M/S. Flex Engineering Ltd vs Commnr. Of Central Excise, U.P

M/S FLEX ENGINEERING LIMITED -- APPELLANT

VERSUS

COMMISSIONER OF CENTRAL EXCISE, -- RESPONDENT

U.P.

WITH

CIVIL APPEAL NO.429 OF 2012

(Arising out of S.L.P. (C) No. 875 of 2008),

CIVIL APPEAL NO.430 OF 2012

(Arising out of S.L.P. (C) No. 10759 of 2010)

AND

CIVIL APPEAL NO.431 OF 2012

(Arising out of S.L.P. (C) No. 6501 of 2011)

J U D G M E N T

D.K. JAIN, J.:

1

1. Leave granted in S.L.P. (C) Nos. 875 of 2008, 10759 of 2010

and 6501 of 2011.

2. This batch of appeals, by grant of leave, arises out of

judgments dated 26th August, 2002 in C.E.R. No. 11 of 2001,

11th April, 2007 in C.E.A. No. 10 of 2004, 8th September, 2009

in C.E.A. No. 6 of 2003 and 25th October, 2010 in C.E.R. No. 51

of 2002 passed by the High Court of Judicature at Allahabad.

By the impugned judgments, rendered in the reference

applications filed by the assessee, under Section 35H of the

Central Excise Act, 1944 (for short "the Act"), the questions

referred by the Customs, Excise and Gold (Control)

Appellate Tribunal, as it then existed, (for short "the

Tribunal") have been answered in favour of the revenue.

3. In order to comprehend the controversy at hand, a few

material facts may be noticed. At the outset, it may be noted

that these appeals relate to the period between August 1992

to June 1996.

2

The appellant -assessee, a body corporate, claiming to be

pioneers in the concept of flexible packaging, is engaged in the

manufacture of various types of packaging machines, marketed

as Automatic form fill and seal machines (for short "F&S

machines"), classified under chapter heading 8422.00 of the

Schedule to the Central Excise Tariff Act, 1985 (for short "the

Tariff Act"). The literature placed on record shows that the

assessee has prototype models of F&S machines with technical

details like web width, Roll diameter, Core diameter, typical

material range, the type of material to be packed, etc.

According to the assessee, the machines are `made to order',

inasmuch as all the dimensions of the packaging/sealing

pouches, for which the F&S machine is required, are provided

by the customer. The purchase order contains the following

inspection clause:

"Inspection/Trial will be carried out at your works

in the presence of (sic) our Engineer before

dispatch of equipment for the performance of the

machine."

3

Flexible Laminated Plastic Film in roll form & Poly Paper

which are duty paid, falling under chapter headings 3920.38 and

4811.30 of the Schedule to the Tariff Act, are used for testing,

tuning and adjusting various parts of the F&S machine in terms

of the afore-extracted condition in the purchase order. As the

machine ordered is customer specific, if after inspection by the

customer it is found deficient in respect of its operations for

being used for a particular specified packaging, it cannot be

delivered to the customer, till it is re-adjusted and tuned to

make it match with the required size of the pouches as per the

customer's requirement. On completion of the above process

and when the customer is satisfied, an entry is made in the RG 1

register declaring the machine as manufactured, ready for

clearance.

4. The assessee filed declarations and availed of the benefit of

Modvat credit in respect of the Flexible Laminated Plastic

Film in roll form & Poly Paper used for testing the F&S

machine. On 4th March, 1993, a notice was issued to the

assessee to show cause as to why the benefit of Modvat credit

4

on the above goods be not denied, on the ground that they

have used the said material for the purpose of testing the final

product i.e. the F&S machine which cannot be treated as

inputs as stipulated in Rule 57A of the Central Excise Rules,

1944 (for short "the Rules"). On a similar ground, a number

of show cause notices were issued to the assessee covering

the period from August 1992 to June 1996. The assessees'

reply to the show cause notices did not find favour with the

adjudicating authority, who accordingly, denied the benefit

of Modvat credit on the said items. Appeals preferred by the

assessee before the Commissioner (Appeals) and the

Tribunal were also dismissed.

5. Aggrieved thereby, the assessee filed applications seeking

reference to the High Court on the questions proposed.

However, having failed to persuade the Tribunal that its

orders gave rise to questions of law, the assessee moved the

Allahabad High Court, praying for a direction to the Tribunal

for reference.

5

6. The High Court partly allowed the application and directed

the Tribunal to draw a statement of the case and refer the

following questions of law for its opinion:

"Q1) Whether, in the circumstances of the

present case, facts of which are not in

dispute, duties paid on material, namely,

plastic films/poly paper used for testing

machines for forming commercial/technical

opinion as to their marketability/

excisability would be eligible to be taken as

credit (sic) under rule 57-A read with

relevant notification?

Q2) Whether such use of material in testing

in view of the purposes mentioned above,

could be said to be used (sic) in the

manufacture of or use in relation to the

manufacture of the final products viz.,

Machines as assembled?"

7. As aforesaid, the High Court has answered both the questions

in the negative, opining that testing the performance of a final

product is not a process of manufacture and therefore,

materials used for testing the performance of the F&S

machine cannot be termed as `inputs' for the purpose of

allowing Modvat credit. According to the High Court,

anything required to make the goods marketable must form a

6

part of the manufacture and any raw material or any materials

used for the same would be a component part of the end

product. It has observed that materials used after

manufacture of the final product, viz. the F&S machine, is

complete, is only to detect the deficiency in the final product

and therefore, could not be the goods used in or in relation to

the manufacture of the final product within the meaning of

Rule 57A of the Rules. Hence the present appeals by the

assessee.

8. Assailing the opinion of the High Court, Mr. Rajesh Kumar,

learned counsel appearing on behalf of the assessee

submitted that the expression "in or in relation to" used in

Rule 57A of the Rules is very wide and is used to expand the

scope, meaning and content of the expression `inputs' so as

to include all inputs so long as these are used "in or in

relation to the manufacture" of finished excisable goods. It

was argued that since the machines are tailor made, as per

the specifications provided by a customer to achieve a

distinct and different result, it is of no use to any other

7

customer. Therefore, unless each individual machine is

tested by using the flexible plastic films in the presence of

the customer or his representative, as per the terms of the

contract, to satisfy him that it is capable of being used for a

particular packing as specified by him, the process of

manufacture of the final product cannot be said to be

complete. It was contended that the testing of the machine

being an integral process of the manufacture and

marketability of the final product, particularly in terms of the

specific condition in the contract, the claim for Modvat credit

was admissible on flexible plastic films consumed in the

testing of the F&S machines. It was stressed that to avail of

the Modvat credit in respect of an input, it is not necessary

that such input must be physically present in the finished

product.

9. In support of the proposition that the material used in testing,

for the purpose of verification of certain characteristics of the

final product, is an input in or in relation to the manufacture,

learned counsel placed reliance on the decisions of this

8

Court in Commissioner of Income Tax, Kerala, Vs. Tara

Agencies1, Maruti Suzuki Ltd. Vs. Commissioner of Central

Excise, Delhi-III2, National Leather Cloth Manufacturing

Company Vs. Union of India & Anr.3 and a decision of the

Bombay High Court in Tata Engineering & Locomotive Co.

Ltd. Vs. Commr. Of C. Ex., Pune4.

10. Per contra, Mr. Mukul Gupta, learned senior counsel

appearing for the revenue, supporting the decision of the

High Court, contended that Modvat credit is available only on

the inputs which are actually used in the manufacture of the

final product. According to the learned counsel, testing of a

machine can take place only after the manufacture of the

machine is complete and therefore, any goods used in a

process subsequent to the completion of the process of

manufacture cannot be termed as inputs within the meaning

of Rule 57A of the Rules.

1 (2007) 6 SCC 429

2 (2009) 9 SCC 193 : 2009 (240) E.L.T. 641 (S.C.)

3 (2010) 12 SCC 218 : 2010 (256) E.L.T. 321 (S.C.)

4 2010 (256) E.L.T. 56 (Bom.)

9

11. Before analysing the rival submissions, it would be

appropriate to refer to the relevant statutory provisions.

12. The Modvat scheme, introduced with effect from 1st March

1986, was aimed at allowing credit to the manufacturers for

the excise duty paid by them in respect of the inputs used in

the manufacture of the finished product. Rules 57A and 57C

of the Rules, which make a manufacturer eligible to avail of

the credit for the duty paid on the inputs read as follows:

"RULE 57A : Applicability.- (1) The provisions of this

section shall apply to such finished excisable goods

(hereinafter referred to as the "final products") as the

Central Government may, by notification in the Official

Gazette, specify in this behalf, for the purpose of

allowing credit of any duty of excise or the additional

duty under Section 3 of the Customs Tariff Act, 1975 (51

of 1975), as may be specified in the said notification

(hereinafter referred to as the "specified duty") paid on

the goods used in or in relation to the manufacture of

the said final products whether directly or indirectly

and whether contained in the final product or not

(hereinafter referred to as the "inputs") and for utilising

the credit so allowed towards payment of duty of excise

leviable on the final products, whether under the Act or

under any other Act, as may be specified in the said

notification, subject to the provisions of this section and

the conditions and restrictions that may be specified in

the notification:

1

Provided that the Central Government may

specify the goods or classes of goods in respect of

which the credit of specified duty may be restricted.

Explanation.--For the purposes of this rule, "inputs"

includes--

(a) inputs which are manufactured and used within

the factory of production, in or in relation to, the

manufacture of final products,

(b) paints and packaging materials,

(c) inputs used as fuel,

(d) inputs used for generation of electricity, used

within the factory of production for manufacture of

final products or for any other purpose, and

(e) accessories of the final product cleared alongwith

such final product, the value of which is included

in the assessable value of the final product,

but does not include--

(i) machines, machinery, plant, equipment,

apparatus, tools, appliances or capital goods as

defined in rule 57Q used for producing or

processing of any goods or for bringing about any

change in any substance in or in relation to the

manufacture of the final products;

(ii) packaging materials in respect of which any

exemption to the extent of the duty of excise

payable on the value of the packaging materials is

being availed of for packaging any final products;

(iii) packaging materials or containers, the cost of

which is not included in the assessable value of

the final products under section 4 of the Act; and

1

(iv) crates and glass bottles used for aerated waters.

(2) Notwithstanding anything contained in sub-rule

(1), the Central Government may, by notification in the

official Gazette, declare the inputs on which declared

duties of excise or additional duty (hereinafter referred

to as `declared duty') paid shall be deemed to have

been paid at such rate or equivalent to such amount as

may be specified in the said notification and allow the

credit of such declared duty deemed to have been paid

in such manner and subject to such condition as may be

specified in the said notification even if the declared

inputs are not used directly by the manufacturer of final

products declared in the said notification, but are

contained in the said final products.

Explanation. - For the purposes of this sub-rule, it

is clarified that even if the declared inputs are used

directly by a manufacturer of final products, the credit

of the declared duty shall, notwithstanding the actual

amount of duty paid on such declared inputs, be

deemed to be equivalent to the amount specified in the

said notification and the credit of the declared duty

shall be allowed to such manufacturer.

Rule 57C. Credit of duty not to be allowed if final

products are exempt.--No credit of the specified duty

paid on the inputs used in the manufacture of a final

product (other than those cleared either to a unit in a

Free Trade Zone or to a hundred per cent Export-

Oriented Unit) or to a unit in an Electronic Hardware

Technology Park or to a unit in Software Technology

Parks or supplied to the United Nations or an

international organisation for their official use or

supplied to projects funded by them, on which

exemption of duty is available under notification of the

Government of India in the Ministry of Finance

(Department of Revenue) No.108/95-Central Excises,

dated the 28th August, 1995 shall be allowed if the final

1

product is exempt from the whole of the duty of excise

leviable thereon or is chargeable to nil rate of duty."

13. It is manifest that Rule 57A of the Rules entitled a

manufacturer to take credit of the Central Excise duty paid on

the inputs used in or in relation to the manufacture of the final

product provided that the input and the finished product are

excisable goods and fall under any of the specified chapters

in the tariff schedule. It is pertinent to note that vide

Notification No.28/95-C.E. (N.T.), dated 29th June 1995, the

said Rule was amended and the phrase "whether directly or

indirectly and whether contained in the final product or not"

was inserted. There is no dispute that in the instant case,

both the F&S machines and the flexible laminated plastic film

and poly paper are excisable. Therefore, the short question

for consideration is whether the said material on which

Modavt credit is claimed by the assessee, not physically used

in the manufacture of the said machine but used for testing

the F&S machines would be covered within the sweep of the

expression "in or in relation to the manufacture of the final

1

products", as appearing in Rule 57A of the Rules. In short,

the bone of contention is as to what meaning is to be assigned

to the expression "in relation to the manufacture of final

products."

14. In our opinion, apart from the fact that the amended Rule

itself contemplates that physical presence of the input, in

respect of which Modvat credit is claimed, in the final

product is not a pre-requisite for such a claim, even

otherwise this issue is no longer res-integra. In Collector of

Central Excise & Ors. Vs. Solaris Chemtech Ltd. & Ors.5,

this Court while examining the scope and purport of the

expression "in or in relation to the manufacture of the final

products" observed that these words have been used to

widen and expand the scope, meaning and content of the

expression "inputs" so as to attract goods which do not enter

into finished goods. Speaking for the Bench, S.H. Kapadia, J.

(as his Lordship then was) held as follows:

"11. Lastly, we may point out that in order to

appreciate the arguments advanced on behalf of

5 (2007) 7 SCC 347 : 2007 (214) E.L.T. 481 (S.C.)

1

the Department one needs to interpret the

expression "in or in relation to the manufacture of

final products". The expression "in the manufacture

of goods" indicates the use of the input in the

manufacture of the final product. The said

expression normally covers the entire process of

converting raw materials into finished goods such

as caustic soda, cement, etc. However, the matter

does not end with the said expression. The

expression also covers inputs "used in relation to

the manufacture of final products". It is interesting

to note that the said expression, namely, "in

relation to" also finds place in the extended

definition of the word "manufacture" in Section 2(f)

of the Central Excises and Salt Act, 1944 (for short

"the said Act"). It is for this reason that this Court

has repeatedly held that the expression "in relation

to" must be given a wide connotation.

12. The Explanation to Rule 57-A shows an inclusive

definition of the word "inputs". Therefore, that is a

dichotomy between inputs used in the manufacture

of the final product and inputs used in relation to

the manufacture of final products. The Department

gave a narrow meaning to the word "used" in Rule

57-A. The Department would have been right in

saying that the input must be raw material

consumed in the manufacture of final product,

however, in the present case, as stated above, the

expression "used" in Rule 57-A uses the words "in

relation to the manufacture of final products".

13. The words "in relation to" which find place in

Section 2(f) of the said Act have been interpreted

by this Court to cover processes generating

intermediate products and it is in this context that it

has been repeatedly held by this Court that if

manufacture of final product cannot take place

without the process in question then that process is

an integral part of the activity of manufacture of the

1

final product. Therefore, the words "in relation to

the manufacture" have been used to widen and

expand the scope, meaning and content of the

expression "inputs" so as to attract goods which do

not enter into finished goods.

14. In J.K. Cotton Spg. & Wvg. Mills Co. Ltd. v. STO6

this Court has held that Rule 57-A refers to inputs

which are not only goods used in the manufacture

of final products but also goods used in relation to

the manufacture of final products. Where raw

material is used in the manufacture of final product

it is an input used in the manufacture of final

product. However, the doubt may arise only in

regard to use of some articles not in the

mainstream of manufacturing process but

something which is used for rendering final

product marketable or something used otherwise

in assisting the process of manufacture. This doubt

is set at rest by use of the words "used in relation to

manufacture".

(Emphasis supplied by us)

15. In Collector of Central Excise, Jaipur Vs. Rajasthan State

Chemical Works, Deedwana, Rajasthan7, to which a

reference was made in Solaris Chemtech Limited (supra),

this Court had held that any operation which results in the

emergence of the manufactured goods would come within

the ambit of the term manufacture. This is because of the

6 AIR 1965 SC 1310

7 (1991) 4 SCC 473 : 1991 (55) E.L.T. 444 (S.C.)

1

words used in Rule 57A, namely, goods used in or in relation

to the manufacture of final products.

16. At this juncture, it would also be apposite to refer to Circular

No.33/33/94/CX.8, dated 4th May 1994, issued by the Central

Board of Excise and Customs, relating to the Modvat scheme.

The relevant part of the Circular reads as under:

"Subject: Instruction regarding Modvat Scheme.

1.....

2. With a view to consolidate the instructions

and streamline of procedures, the following

instructions are issued in supersession of all

the instructions issued on or before 31st

December, 1993, in relation to Modvat -

(i) Modvat credit is available for all excisable goods

used as inputs in or in relation to the

manufacture of finished goods. It is, therefore,

clarified that the input credit is admissible

whether such input is physically present in the

finished excisable goods or not so long such inputs

are used in or in relation to the manufacture of

finished excisable goods. In this connection

definition of the term manufacture as propounded

by the Supreme Court in the Empire Industry's

case-1985 (20) E.L.T. 179 and C.C.E. v. Rajasthan

State Chemical case - 1991 (55) E.L.T. 444, 448

(S.C.) are quite relevant.

(Emphasis supplied)"

1

17. It is trite to state that "manufacture" takes place when the raw

materials undergo a series of changes and transformation that

result in the formation of a commercially distinct commodity

having a different name, character and use. It is equally well

settled that physical presence of an input in the final finished

excisable goods is not a pre-requisite for claiming Modvat

credit under Rule 57A of the Rules. It may very well be

indirectly related to manufacture and still be necessary for

the completion of the manufacture of the final product. It

needs little emphasis that the process of manufacture is

complete only when the product is rendered marketable.

Thus, manufacture is intrinsically integrated with

marketability. In this regard it would be profitable to refer to

the following observations of this Court in Union of India &

Ors. Vs. Sonic Electrochem (P) Ltd. & Anr.8:

"8. We do not consider it necessary to discuss the

cases on the question of marketability, as this Court

has dealt with all relevant cases in A.P. SEB case9. In

that case, the question was whether electric poles

manufactured with cement and steel for the

appellant Board were marketable. After considering

8 (2002) 7 SCC 435

9 (1994) 2 SCC 428

1

various cases on the question of marketability of

goods, Jeevan Reddy, J., speaking for the Court,

summed up the position thus: (SCC p. 434, para 10)

"10. It would be evident from the facts

and ratio of the above decisions that the

goods in each case were found to be not

marketable. Whether it is refined oil

(non-deodorised) concerned in Union of

India v. Delhi Cloth and General Mills Co.

Ltd.10 or kiln gas in South Bihar Sugar Mills

Ltd. v. Union of India11 or aluminium cans

with rough uneven surface in Union

Carbide India Ltd. v. Union of India12 or

PVC films in Bhor Industries Ltd. v. CCE13

or hydrolysate in CCE v. Ambalal

Sarabhai Enterprises (P) Ltd.14 the finding

in each case on the basis of the material

before the Court was that the articles in

question were not marketable and were

not known to the market as such. The

`marketability' is thus essentially a

question of fact to be decided on the facts

of each case. There can be no

generalisation. The fact that the goods

are not in fact marketed is of no

relevance."

9. It may be noticed that in the cases referred to in

the passage, quoted above, the reasons for holding

the articles "not marketable" are different, however,

they are not exhaustive. It is difficult to lay down a

precise test to determine marketability of articles.

Marketability of goods has certain attributes. The

10 AIR 1963 SC 791

11 AIR 1968 SC 922

12 (1986) 2 SCC 547

13 (1989) 1 SCC 602

14 (1989) 4 SCC 112

1

essence of marketability is neither in the form nor in

the shape or condition in which the manufactured

articles are to be found, it is the commercial identity

of the articles known to the market for being bought

a nd sold. T he fact that the product in question is

generally not being bought and sold or has no

demand in the market would be irrelevant. The

plastic body of EMR does not satisfy the

aforementioned criteria. There are some competing

manufacturers of EMR. Each is having a different

plastic body to suit its design and requirement. If

one goes to the market to purchase the plastic body

of EMR of the respondents either for replacement or

otherwise one cannot get it in the market because at

present it is not a commercially known product. For

these reasons, the plastic body, which is a part of

EMR of the respondents, is not "goods" so as to be

liable to duty as parts of EMR under para 5(f) of the

said exemption notification."

(Emphasis supplied by us)

18. In Collector of Central Excise, Calcutta-II Vs. M/s Eastend

Paper Industries Ltd.15, the assessee was manufacturing

different kinds of paper. A question arose whether the

wrapping paper manufactured and used for wrapping the

finished product is a part of manufacture. It was held that

wrapping of finished product by wrapping paper is process

incidental and ancillary to completion of the manufactured

product under Section 2 (f) of Act. Thus, the Court held that,

15 (1989) 4 SCC 244

2

anything required to make goods marketable, must form a

part of manufacture and any raw material or any material

used for same would be a component part of the final

product.

19. In Dharampal Satyapal Vs. Commissioner of Central

Excise, Delhi-I, New Delhi16, the term marketable has been

held to mean saleable, as under:

"18......Marketability is an attribute of manufacture.

It is an essential criteria for charging duty. Identity

of the product and marketability are the twin

aspects to decide chargeability. Dutiability of the

product depends on whether the product is known

to the market. The test of marketability is that the

product which is made liable to duty must be

marketable in the condition in which it emerges.

Marketable means saleable. The test of

classification is, how are the goods known in the

market. These tests have been laid down by this

Court in a number of judgments including Moti

Laminates (P). Ltd. v. CCE17, Union of India v. Delhi

Cloth & General Mills Co. Ltd.18 and Cadila

Laboratories (P) Ltd. v. CCE19."

20. Thus, if a product is not saleable, it will not be marketable

and consequently the process of manufacture would not be

16 (2005) 4 SCC 337.

17 (1995) 3 SCC 23

18 (1997) 5 SCC 767

19 (2003) 4 SCC 12

2

held to be complete and duty of excise would not be leviable

on it. The corollary to the above is that till the time the step of

manufacture continues, all the goods used in relation to it will

be considered as inputs and thus, entitled to Modvat credit

under Rule 57A of the Rules. In the present case, as

aforesaid, each machine is tailor made according to the

requirements of individual customers. If the results are not in

conformity with the order, then the machine loses its

marketability and is of no use to any other customer. Thus,

the process of manufacture will not be said to be complete till

the time the machines meet the contractual specifications and

that will not be possible unless the machines are subjected to

individual testing. Even though the revenue has alleged that

the process of manufacture is complete as soon as the

machine is assembled, yet it has not discharged the onus of

proving the marketability of the machines thus assembled,

prior to the stage of testing. Moreover, as has been held in

the case of Hindustan Zinc Ltd. Vs. Commissioner of

Central Excise, Jaipur20, the burden of proving whether a

20 (2005) 2 SCC 662;

2

particular product is marketable or not is on the department

and in the absence of such proof it cannot be presumed to be

marketable. In the absence of the revenue having adduced

any such evidence or contorted the assessee's claim that the

machines cannot be sold unless testing is done with some

alternative evidence as to their marketability, the stand of the

revenue cannot be accepted.

21. Thus, in our opinion the process of testing the customised

F&S machines is inextricably connected with the

manufacturing process, in as much as, until this process is

carried out in terms of the afore-extracted covenant in the

purchase order, the manufacturing process is not complete;

the machines are not fit for sale and hence not marketable at

the factory gate. We are, therefore, of the opinion that the

manufacturing process in the present case gets completed on

testing of the said machines and hence, the afore-stated

goods viz. the flexible plastic films used for testing the F&S

machines are inputs used in relation to the manufacture of the

2

final product and would be eligible for Modvat credit under

Rule 57A of the Rules.

22. In view of the aforegoing discussion, the opinion rendered

by the High Court on the questions referred by the Tribunal

cannot be sustained. We hold that the process of testing the

customised machines is integrally connected with the

ultimate production of the final product viz. the F&S machines

and therefore, that process is one in relation to the

manufacture, falling within the sweep of Rule 57A of the

Rules. Consequently, the appeals are allowed and the

impugned orders are set aside, leaving the parties to bear

their own costs.

...........................................

(D.K. JAIN, J.)

............................................

(ASOK KUMAR GANGULY, J.)

NEW DELHI;

JANUARY 13, 2012.

ARS

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