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TMI Blog2023 (6) TMI 335X X X X Extracts X X X X X X X X Extracts X X X X ..... Book Value method for determining the FMV of the unquoted shares. Whether the AO erred in rejecting the DCF method because the Valuer failed to furnish the documents called for by him? - It is noted here that there is merit in the AO' s observation that the valuation report is very brief. However, in the absence of any prescribed format or size, one cannot reject the valuation merely on that ground. Further, the AO has not pointed out any specific deficiency in the Valuation Report itself - Hence, it would be incorrect to reject the DCF method solely on that ground. Keeping in view that DCF is correct method of determining the FMV of the unquoted shares, the assessee has option to determine the method of valuation and the AO has no power to reject the method resorted by the assessee, the results in the instant case of the holding company have exceed the projections, as no infraction of methodology has been brought out by the AO and non-payment of advance tax cannot be a collateral reason to reject the DCF method, we decline to interfere with the well reasoned order of the ld. CIT(A). Decided against revenue. - ITA No. 1309/Del/2020 - - - Dated:- 12-5-2023 - Sh. C. M ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any to be Rs.65 .65 per share by adopting Discounted Free Cash Flow Method ( DCF ) for valuing the shares. 7. In the course of assessment proceedings, the AO examined the valuation report prepared by the Valuer Sh. Ashok Kumar Verma, CA and noted that the valuer has determined the FMV of the shares at Rs.65.65 /- per share while the same worked out to Rs.10 /- per share under Net Asset Value Method. Further, the AO compared the projections of Profit After Tax (PAT) made in the valuation report with the actuals achieved in the intervening period and observed that there was a difference between the actual profit/loss as per financial statements for the next two years i.e. F.Y.2016-17 and F.Y.2017-18 and the figures as projected in the valuation report. 8. Thereafter, the AO summoned the valuer and recorded his statement. Based on this statement, the A. O. made observation that the valuer has not verified the data and the valuation has been made on the basis of projections and other details provided by the management. The AO further noted that the valuer has also failed to produce all the documents relied upon while preparing the valuation report. The AO held that according to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oment. d) The statement of the CA that the DCF method loses its sanctity if the actual figures did not match with projections cannot be a ground for rejection of valuation done under DCF method. e) The assessee was a holding company and its valuation is dependent on the business of its subsidiaries. Even if the subsidiaries outperform the projections, there would be no income tax liability in the hands of the holding company and that is why the assessee need not have paid higher advance tax on the basis of the projections made in the DCF method. f) The Book Value method which is based on historical cost method is not appropriate method for valuing the shares of a going concern like the assessee. In support of the same, copy of technical guide issued by ICAI was submitted to the AO. g) The investors are well known business owners having vast business experience and obtained the best price for the shares. h) The assessee submitted that certain general statement of the valuer could not be a basis for making additions. 11. It is a fact on record that the assessee made further submissions on 07.12.2018 vide letter dated 06.12.2018. The AO refused to accept t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... verseas) Private Limited (appellant); AND Sapphire Foods India Private Limited (Investor). Order under section 31(1) of the Competition Act, 2002 by the Competition Commission of India. 15. At this juncture, it is relevant to reproduce the order of the ld. CIT(A) with regard to the sequence of events pertaining to explanation of the assessee to the show cause issued by the AO and the subsequent events that took place. 12. From the assessment order, it is clear that the AO had duly show- caused the Appellant on 22. 11. 2018 to submit its rebuttals against his proposal to reject the valuation of shares under DCF method based on the statement of the Valuer Ashok Verma, CA. The appellant seems to have furnished certain reply on 03 .12 .2018 which did not satisfy the AO. Thereafter according to the appellant, it tried to submit further letter and details on 07 .12 .2018 vide letter dated 06. 12 .2018 which were not entertained by the AO. On AO' s refusal to entertain their submissions, the appellant has sent the same letter and details by Speed Post on 07. 12. 2018 at 19: 56 hrs. (proof has been submitted as part of additional evidence). The AO, however has ' refus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... However, it cannot be denied that the appellant did try to submit the reply by at least before the date on which the order seems to have been passed. It is noted here that the Speed Post is dated 07. 12. 2018 and the order is dated 09. 12 .2018. The refusal by the AO of the Speed Post on 10. 12 .2018 (supported by postal remark ' Refused') indirectly supports the claim of the appellant that they tried to file the details before the AO on 07. 12. 2018 and only after their failure they had sent the letter by Speed Post. Further, the Valuer is a third party who may not be much bothered about the Appellant' s fate due to his wrong conduct. If he had not furnished the documents required by the AO, it was for the AO to have enforced his attendance and ensured compliance. 16. From the above facts, it is clear that the AO had refused to admit the evidences which he should have admitted, as the same were relevant to the matter under consideration by him. The assessment was getting barred by l imitation only on 31. 12. 2018 and he had sufficient time to entertain the appellant' s submissions. This also amounts to not giving sufficient opportunity to the appellant before ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ery face of it, then a valuer is required to verify if there are any factors which he should consider while determining the value of the share. In the instant case, the AO has compared the actual performance of the company post valuation date with the projections. The AO thus has the benefit of hindsight. But the valuers do not have it. The AO has not pointed out any relevant facts which should have been considered by the Valuer at the time of valuation which he had missed out. Basing his decision on the basis of hindsight is not only unfair but also goes against the very principles of valuation of shares today on the basis of projecting their future performance. The performance should always match with the projections made at the time of valuation, unless it is shown that the Valuer missed considering a vital fact which was available at that point of time and that the same affected the final value arrived at. Even otherwise, it is noted that the AO has overlooked that the appellant is a holding company and its share value would depend on the performance of business of its subsidiaries. The appellant has produced the performance figures as per its consolidated audited financia ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r market value of the shares: Provided that this clause shall not apply where the consideration for issue of shares is received- (i) by a venture capital undertaking from a venture capital company or a venture capital fund; or (ii) by a company from a class or classes of persons as may be notified by the Central Government in this behalf. Explanation.- For the purposes of this clause,- (a) the fair market value of the shares shall be the value- (i) as may be determined in accordance with such method as may be prescribed; or (ii) as may be substantiated by the company to the satisfaction of the Assessing Officer, based on the value, on the date of issue of shares, of its assets, including intangible assets being goodwill, know- how, patents, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature, whichever is higher; (b) venture capital company , venture capital fund and venture capital undertaking shall have the meanings respectively assigned to them in clause (a), clause (b) and clause (c) of Explanation to clause (23 FB) of section 10 ; 22. From the above, it is evident that th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of paid up equity share capital as shown in the balance- sheet; PV = the paid up value of such equity shares; or (b) the fair market value of the unquoted equity shares determined by a merchant banker or an accountant as per the Discounted Free Cash Flow method. 23. From the above, it is evident that Rule 11UA(2) prescribes two methods - Book Value method and DCF method. However, the said rule also provides that the method to be adopted is left to the choice of the assessee. 24. Thus, the option to choose the method to be adopted to determine the FMV of unquoted shares is not with the AO but with the assessee. In the instant case the assessee opted for the DCF method and the AO could not have switched the method from DCF to Book Value method for determining the FMV of the unquoted shares. Issue no. 3 : 25. Whether the AO erred in rejecting the DCF method because the Valuer failed to furnish the documents called for by him? 26. The AO has rejected the DCF method by observing that the Valuer did not have proper understanding of the methodology and intricacies of the DCF method and that the Valuation report is just of 4 pages. The AO required the Valuer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1UA gives option to the assessee to choose between the two methods. The said rule nowhere fixes any hierarchy between the two methods. Once the option has been exercised by the assessee, AO has no right to reject the method. However, the rejection of method is not appropriate not because it is a prescribed method but because the AO has no role in selection or rejection of the method under Rule 11UA. Hence, the AO has erred in rejecting the DCF method especially when it is one of the duly prescribed methods under the IT Rules. Issue no. 6: 32. Whether there is any requirement to show the existence of intention to evade tax in order to invoke provisions of section 56(2)(viib) of IT Act? 33. The appellant has stated that there was neither the intention nor actual evasion of the taxes while issuing shares and that the subscriber of the shares was an entity of well known Venture Capitalists and that the prices were duly accepted after the due diligence by reputed experts. This throws up the issue as to whether there is any requirement to show the existence of intention to evade tax in order to invoke provisions of section 56 (2)(viib) of IT Act. 34. The appellant has s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to do the valuation. The ld. DR argued that the entire valuation has been made at the behest of the assessee company and the inputs given by them and there was no independent analysis or application of mind by the valuer. He referred to the statement of Sh. Ashok Kumar Verma, Chartered Accountant recorded by the AO with specific reference to Question No. 3, 13, 16 and 17. The ld. DR has also argued that the book value of the shares has to be considered and any payment beyond the value of the company received by the assessee be treated as infusion of an unaccounted money and hence the provisions of Section 56 (2)(viib). It was argued that the vary failure of the assessee to pay the advance tax in the instant year itself proves that the assessee is clear about the lack of profits but still got valued the shares at higher rate only to get higher share premium. Further, it was argued that the non-achievement of projections clearly proves that the DCF method embarked upon by the assessee was defective. The ld. DR relied on the order of the ITAT Delhi in the case of M/s. Agro Portfolio Pvt. Ltd. Vs. ITO. 41. On the other hand, the ld. AR prayed invoking Rule 27 of the ITAT Rules, 196 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f preparing report from the information available on authenticated internet sites containing these information. Q.10. Can you name few sites where you got these information? Ans: These information can be procured by making a search on google. Q.11. Please provide formula for equity risk premium? Ans: There is no formula for equity risk premium it is one of the factor to calculate valuation of shares under DCF Method. Q.12. Are you aware with any method which is being used for calculating equity risk premium? Ans: As conveyed earlier equity risk premium which is considered at 7% is applied as this was the rate which are prevalent during the period of valuation of shares. Q.13. Have you ever heard about CAPM Method for calculating equity risk premium? Ans: I am not aware with CAPM Method, however, I thought it prudent to apply 7 % rate which are prevalent at that time. Q.14. What are the constituent of CAPM Method? Ans: Right now I cannot recollect the details of CAPM Method. Q. 15. Please tell full form of CAPM. Ans: Right now I am not aware. Q.16. Please communicate in details the components used in DCF Method. A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... duce calculation? I am again asking that what material documents/ papers did you use for calculating this discount factor? Ans: The base discounting factor for F.Y. 2015- 16 was determined on the basis information available on different internet sites and the same rate was applied for the subsequent years. Q.23. This means that you not done any calculation and just relied only on internet for calculation discount factor and equity risk premium etc. Please explain? Ans: Our calculations are based on rate picked from reliable authenticated web contents are available. Q.24. Please tell the name of few sites where authenticated web contents are available. Ans: These websites can be sourced by making search in the google. Q.25. Please tell that except the internet material what papers/ documents did you use for calculating of cash flow and other components of DCF Method? Ans: I relied on sources of information as para 4 of our report. Q.26. As para 4 you have mentioned that you have relied on the information made available by the management of the company. Please tell that except audited financial statements for year ending 31. 03 .2014 and projec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1. Ans: In case you see the annexure 1 in totality there are calculation also. Q.35. You were requested to bring all the documents and papers which you relied on for preparing report. Are you carrying these documents please show me. Ans: I am carrying some of the documents, rest are there in our computer. In case you need any specific documents in relation to the same I can file the same as when required, Q.36. Please produce all the documents and papers which you relied on for preparing of report. Ans: I will provide all the documents before 26. 11. 2018. Q.37. Have you ever done audit for any financial year of M/ s Gamma Pizza Kraft (Overseas) Pvt. Ltd.? Ans: No. Q.38. Are you aware that projections as provided by company for preparing valuation report has been proved wrong? Ans: As conveyed earlier I compiled share valuation report based on the projections provided by the management. Thereafter, I never had any interaction with the said company. As such I am not aware whether projections eventually proved correct or not. Q.39. If projections have proved wrong, what is you say about the validity of valuation report prepared by yo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he option of the assessee, namely:- 48. The Rule 11UA prescribes FMV of the unquoted equity shares as determined as per DCF method determined by a Chartered Accountant (subsequently by a merchant banker) or by the formula of (A-L)/ (PE) (PV) 49. Thus, we find that the assessee has option of DCF method and the formula given under Rule 11UA. The option given to the assessee cannot be read as the option given to the Assessing Officer. Hence, the Assessing Officer has no right to change the method of valuation. The AO can refuse the method of valuation after proving that the methodology resorted by the assessee is incorrect or not as per the standards laid down. The courts have held this view as is evident from the following observations of Hon'ble High Court of Delhi in Pr. Commissioner of Income Tax Vs. M/ s Cinestaan Entertainment Pvt. Ltd. in ITA 1007/2019 dated 01.03 .2021. ......... There is no dispute that methodology adopted by the Respondent- Assessee has been done applying a recognized and accepted method. Since the performance did not match the projections, Revenue sought to challenge the valuation, on that footing. This approach lack material foundation ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... plates of the valuation report and various attributes like market situation etc have been duly considered by him for compilation of the said report. He had explained in detail the meaning of and the methodology of DCF method of valuation of shares how the same was carried out by him including the meaning of different terms used in the DCF method. Hence, it can be said that the valuer being a Chartered Accountant is authorized to do the valuation as per the provisions of the Act. 54. The transaction has been cleared by the Competition Commission of India (CCI) and the investor in the company namely Sapphire Foods Pvt. Ltd. is a venture capitalist and the investment in the assessee company was part of overall acquisition of Pizza Hut and KFC outlets in India and Sri Lanka. The buyer is an entity promoted by venture capitalist, namely, Goldman Sachs Investments Holding (Asia) Limited and it holds 34.36% of the equity capital in the subscriber company. 55. Further, reliance is being placed on the order of the Co- ordinate Bench of ITAT in the case of Intelligrape Software Pvt. Ltd. Vs. ITO in ITA No.3925/ Del/ 2018 wherein the assessee had issued equity shares of face value Rs.10 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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