R A K CEREMICS INDIA PRIVATE LIMITED,HYDERABAD vs. DCIT, CIRCLE-3(1), HYDERABAD

O R D E R PER LALIET KUMAR, J.M. The appeal of the assessee for A.Y. 2014-15 arises from the assessment order of the Deputy Commissioner of Income Tax, Circle – 3(1), Hyderabad passed u/s 143(3) r.w.s. 144C(13) r.w.s. 254 of the Income Tax Act dated 28.11.2022.

2. On the facts and in the circumstances of the case and in law, Hon'ble Panel erred in upholding the action of the learned Transfer Pricing Officer ('Ld. TPO') / Learned Assessing Officer ('Ld. AO') in proposing an adjustment of INR 3,33,61,422 to the international transactions pertaining to purchase of raw materials / finished goods by the Appellant to its Associated Enterprises ('AEs').

3. On the facts and in the circumstances of the case and in law, Ld. AO / Ld. TPO / Hon'ble Panel has erred in including companies in the comparable set which are not comparable to the Appellant's functions, asset base and risk profile, viz., (a) Cera Sanitary Ware Limited and (b) HSIL Limited.

4. On the facts and in the circumstances of the case and in law, Ld. AO / Ld. TPO / Hon'ble Panel has erred in considering certain cost elements as non-operating in nature while computing operating margins of tested party and comparable companies.

5. On the facts and in the circumstances of the case and in law, Ld. AO has erred in crystalizing tax demand by ignoring the MAT credit carried forward from previous assessment years.”

3.1. Aggrieved to the addition, assessee company filed objection before the Dispute Resolution Panel, Bangalore, who directed to recompute the adjustments. As per the directions of DRP, Assessing Officer vide order dt.24.10.2018 has recomputed the final adjustment for the purpose of arms length price at Rs.2,87,68,954/- and the same was added to the income of the assessee company. Thus, assessment was completed u/s.143(3) r.w.s 144C(13) on 30.10.2018 determining total taxable income at Rs.7,62,65,040/-. Subsequently, the assessee preferred an appeal against the assessment order before ITAT. The Hon'ble ITAT restored the issue back to the Hon'ble DRP to adjudicate the same afresh. The DRP vide order u/s.144C(5) r.w.s. 260A dated.31.10.2022 directed to recompute the adjustments. Accordingly, as per the direction of the DRP, the DCIT/ACIT, TP3 Hyderabad has recomputed and revised arms length price at Rs.3,33,61,422.

3. On the facts and in the circumstances of the case and in law, Ld. AO / Ld. TPO / Hon'ble Panel has erred in including companies in the comparable set which are not comparable to the Appellant's functions, asset base and risk profile, viz., (a) Cera Sanitary Ware Limited and (b) HSIL Limited.

5. In this regard, the ld. AR has drawn our attention to the order of DRP and our attention was drawn to Para 2 to 2.22. which is to the following effect :

2.1.1 It is contended by the assessee that HSIL Limited is not comparable to the assessee company as HSIL Limited is engaged in manufacture diversified products such as sanitary ware, faucets, kitchen appliances, wellness products such as massage tubs, multi- functions, shower panels, shower enclosures, tiles, extractor fans, glass containers, PET bottles, etc. It was also pleaded that if at all, only the building product division which is engaged in manufacture of sanitary tiles is comparable. It was further argued that the company has not provided the segmental results for its building product division and the packing product division in its annual report, and therefore, in the absence of such information, this company cannot be considered as comparable. The assessee also pleaded that the company has incurred substantial R&D expenditure, and whereas the assessee company did not incur any such expenditure, and therefore, this company has to be excluded. 2.1.2 Having considered the submissions, and on perusal of the annual reports of this company for the financial years 2012-13 and 2013-14, we note that the company is engaged in manufacture of tiles and other allied products apart from manufacture of container glass. The company has broadly two divisions - the Building Product division, which manufactures tiles and allied products; the packaging product division - which manufactures container glass bottles. We also note that the company has given its segmental results in its consolidated financial results, wherein it has reported revenue and profit relating to Building product division, Packing product division and Other Revenue. We have noted the following relevant information from the annual reports of the company, which are summarized as under:- 2.1.3 As per Annexure to the Profit & Loss account of HSIL in its financial statement (Refer page 86 of the annual report for F.Y. 2013- 14 and page 112 of the annual report for F.Y. 2013-14)

FY ENDING 31.03.2014 31.03.2013 Sale of products 1855.71 Cr 1681.89 Cr Sale of Sanitary 910.14 Cr 771.61 Cr products Sale of glass 944.00 Cr 908.62 Cr containers Others 1.57 Cr 1.66 Cr

2.1.4 As per information in the annual report (Refer page 35 of the annual report for F.Y. 2014-15 and page 33 of the annual report for F.Y. 2013-14). 2. 31.03.2014 31.03.2013 1855.71 Cr 1681.89 Cr Gross Turnover Net Turnover 1716. 83 Cr 1550.28 Cr (Gross turnover - Excise duty) 1.57 Cr 1.66 Cr (-) others Net Turnover 1715.26 Cr 1548.62 Cr

2.1.5 As per information in the consolidated financial statement (Refer page 176 of the annual report for F.Y. 2014-15 and page 162 of the annual report for FY 2013-14) • 31.03.2014 31.03.2013 Building 863.35 731.06 division 851.91 817.55 1715.26 1548.61 Packing division Sub- total Others 112.63 188.06 1827.89 1736.80 182.80 135.79 Profit from building division Profit margin 21.17% 18.57% from building division over Revenue

2.1.6 From the above, it can be seen that there is no difference in net turnover of the company as reported in its financial statement (standalone) and the net turnover taken in the consolidated financial results (refer tables above). The segmental results reported in the consolidated financial statement reflects the financial performance of the divisions of the company HSIL. We further note as per information given (at page 179 and 180 of the annual report of this company for F.Y. 2014-15, information at page 168 of annual report for F.Y. 2013-14 and information at page 152 of annual report for F.Y. 2012-13), the subsidiaries pertaining to the Building product division have very meagre operational income of rupees one crore or less during these years (i.e., F.Y. 2012-13 - Rs.86.39 lakh, Rs.93.61 lakh for F.Y. 2013-14) and have also shown substantial losses in all these years. These information further strengthens our view that the segmental results given in the consolidated financial statement pertain to the building division of the company HSIL and can be reliably taken for the comparable analysis. Even otherwise, considering the low operating turnover and losses of the subsidiaries, and their corresponding impact in reducing the profit margin of HSIL, at the consolidated level, we note that the assessee is not adversely affected, as only a reduced margin is considered for comparable analysis. Accordingly, the AO / TPO is directed to take the following margins, pertaining, to the building product division of HSIL for the comparable analysis. F.Y. 2012-13 18.57% 2013-14 21.17%

2.1.7 As to plea of R&D expenditure, we note that the TPO has giyen detailed reasons for rejecting this plea. This company has incurred Rs.57.78.85 lakhs during FY 2013-14 which constitutes meagre 0.03% of its gross turnover of Rs.188,535 lakhs. As against the above, the assessee company has incurred Rs.14.41 crore @ 3% of sales towards payment of royalty for these years, towards technical know-how and technology up gradation. Thus, the expenditure incurred by the assessee company is substantially more compared to the R & D spend of HSIL. Therefore, as such there is no functional difference on account of R & D spend and accordingly, the pleas raised in this regard are rejected.

2.2 CERA Sanitaryware Limited (CERA) - 12.85% (Inclusion) ➢ Functionally different ➢ Diversified business ➢ Faucet manufacturing company cannot be compared to ceramics manufacturer ➢ Segmental financials not available 2.2.1. It was contended by the assessee that the company Cera Sanitary Ware Limited is not comparable to the assessee company as Cera Sanitary Ware Limited is engaged in manufacture of sanitary ware, faucet ware, trading of bathroom tiles whereas the assessee is engaged in manufacture and sale of vitrified tiles. It was also contended that Cera Sanitary Ware Limited is engaged in R&D activities hence, cannot be compared with the assessee company. 2.2.2 Having considered the submissions, we note from the assessee's financial statement, under the head company overview, it is stated that, "the company is in the business of manufacture and trading of ceramic wall and floor tiles, vitrified tiles and sanitary ware". Thus, there is not much difference in the products dealt with. Besides, under TNMM method, comparability with reference to broad -product range would be sufficient, and there is no requirement to have identical product profile. It is also relevant to note that the assessee in its TP study report (at page 25) while selecting TNMM as the MAM, has noted, "Under the TNMM, comparable transactions need to be broadly similar, significant product diversity and some functional diversity between the controlled and uncontrolled parties are acceptable". Thus, it is an admitted position that product diversity is tolerant under TNMM. In view of these, we do not find merit in the pleas raised. With regard to the plea of R & D expenditure, we note that the TPO has brought on record as to the expenditure incurred by the assessee towards technology by way of royalty payment and thus, there is no functional difference in regard to comparability on account of R & D spend. Accordingly, we uphold the selection of this company as comparable.”

“4. Learned department representative fails to dispute that the DRP herein has nowhere taken into consideration the assessee's detailed objections quoting functional similarity, lack of the relevant segmental financials and engagement of the said twin entities in R & D activities, whilst declining the impugned objection in a cryptic manner.

8.1. The ld.AR relied upon the submission made by him before the lower authorities for excluding the HISL Limited as comparable.

8.2. The ld.DR on the other hand, relied upon the decision of the Tribunal in the case of the assessee in ITA No.1407/Hyd/2019.

8.3 We have heard the rival submissions of the parties and perused the material available on record including the decision of the co-ordinate Bench of the Tribunal in the case of the assessee for A.Y. 2015-16. The Tribunal vide order dt.31.08.2023 in Paragraph 21 to 24 has decided the issue in the following manner :

“21. Learned DR submitted that functionally both HSIL Ltd., and Cera Sanitaryware Ltd., are similar to the assessee and merely by enumerating the differences emanating from the use of generic terms in the website, giving an impression that the HSIL Ltd., and Cera Sanitaryware Ltd., into diversified business, assessee cannot escape from the core business of these three entities. He submitted that when compared to the expenditure met by the assessee for securing the benefits of new technology, the other two entities are spending very small amount. R&D is undertaken by those two entities directly whereas assessee outsourced the same. Since the assessee is spending 3% on this pursuit, assessee cannot say that because the other two entities conduct R&D on their own cannot be compared to it, when such an expenditure is 0.03% or 0.13% by others respectively. Lastly he submitted that comparison of functions is different from comparing the variety of products that result in the similar function. He submitted that the manufacture of faucets and glasses by other two companies is miniscule and as a matter of fact, as rightly observed by the learned DRP in their order segmental information is very much available for the HSIL Ltd., also. He submitted that when the figures relating to consolidated financial results are correlating with the figures in the financial statement standalone, such figures relating to consolidated financial results are reliable and clue can be had from such figures for the comparability of this entity. Further, as observed by the learned DRP, for the suitability of TNMM as MAM, assessee itself said in their TP study report that under the TNMM, comparable transactions need to be broadly similar, significant product diversity and some functional diversity between the controlled and un-controlled parties are acceptable. Here in this case, what all the assessee pleaded is only some degree of product diversity, but little functional diversity.

agreeing with each other, it is not possible to count the differences in the description of the products and to eliminate the entity. Though the terms used are generic in nature giving an impression that the company is engaged in diversified activities, the core activity of both the entities is dealing in tiles and sanitaryware. One shall not lose sight of the fact that information contained in the websites of any entity and sometimes in the annual report would be intended to give a very attractive picture of such company and its areas of activity will be mentioned in usually general and widespread terms to attract the customers and the same cannot be given much weight. In these circumstances, we agree with the findings of the learned DRP and decline to exclude HSIL Ltd., from the list of comparables.”

8.4. Respectfully, following the decision of the co-ordinate Bench of the Tribunal in the case of assessee for the A.Y. 2015-16, we decline to exclude the HSIL Limited from the list of comparables. Accordingly, this ground is dismissed.

8.5. For the other comparable Cera Sanitary Ware Limited, it was pointed out by the ld. AR that the Tribunal has directed to include Cera Sanitary Ware Limited, included this comparable and our attention was drawn to the order of the Tribunal for A.Y. 2015- 16 which is to the following effect :

“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 referred to in sub- clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); v. the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the international transaction or the specified domestic transaction”