MOMENTIVE PERFORMANCE MATERIALS (INDIA) PRIVATE LIMITED,BANGALORE vs. ASST.C.I.T., BANGALORE

Facts apropos are that assessee engaged in manufacture and distribution of silicon and silicon based products had filed its return declaring income of Rs.63,96,93,030/-. Since assessee filed audit report in form 3CEB and considered the international transactions it had with its AE exceeding Rs.50 crores, reference was made by AO to the TPO for analysing the prices of such international transactions.

International transactions of the assessee during the relevant previous year were as under :

Segmental results of the assessee of its international transactions read as under :

In relation to trading segment, AO found that PLI was at arms length and hence did not recommend any adjustment. However with regard to the manufacturing and ITES segments he was not of the same opinion. Since the grounds of the Revenue reproduced at para two above relates to manufacturing segment, our efforts for now, is to assimilate the facts relating to such segment.

Assessee for justifying the value of international transactions relating to manufacturing segment, had taken the AE as a tested party. However, TPO was of the opinion that AE could not be considered as a tested party since data base of foreign companies, for making a comparative study was not available. TPO therefore made an analysis of the pricing of the IT(TP)A250 & 423/Bang/2015 Page - 5 international transactions of the manufacturing segment considering assessee itself to be a tested party. The TPO was of the opinion that assessee having made purchases both from AEs and non-AEs, it was necessary to bifurcate the revenue and cost between these two segments. This bifurcation was done based on the ratio of purchases from AE to total purchases. Margin of the assessee on its manufacturing segment, in so far as it concerned transactions with its AE abroad was computed by the TPO as under :

Comparables considered by assessee came to 17 and this was accepted by the TPO. The average OP, over sales of such comparables came to 5.11%. Since assessee itself had not claimed any working capital adjustment in its TP documentation, TPO did not give any. He worked out a shortfall of Rs.1,47,90,293/- u/s.92CA for the manufacturing segment as under :

When a draft assessment order proposing the above was issued, assessee preferred to move the DRP. Argument of assessee before the DRP was that losses in the manufacturing segment on international transactions were due to replacement of a low-priced raw material called B-Stream with a costlier virgin raw material. As per the assessee, B-Stream material which was earlier sourced from its AE abroad, had to be substituted by virgin and more expensive raw material so as to maintain the quality of its products. Further as per the assessee, increased cost could not be passed on to its third party customers. Assessee pointed out that average cost of B- Stream was Rs.43/- per kg, against Rs.178/- per kg for Virgin material. Monetary impact on account of the change came to Rs.42,65,078/-. Again as per the assessee, during the relevant previous year, it was relocating its manufacturing plant from Bangalore to Chennai and the Chennai plant IT(TP)A250 & 423/Bang/2015 Page - 7 worked at a lower capacity of 47%. As per assessee, average capacity utilisation of the comparable companies came to 65.21% and this also required an adjustment while working out its PLI. Assessee pointed out that significant investments were made in Chennai plant for expansion. As per the assessee, its profit margin had increased in the subsequent years to about 5% and the negative margins for the relevant previous year was due to the specific issues mentioned above.

DRP was appreciative of these contentions. It held as under at paras 3.5 and 3.6 of its order :

Now before us, Ld. DR strongly assailing the directions of the DRP submitted that DRP exceeded the powers vested u/s.144C of the Act. According to the Ld. DR, DRP had no power to set aside a proposed variation or issue any direction for further verification. According to the Ld. DR the effect of directions of DRP was to set aside the proposed draft assessment order and TP order. Further according to the Ld. DR, assessee could not show that whether raw material used by the comparables was of significantly cheaper variety. In so far as capacity utilisation was IT(TP)A250 & 423/Bang/2015 Page - 9 concerned, Ld. DR submitted that the DRP had simply accepted the contentions of the assessee without giving any chance to the TPO for verifying the arguments and submissions of the assessee with regard to the computation of capacity utilisation. As per the Ld. DR, TPO was not given an opportunity to verify the claims of the assessee. Ld. DR submitted that during the course of proceedings before the DRP, it ought have given an opportunity to the AO/ TPO before it passed directions which were prejudicial to the interests of the Revenue. Thus according to him, DRP directions exceeded the powers vested on it u/s.144C of the Act.

Per contra and in support of its ground 7, Ld. AR submitted that the directions given by DRP were very clear. As per the Ld. AR assessee had before the TPO pointed out the substantial investments made by it for expansion to its Chennai plant in the relevant previous year which resulted in huge fixed cost and consequent depression in margin. According to him though the lower capacity utilisation during the relevant previous year due to the establishment of new plant at Chennai, was not brought to the notice of TPO, every detail with regard to such claim was made before the DRP. Ld. AR submitted that assessee had given detailed calculation before the DRP which exactly gave the difference arising due to use of virgin raw IT(TP)A250 & 423/Bang/2015 Page - 10 material in place of B-Stream raw material. Monetary impact was worked out considering the B-Stream raw material and quantity of virgin raw material used during the relevant previous year in the material mix. If the impact of Rs.42,65,078/- on account of use of virgin material was adjusted, loss of the assessee in the manufacturing segment came down to 0.39%.

Again according to Ld. AR, under utilisation of capacity was clearly demonstrated by the assessee before the DRP. As per the Ld. AR against the installed capacity of 3,400 metric tonnes, actual production was only about 1700 metric tonnes resulting in under- utilisation of capacity by 52.26%. In other words, actual utilisation of capacity was only 47.74%. Ld. AR pointed out that the capacity utilisation of each of the comparables considered were also available in the public domain from the published final accounts of the respective comparables and furnished to the lower authorities. Relying on Exhibit-1, placed at paper book page 9, he submitted the average capacity utilisation of comparables came to 65.21%. It was after considering these aspects, DRP gave the directions. According to him, AO failed to give effect to the directions given by the DRP. DRP having considered the veracity of the facts and figures given by the assessee, as per the Ld. AR, was justified in giving the directions.

We have perused the orders and heard the rival contentions. Case of the assessee is that there was considerable impact on its profit due to change in composition of raw material from B-Stream to Virgin during the relevant previous year and also due to under utilisation of manufacturing capacity when compared to those of the comparables selected by the TPO. No doubt in its submissions before the TPO placed at paper book page 72, it had mentioned that it was into the process of building a new plant during the previous year which could result in increased manufacturing capacities and volumes. Nevertheless, the question whether assessee had faced any extra-ordinary circumstance unique to it, leading to the negative profit margin, considering the change in composition of raw material and under utilisation of capacity was never an issue before the TPO. The data in this regard and the specific plea were brought by the assessee before the DRP for the first time. Powers of the DRP u/s.144C of the Act is reproduced hereunder :

No doubt, DRP vide sub-section 8 above has no power to set aside a proposed variation in a draft order nor can it issue directions for further enquiry. Where a direction is issued which affects the assessee or the Revenue prejudicially, it is bound to give an opportunity to the concerned party. Obviously, the directions issued by the DRP reproduced by us at para eleven above would have a bearing on the PLI of the assessee company and will detrimentally affect the prospects of the Revenue. The question whether there was an actual under utilisation of manufacturing capacity, for the assessee when compared to the comparables, was never considered by AO / TPO. An adjustment can be given to the tested party for such under utilisation, only if it is possible for the assessee to establish IT(TP)A250 & 423/Bang/2015 Page - 15 that the comparables considered for the TP study had an utilisation significantly above its own. Data furnished by the assessee before the DRP with regard to capacity utilisation of the comparables, read as under : :

Coming to the issue of monetary impact of change in composition of raw material, details given by the assessee before the TPO read as under:

Now we take up appeal of the assessee. Ld. Counsel for the Assessee at the out set submitted that grounds 1 to 6, 9 and 10 could be considered as general in nature. We find that ground 11 is consequential being on charge of interest u/s.234B and 234D of the Act. Ground 7 has already been considered by us while dealing with the appeal of Revenue. Based on our discussion at para 15 to 17 above, this ground is treated as partly allowed for statistical purpose.

Ground.8 of the assessee which is on TP adjustment done by the TPO in the ITES segment to the extent confirmed by the DRP.

Ld. AR at the out set submitted that he had no grievance on the comparables selected by the TPO nor the method adopted by TPO for the ITES segment. According to him, he was seeking exclusion of Infosys BPO Ltd, and inclusion of Microland Ltd in the list of comparables. As per the Ld. AR he has raised an additional ground in this regard before this Tribunal, since Infosys BPO Ltd, was a part of assessee’s own set of 15 comparables. Nevertheless as per the Ld. AR, assessee had before the DRP taken a ground for exclusion of Infosys BPO Ltd. Relying on the decision of coordinate bench in the case of Mindtek India Ltd v. DCIT [IT(TP)A.70/Bang/2014], Ld. AR also sought inclusion of M/s. Microland IT(TP)A250 & 423/Bang/2015 Page - 19 Ltd, in the list of comparables though it did not fall in the matrix of comparables originally selected by the assessee. As per the Ld. AR, all details regarding Microland Ltd, was available in public domain it passed all filters adopted by the TPO. Reliance was placed by the Ld. AR on the decision of Special Bench in the case of DCIT v. Quark Systems Pvt. Ltd. [42 DTR 414].

Per contra Ld. DR submitted that Infosys BPO Ltd, was a part of assessee’s own TP study and hence it could not now seek its exclusion. Vis-a-vis inclusion of Microland Ltd, Ld. DR submitted that TPO had no opportunity to verify the comparability of the said company with that of the assessee.

We have perused the orders and heard the rival contentions. In so far exclusion of Infosys BPO Ltd, is concerned, it is true that the said company was a part of its own comparables. However, assessee had raised a ground before the DRP for exclusion of the said company. This Tribunal has been consistently holding that Infosys BPO Ltd could not be considered as comparable due to its huge brand value and substantial ownership of intangibles, with a company having ITES segment with much lesser Revenue. In relation to software development service segment, Hon’ble IT(TP)A250 & 423/Bang/2015 Page - 20 Delhi High Court in the case of CIT vs Agnity India Technologies Pvt Ltd [(2013) 93 DTR 0375], had found that the risk profile, ownership of proprietary products and expenditure on R & D, took Infosys Technologies Ltd, out of the list of comparable companies. No doubt the said judgment was rendered for software development services, but nevertheless, even in BPO segment of Infosys, the exceptional circumstances mentioned by Hon’ble Delhi High Court in Agnity India Technologies Pvt Ltd (supra), in our opinion, would subsist. Thus, we are of the opinion that Infosys BPO Ltd, ought not have been considered as a comparable. We direct exclusion of the said company from the list of comparables.

In so far as inclusion of Microland Ltd is concerned, DRP had not given any specific directions on this plea. By virtue of the Special Bench decision in the case of Quark Systems Pvt. Ltd, (supra) assessee is justified in seeking inclusion of a fresh company, even before this Tribunal. However when assessee is given a freedom of including a fresh company in the list of comparables, we are of the opinion that TPO cannot be divested of such a right for considering other companies which satisfied the filters applied by him, even if it did not form a part of original list of comparables considered by him. We therefore set aside the orders of authorities below IT(TP)A250 & 423/Bang/2015 Page - 21 in relation to the ITES segment and direct the AO / TPO to make a fresh analysis of the comparables considering the submissions of the assessee and also verifying the data available in public domain.

In the result, ground.8 and additional ground raised by the assessee are partly allowed for statistical purpose.

To summarise the result, appeal of the Revenue is treated as partly allowed and that of the assessee is partly allowed for statistical purpose.