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TMI Blog2019 (8) TMI 1864X X X X Extracts X X X X X X X X Extracts X X X X ..... action or class of transaction or functions performed, etc. It is impermissible to combine all the international transactions for determining their ALP in a unified manner when such transactions are diverse in nature. Thus it is the higher of actual income or the arm's length income from an international transaction, which is taken into consideration for computing the total income. We find that the international transactions inter alia including purchase of raw materials and export of printing inks manufactured out of it, the appellant has sufficiently demonstrated that these transactions are closely linked and inter-related and therefore may be considered together for benchmarking purposes. Both these transactions relate to the appellant s manufacturing activity and have similar FAR analysis.TNMM is therefore held to be the most appropriate method, as claimed by the appellant as well as the Revenue, for benchmarking these set of transactions. In respect of the press chemicals purchased from AEs for trading, we note that this set of transactions have no relation or connection with purchase of raw materials and export of printing inks and are hence separate distinct. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ication of internal TNMM qua the manufacturing segment, for benchmarking the international transactions involving purchase of raw materials and export of manufactured printing inks and the appellant s claim for resegmentation of the manufacturing segment into further sub-segments viz., (i) manufacture of printing inks and (ii) manufacture of blankets - We find merit in the ld. DR s argument that the alleged sub-segment viz., manufacture of blankets is very small does not have any material bearing on the overall manufacturing segment. Accordingly we reject both these claims of the appellant and hold that external TNMM was the most appropriate method. Comparability analysis undertaken by the lower authorities under the TNMM - We agree with the ld. AR s contention that a good comparable can be said to be a company which is engaged in the same line of business and not any down-stream or up-stream company, which forms part of the supply chain. In the present case the appellant manufactures printing inks and not pigments. Instead it procures pigments from pigment manufacturers or suppliers, thus one of the mentioned six comparables retained by the DRP are good comparables and hence ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hed. The TPO further observed that the segmented results furnished by the appellant did not form part of the audited annual financial statements and therefore refused to accept the sancity of the segmented results as provided by the assessee. The TPO proceeded to benchmark these international transactions by applying entity level external TNMM. The TPO followed the same search process as followed by his predecessor in the earlier AY 2012-13 and identified 14 comparables having mean PLI [OP/OR] of 8.57% as against PLI of 3.58% of the tested party viz, the appellant. Accordingly the TPO computed transfer pricing adjustment of Rs. 2,47,61,421/-. Based on the order passed u/s 92CA(3), the AO passed a draft assessment order u/s 144C adding the aforesaid TP adjustment along with other additions/disallowances to the assessable income of the appellant for the relevant AY 2013-14. Aggrieved by this draft order, the appellant filed objections before the DRP-2 Delhi. The DRP-2, Delhi in their order dated 24.08.2017 rejected the usage of segmented results and upheld the application of external TNMM on entity level. The DRP-2, Delhi however excluded 4 comparables out of the 14 comparables ident ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... It was pointed out that the dispute again arose in AYs 2010-11 to 2012-13 wherein the TPO rejected the aforesaid methodology and applied entity level TNMM on aggregate international transactions. During the pendency of the appeal for AYs 2010-11 2011-12 before the Ld. CIT(A), the matters of the subsequent AY 2012-13 were decided by the DRP, Delhi. Although the DRP, Delhi did not accept the appellant s TPSR but found certain infirmities in the search process and comparables identified by the TPO. Following the revised set of comparables upheldby the DRP, Delhi, the TPO noted that the international transactions were on arm s length even on application of TNMM at entity level. The Ld. AR thus submitted that the matter for AY 2012-13 attained finality. Thereafter, the Ld. CIT(A) disposed-off the appeals for AY 201011 2011-12 on the same lines as decided by the DRP, Delhi in AY 2012-13. Upon giving effect to Ld. CIT(A) s order, the international transactions were found to be at arm s length. On appeal, this Tribunal in the order dated 03.05.2019 in ITA Nos. 1362 1363/Kol/2017 upheld the orders of the Ld. CIT(A) for the AYs 2010-11 2011-12. The Ld. AR pointed out that in the appe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... international transactions and benchmarking it at entity level was unsustainable in law and on facts. 5. Assailing the order of the lower authorities, the ld. AR submitted that the reasoning put forth by them to reject the segmented accounts was extraneous. Inviting our attention to Page 121 of the paper book the ld. AR submitted that the appellant had furnished audited segmented accounts and hence the same could not be outrightly rejected as un-reliable. He further pointed out that the audit certificate also contained the different allocation keys adopted for bifurcation of common costs expenses. Taking us through each of the allocation key, the ld. AR submitted that the segmented accounts had been drawn up on reasonable basis. He thus contended that in absence of any factual infirmity or any specific error in the segment information provided by the lower authorities they were unjustified in rejecting the same. 6. The ld. AR submitted that whether the segment reporting is disclosed in the audited financial statements or not, is irrelevant to decide its reliability. The Ld. AR pointed out that segment reporting in the annual financial statements is required to be done in ac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... med by the lower authorities was unjustified. He submitted that ideally the four comparables identified by the appellant and accepted by the TPO only were required to be considered.He submitted that these 4 comparables were engaged in the manufacture of printing inks and this data was sufficient and there was no need to broaden the search horizon to include companies engaged in manufacture of specialty chemicals, pigments etc. Drawing attention to the six comparables identified by the TPO and retained by the DRP, he pointed out that each of these comparable was engaged in manufacture of pigments which was the raw material used in the manufacture of the appellant s product i.e. printing inks. He submitted that the functional profile of pigment was completely different than printing inks and that it could not be said to be comparable. According to ld. AR a comparable company for a manufacturer is its competitor and not its supplier or any other company which forms part of the supply chain. The markets catered to, economic forces faced, price elasticity and other commercial factors faced by a raw material manufacturer would not be same as its user. To illustrate it further, he submi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nces of the case, the lower authorities erred in law and/or facts in adopting aggregation approach and benchmarking all international transactions at entity level as opposed to transaction by transaction approach. b) Whether on the facts and circumstances of the case, the lower authorities were unjustified in rejecting the segmental information furnished by the appellant. c) If the use of segmental information is found to be acceptable then, whether on the facts and circumstances of the case, the appellant was justified in applying internal RPM for benchmarking the international transactions involving purchase of goods. d) If the use of segmental information is found to be acceptable then, whether on the facts and circumstances of the case, the appellant s methodology of applying internal TNMM for benchmarking the international transactions involving purchase of raw materials and sale of manufactured goods was justified or not. e) Whether on the facts and circumstances of the case, the comparability criteria followed and the comparables identified by the TPO and retained by the DRP, Delhi are acceptable or not. 10. From the facts on record it is noted that the appell ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... espect of the purchase of the property or obtaining of the services by the enterprise from the associated enterprise; (e) transactional net margin method, by which, (i) the net profit margin realised by the enterprise from an international transaction or a specified domestic transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction or the specified domestic transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realised by the enterprise and re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l transaction as per section 92C(1) is done as per the most appropriate method. To put it simply, each international transaction is to be viewed separately and independent of other international transactions for determining its ALP by using one of the given methods, which is the most appropriate method having regard to the nature of transaction or class of transaction or functions performed, etc. It is impermissible to combine all the international transactions for determining their ALP in a unified manner when such transactions are diverse in nature. 13. To illustrate the above, there may be a case where transaction involving purchase of goods may be benchmarked applying CUP and it is found that such international transaction is recorded showing a higher cost than its ALP cost. Further, in another set of transactions involving rendering of services, it is found that the international transaction recorded shows a higher income than its ALP income. It is overt from section 92(1) that if an international transaction is recorded showing excess costs than its ALP cost, then it is the ALP cost which should be considered for the purpose of computation of the total income, which in thi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essee to prove that although each is priced separately, but they are provided under one composite agreement. It still further held that each component may be priced differently also, but it will have to be shown that they are inextricably linked that one cannot survive without other. Merely because purchase of goods and acceptance of services lead to manufacture of final product, it does not follow that they are dependent transactions. The relevant extracts of the judgment is as follows: - However, it cannot be accepted that as the services and goods are utilized by the assessee for the manufacture of the final product, they must be aggregated and considered to be a single transaction and the value thereof ought to be computed by the TNMM. Merely because the purchase of each item and the acceptance of each service is a component leading to the manufacture/production of the final product sold or service provided by the assessee, it does not follow that they are not independent transactions for the sale of goods or provision of services. The end product requires several inputs. The inputs may be acquired as part of a single composite transaction or by way of several independent t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ents and the CUP or any other method to the remaining components. [Para 43] - In the present case, all the items were not provided by the same entity. They were provided by different entities. That these entities were all part of the same group is not determinative of the issue whether they were part of a single international transaction. Each party to the group is a separate legal entity. There is a possibility of there being a single international transaction where goods are sold and/or services are supplied by various entities within a group under a single transaction. That, however, would depend upon the facts of each case. The onus would be on the assessee to establish that though the goods were supplied and/or the services were rendered by different legal entities, they were part of an international transaction pursuant to an understanding between the various members of the group. [Para 44] - In the instant case, during the assessment year the assessee received professional consultancy services from KBSFS for improvement of its production process including planning of new machines, provision of internal machinery support, co-ordination of maintenance activities and prov ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... applied on entity level and that the determination of ALP of the international transaction of payment of royalty under the CUP method was without prejudice to its main argument of the applicability of the TNMM. Notwithstanding the fact that such a contention has been repelled by the tribunal for earlier years, still the ld. AR canvassed this view before us by relying on the judgment of the Hon'ble jurisdictional High Court in Sony Ericsson Mobile Communications India (P) Ltd. v. CIT [2015] 374 ITR 118/231 Taxman 113/55 taxmann.com 240 (Delhi), which in the opinion of the ld. AR, is an authority for the proposition that aggregation of all the international transactions for benchmarking under the TNMM is permissible and, there is no need to separately determine the ALP of any international transaction including 'Payment of royalty'. 7.2 We are unable to countenance this contention. In a group of appeals by 'Distributors' (not Manufacturers) led by Sony Ericson Mobile Communications India (P.) Ltd's. case (supra), their Lordships espoused the determination of the ALP of Advertisement, Marketing and Promotion expenses (AMP expenses). Dealing with the computat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 20/- for the foreign AE, whereas the net profit on sales declared by comparable uncontrolled transactions was Rs. 100/- only. Thus, it was observed that the costs including AMP expenses are independent of cost of imported raw material/finished products having some correlation with overall profit. The example highlights the weakness of the TNM Method. The reasoning would be equally valid, where no AMP or brand building' expenses are incurred. (See paragraph 21.8 to 22.10 of the majority decision). The net profit margins can be affected by variation of operating expenses. Thus, the requirement to select appropriate comparable and adjustment. It would be inappropriate and unsound to accept comparables, with or without adjustment and apply TNM Method, and yet conjecturise and mistrust the arm's length price. TNM Method would not be the most appropriate method when there are considerable value additions by the subsidiary AEs. In paragraph 22.9, the majority decision has observed that all costs including the AMP expenses are independent of cost of material. This indicates that the observations have been made with reference to manufacturing activities. It would not be appropriate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nal transactions including 'Payment of royalty', and then applying TNMM on entity level, cannot be upheld because the international transaction of 'Payment of royalty' is independent of other transactions. The tribunal in assessee's own case has also jettisoned such argument advanced on behalf of the assessee for earlier years and has rightly held that the ALP of the international transaction of 'Payment of royalty' should be done separately on a transaction by transaction approach, which has been rightly interpreted by the assessee as a CUP method, that was employed by the assessee in its transfer pricing study report for the year under consideration. Ergo, we turn down the argument of the ld. AR and approve in principle that the TNMM cannot be applied and the international transaction of payment of royalty in respect of model 3DX has to be benchmarked by applying CUP as the most appropriate method. 16. We find that the decision of this Tribunal in the case Benetton India (P) Ltd vs ITO (134 ITD 229) is also relevant in the facts of the present case. In the instant case also the assessee had different set of transactions inter alia including purchas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ithout appreciating that one cannot compare the FAR of a principal and agent on same footing. 7.4 In our view, in the assessee's case there are different segmental activities, which are independent of each other. They are required to be analyzed on transaction to transaction basis and not by combining all activities. Consequently, we uphold the assessee's method of ALP. 17. Adverting to the facts of the present case, we find that the international transactions inter alia including purchase of raw materials and export of printing inks manufactured out of it, the appellant has sufficiently demonstrated that these transactions are closely linked and inter-related and therefore may be considered together for benchmarking purposes. Both these transactions relate to the appellant s manufacturing activity and have similar FAR analysis. The TNMM is therefore held to be the most appropriate method, as claimed by the appellant as well as the Revenue, for benchmarking these set of transactions. In respect of the press chemicals purchased from AEs for trading, we note that this set of transactions have no relation or connection with purchase of raw materials and export of printin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the appellant are required to be used for benchmarking the international transactions. 19. We further hold that the argument of the Ld. DR that, since the segmented information did not form part of the published financial statements; it ought not be used, to be devoid of any merit. At the outset, we find merit in the submissions of the ld. AR that whether a particular segment is reportable or non-reportable under AS-17 prescribed by ICAI cannot be held to be decisive criteria to uphold the reliability of the segment identified for the purposes of income-tax laws. We find substance in the ld. AR s arguments that the Income-tax Act, 1961 operates in a different sphere and the requirements and guidelines prescribed in the accounting standards issued by ICAI cannot be inter-linked. We find that the Income-tax Act, 1961 has several provisions, particularly profit-linked deductions etc. wherein assessees are required to carve out and identify separate segmental information and prepare stand-alone accounts for the eligible unit. It is noted that preparation identification of such segmented results are not linked with AS-17 in any manner and in that view of the matter, we are of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ties for discarding the segmented information furnished by the appellant. 22. We find that our foregoing findings are supported by the following judicial precedents available on this subject. (i) M/s Syniverse Mobile Solutions Pvt. Ltd., Hyderabad [TS-51-ITAT-2015], wherein it was held as follows: 9. We have heard the arguments of both the sides and also perused the relevant material on record. As rightly submitted by the learned counsel for the assessee, segmental details taken by the assessee in its TP analysis cannot be rejected merely on the ground that they are unaudited, as done by the TPO and this position duly supported by several decisions of the Tribunal is not disputed even by the Learned Departmental Representative. He however, has submitted that the segmental details and financials were rejected by the TPO not merely on the basis of unaudited aspect, but he has also given certain specific reasons, such as assumptions and presumptions involved in the allocation of various expenses between different segments. He has also contended that the different segments of the assessee company are heterogeneous and in order to rely upon the financials of such segments for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the Tribunal in various cases stated by the assessee. (iii) Asst.CIT vs Netguru Ltd. (ITA No. 1799/Kol/2018), Kolkata; wherein it was observed as follows: 11. We have heard both the parties and perused the material available on record, we note that in ground No.1, the Revenue alleged that the segment reporting was prepared by the assessee company without having regard to the nature of business. According to them, had the segment reporting been prepared having regard to the nature of business, the segment reporting ought to have been part of the audited accounts considering the difference in the risk and returns of the two segments as claimed by the assessee company. So, the contention of the Revenue was that the Ld. CIT(A) erred in accepting the segment reporting prepared by the assessee company. We note that it is an undisputed fact that the assessee company belongs to the category of 'Small and Medium Sized Companies'. As a consequence, theAccounting Standard(AS)-17 is not mandatory for the assessee company. That is why, the assessee company has not disclosed segment reporting in the audited financial statements for the relevant financial year. However, it is per ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... benchmarking the trading activity involving purchase of finished goods and manufacturing activity involving purchase of raw materials and export of manufactured goods. We further note that the segmented information furnished by the appellant before the lower authorities were audited results and complete details of allocation keys were also set out therein. In these circumstances, the segment results cannot be said to be unreliable. However on perusal of the transfer pricing order, we agree with the ld. DR that these segmented results were never verified by the TPO since he had out-rightly rejected the same. Accordingly we uphold the Ld. DR s alternative claim and set aside the audited segmented results to the file of the AO for the limited purpose of verification and crosscheck with the overall audited financial statements of the appellant. Needless to say, the appellant shall be afforded sufficient opportunity of being heard, in this regard. 24. Now let us examine the application of the internal RPM, as employed by the appellant, for benchmarking the purchase of press chemicals. It is noted that such drilled down approach was followed by the appellant since it had reliable data ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the manufacturing segment, for benchmarking the international transactions involving purchase of raw materials and export of manufactured printing inks and the appellant s claim for resegmentation of the manufacturing segment into further sub-segments viz., (i) manufacture of printing inks and (ii) manufacture of blankets. In this regard, we note that the ld. AR of the appellant did not seriously contend both these aspects. We further find merit in the ld. DR s argument that the alleged sub-segment viz., manufacture of blankets is very small does not have any material bearing on the overall manufacturing segment. Accordingly we reject both these claims of the appellant and hold that external TNMM was the most appropriate method. 27. Now we turn to the issue of the comparability analysis undertaken by the lower authorities under the TNMM. We are of the considered view that for correct application of TNMM, it is necessary for the lower authorities to select comparables, which were functionally similar and engaged in similar line of business as that of the appellant. In the facts of the appellant s case, it is noted that the appellant is engaged in the manufacture of printing inks ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gments The company as per the profile was found to be engaged in the production of pigments. The company had only one segmental report. Pigment is one of the basic constituents of the printing ink. On a reference to the production process of the A it was found that the pigment was the basic raw material which was mixed in an agitator fitted in a pan to finally produce ink. This is close to the process largely involved in the manufacturing of ink. The process and the ingredient being common he comparable is held as a good comparable. To be retained. 2. Lona Industries Ltd. Selected by TPO. FAR is same. The company is involved in manufacturing of organic colouring matter and not printing inks. The company was also into manufacturing of pigments. Pigment is one of the basic constituents of the printing ink. As discussed supra this is a good comparable. To be retained. 3. Mazda Colours Ld. Selected by TPO. FAR is same The company involved manufacturing pigments and printing. is in of not It was also into m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ent applications and uses in different industries. As a consequence it is noted the price elasticity of the pigments is also very wide, depending it on its variety and actual use. It is also noted that the markets catered by pigment manufacturers, economic forces faced and other commercial factors are also significantly different with the companies involved in manufacture of printing inks. The ld. AR brought to our attention that the pigments are not only used as a raw material in manufacture of printing inks, but it is also an essential raw material in the paint industry, cosmetics industry, food industry, plastic industry, fabric industry etc. Hence, if the DRP s proposition that, the manufacturer of an essential raw material is a good comparable with the manufacturer of the final product, is upheld, then extending the same analogy it would mean that the companies involved in manufacture of printing inks is also comparable with companies engaged in manufacture of paint, fabrics, coloured foods, cosmetics etc., since in all these industries the common essential raw material is pigment. In our considered view however such a proposition is inherently fallacious and cannot be accepte ..... X X X X Extracts X X X X X X X X Extracts X X X X
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