ELI LILLY AND COMPANY INDIA PVT. LTD.,GURGAON vs. DCIT, CIRCEL-1(1), GURGAON

This is an appeal by the M/s Eli Lilly & Company India Private Limited (“the assessee”) being aggrieved by the Assessment Orderdated 29.10.2018pursuant to the directions dated17.9.2018of the Dispute Resolution Panel -I, New Delhi (for short hereinafter called “Ld. DRP”).

Brief facts of the case are that the assessee is engaged in the business of trading of formulations and coordination of clinical trial activities and also renders business auxiliary services to its Associated Enterprises (“AEs”), namely, providing medical information, answering medical queries, creation and distribution of product/medical information literature to other AEs, shared services, global sourcing activities, MIS services, Link charges etc. 3. For the assessment year 2014-15 assessee filed its return of income on 29/11/2014 declaring an income of Rs.33,71,08,130/-. During the scrutiny proceedings, so far as this appeal is concerned, learned Assessing Officer noticed that under the head “other expenses” assessee had debited an expenditure of Rs.693.780 Lacs on account of license fee. 4. Onco Laboratories Limited (‘OLL’), a company incorporated in Cyprus and a subsidiary of Strides Arcolab Limited and Onco Therapies Limited (OTL), a company incorporated in India and subsidiary of Agila Specialties P. Ltd. (joint referred as ‘Onco Labs’) is engaged in the business of research, development, manufacturing and supply of pharmaceutical products and has capability to develop and manufacture variety of products in one or more of its facilities, which are approved by various Regulatory Authorities. OLL owns Marketing Authorizations of the products that are either approved or pending with the regulatory authorities and also owns related information for Marketing Authorization not yet filed with the regulatory authorities in India. Since the assessee has experience and expertise in the commercialization of pharmaceutical products in India, it was desirous of obtaining licenses and purchase products from Onco Labs on a non-exclusive basis to use, market, sell, distribute and otherwise commercialize products in India. 5. Assessee entered into a tripartite agreement with the OLL and OTL whereunder Onco and its affiliates granted a non-exclusive license to the assessee under the Dossier, technical information, regulatory approval and any other intellectual property of Onco, to commercialize and market the products in the territory, and paid a lump-sum amount of USD 1 million (INR 6,93,78,000/-) to Onco labs.

On a perusal of these details of license fee of Rs.693.78 lakhs, learned Assessing Officer opined that such expenditure had to be treated as an intangible asset and depreciation be allowed under section 32 of the Income Tax Act, 1961 (for short “the Act”), for the following reasons:- I. The licensing and supply agreement with the assessee has entered provides enduring benefits to the assessee. It is not in dispute that the agreement is for a period of 15 years which can be construed to be enduring in nature. None of the parties to the agreement can voluntarily terminate the agreement and it is predicated on certain conditions enumerated in the agreement itself. Therefore it is not in dispute that the agreement confers enduring benefits to the assessee as the agreement has a definite validity of 15 years. II. Also the facts are different from Empire Jute Company wherein the Supreme Court has held that enduring benefit is not alone sufficient to determine the q2uality of expenditure. In that case the Court has held that the expenditure was towards improving the efficiency of the management. Where the facts of this case are fundamentally different. The licensing agreement nowhere mentions efficiency of business management, whereas the objective of the assessee company in executing the agreement was to access patents, technical know how, and manufactured products of the other company and to market and commercialize these products in India under its own brand name/trademarks etc. as mentioned in the agreement and produced above. This constitutes extension of business for the assessee company. The business extension can happen through multiple ways, one of them is through introduction of new products in the same market, this would be termed as product line extension. As the preface to the agreement says, the assessee company has expertise and experience in marketing products in India. Through the licensing agreement the assessee company has extended its business by marketing/commercializing new set of products in the market it is already established. This would re4sult in expanding the profit making apparatus of the assessee company and no relation with improving the efficiency as was held by the Honourablecourt in Empire Jute Company. Therefore the advantage of the expenditure is in capital field and the licensing agreement is central to this advantage. III. One of the other arguments raised by the AR during the course of assessment proceedings is that the licensee is non-exclusive one and therefore it cannot be presumed that it leads to ownership of asset. However, it is important to realize that assessee company has extensive experience and expertise in the market. Its own trademarks and brands have a value in itself. The assessee company has a well-established distribution network, access channels, rapport, with doctors/hospitals. Therefore it is important to highlight distinction between reselling and branding of products. Assessee is not just reselling the drugs, since the assessee company has all control over branding/trademarks/pricing of the product the license being a non-exclusive one does not make significant difference. It is well known and understood in the pharmaceutical industry that the same drug is marketed by different companies in the same market but yet all have different values depending upon several factors. In the instant case the assessee company has a well-established brand, distribution network and rapport with doctors. IV. The consideration paid for the licensing agreement is for acquisition of source of profit. Under the agreement it is mentioned that the assessee company would obtained drugs for a fixed price and thereafter the pricing/branding etc. of the drugs in the market are under the control of assessee. Without this agreement the assessee company would not have access to technical know-how, patents, drugs of the other company. The assessee company is able to obtain the drugs at fixed price as per the agreement and then markets/ commercializes these products in the market.

On this premise learned Assessing Officer proposed an addition of Rs.6,93,78,000/-.

Assessee filed objections before the Ld. DRP, and contended that the observations of the assessing officer to the effect that none of the parties can voluntarily terminate the agreement and, therefore, the expenditure shall be considered as capital in nature is factually incorrect. Assessee, during the course of Ld. DRP proceedings demonstrated that the agreement was later rescinded within 3 years and filed evidences in the form of letter from Agila, the parent company of OLL towards determination of the contract. Ld. DRP called for the remand report and also considers the rebuttal of the assessee. 9. Ld. DRP vide directions dated 17/9/2018, held that the drug formulations obtained under the license from OLL were proprietary formula, which enabled the assessee to produce and sell particular medical drugs and products for 15 years; that considering the faster development in medical world, the license indeed provided the assessee, an intangible asset of capital nature, which requires amortization over the license period; that merely because the assessee was already into manufacturing and distribution of drugs, does not mean that every expenditure of capital nature can be claimed as business deduction; that is not the case of the assessee that after termination of the agreement by Agila (OLL), any part of the license fee was returned/refunded; or that is also not the case that those formulations became obsolete with the scientific advance, for OLL or the assessee. Ld. DRP, therefore, rejected the objections raised by the assessee. Consequently, by order dated 29/10/2018, learned Assessing Officer treated the licenses fee as income of the assessee, but allowed depreciation at 25% on the sum of Rs.6,93,78,000/-which came to Rs.1,73,44,500/-.

While inviting our attention to paragraph numbers 16 of the agreement, dated 30/11/2012, Ld. AR submitted that in the terms of agreement, the assessee had received non-exclusive license to use, market, sell and distribute the products in India during the terms of agreement and the assessee did not obtain any ownership of technical knowhow, manufacturing process or any other intellectual property of Onco labs. According to him the assessee only had a limited right to use the technical information, regulatory approval and related information to commercialize and market the products in India; whereas the ownership/proprietary rights in the technical knowhow, regulatory approvals, manufacturing processes etc. continue to be vested in OLL and the assessee has not been authorized to transfer, assign or convey such knowhow/technical information etc. to any third party. He placed reliance on many decisions including the decisions of the Hon’ble Apex court in CIT v. Ciba India Ltd.: 69 ITR 692 (SC);Alembic Chemical Works Co. Ltd. v. CIT: 177 ITR 377 (SC);CIT vs. British India Corp. Ltd.: 165 ITR 51 (SC);CIT v. Indian Oxygen Ltd.: 218 ITR 337 (SC);CIT v. IAEC (Pumps) Ltd: 232 ITR 316 (SC) ;CIT v. Wavin (India) Ltd. 236 ITR 314 (SC) and CIT vs. British India Corp. Ltd. [1987] 165 ITR 51 (SC)and also, the recent decision of the Hon’ble jurisdictional High Court in the case of Hilton Roulands Ltd vs. CIT 255 taxman 209 for the principle that payment made for obtaining access to information and restricted license to the limited use of knowhow, should be treated as Revenue expenditure. Basing on these decisions, in the light of various clauses of the agreement, it is argued that the expenditure by way of license fee incurred by the assessee was allowable as Revenue deduction since payment was made for limited license to use the technical information and regulatory approvals provided by OLL.

Next contention of the assessee is that whether or not the license is exclusive, cannot be a conclusive basis for deciding the nature of expenditure as Revenue or capital expenditure and where notwithstanding an exclusive license for use of knowhow, having been granted to the Indian licensee and having regard to the other restrictive conditions contained in the agreement, the royalty expenditure has to be allowed as Revenue deduction. In support of this contention Ld. AR placing reliance on several decisions including the decisions inCIT v. Ciba India Ltd: 69 ITR 692 (SC), CIT v. IAEC (Pumps) Ltd.: 232 ITR 316 (SC), Shriram Refrigeration Industries Ltd. v. CIT: 127 ITR 746(Del), Triveni Engineering Works Ltd. v. CIT 136 ITR 340 (Del), and CIT v. Bhai Sunder Dass& Sons (P) Ltd.: 158 ITR 195 (Del.) 12. Insofar as the aspect of enduring benefit advocated by the assessing officer is concerned, it is submitted by Ld. AR that under the agreement the assessee is obligated to discontinue the use of technical information and regulatory approvals forthwith in the event of termination of the agreement vide clauses 16.1 and 18.2 thereof, and, therefore, it cannot be said that any everlasting advantage to use the technical information had accrued to the assessee. He submitted that before Ld. DRP it was demonstrated that the products being manufactured by OTL pursuant to the licenses issued for commercialisation, were discontinued w.e.f. 09/01/2015 and the contract was terminated, and therefore, it clearly demonstrates that no enduring benefit had resulted to the assessee by payment of the license fee. By placing reliance on the decision of the Hon’ble Apex Court in the case of Empire jute Company limited vs. CIT 124 ITR 1, he submitted that where the expenditure incurred merely facilitates carrying on the business more profitably and efficiently, without addition to the Revenue earning capital apparatus, the advantage of enduring nature ensuing therefrom shall be on Revenue account only. In support of propositionthat the absence of clause of return of documentation/ know- how and the fact that the assessee was entitled to carry on manufacturing activities with use of such know-how/documentation even after the expiry of the agreement, did not alter the nature of transaction or result in any benefit of enduring character to the assessee, he placed reliance on the decisions reported in Shriram Refrigeration Industries Ltd. v. CIT: 127 ITR 746(Del), Triveni Engineering Works Ltd. V. CIT:136 ITR 340 (Del), CIT v. Bhai Sunder Dass& Sons (P) Ltd.: 158 ITR 195 (Del.), Shriram Pistons and Rings Ltd.: 219 CTR 228 (Del.) and CIT v. J.K. Synthetics Ltd.: 176 Taxman 355 (Del.).

In respect of the observations of the assessing officer that the payment of licence fees as the capital expenditure on the ground that the license agreement constitutes extension of business for the assessee company, it is the submission of the Ld. AR that the test for determining whether different ventures constitute same business is whether there is any interconnection, interlacing, interdependence unity embracing different ventures as has been held by the Hon’ble Apex Court in the cases of Setabganj Sugar Mills Ltd vs. CIT, 41 ITR 272 (SC), CIT vs. Prithvi Insurance Company Limited 63 ITR 632 (SC) etc.

Per contra, Ld. DR placed reliance upon paragraph No. 4.3 of the assessment order where the assessing officer had distinguished the cases relied upon by the assessee reported in CIT vs. Wavin India Ltd., 236 ITR 314, Amway IndiaEnterprises vs. DCIT, 346 ITR 341; and Empire Jute Company Limited, 124 ITR 1 and also on paragraph No. 4.8 of the assessment order where the Assessing Officer had given detailed reasons to reject the claim of assessee that expenditure on licence fee was Revenue in nature, which has already been extracted supra. According to the Ld. DR since the letter dated 9/10/2014 relied upon by the assessee terminating the contract was w.e.f. 9/10/2015 and therefore is not relevant to the year under consideration. Ld. DR distinguished the judgement in Hilton Roulands Ltd (supra) stating that it was a case where it was held that under a license agreement between the assessee and HRL, assessee was granted exclusive right to use trade Mark “Hilton” for 10 years against the running royalty on sale as well as one-time royalty of Rs.1 crore, since Mark “Hilton” did not belong to the assessee and benefit of use of trade Mark had inured to licensor, payment of Rs.1 crore ought to be treated as Revenue expenditure and such facts are totally different from the case on hand since the question of taxability of only trademark rights on royalty were involved in such case but not in the present case.

For proper appreciation of the contentions raised by respective parties in respect of the nature of rights acquired by the assessee and whether own the ownership of the technical knowhow, regulatory approvals, manufacturing process etc vest, it is necessary to refer to the following clauses of the agreement which are relevant for our purpose.

A reading of the above parts of the agreement show that the assessee had acquired only a limited right to use the technical information, regulatory approval and related information to commercialise and market the products in India; whereas the ownership/proprietary rights in the technical know-how, regulatory approvals, manufacturing process etc continue to be vested in OLL and the assessee had no explicit or implied authority to transfer, assign or convey such know-how/technical information etc to any 3rd party. It further shows that the assessee had not acquired any proprietary rights in the technical information and regulatory approvals and what all acquired by the assessee under the agreement is mere license with limited rights to use the same during the currency of the agreement. Assessee cannot use such technical information and regulatory approvals in respect of other products and at the same time once the agreement stood terminated, the same will not be available to the assessee. In thisreality of the situation, we are in agreement with the submissions on behalf of the assessee that no benefit of enduring nature enuresto the benefit of the assessee in respect of the technical information and regulatory approval made available to the assessee during the currency of the agreement and any fee payable to OLL for such purpose cannot be said to be in the nature of capital expenditure.

Further, the observations of the Hon’ble jurisdictional High Court in the case of Hilton Roulands Limited vs. CIT 255 Taxman 209, dealt with the similar issue of licensing of trademark “Hilton” whichhad an impact on the case in hand. As could be seen from the judgement, the relevant portions of the agreement reads,- 1. M/s RoulandsFabriker Denmark (hereinafter 'RF') along with HRL and Industrialisation for Developing Countries, Copenhagen (hereinafter'IFU') formed the appellant as a joint venture in India. HRL owned 50% of the equity shares of the appellant, and RF and IFU held 26% and 24% respectively of the said joint venture. At the time when the joint venture was formed, the first license agreement dated 27th January 1993, was entered into, under which the appellant was granted by HRL license to use the Trade Mark HILTON in respect of Raw-Edge and Wrapped V- Belts. ………………………………………. Thus, as per the First license agreement: (a) The appellant was granted an exclusive right to use the Trade Mark “HILON" in India in respect of Raw-Edge and Wrapped V- Belts; (b) Ownership of the mark vested in HRL; (c) Running royalty on domestic sale was payable to the HRL;

An assignment is however a complete transfer of the right and title in a mark. Assignments can also be of various kinds. For eg., Assignment could be product specific, territory specific, but they will vest complete and absolute ownership in the assignee. Assignment of a registered trade mark can be with or without the goodwill of the business concerned. Such an assignment can be in respect of all the goods or services or part of the goods or services for which the mark is registered. However, an unregistered trademark is assignable with the goodwill of a business and if the same is assigned without the goodwill of the business, the nature of the transfer would have to be determined on the facts of a particular case.

The fundamental test to determine as to whether a particular mark has been licensed or assigned is to see if the licensor/assignor has retained any rights in the mark. If rights are retained with the owner, usually it is a license and if no rights are retained by the owner, then it would usually be an assignment. A license is, therefore, nothing but a permissive use of the mark, which permission, is revocable. A 'right to use' is usually a license and not an assignment, except in certain circumstances. Some of the questions that determine whether an arrangement is a license or an assignment include: (i) Whether the user acknowledges the licensor's right and title over the mark? (ii) Whether it is a mere right to use the mark or it was a transfer/assignment of a permanent nature? (iii) Whether the manner of use is specified and restricted and the effect thereof on the rights of the user? (iv) Whether the payment made by the User is one-time, fixed running royalty or a percentage of sales, with or without investment made by the Licensor on marketing and advertising?

Further, we are in agreement with the submissions of the Ld. AR that the grant of license on exclusive non-exclusive basis per se does not determine the expenditure for royalty as Revenue in nature and what is to be seen is whether the assessee had acquired the ownership of such know-how, or has merely obtained the right to use such know-how during the currency of the agreement. It is only in the case of the assessee acquiring the ownership of such know-how, the expenditure would fall in the domain of capital, lest the expenditure would be allowable Revenue deduction. Exclusiveness is otherwise of the license only impacts the company to position of the assessee in the market but does not result in creation of new profit earning apparatus. In CIT v. Modi Revlon (P) Ltd: (2012) 9 TMI 48, Hon’ble jurisdictional High Court held that if ownership of know-how remains with the licensor, the royalty paid towards use of such know-how shall be allowable revenue expenditure notwithstanding that the licensee had an exclusive license.

We are also not in agreement with the findings of the assessing officer that since the assessee had entered into the agreement to be in force for a period of 15 years, they had obtained a benefit of enduring nature in view of class 16.1 and 18.2 of the agreement where under the assessee is under an obligation to discontinue the use of technical information and regulatory approvals immediately in the event of termination of the agreement as stated therein. In other words, the benefit enjoyed by the assessee is co-terminus with the enforcement of the agreement. 21. It is not in dispute that the assessee demonstrated before the Ld. DRP that the products being manufactured by OTL in respect of which the license was obtained for commercialisation, was discontinued w.e.f. 09/01/2015 and the contract was terminated. Though, it is submitted by the Ld. DR that inasmuch as the termination letter speaks that it has to come into force w.e.f. 9/10/2015, it has no relevance to the year under consideration, what is relevant to be seen here is whether the assessee held the rights under the agreements in perpetuity or at least further agreed period of 15 years in continuity or such an agreement had met with a premature termination and such a fact strengthens the argument of the assessee that no endurable benefit had accrue to the assessee under such an agreement.

On a careful consideration of the material before us, we are of the considered opinion that the technical information and the marketing approvals of a product provided by the licensor only facilitates greater acceptable of the products of the assessee leading to higher profitability in the existing business of distribution and marketing of products carried on by it, without addition to the profit earning apparatus and on this premise we return a finding that the length of advantage in terms of time derived by the assessee has no bearing on the question to decide the nature of expenditure incurred by the assessee by way of licence fee. In a number of decisions cited before us by the Ld. AR, namely, CIT vs. Madras Auto Service (P) Ltd 233 ITR 468 (SC), CIT vs. HMT Ltd., 203 ITR 818 etc this issue was dealt with extensively and it was held that in the absence of any enduring benefit of capital nature accrue to the assessee as a result of incurring the impugned expenditure, merely because the benefit was available to the assessee for a number of years is of no consequence to say that the expenditure is capital in nature.

For the reasons stated in the preceding paragraphs, we are of the considered opinion that no benefit of enduring nature had accrued to the assessee under the agreement dated 30/06/2012 entered into by the assessee with OLL and OTL and the licence fee paid by the assessee under such an agreement is in the nature of Revenue expenditure, which is allowable. With this view of the matter, we allow the appeal of the assessee.

In the result appeal of the assessee is allowed. Order pronounced in the Open Court on 14th October, 2019.