RAGHU RAMA RENEWABLE ENERGY LIMITED,HYDERABAD vs. ITO., WARD-3(1), HYDERABAD

The Ld. CIT(A) erred in not appreciating that as per IND AS-2, inventories are to be written down to net realisable value/replacement cost, as the cost of finished products is uncertain considering the fact that the plant is shut down since May, 2015.

“7.2 The above explanation of the assessee has been perused in the light of the following relevant qualifying remarks/opinion - made by the independent tax auditor in his audit report and also in light of the extant - Income Computation and Disclosure Standard (ICDS)-II relating to valuation of inventories notified by CBDT vide Notification dated 29/09/2016 - and applicable since A.Y. 2017-18 :- “ We did not observe the physical inventory count as at 31/3/2018. Further, we have not been provided with appropriate audit evidence to ensure the valuation of inventory is in compliance with Ind AS- 2 valuation of inventories. We are unable to obtain sufficient and appropriate audit evidence to ascertain the existence of quantities and valuation of inventories on the Ind AS financial statements of the company for the year ended 31/3/2018. The above remarks of the auditor refers to the necessity for valuation of inventory as per Ind AS-2 accounting standard for the purpose of preparing the financial statement of the company. Even under the caption significant Accounting Policies against Inventory, the tax auditor has stated as under: Inventories comprises biomass, coal, stores , spares and consumables and are stated at cost or Net Realizable Value (NRV) ,which ever is lower. cost of inventories comprises the cost of purchase, production and other costs incurred in bringing the inventories to their present location and condition. NRV is the estimated selling price in the ordinary course of business, less the estimated cost of completion and estimated cost necessary to make the sale .Raw materials are valued at Weighted Average Cost method and stores, spares and consumables are valued as per FIFO method. Inventories are stated at net of written down or allowance on amount of obsolete, damaged or slow moving items.

Further, as per section 145 (2) of the I.T. Act, 1961 inter alia provides that for the purpose of computation of income under the head profits and gains of business - the Central Govt. shall notify from time to time income computation and disclosure standards (ICDS) to be followed by any class of assessee or in respect of any class of income. In furtherance to the same the Govt. has already notified such ICDS vide its notification dated 29/09/2016 and therein the relevant provision for valuation of inventory is covered under ICDS_II which is effective from A.Y. 2017-18 .In order to report the impact of adjustments of valuation as per ICDS , necessary columns and schedules have been introduced in the ITR forms and Tax Audit Report Forms. However, on perusal of the ITR - 6 form filed by the assessee for the A.Y. 2018-19 under consideration it is seen that - no such reporting of any impact of adjustments have been made. 7.3 Having said that, it is now pertinent to discuss as to whether the impairment loss of Rs.2, 40, 16,579/- in the valuation of inventory is as per Ind AS-2 and that it is in alignment with valuation as prescribed by ICDS- II requiring no further adjustments and impact on its profit /loss .The nature of inventory under our consideration is raw materials, which undoubtedly is an asset in the form of materials or supplies to be consumed in the production process. On going through the scope, definition of inventory, cost of inventory, measurement method and list of items to be excluded from inventory etc. in respect of provisions contained in ICDS-II as well as Ind AS-2 , it is found that they are almost same except for cost of purchase - in so far as that in the Ind AS-2 method of accounting it is provided to exclude the amount of duties and taxes which are subsequently recoverable by entities from tax authorities . Barring this there are no change / difference in the accounting of valuation of inventories. 7.4 The assessee in its explanation for accounting this impairment loss and routing it through the profit and loss account as stated above has - attributed the following reason for this impairment / loss - stating that -: the biomass items are natural grown - a the time of purchase it would contain moisture around 14-25% and if we store the same for longer duration naturally it would loose chlorific value and fair value of biomass will reduce year on year. Also that storage of biomass will be done in open yards only and due to efflux of time biomass and coal will loose its quality and efficiency to fire . Hence, normally these type of industries will impair certain % of value of raw material every year for valuation. 7.5 On perusal of earlier ITR records it is notably found that the assessee had not accounted for such impairment loss prior to A.Y. 2017-18 , since when it totally ceased its production activities. Till A.Y. 2016-17 it had reported income from operation and no such impairment loss against the closing stock of raw materials were claimed. Further, that no scrutiny assessment had taken place for the A.Y. 2017-18 as found on verification. 7.6 On considering the explanation / rationale for claiming such impairment loss ,it is stated that it is in the nature of normal loss ( wastage). The definition of waste as per Cost Accounting is as under : - Material lost during storage due to various factors such as evaporation, chemical reaction, contamination, shrinkage, etc. This means the usual percentage of wastage arising in its natural course in a process or operation. Such wastage is not avoidable as it occurs in its natural course. The normal wastage and loss due to it should be charged to the good units arising out of the process. In this way, the cost of spoiled and lost units is absorbed as an additional post of the good produced by a given process. For normal waste arising from evaporation, deterioration, shrinkage in production, the total cost incurred is distributed over the good output. The treatment is based on the principle that normal losses should be borne by good output. Whereas in contrast - abnormal wastage of material arising due to abnormal reasons, i.e. theft, fire, careless handling, etc., is not added to the cost of production but is transferred to costing profit and loss account. This is necessary to avoid any fluctuation in cost of production. And accordingly, under Ind AS-2 as well as ICDS - II , provision has been made in clause 16(1) and clause 12(a) respectively. In the present case, as per facts - the impairment loss computed on estimation basis is a normal loss (wastage), and it cannot be routed through P& L A/c which has been prescribed only in respect of any abnormal loss. 7.7 Further from the details submitted by the assessee along with explanation above and as per past records , it is evident that the assessee had valued the closing stock for the year under consideration as per this changed method of valuation - for the second time ( the first such event being during the immediate previous A.Y. 2017-18) by applying the write-off factor of 14 % on estimation basis in respect of valuation of closing stock of raw material of biomass as well as of coal on account of normal wastage (loss) for determination of NRV of such closing stock inventory .In the absence of any documentary evidence to prove that there was fall in the prices of consumable items or deterioration of the life of such items to that extent of write off due to efflux of time, the valuation thereof cannot be made at lower than the cost price. As per assessee’s own submission one of the important factors attributed to ceasing the power production in its own plant as well as one of its subsidiary companies to being steep increase in biomass prices.

Therefore, without any evidence having been brought on record, the contention of the assessee cannot be accepted that the value of biomass & coal items had undergone change. 7.8 Without prejudice to the above reasons ,it is also relevant to state that the practice of writing down inventories below cost to net realizable value is consistent with the view that assets should not be carried in excess of amounts expected to be realized from their sale or use." If the concept of net realizable value as per Ind AS2 /ICDS-II is applied to the facts of the assessee's case, we find that the assessee had not demonstrated with necessary and sufficient evidence to prove that the value of inventories were partially lost due to moisture loss and have resulted into less calorific value since its purchase and that their selling prices/ user value have declined. As per the measurement method- prescribed by ICDS / Ind AS-2 - inventories shall be measured at the lower of cost and net realisable value (NRV). 7.9 Further, attention is drawn to the clause 32 of Ind AS-2 and clause 21 of the ICDS-II which provides that : Materials and other supplies held for use in the production of inventories are not written down below cost if the finished products in which they will be incorporated are expected to be sold at or above cost. However, when a decline in the price of materials indicates that the cost of the finished products exceeds net realisable value, the materials are written down to net realisable value. In such circumstances, the replacement cost of the materials may be the best available measure of their net realisable value. Thus, the above provision deals with the situation where there is a fall in the price of material used in the production. No case has been made out by the assessee that the price of raw material items have fallen down below the cost of purchase. Therefore, in my considered opinion, the inventories of raw materials cannot be valued at lower price than the price at which they were acquired .Any impact of its normal impairment as discussed earlier cannot be directly routed through the P& L A/c - but as prescribed it is required to be accounted / factored in only - indirectly ( when used for production) impacting the quantity of production and consequentially the sale value of finished goods or by the value of sale of the raw materials in a case of non going concern . 7.10 Accordingly, in view of the aforesaid discussion, claim of impairment loss of Rs.2,40,16,579/- on account of inventory of raw material was proposed for disallowance and adding back to the returned loss on account of accounting the same incorrectly as found to be against the provisions of section 145(2) as per the method prescribed vide ICDS-II duly notified by the CBDT and applicable since A.Y. 2017-18.

7.11 Before, finalizing the above proposed addition the assessee was issued a show cause notice (SCN) apprising of the proposed disallowance of claim of impairment loss in respect of closing stock valuation of raw materials on the basis of above findings , giving opportunity to submit its explanation. In reply to the said SCN the assessee has communicated its disagreement to the proposed modification The gist of its explanation is as follows: - 1. The fact of occurrence of normal loss due to moisture, decrease in calorific value leading to reduction in market value has been reiterated.

3. Since stock taking and valuation need to be done on year end and auditors could not take stock taking on 31/3/2018 and even stock taking is done after balance sheet date and for these type of material back working process for arriving stocks at the year end will not work , to protect themselves the auditors have given qualified opinion w.r.t raw material stock valuation.. 7.12 The above explanation submitted by the assessee has been carefully perused . On perusal it is found that it has failed to refute the specific reasons cited for disallowing the impairment loss claimed as communicated through the SCN. It has utterly failed to justify its adoption of unique valuation method as against the method prescribed as per section 145(2) of the Act read with ICDS –II notification issued by the CBDT which is effective from A.Y. 2017-18.Accordingly, the said proposed addition of Rs.2,40,16,579/- on account of impairment / loss in the closing stock arising out of its valuation method which is found inconsistent with the prescribed method as Is made final. (Addition of Rs.2, 40, 16,579/-)”

5. Aggrieved by the assessment order, the assessee preferred appeal before the Ld. CIT(A). Before the Ld. CIT(A), the assessee submitted that, the A.O. has erred in disallowing impairment of loss on stock-in-trade, even though the assessee had justified reduction of closing stock of biomass products and coal due to effluxion of time and evaporation of moisture content by filing relevant details. The assessee further contended that, the diminishing in the value of inventories has been done by the assessee company by considering the fact that, the power generation plant has been shut down due to non-feasibility and effluxion of time, and therefore, the stock valuation of closing stock came down and the same has been measured by the assessee in terms of AS-2 and ICDS-II. The Ld. CIT(A), after considering the relevant submissions of the assessee and also taking note of the reasons given by the A.O., observed that, the assessee has again furnished the same facts which were submitted during the course of assessment proceedings and no new material has been brought on record to show diminution in the value, and how the diminution in the value of the opening stock of raw materials was computed at Rs. 2,40,16,579/-. The assessee has not furnished any documents or supporting evidence to show the correctness of the valuation of the raw materials. The assessee has not explained the methodology adopted for valuation. It is seen that, the valuation is only based on estimation and not on any scientific method. Further, the assessee itself has stated that, no physical stock was taken, and valuation was done as on 31.03.2018. Further, as observed by the A.O., the nature of impairment of loss claimed by the assessee is not on account of any factor beyond the control of the assessee, but purely on estimation of valuation of closing stock without there being any method. Therefore, the Ld. CIT(A) rejected the explanation of the assessee and upheld the addition made by the A.O. towards disallowance of impairment of loss of Rs. 2,40,16,579/-.

7. The learned counsel for the assessee, Shri P. Murali Mohan Rao, C.A. submitted that, the Ld. CIT(A) erred in sustaining the addition made by the A.O. towards disallowance of impairment of loss at Rs. 2,40,16,579/-, even though the assessee has justified the valuation of closing stock, as per AS-2 and ICDS-II, where the method of valuation has been prescribed and as per the said method, the assessee needs to disclose valuation of closing stock either at cost or market value, whichever is lower. Further, the assessee has also explained the reasons for reduction in value of biomass products and coal, and as per the assessee, due to effluxion of time and evaporation of moisture content, the market or saleable value of the raw material has come down and the same has been valued by the assessee as per the accounting standards provided for this purpose. The A.O., without appreciating the relevant facts and also only on the basis of disclaimer report issued by the auditor in the audit report, observed that, the assessee has not valued the closing stock as on 31.03.2018 and has only estimated the value of closing stock by reducing 14% of the valuation in order to make addition of Rs. 2,40,16,579/-. The Ld. CIT(A), without appreciating the relevant facts, simply sustained the addition made by the A.O. Therefore, he submitted that, the addition made by the A.O. should be deleted. In this regard, he relied upon the decision of the Hon'ble High Court of Delhi in the case of CIT Vs. Hughes Communications India Limited, 2013 (215) taxmann.com 136 (Delhi).

8. The learned Senior A.R. for the Revenue, Shri K. Vinoth Khannan, on the other hand, supporting the order of the Ld. CIT(A), submitted that, the assessee has claimed impairment of loss of stock-in-trade by estimating the closing stock of raw material by reducing 14% of the valuation without there being any base or scientific method. Further, the assessee has also not explained the method and manner of valuation of closing stock by furnishing relevant details and also failed to explain how the method followed by the assessee is in accordance with AS-2 issued by the Institute of Chartered Accountants of India and ICDS-II notified by the Government of India in terms of Section 145 of the Income-tax Act, 1961. Since the assessee has not explained the reduction in valuation of closing stock and debited the same to the profit and loss account, the A.O. has rightly disallowed the loss claimed by the assessee. The Ld. CIT(A), after considering the relevant facts, has rightly sustained the addition made by the A.O. Thus, the order of the Ld. CIT(A) should be upheld.

Order pronounced in the Open Court on 4th February, 2026.