Y. 2011-2 the assessee was also engaged in manufacturing activities and hence followed a segmental approach for the transfer pricing analysis in the TP documentation from this year. 4. The assessee fo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee due to several reasons, however, remanded the matter back to the file of ld. TPO to retain the sole comparable and examine the comparability adjustment on Modi Care Ltd. to enhance its comparability with the assessee. Aggrieved by the order of the Tribunal, assessee has preferred an appeal before the Hon'ble High Court, with the sole issue, as to whether under the facts and circumstances of the case the direction of the Tribunal to include Modicare Ltd. and the exclusion of other comparables chosen by the assessee were correct. The Hon'ble High Court vide its judgment and order dated 10the April, 2018, in very detail judgment observed that the findings of the Tribunal were inconsistent in so far as selection of Modicare Ltd. is concern, because, despite noting various significant differences between the assessee and Modicare Ltd., still the Tribunal chose not to address how such difference can be adjusted while carrying out the comparability analysis. After considering the entire gamut of facts and contentions raised, the Hon'ble Hight Court remanded the issue back to the Tribunal to reconsider the appeal in view of the selection of Modicare Ltd. While remittin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... thorities at the early stage of the proceedings) was "ideally not an appropriate comparable" and has also canvassed that the comparables selected by the taxpayer have wrongly been rejected by the tax authorities. In paras 5.8 and 5.9 it is stated as follows: "5.8 Thus when considered in the light of the aforesaid statutory Rules, we find that the tax authorities while considering the grievance of the tax payer admittedly have taken a position contrary to what has been envisaged under the Rules. 5.9. Having so addressed, we find that over the years primarily the taxpayer has raised the issue that Modi Care Ltd. as a stand-alone comparable was ideally not an appropriate comparable and has also canvassed that the comparables selected by the taxpayer have wrongly been rejected by the tax authorities. One of the many lines of arguments taken by the taxpayer is that firstly Modi Care Ltd. has a very limited cosmetic and personal care product category thus it lacks product similarity; secondly it also has income from franchisees, hence it is not a similar service, thirdly its discounts are below the line expense and Revenue recognition policies are also significantly incomparable; fou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that service income has been excluded by the TPO himself in the subsequent years and in fact in one of the years in the present proceedings. It has been argued that if the adjustments are thus made then no adjustments to be arm's length price of the assessee would be necessitated. We note that the tax authorities have not considered the calculations as principally they have been of the opinion that no relief was warranted. Holding the said approach of the tax authorities contrary to the statutory position we direct the TPO to look into the claim of adjustments required to be made to Modi Care Limited. While so directing it is made clear that the responsibility for providing the supporting data to the satisfaction of the TPO rests with the assessee. The TPO cannot be burdened to look for possible adjustments. In case the tax payer does not succeed on this ground then the TPO may consider directing the assessee to carry out a search of comparable companies from the list of direct sellers in the market, as has been referred to in the TPO in the respective years and the CIT(A) has also specifically mentioned the direct sellers at pages 8 and 9 of his Order. The comparable companies ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ble in the form of Modicare Ltd (supra). 9 In view of the above reasons, this Court is of the opinion that the appeal should be re-examined by the ITAT; it should be addressed on these two aspects i.e. firstly, the appropriateness of including Modicare Ltd. having regard to the availability of data with respect to the different product segments, and secondly, involving the comparable, the functional difference with respect to its marketing strategy (i.e. discount, transportation costs, insurance and performing the warranty function). Having regard to the factors mentioned in clause 5.10 of the impugned order, the ITAT is also directed to re-examine whether and to what extent adjustment can be reasonably made, having regard to the available data in respect to the trading comparables offered for ALP determination, for all the relevant years by the assessee. It is also directed to consider the feasibility again having regard to the available data for all the concerned assessment years- marking appropriate adjustments (including with respect to the working capital adjustments as is sought to be urged. 10 This Court is of the opinion that the ITAT may task by the assessee) in regard ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ore than 10% of sales- evidencing that it is engaged in value addition activity Yes. However, under transfer pricing norms a trader performing value addition cannot be compared with a low risk distributor not performing any value addition. Cost of Goods sold / Total operating Cost ratio In the range of 50% to 60% In the range of 20% to 30% - evidencing that's its functional profile is different from a normal trader Yes. Though an adjustment can be made for COGS, under transfer pricing norms such a comparable is not appropriate. 7. It was also submitted by the learned counsel that; Firstly, if RPM method is to be applied, then it should be applied on all the comparables chosen by the assessee and after working capital adjustment, most of the differential factors would be removed and; Secondly, in case adjustment cannot be made under RPM, then TNMM should be adopted as most appropriate method as observed by the Hon'ble High Court, then all the comparables selected by the assessee should be tested under TNMM and that is the mandate of the direction of the Hon'ble High Court. 8. On the other hand, the objection of the ld. CIT-DR was that the Hon ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n under the RPM method. Therefore, we are of the opinion that these comparables can be examined under the TNMM and all the relevant data would be provided by the assessee which shall be verified by the TPO. Let the remand report from the TPO be placed before this bench on or before 18th July, 2018. The assessee is directed to provide all the relevant data within two days, i.e., by 11th July, 2018; and thereafter TPO should give this comment by 18th July, 2018. List this matter on 18th of July, 2018. A copy of this order sheet shall be served to the TPO by today or tomorrow." 10. In pursuance of the aforesaid direction, the TPO has submitted her remand report, wherein she has stated that segmental data for varied products of Modicare Ltd. is not available; and further observed that the segmental cannot be constructed due to non availability of data for apportionment of cost in various segments. The TPO has also rejected the comparability adjustment sought by the assessee to enhance the comparability between the assessee and Modicare Ltd. Apart from that, though TPO accepted the functional comparability of the comparables offered by the assessee, however, rejected the comparables of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... it is not possible to make reasonable accurate adjustments under RPM as can be seen from the table and explanations above, and accordingly none of them can be considered comparable to the assessee. 2.5. With respect to Modicare Ltd., functional and product similarity has already been established in the above. S. No. Factors Whether adjustment can be made - Yes/No 1 Advertising, Marketing, Promotion (AMP) No. Modicare Ltd. has incurred expenses under the} head 'Marketing and Sales Promotion Expenses' I of Rs. 29,552,604. Out of these, as confirmed by Modicare Ltd. in a response to a notice issued to it u/s 133(6), [Refer Annexure A] there is no Advertisement expense. Hence, Modicare Ltd.; has not incurred any actual AMP expenses, thereby eliminating the need for comparability adjustment. 2. VAE No. As discussed in the preceding paragraphs, assessee has not submitted anything substantial that proves why COGS should be a dominants expense and why Modicare Ltd's high VAE cannot be accepted. 3. Working Capital Yes. As per Annexure B. 3.3. On the basis of the above, it can be established that though while applying TNMM the standard of comparabil ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... expense} under the following heads: i. Laundry, ii. home care, iii. personal care, iv. cosmetics and v. health care In the submission dated 18.09.2018 ref. nil, the comparable assessee has clearly denied the possibility of such bifurcation stating that "bifurcation of other major expenses in separate product categories is not feasible due to nature of these expenses, which are incurred for total business of the company." The major heads of expenses have also been discussed in the submission which is enclosed for ready reference." 11. Before us, the learned counsel submitted that there are huge product and functional differences between the assessee and Modicare Ltd., which for the sake of ready reference can be summarized in the following manner:- "1. Diverse Product Profile Modicare Ltd. had a diversified product portfolio ranging from Laundry and Homecare, Personal care, Agriculture, Tea, Jewellery, Healthcare, cosmetics, others apart from cosmetics. The share of cosmetics ranges from 12% to 18% for the years under consideration, Even if personal care is aggregated then also more than 50% comprise diverse products. The Appellant does not deal in any of these ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... td ranges from 22% to 28% of its total operating costs for years under consideration. Value added expenses/operating expenses are more than 70%. This is unlike a trading company where COGS should be the dominant component of total costs, Hence, the cost profile of Modicare Limited is not similar to the Appellant. 6. Franchise business model Modicare Ltd. has recorded franchisee expenses in its financial statements. Thus, Modicare Ltd. is operating as a franchise business and is not wholly a direct seller. The segmental accounts given in the Annual report is only in respect of products and there is no segmental account available for franchise business. The revenues from franchise business are presumably being included in the sales figures as there is no separate line item showing any income from franchise business. The summary of the functional and product differences between Modicare Ltd and Appellant have been provided in the following table: Table: Differences in Functions. Assets and Risk and product profile of the Appellant vis-a- vis Modicare Limited and comparability adjustments (recognized by the IT AT in Paras 5.9 & 5.11) Particulars Oriflame India Modicare Ltd. Wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ny at an entity level can be taken into account because personal care, cosmetics and healthcare products comprises 59.88% of the total sales for FY 2011-12 and similar percentages for other years under consideration. It is pertinent to note that Ld. TPO has not been able to rebut the claim of the Appellant regarding incomparable product profile of Appellant and Modicare Ltd. and has also not been able to show that comparability adjustments are possible on account of different product profiles. Modicare Ltd. has a different business model as compared to the appellant as it is also incurring substantial franchise expenses and earning service fee by entering into annual maintenance contract. Ld. TPO in para no. 1.4 & 1.5 in her remand report has mentioned LI idL since the appellant Is also deriving service fee, similar to Modicare Ltd., there is no functional difference, in this respect. Ld. TPO has failed to appreciate that the service tee earned by the appellant is on account of renewal fees (INR 38.09 lacs for FY 2011 12 and similar amount for other years under consideration) and handling fees (INR 67.32 lacs for FY 2011-12 and similar amount for other years under consideration ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re (dealing in plastic products) and Herbal Life (Nutrition of weight management). It is quite evident that all these companies have not been taken as a comparable despite being members of IDSA. Further, in the case of Tupperware India Pvt Ltd vs DCIT fITA no, 2140/Del/20Hand ITA no. 1323/Def/2012), the Delhi ITAT has considered non- direct sellers/ normal trading companies as comparables even though Tupperware is a direct seller. In para 1.8 of the remand report, the Ld. TPO has stated that no adverse conclusion can be drawn regarding Modicare on account of the fact that there is a very big divergence between gross margin and operating profit margin and this fact by itself doesn't show difference in business model. It is submitted that Modicare Ltd. has a high gross profit margin and negative operating profit margin because it is incurring substantial operating expenses mainly by way of advertisements and marketing. The table below gives a comparative figure of the four financial years. Gross Profit (%) Operating Profit (%) Financial year Modicare Ltd. (as determined by Appellant Modicare Ltd. Appellant 2008-09 TPO) 76.47% 45.58% 1.14% - ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a better result, but the comparables chosen by the assessee deal in cosmetics only. Comparable companies selected by the assessee have been provided before us separately. Further, a table showing similarities between a direct marketer and non-direct marketer and comparison between Oriflame India, Modicare Ltd. and other companies selected by the assessee was given in the following manner to demonstrate that there is no significant difference between them:- Particulars Oriflame India Modicare Ltd. Other comparable companies selected by the Buy-sell trading operations ✓ Somewhat as also have Franchise business model and service ✓ Trading in cosmetics ✓ Diversified product profile with cosmetics comprising only 12-18% over various years ✓ Sells through : intermediaries ✓ ✓ ✓ Incentives/Discounts accounted for below the gross profit X ✓ X Significant AMP expenses X ✓ ✓ From the above table, it was contended that, a direct selling trader like the assessee is in all respects similar to any other trader except for the higher working capital requirement which a direct seller may have. This materi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y adjustments permissible in Rule 10B(3) can be made to bring them at par with the Appellant have been outrightly rejected. 14. Lastly, he submitted that DRP in the subsequent assessment order for the A.Y.2014-15 has itself rejected Modicare Ltd. on functional ground based on the observation of Hon'ble High Court and, therefore, on this count also Modi Care Ltd. should be excluded. 15. On the other hand, ld. CIT-DR, submitted that the mandate of the Hon'ble High Court was; firstly, to consider the appropriateness of including Modicare Ltd. having regard to the availability of data with respect to different products segment and; secondly, the functional difference with respect to marketing strategy, etc. There cannot be any dispute that Modicare Ltd. is into direct selling and is also into similar kind of products with the assessee. Under RPM broader difference can be allowed as the property transaction in the control transaction must be compared to that being transferred in the uncontrolled transaction. Under RPM, the focus is not much on product comparability. Here other attributes of comparability like functions, performed, economic circumstances, etc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g of comparable already selected by the assessee. 17. It was in this background, we had required the Ld. TPO to submit a remand report, whether relevant data with regard to various segment of Modicare Ltd. is available or not; and to what extent adjustment can be made. The differences highlighted by the assessee was directed to be examined by the TPO. Further, it was also directed that the comparables given by the assessee should also be examined under TNMM for which relevant data would be provided by the assessee and same should be verified by the TPO. Now as is evident from the content of the remand report, the Ld. TPO has admitted that, Modicare Ltd. has not disclosed any business segment for its various products and from this she has inferred that the company does not differentiate its products into separate reportable segments and accordingly, different segment cannot to be considered. As per the Ld. TPO, since Modi Care Ltd. is also into direct selling model as that of the assessee, therefore, it is a most appropriate comparable. She has also referred to marketing and selling function of the assessee-company and also that of Modicare Ltd. regarding their sale and marketing p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ves' which has been taken below the line in the Profit & Loss account treating to be a part of operating expenses. Because of the difference in accounting treatment, there is a gap between gross profit margin and net profit margin disclosed by the Modicare Ltd., which can be seen from the annual account that the gross profit margin of Modicare Ltd has been shown at 76.47%, whereas the net profit margin is at only 2.25%. Thus, there is substantial variance in the gross and net profit margin levels, which indicates that Modicare Ltd. is incurring heavy operating expenses and also substantiates heavy functions at the operating level. Further, Modicare Ltd. has significant AMP expenses of 7.32% which in the case of the assessee is only 0.94%. If a distributor is incurring substantial AMP expenses then it cannot be compared with routine distributor under RPM as it tantamount to value addition. This also goes to show Modicare Ltd. has different functions as compared to the assessee. There is also difference in the case of goods sold ratio and value-added expenses which is apparent from the fact that in case of Modi Care Ltd. the cost of goods sold ranges from 22% to 28% of its total oper ..... X X X X Extracts X X X X X X X X Extracts X X X X
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