Nature of products manufactured by concerned six comparables was entirely different from product range manufactured by assessee thus companies selected by TPO should be excluded from final list of comparables.

This appeal filed by the Revenue and Cross Objection filed by the assessee are directed against the order of Dispute Resolution Panel-2, New Delhi dated 12.10.2015 passed under section 144C(5) (of Income Tax Act, 1961) and the solitary common issue involved therein relates to the Transfer Pricing adjustment.

2. The assessee in the present case is a Company, which is engaged in the manufacture of a wide range of equipments used for Dynamic Weighing, Feeding and Controlling flow of sold materials. The return of income for the year under consideration was filed by it on 28.11.2011 declaring total income of Rs.15,49,31,766/-. During the year under consideration, the assessee-company had entered into the following international transactions with its Associated Enterprises:-

Nature of transaction Paid (Rs.) Received (Rs.) Sale of components 11,456,350 Sale of services 1,52,685 Purchase of raw material & components 128,604,847 Trademark/license fee 15,572,928 Reimbursement of expenses 466,634 Sale of components 1,009,852 Sale of services 113,308 Management fee for assistance 21,541,343 Recovery of expenses 2,645,239 Purchase of raw material & components 86,848,553 Purchases of services 1294,425 Reimbursement of expenses 506,144

Purchase of raw material & components 2,151,542

Recovery of expenses 160,493

Recovery of expenses 188,348

Management fee for assistance 1,029,460

Purchase of raw material & components 88,344,217

Purchases of services 14,935,325

Purchase of raw material & components 24,923,893

Purchase of raw material & components 13,018,379

In order to determine the arm’s length price of the aforesaid international transactions entered into by the assessee with its associated Enterprises, a reference was made by the Assessing Officer to the Transfer Pricing Officer (in short TPO) under section 92CA (of Income Tax Act, 1961).

In the Transfer Pricing Study Report furnished by the assessee, TNMM was adopted as the most appropriate method and operating profit to operating revenue (OP/Sales) was taken as the Profit Level Indicator (PLI). In the said TPO Study Report, the assessee-company was taken as the tested party and a set of five comparables was selected having an average (OP/Sales) of 6.19%. Since the OP/Sales of the assessee-company as worked at 8.41% was higher than the average OP/Sales of the five comparables, the price charged to the associated Enterprises in the international transactions was claimed by the assessee-company to be at arm’s length.

3. The comparability analysis made in the TP Study Report submitted by the assessee was examined by the TPO and on such examination, he found that the assessee-company had not considered current year data of any of the comparable companies and the data for the earlier two financial years, i.e. F.Y. 2008-09 and 2009-10 was considered. Keeping in view the said defect as well as the other defects pointed out by him, the TPO rejected the Transfer Pricing Study Report furnished by the assessee by regarding it as not reliable. He then proceeded to do the comparability analysis of his own and by applying the various filters and criteria, selected 35 entities as comparables, which incidentally included two of the five entities selected as comparables in the T.P. Study Report furnished by the assessee. By relying on the various quantitative and qualitative criteria, the assessee objected to the inclusion of many entities selected by the TPO in the final set of comparables. After taking into consideration the submissions made by the assessee in this regard, the TPO found the objections raised by the assesese for inclusion of some of the entities as comparables to be sustainable and accordingly selected the following 16 entities in the final list of comparables:-

Sr. No. Name of the Company OP/Sales

1. Action Construction Equipment Limited 8.26%

2. Andhra Pradesh Heavy Machinery & Engg. Ltd.

15.25%

3. Avery India Ltd. 13.04%

4. Bharat Bijlee Ltd. 9.91%

5. CTR Manufacturing Industries Ltd. 19.35%

6. Elmco Elcon (India) Limited 13.04%

7. GMM Pfaudler Ltd. 10.71%

8. Greaves Cotton Ltd. 15.25%

9. International Combustion (India) Ltd. 15.25%

10. International Conveyors Ltd. 10.71%

11. L&T Cutting Tools Ltd. 9.91%

12. Lincoln Helios (India) Ltd. 27.54%

13. Mazda Ltd. 13.79%

14. Otis Elevator Company (I) Ltd. 13.79%

15. TIL Ltd. 15.25% 13.76%

4. By applying average OP/Sales of the 16 entities selected by him as final comparables, the TPO determined the arm’s length Profit on the total sales of the assessee at Rs.19,42,08,820/- as against the profit of Rs.11,86,89,489/- shown by the assessee thereby making a difference of Rs.7,59,19,331/-. Since the value of international transactions of the assessee in total sales were 26.42%, the amount of transfer pricing adjustment on proportionate basis was worked out by the Assessing Officer at Rs.1,99,51,702/-. Accordingly, in the draft assessment order, addition of Rs.1,99,51,702/- was proposed by the Assessing Officer on account of transfer pricing adjustment.

5. The addition on account of transfer pricing adjustment as proposed by the Assessing Officer in the draft assessment order was challenged by the assessee by filing objections before the DRP. One of the objections raised by the assessee before the DRP was relating to the exclusion by the TPO of three entities selected as comparables in the T.P. Study Report from the final list of comparables. The DRP, however, did not find this objection of the assessee to be sustainable and overruled the same for the following reasons given in the tabular form:-

Comparable TPO Assessee DRP

1. Josts Engineering Co. Ltd. Though the company is into manufacture of material\ handling equipment it also manufactures.

The company manufactures material handling equipment which is similar to the activities of assessee. The Exclusion is valid in view of diversified activities.

GMM Pfaudler has also been excluded on other equipments, components, accessories and spares.

Hence, the company is rejected as a comparable for being into diversified activities.

maximum revenue comes from material handling equipment.

Hence, the company has been accepted as a comparable.

identical issue. For consistency this is a valid exclusion.

GMM Pfaudler Ltd.

2. Automag India Pvt. Ltd. TPO has rejected the company due to non- availability of annual report The company thus manufactures comparable products and has been accepted.

The exclusion is valid as the information not available- the assesseeM has also not furnished the

financial data.

3. Wevin Pvt. Ltd. TPO has rejected the company due to non- availability of annual report.

The company manufactures comparable products being chain and non- chain conveyors and has been accepted as a comparable.

The exclusion is valid as the information not available- the assessee has also not furnished the financial data.

6. The assessee-company also raised objection for the inclusion of atleast 11 entities by the TPO in the list of comparables. In this regard, the DRP found merit in the stand of the assessee in so far as six entities selected by the TPO as comparables were concerned and directing the exclusion of the same from the final list of comparables, the remaining five entities were retained by the DRP in the final list of comparables for the following reasons given in the tabular form:-

Comparable TPO Assessee DRP 1. Bharat Bijlee Ltd.

This is functionally comparable.

As seen above Electric Motors and Transformers comprise

about 92% of the total sales of the company. The company

manufactures different products and hence, should be rejected.

While selecting comparables, the FAR has to be considered.

Plain functional comparability cannot ignore the product/item as the functional comparability is impacted by

the nature of product.

The comparable is to be excluded.

2. CTR MManufacturing Industries Ltd.

This is functionally comparable.

It is clear that Engineering and Electronic products being tap changers, capacitors, railway equipments, fire systems, wind turbine generation comprise the total sales of the company.

The company manufactures different products and hence, has been rejected.

While selecting comparables, the FAR has to be considered.

Plain functional comparability cannot ignore the product/item as the functional comparability is impacted by the nature of product.

The comparable is to be excluded.

3. Emco Elecon (India) Limited

This is functionally comparable.

That the company manufactures diverse products and

hence is not comparable and has been rejected.

This company manufactures loader Machines, etc.

these come in closure comparability and would fall in similar FAR. This comparable should be included.

4. GMM Pfaudler Ltd. This is functionally comparable.

Above the company’s major segments are:

Chemical Process Equipment Mixing System Filtration & Separation While selecting comparables, the FAR has to be considered.

Plain functional comparability cannot ignore the product/item as the functional comparability is impacted by the nature of product.

The comparable is to be excluded.

5. Greaves Cotton ltd.

This is functionally comparable.

The company manufactures diverse products being High Pressure Pumps, Gear Boxes, Pump sets etc. Hence While selecting comparbles, the FAR has to be considered.

Plain the company has been rejected.

functional comparability cannot ignore the product/item as the functional comparability is impacted by the nature of product.

comparable is to be excluded.

6. L&T Cutting Tools Ltd. MThis isfunctionally comparable.

Moreover it is clear that the company manufactures unrelated products like cutting tools.

company has been rejected.

This falls in similar FAR analysis and the functional comparability is closer. This is a valid comparable.

The TPO should share the financials with the assessee.

7. Lincoln Helios (India) Ltd.

This is functionally comparable.

Thus it is evident that the company is involved in manufacture, purchase and sale of centralized lubrication systems and parts thereof. Hence, it is not functionally comparable to the assessee and is thereby rejected.

While selecting comparables, the FAR has to be considered.

Plain functional comparability cannot ignore the product/item as the functional comparability is impacted by the nature of product.

The comparable is to be excluded.

8. Mazda Ltd. This is functionally comparable.

The company is involved in manufacture of engineering goods like Vacuum Products, Evaporators, Pollution Control Equipments etc.

and is in the business of food items. As it is not functionally comparable to the assessee.

While selecting comparable s, the FAR has to be considered.

Plain functional comparability cannot ignore the product/item as the functional comparability is impacted by the nature of product.

The comparable is to be excluded.

9. Otis Elevator Company (I) Ltd. This is functionally comparable.

The company is involved in manufacture of elevators and escalators which is not the activity in which the tested party is involved. Hence, the company is rejected

as not being functionally comparable.

Being an identical product segment and closer functional comparability, this would meet the FAR tests. It is a valid comparable.

10. TIL Ltd. This is functionally comparable.

As seen in the screenshot above the company is into diversified business Being an identicalproduct segment and closer segments.

The learned TPO had himself rejected comparable s for being into diversified business.

Moreover the company manufactures lifting, Port and road building solutions.

functional comparability, this would meet the FAR tests. It is a valid comparable.

11. UT Ltd. The company manufactures Hydraulic Engineering products such as Tipping Gars, Hydraulic Cylinders etc. and hence has been rejected.

Being an identical product segment and closer functional comparability, this would meet the FAR tests. It is a valid comparable.

7. In the objections filed before the DRP, working capital adjustment was also claimed by the assessee and although a detailed submission was made by the assessee on this issue, the DRP found that there was a failure on the part of the assessee to explain as to why and how the working capital adjustment was justified in its own case and how the variation in working capital profile was impacting ALP computation. In the absence of the same, the DRP did not allow working capital adjustment as sought by the assessee. As regards the other objection raised by the assessee regarding the mistake on the part of the TPO in computing the correct PLI, the DRP directed the A.O./TPO to verify the same. 8. As per the direction of the DRP, the final set of comparables with their PLI (OP/TC) was revised by the TOP as under:-

Sl. No. Name of the comparable OP/TC

1. Action Construction Equipment Ltd. 8.44%

2. Andhra Pradesh Heavy Machinery & Engg. Ltd.

17.27%

3. Avery India Ltd. 13.77%

4. Emco Elecon India Ltd. 13.04%

5. L&T Cutting Tools Ltd. 9.91%

6. Otis Elevator Company (I) Ltd. 16.55%

7. TIL Ltd. 23.82%

8. UT Ltd. (-)7.86%

9. International Combustion (India) Ltd. 13.89%

10. International Conveyors Ltd. 6.31%

Simple Arithmetic mean 11.51%

9. The TPO also held that purchases of services of goods were required to be bench-marked taking OP/OR as PLI, while sale of goods and services were to be bench-marked by taking OP/TC as PLI. Since OP/TC was computed at 11.51% by taking the simple arithmetic mean, he worked out the arm’s length price OP/OR at 10.32%. By applying the arm’s length Price of 10.32% on the total cost, he determined the arm’s length price of the international transactions of the assessee-company with its associated Enterprises involving purchase of goods and services at Rs.38,79,20,153/- as against the corresponding price of Rs.39,61,63,371/- charged by the assessee and since the difference between them at 2.08% was within permissible limit of 5%, he held that there was no transfer pricing adjustment warranted. Similarly, by applying the arm’s length PLI of 11.51%, he determined the arm’s length price of the international transactions of the assessee-company with its associated Enterprises involving sales of goods and services at Rs.1,29,72,294/- as against the price charged by the assessee at Rs.1,27,32,196/- and since the difference between the same at 1.88% was within the permissible limit of 5%, he held that no transfer pricing adjustment was warranted. The transfer pricing adjustment as originally worked out by the TPO at Rs.1,99,51,702/- thus was reduced to ‘NIL’ as a result of directions given by the DRP vide its order dated 12.10.2015 passed under section 144C(5) (of Income Tax Act, 1961) and being aggrieved by the same, the Revenue has preferred this appeal before the Tribunal challenging exclusion of six parties by the DRP from the final set of comparables, while the assessee has also filed Cross Objection seeking inclusion of three entities selected as comparables in the T.P. Study Report but rejected by the TPO as well as DRP. The assessee has also claimed working capital adjustment which the DRP has disallowed.

10. The ld. D.R. submitted that six entities selected by the TPO as comparables are excluded by the DRP by accepting the contention of the assessee that the products manufactured by them are not similar to the products manufactured by the tested party. He contended that the said entities are functionally similar to the assessee-company, inasmuch as the same were admittedly engaged in manufacturing. He contended that the functional comparability between the said six entities and the assessee-company thus was duly established and, therefore, the DRP was not justified in excluding the same on the basis of products dissimilarity, especially while applying TNMM method. He contended that while applying TNMM method, only the functional similarity is sufficient and it is not necessary to take further efforts to find out the product similarity.

He contended that TNMM allows flexibility and tolerance in selection of comparables as the product dissimilarities get subsumed at net margin levels. He also submitted that atleast in case of two entities, namely Greaves Cotton Limited and Lincoln Helios (India) Limited, the products manufactured were broadly comparable to that of the assessee-company and the DRP directed to exclude the same from the final list of comparables ignoring this vital aspect.

11. The ld. Counsel for the assessee, on the other hand, submitted that the assessee-company is mainly engaged in the manufacturing of material handling products and since the products manufactured by the concerned six entities excluded by the DRP were not even broadly similar to that of the assessee-company, the same were rightly excluded by the DRP. He also contended that when the comparables selected by the assessee as well as other comparables selected by the TPO himself having functional and product similarities to the assessee-company were sufficient in number for doing the comparability analysis to determine the arm’s length price by applying the TNMM, there was no justification to include the entities not having product similarity to the assessee-company for determining the arm’s length price even by applying the TNMM method.

12. We have considered the rival submissions and also perused the relevant material available on record. It is no doubt true that comparability analysis while applying TNMM method may be less sensitive to certain dissimilarity between the tested party and the comparables. However, as held by the Hon’ble Delhi High Court in the case of Green Solutions Pvt. Limited –vs.- CIT (I.T. Appeal No. 102/2015 dated 10.08.2015), that cannot be the consideration for diluting the standards of selecting comparable entities and the higher product and functional similarity would always go to strengthen the efficacy of the method in ascertaining the reliable arm’s length price. While applying the TNMM method, functional comparability is required to be of high level while the product comparability can be of broad level. However, while considering the product comparability even at a broad level, the nature of products manufactured by the comparables, vis-a-vis that of the tested party is required to be considered and if the nature of products manufactured by the comparables is found to be entirely different from the tested party, such comparables are liable to be excluded on the ground that there is no product comparability even at a broad level.

In the present case, the assessee-company is mainly engaged in the manufacture of material handing equipments and as rightly held by the DRP, the products manufactured by the concerned six entities selected as comparables by the TPO were not comparables to that of the assessee- company even at broad level as the nature of the same itself was different. For instance, M/s. Bharat Bijli Limited was mainly engaged in the manufacturing of Electric Motors and Transformers, the nature of which is altogether different from the products manufactured by the assessee, viz. material handling equipments. Similarly, CTR Manufacturing Industries Limited was engaged in the manufacturing of engineering and electronics products being tap changers, capacitors, railway equipments, fire systems, wind turbine generation etc. while GMM Pfaudler Limited was engaged in the business of manufacturing chemical process equipments, mixing system, filtration and separation.

Even in the case of Greaves Cotton Limited cited by the ld. D.R., the assessee was engaged in the manufacturing of diverse products such as high-pressure pumps, gear boxes, etc., while M/s. Lincoln Helios (India) Limited was engaged in manufacturing of lubrication systems. In our opinion, the nature of these products manufactured by the concerned six comparables thus was entirely different from the product range manufactured by the assessee and since there was no product comparability even at broad level, we find ourselves in agreement with the DRP that the same are liable to be excluded from the final list of comparables. We accordingly uphold the impugned order of the ld. DRP on this issue and dismiss the appeal filed by the Revenue.

13. As a result of our decision rendered above upholding the order of the DRP excluding the concerned six comparable s from the final list of comparable s, the issues raised in the Cross Objection filed by the assessee seeking inclusion of three comparable s selected in the T.P. Study Report and claiming working capital adjustment have become infructuous, as agreed even by the ld. Counsel for the assessee.

We accordingly dismiss the Cross Objection filed by the assessee.

14. In the result, the appeal of the Revenue and Cross Objection of the assessee both are dismissed.

Order pronounced in the open Court on May 18, 2018.

Sd/- Sd/-

(A.T. Varkey) (P.M. Jagtap)

Judicial Member Accountant Member

Kolkata, the 18t h day of May, 2018