Marubeni Itochu Steel India Pvt. Ltd., ... vs Assessee

Marubeni Itochu Steel Vs. DCIT, Circle 16(1), India Pvt. Ltd., 318 C.R. Building, I.P. Estate, 806-804, 8th Floor, New Delhi - 110 002 Ambadeep Building, 14 Kasturba Gandhi Marg, New Delhi-110001

(PAN AAECM 6453 G)

Appellant) (Respondent

Date of hearing : 29.04.2015

Date of pronouncement 24.07.2015

Assessee by : Shri Himanshu Shekhar Sinha, Advocate And Shri Lalit Attal, CA.

Respondent by: Shri Judy James, Standing Counsel, DR And Shri Aamir Aziz, Advocate DR.

PER: A.T. VARKEY., J.M.

This appeal, at the instance of the assessee, is directed against

the assessment order dated 21.01.2015 passed u/s 143(3) r.w.s144C

(13) of the Income Tax Act, 1961 (hereinafter 'the Act'). The

relevant assessment year is 2010-11.

2. The brief facts of the case are that the assessee is engaged in the

business of trading of steel items and provides liasioning support 2 ITA No.761/Del /2015

services to its parent and affiliates for purchase and sale of good from

India. The assessee company filed e-return of income on 24.09.2010,

declaring a total income of Rs.28,20,829/-. After processing the return

of income u/s 143(1) of the Act, the case was selected for scrutiny

assessment; and finally the assessment was completed u/s 143(3) of

the Act, vide order dated 21.01.2015 at a total income of

Rs.14,49,14,380/-.

3 The Ld. Counsel, Shri Himanshu Shekhar Sinha submitted that

Marubeni Itochu Steel Inc., Japan (hereinafter referred to as "MO")

was formed by the merger of the steel products divisions of major

general trading companies Itochu Corporation and Marubeni

Corporation. The profile of the Marubeni Group in particular is

domestic trading, import/export, and overseas trading of iron and steel

and other related products. Marubeni Group is a global trading house

with activities in chemicals, energy, infrastructure projects, resource

development, telecommunications, multimedia and environmental

systems. MO is a general trading company (also popularly known as

sogo shosha in Japanese terms) dealing only in steel. MO has the 3 ITA No.761/Del /2015

ownership control of Marubeni Singapore which, inturn holds 99%

share capital & Marubeni Japan holds remaining 1% of Marubeni

India.

4. The appellant/assessee, Marubeni-Itochu Steel India Private

Limited ("MIIP") / "the Appellant") brought to the notice of the TPO

that assessee is a service and trading company and provides liaisoning

support services to its parent and affiliates for purchase and sale of

goods from India. It acts as a communication channel between its

parent/affiliates companies and third parties in India.

5. The assessee states that it is engaged in undertaking two types of

transactions with its Group Companies :

a) Provision of support services to its Group Companies -

Service Segment - where sales and purchases in relation to the import and export is recorded in the books of AE. The services include the following :

• Furnishing information regarding steel products and Indian steel market;

• Providing information concerning transportation, customs clearance and any other information as required by the AEs;

4 ITA No.761/Del /2015 • Receiving and delivering of relative documents required in the contracts and shipping documents as required by the AEs;

• Acting as a channel of communication between the AEs and the end-customer;

• Any other activities as may be necessary for the smooth performance of the AE's transactions, as instructed by the AE.

b) Purchase of steel products from its Group Companies, for the purpose of resale in India - Trading Segment :

• Back to back trading transactions on the basis of confirmed orders for the purpose of resale to pre- identified customers in India.

6. During the financial year 2009-10 relevant to AY 2010-11, the

assessee company had entered into the following international

transactions with its AEs:

S. Nature of Segmen Method Value (INR) Margin Margin No internationa t Selected of Profit of Profit . l of of transaction assessee compare-

ables

1. Import of Trading TNMM 164,233,837 0.80% 0.61% finished PLI = (see page (see page goods (Steel OP/SALES 59 of 59 of PB) Products PB)

2. Provision of support services TNMM 83,581,435 7.91% 7.52% 5 ITA No.761/Del /2015

Indent PLI = (see page (see page

3. Reimburse- OP/VAE 59 of 59 of PB) ments 16,518,068 PB) payable

4. Reimburse-

ments NA 1,28,20,471 Cost-to-cost payable

7. For the purpose of establishing arm's length price (ALP) of its

international transactions entered with its Associated Enterprises

(AEs), the appellant company had undertaken a Transfer Pricing

study (pages 55-121 of P.B.) as provided under Rule 10D of the

Income-tax Rules, 1962 (hereinafter referred to as "Rules") read with

section 92D of the Act.

8. The appellant company had applied Transaction Net Margin

Method (hereinafter referred to as "TNMM") as the most appropriate

method and, Operating Profit/Value Added Expenses (OP/VAE) for

support services and Operating Profit/Sales (OP/Sales) for trading

activity was selected as the Profit Level Indicator(hereinafter referred

to as "PLI") to benchmark its international transactions entered with

its Associated Enterprise.(see page 88-89 of P.B.).

9. That, in order to arrive at arm's length price, the appellant

company carried out a benchmarking analysis; and to benchmark its 6 ITA No.761/Del /2015

indenting segment, appellant identified comparable companies

(service providers) by applying appropriate search filters and average

OP/VAE of these comparable companies was computed at 7.52%

(using multiple-year data i.e. data for financial years 2007-08, 2008-

09 and 2009-10)( page 102 of P.B.). The appellant computed its own

OP/VAE at 7.91 % for the financial year 2009-10 ( page 118 of the

Paper Book).Since the OP/VAE (7.91%) of the appellant is better

than the OP/VAE (7.52%)of the comparables, as such, indenting

transaction entered with the AE was claimed to be at Arm's length.

Further, similarly to benchmark the international transaction in the

trading segment, appellant selected 17 comparables by applying

appropriate search filters and average OP/Sales of these comparable

companies was computed at 0.61 % (using multiple-year data i.e. data

for financial years 2007-08, 2008-09 and 2009-10) (page 93 of P.B.).

The appellant computed its own OP/Sales at 0.80% for the financial

year 2009-10 (page 118 of P.B.) and since the margin of profit of the

appellant is better than the mean margin of the comparables, as such,

trading transaction entered with the AE was claimed to be at Arm's

length.

7 ITA No.761/Del /2015

10. However, the Transfer Pricing Officer (herein after referred to

as "TPO") re-characterized the indent based transactions as trading

transactions. That vide an order dated 24.01.2014 (pages 145-174

of appeal documents), the TPO rejected the approach adopted by the

assessee and recomputed the arm's length price of international

transactions pertaining to indent segment. According to the Ld

counsel, while rejecting the assessee's approach, the TPO re-

characterized the commission/service business of the assessee as

trading business without any material on record. According to him,

the TPO alleged that the assessee is the owner of supply chain

management and human intangibles and went on to add that

compensation model of the assessee does not account for the profit

attributable to location savings. The Ld counsel submits that based on

such allegations, the TPO added the value of Rs.955.85 Crores i.e.

value of goods on which the assessee has earned commission, to the

cost base of service fee and commission segment pertaining to AEs

without realizing that value of Rs.955.85 crores was recorded as

sales/purchases in the books of AEs. Subsequently, TPO undertook a

fresh search of companies purportedly engaged in steel trading 8 ITA No.761/Del /2015

activities and OP/TC margin of selected trading companies i.e. 2.26%

was used as the benchmark for making addition on the enhanced cost

of the assessee. According to ld counsel, based on such erroneous

approach, TPO made adjustment of Rs.209,893,288/- to the total

income of the assessee.

11. The TPO recorded the following observations and reasons in

making the aforesaid adjustment of Rs. 209,893,288/- :

(a) The provisions of Rule 10B(1)(e)(i) that that the Rules prescribe that the net profit margins should be computed in relation to cost incurred or sales affected or assets employed or to be employed. The Rules do not prescribe for value added cost or value added expenditure to be considered as base for computing the net profit margins. In view of above provision, the claim of the assessee for use of Berry ratio is not acceptable being contrary to Rules 10B(l)(e);

(b) Treated the service fee/commission segment as equivalent to trading business, and disregarded the functional and risk differences between the two segments; (emphasis added)

(c) Added Rs. 948 Crores (which are purchases/sales in the books of the AE and upon which MIIP earns service fee/commission) to the cost base of the assessee;

9 ITA No.761/Del /2015 (d) Proceeded to compute the arm's length price of the said transaction by applying the percentage of operating profit earned by externally identified comparable companies to the aforesaid cost base and accordingly, made upward adjustment to the total income of the assessee;

(e) The assessee is reimbursed based on cost plus model;

(f) The commission business of the assessee is equivalent to the trading business and accordingly compared the assessee with trading companies and also the companies involved in manufacturing activities;

(g) The assessee as part of this network and the synergy created by the same should be deriving income commensurate to the intangibles involved. The network of which assessee is a part consists of wholesaler, manufacturer, chemical dealers, paper traders etc. It is doing procurement and as well as sourcing for manufacturers and also of wholesaler. On this basis, the assessee can be compared with all the comparables confronted to him, wherein the receipts are from the trading of commodities irrespective of the type of the commodity or the way in which it is produced;

(h) That appellant company has developed unique intangibles like supply chain management intangibles and human asset intangible for which it is not being adequately compensated;

10 ITA No.761/Del /2015 (i) The compensation model of the assessee does not include the profit attributable to the assessee on account of location saving; and

(j) The assessee has performed all the critical functions, assumed significant risks and used both tangibles and intangibles developed over a period of time.

12. Relying upon the TPO order dated 24.01.2014, the Assessing

Officer vide his order dated 07.02.2014 determined the income of the

appellant company at Rs. 212,713,840/-.

13. Aggrieved against the aforesaid draft order of the assessment,

the assessee filed its objections before the Dispute Resolution Panel

(DRP). According to the Ld counsel in the objections, assessee

specifically pointed out that TPO has made upward adjustment by

assuming incorrect facts; and according to him, despite the objections

of the assessee and without appreciating the submissions and evidence

led by the assessee company, DRP issued directions dated 14.11.2014

to the AO/TPO to adopt Rs.648 crore as the correct FOB value for the

purpose of computing adjustment for the value of international 11 ITA No.761/Del /2015

transactions. And, DRP upheld the order of the AO/TPO in respect of

all other grounds.

14. Thereafter, the TPO issued effect order dated 14.01.2015 in

accordance with the directions issued by the DRP adopting Rs.648

crore as the correct FOB value for the purpose of computing

adjustment for the value of international transactions. The revised

adjustment computed by TPO was Rs.14,20,93,288.

15. That pursuant to the directions of the DRP and order giving

effect by the TPO, the AO in the order of assessment dated

21.01.2015 determined income of the appellant at Rs.14,49,14,380/-

by making an upward adjustment of Rs.14,20,93,551/- to the Arm's

Length Price declared by the appellant.

16. The appellant, being aggrieved, has preferred the instant appeal

before us.

17. Ground No. 2 to 8 of Grounds of Appeal are regarding addition

of Rs.142,093,551/- on account of alleged understatement of arm's

length price in respect of commission income earned by the appellant

from its AEs.

12 ITA No.761/Del /2015

18. The Ld counsel for the assessee submitted that the TPO/AO has

added Rs.648 crore (recorded as sale/purchase in the books of the

AEs) in the AE segment which according him tantamount to treating

the service/commission business of the assessee as that of a trader

without stating any reason whatsoever. According to him, no basis for

arriving at this conclusion has been stated in the said order. No

evidence or material has been brought on record by the TPO/ AO to

reach the aforesaid conclusion. As per the Ld counsel, the TPO has

acted outside his jurisdiction by challenging the compensation model

of the assessee. In this regard, the Ld counsel submits that it is a

settled principle in tax jurisprudence that the business model method/

transaction chosen by a taxpayer has to be respected and it not open to

the revenue to dictate the business model. According to him, the TPO

has only contended that trading transactions and service/ commission

transactions are equivalent without assigning any reason to arrive at

this conclusion. However, the Ld counsel pointed out that the assessee

on the contrary has pointed out extensive dissimilarities in detail and

took our attention to the chart which reflects the summary of 13 ITA No.761/Del /2015

functions & risks of service segment & trading as provided in TPO

report is reproduced below for quick reference :

S.No. Category Trading Segment Indent Segment MIIP AEs MIIP AEs

1. Support Services

2. Corporate Strategy

3. Price Negotiation & contractual agreements

4. Management & administrative functions

5. Procurement

6. Transportation, warehousing & inventory management

7. Identification of customers

7. Sales & Pricing

19. A perusal of the chart below shows the Summary of risk borne

by MIIP& Group Companies

S.No. Category Trading Segment Indent Segment MIIP AEs MIIP AEs

1. Market Risk Limited

2. Product/service liability risk Limited

3. Credit risk Limited

4. Foreign exchange risk

5. Manpower risk

6. Legal & statutory risk

7. Volume Risk

7. Inventory Risk

20. Further, the assessee also demonstrated before the TPO/DRP by

way of highlighting the difference between FAR of traders vis-a-vis

service/commission business that commission/service segment of the 14 ITA No.761/Del /2015

assessee cannot be re-characterised as trading business without any

cogent reasons and the Ld counsel took our attention to the table

given below to buttress his arguments:-

Comparability factors Trading Service/ Remarks Business Commission Business Marketing strategy and Yes No or very Higher development : Marketing strategy limited remuneration in and development functions are those functions trading business activities that determine the should be positioning of a firm's products in a attributed to market, and establish marketing additional techniques that bring products to the functions customers' attention. performed and Sales and Pricing : Product pricing Yes No additional risks has strategic and tactical components. assumed in Strategic pricing involves a trade-off trading business as between product margins and sales compared to volume. Tactical aspects involve service/ price adjustments to meet local or commission temporary market conditions, establish business.

prices for product improvements, or assist distributors in meeting competitive challenges.

Marketing and Advertising: Yes No Marketing functions include overall development of brand awareness in the marketplace, and the creation and implementation of product-specific advertising campaigns.

Distribution Network: Distribution Yes Very networks enable the firm to locate limited customers, determine their needs, and provide services or products to meet those needs. In addition, these networks enhance firm's development of a trademark/trade name.

After-sales Service: After-sales Yes No service is a mean by which a firm differentiates its products from those of others. After-sales service includes developing technical support and 15 ITA No.761/Del /2015

training for distributors and dealers; providing distributors with advice and training to improve operations and profitability; and ensuring component availability.

Warranty and replacement Yes No services: The warranty support function is generally performed by the entity from which the customer receives a level of service prescribed by the legal obligation under the warranty Warehousing activities : Yes No Warehousing activities is performed for stocking the goods in which the trader deals in. It involves decision regarding level of inventory to be stocked, insurance and other incidental activities.

Inventory Risk : Inventory risk Yes No relates to the losses associated with carrying finished product inventory.

Losses include obsolescence, shrinkage, or market collapse, such that products are only saleable at prices that produce a loss Inventory carrying cost like Yes No warehouse rent and insurance cost Customer Credit Risk: Customer Yes No credit risk is borne by a firm when it supplies products or services to a customer.

Foreign Exchange risk: Foreign Yes Limited to exchange risk occurs when purchases service fee/ of materials, resources, or services are commission denominated in one currency, while to be sales of finished product are received. denominated in another currency. Lesser foreign exchange risk as compared to trading business.

16 ITA No.761/Del /2015 21. So, the Ld counsel contented that there is no justification of re-

characterizing the transactions entered into by the assessee without

any cogent reasons in complete disregard of the business model

adopted by the assessee. In the commercial world there are various

types of business models which are selected by the entities based on

commercial factors and expediency. Service fee and commission

model is one of the business models. The assessee has chosen to

follow the business model of service fee commission and there is no

justification for thrusting the business model of trading business to

service fee/commission model.

22. On this aspect, the observations of the Co-ordinate bench in the

case of Sojitz India Pvt. Ltd. [I.T.A. No. 5186/De1/2011 &

5433/Del/2012] was brought to our notice which is reproduced as

under :

Para 12.25

"....we are unable to agree with the TPO who chose to re- characterize the activities of the service provider and treated them at par with the activities of a trader since the nature of the activities of a trader and service provider are materially distinct and different."

17 ITA No.761/Del /2015 Para 12.31

"In the facts of the present case which have been discussed at length while considering the action of the TPO in re characterizing the transactions, we are of the view that on the basis of the detailed FAR analysis of the assessees, the "costs" referred to in Rule 10 B (1)(e)(i) does not suggest that in the facts of a case like the present case the 'costs' would mean the FOB value of goods. The assessee demonstrably is a low risk entity as a service provider functioning as a facilitator who is not exposed to price risk, warranty risk, inventory risk, etc., whose funds are not locked in the cost of goods, title in goods never vests with the assessee contracts are entered in the name of SCJ and its affiliates at one end and the customers in India also in their own names. In these unrebutted facts on record, the TPO was not correct in holding that the 'costs' as per the Rule were FOB value of goods."

23. Similarly, the ld. Counsel took our attention to the view of the

decision of co-ordinate bench in the case of Mitsubishi India Pvt. Ltd.

[LT.A. No. 50421De1l1l] wherein it was held by the ITAT that:

"80. Coming to the service feel commission segment, we have noted that as regards the service feel commission segment, the TPO has re-characterized the same as trading activities as he was of the view that the right course of action will be to treat the same as equivalent to trading segment, because what the assessee has disclosed as service/ commission income is in fact trading income. Accordingly, the cost of goods sold by the AEs, which was Rs.2927,92,05.406, was also to be included in cost base of the service/commission segment and then ALP was recomputed. So far as this aspect of the matter is 18 ITA No.761/Del /2015

concerned, the issue is now covered in favour of the assessee by Hon'ble jurisdictional High Court's decision in the case of Lt & Fung wherein Their Lordships have, inter alia, observed as follows :

"...........This Court is of opinion that to apply the TNMM, the assessee's net profit margin realized from international transactions had to be calculated only with reference to cost incurred by it, and not by any other entity, either third party vendors or the AE. Textually, and within the bounds of the text must be AO/TPO operate, Rule 10B(1)(e) does not enable consideration or imputation of cost incurred by third parties or unrelated enterprises to compute the assessee's net profit margin for application of the TNMM. Rule 10B(1) (e) recognizes that "the net profit margin realized by the enterprise from an international 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.. (emphasis supplied). It thus contemplates a determination of ALP with reference to the relevant factors (cost, assets, sales etc.) of the enterprise in question, i.e. the assessee, as opposed to the AE or any third party. The textual mandate, thus, is unambiguously clear.

40. The TPO's reasoning to enhance the assessee's cost base by considering the cost of manufacture and export of finished goods, i.e., ready-made garments by the third party vendors (which cost is certainly not the cost incurred by the assessee), is nowhere supported by tile TNMM under Rule 10B(1)(e) of tile Rules. Having determined that (TNMM) to be the most appropriate method, the only rules and norms prescribed in that regard could have been 19 ITA No.761/Del /2015

applied to determine whether the exercise indicated by the assessee yielded an ALP."

24. The ld. Counsel took our attention to the decision of co-ordinate

bench in the case of Sumitomo India Pvt. Ltd. [I.T.A. No.

328/Del/2014] wherein it was held by the ITAT that:

"23. We agree with the assessee's proposition that the nature of indenting transaction is different from the trading transactions. The trading transaction involves risk and finances, whereas in the indenting transaction the assessee has not to incur any such financial obligation or carry any significant risk."

25 The Ld Counsel thereafter submitted that it also needs to be

noted that the question of adding the FOB value on which the

assessee has earned service fee/commission as cost of goods sold

(COGS) in the cost base does not arise because the assessee does not

trade in any goods while performing the service of facilitation of trade

and such transaction has never been routed through the books of the

assessee. It does not take any title of the goods in form or in substance

while performing coordination and sales support functions for its

AEs. It does not assume title of the goods and the risks associated

with such assumption of title are not borne by it in the service

fee/commission business. The assets that are employed in assumption 20 ITA No.761/Del /2015

of the title to the goods are different from service transactions carried

out without assumption of title. The assessee earns commission from

its AEs on export to India or, in few cases, import from India. The

FOB value is the sum of sales and purchases in the books of AEs.

According to him, it does not make any sense to include this value in

the assessee's service/commission segment. Cost incurred by the

assessee in providing such sales support and coordination services are

already built in the profit and loss account and does not warrant any

addition to the cost base of the assessee.

26, The Ld counsel submits that the AO has proposed to apply a set

of trading and manufacturing companies to determine the arm's length

price of the international transactions of the assessee. Herein, the ld

counsel, submitted that the law provides the use of comparable data of

uncontrolled transactions with reference to the functions performed,

assets employed and the risks assumed by the tested party and the

comparable companies. Based on the functional analysis in the TP

Report, it is evident that the assessee is engaged in provision of

commission and services to its AEs in relation to its indent segment.

Thus, according to Ld counsel, the application of a set of steel trading 21 ITA No.761/Del /2015

companies that assume all entrepreneurial risks is unjustified. Over

and above this, the Ld counsel submitted that selecting manufacturing

companies as part of the comparable set is a gross misapplication of

the Transfer Pricing provisions in India.

27. The Ld counsel submitted that the TPO has erred in stating that

the assessee as part of this network and the synergy created by the

same should be deriving income commensurate to the intangibles

involved. The network of which assessee is a part consists of

wholesaler, manufacturer, chemical dealers, paper traders etc. It is

doing procurement and as well as sourcing for manufacturers and also

of wholesaler. On this basis, the assessee can be compared with all the

comparables confronted to him, wherein the receipts are from the

trading of commodities irrespective of the type of the commodity or

the way in which it is produced. Thus, other than related party

objections of the assessee to the comparable companies confronted by

the show-cause notice is not acceptable.

28. According to the Ld counsel, the TPO alleged the following

while stating that the assessee owns supply chain management

intangibles and stated that the assessee has mentioned these functions 22 ITA No.761/Del /2015

in its TP report for which the assessee met the allegation as given

below :

Allegation of TPO Remark of the Assessee Qualifying the contract The assessee is not involved in manufacturer Qualifying the contract manufacturer. Further, this function is also not mentioned in the TP Report Identifying appropriate The assessee is not involved source of goods in Identifying appropriate source of goods. Further, this function is also not mentioned in the TP Report. Warehousing of goods The assessee is not involved in Warehousing of goods with respect to its commission transactions. Further, this function is also not mentioned in the TP Report. Control over contracted The assessee is not involved manufacturer and quality in Control over contracted

control over manufacturing manufacturer and quality control process over manufacturing process.

Further, this function is also not mentioned in the TP Report.

Scheduling of the products The assessee is involved in and order tracing scheduling of the products and order tracing.

Packaging and labeling The assessee is not involved in Packaging and labeling. Further, this function is also not mentioned in the TP Report. Quality control The assessee is not involved in 23 ITA No.761/Del /2015

Quality control. Further, this function is also not mentioned in the TP Report.

Consignment of the goods The assessee is not involved in Consignment of the goods.

Further, this function is also not mentioned in the TP Report Transportation of the The assessee is not involved in goods to the port transportation of the goods to the of departure port of departure. Further, this function is also not mentioned in the TP Report.

Random quality check prior The assessee is not involved in to shipping Random quality check prior to shipping. Further, this function is also not mentioned in the TP Report.

29. It was pointed out by the Ld counsel that in addition, the TPO

alleged that the assessee is bearing single customer risk wherein the

assessee could not work with any other unrelated party as per

agreement with the AE. This allegation according to Ld counsel is

based on assumption and contrary to the evidences furnished by the

assessee that it is dealing with many customers and does not

undertake any single customer risk. The Ld counsel wondered as to

how the TPO came to such a conclusion and stated that if he has

arrived at such a conclusion based on any agreement then the TPO did 24 ITA No.761/Del /2015

not share the said agreement which he has relied upon while alleging

that the assessee bears single customer risk.

30. Further, the Ld counsel submitted that the TPO also alleged that

the assessee is bearing sourcing risk, risk associated with

development and use of intangibles, risk associated with quality

service and bears capacity utilization risk which according to him, are

purely based on assumptions and without any material or evidence on

record.

31. It was submitted by the Ld counsel that the TPO has also alleged

that the assessee own proprietary information with respect to

commission business which is nothing but an intangible asset. Such

allegation is also based on assumption. Remark of the assessee with

respect to each point is provided below in table :

Proprietary information Remark of the assessee owned by assessee as alleged by TPO Knowledge of sub- Knowledge of sub-

contractor contractors is general information which is publicly available.

Knowledge of products & There are no designs with respect design to steel and chemical industry in which the assessee is primarily dealing with respect to commission business. 25 ITA No.761/Del /2015

Knowledge of acquisitions The assessee does not have any knowledge relating to acquisitions. It is merely providing support services and acquisitions have no relevance to its business. Knowledge of distribution The assessee is engaged in and supply providing support services and therefore knowledge of distribution and supply is irrelevant. Knowledge of quality Quality control function is control undertaken by a manufacturer and not by a service provider, particularly support services as rendered by the assessee. Knowledge of storage The assessee is engaged in providing support services and therefore knowledge of storage is irrelevant. Knowledge of logistics The assessee is engaged in involved in exports of providing support services and goods therefore knowledge of logistics is irrelevant.

32. The Ld counsel submitted that the TPO has alleged that the

assessee has generated location savings due to huge difference in cost

of procurement between high cost economy and low cost economy

like India.

26 ITA No.761/Del /2015 33. The afore said view of the TPO according to Ld counsel

suggest that he has failed to comprehend the business model of the

assessee and wrongly applied the concept of the location savings in

the facts of the case present before him. The Ld counsel reiterated that

the assessee has performed coordination and sales support activities

for its AEs. The assessee earns commission or service fee for

coordination and sales support activities. In fact the very basis on

which the TPO has concluded that location savings should be

attributed to the assessee is wrong. It is the AEs which procure goods

from suppliers in India or sells goods to buyers in India. The terms

and conditions of such sales/purchases are determined between the

AEs of the assessee and the Indian suppliers/buyers. According to Ld

counsel, it is purely a business decision between Indian buyers/seller

and the AEs and they deal at arm's length. Further, it was emphasised

by the Ld counsel that the assessee does not identify the contract

manufacturer as alleged by the TPO and it is a matter of fact that

Indian suppliers, from whom the AEs buys various commodities are

not captive manufacturers of the AEs. It was pointed out by the Ld 27 ITA No.761/Del /2015

counsel that the assessee is not a captive service provider as it is not

bound to provide services to its AEs only.

34. Strong reliance was placed by the Ld counsel on the Hon'ble

Delhi High Court ruling of Li & Fung India Pvt. Ltd. (ITA 306/2012)

wherein the Hon'ble High Court has rejected the application of

principles of location savings and human and supply intangibles

without any basis. The Hon'ble High Court has also held that the cost

of goods of the associated enterprises cannot form part of the cost

base of the Indian tested party's PLI.

35. The Ld counsel brought to our notice that the TPO during the

assessment proceedings for AY 2007-08 had accepted the

characterization of the assessee as a service provider. Further, the

CIT(A) has also upheld the comparison of the assessee with that of

service providers, so there being no change in facts, there was no

necessity for the TPO to depart from the said view. In light of the

aforesaid submission, it was pleaded that addition made be held as

unsustainable.

36. On the other hand the ld. DR submitted that the assessee is

aggrieved that his Transfer pricing approach has been rejected and 28 ITA No.761/Del /2015

that his Commission/service business has been characterized as that of

a trading business and also that FOB value has been included in the

cost base, amongst various other grounds. According to Ld DR M/s

Marubeni India is a service and trading company and provides

liasioning support services to its parent and affiliates for purchase and

sale of goods in India. It acts as a communication channel between its

parent/affiliates companies and third parties in India. The assessee has

used OP/VAE as the PLI for application of the TNMM method on

support services. According to Ld DR in order to approach the main

contentious issues as stated above, it is important to understand the

relevant provisions of the TP rules as prescribed by the Statute under

Rule 10B and took our attention to Rule 10B.

37. It was submitted by the ld. DR that functions performed, assets

employed and risks assumed by respective parties to the transactions

are intrinsically linked and intertwined with the method to be adopted

for the purpose of computing the PLI of an assessee. Further it was

also submitted by the Ld DR that the approach of the tax payer while

preparing the TP study should follow the mandate of Section 92C

read with Rule 10B of the Act and Income-tax Rules, 1962 29 ITA No.761/Del /2015

respectively. According to Ld DR, the prescribed methodology to be

adopted while conducting a TP study should contain all factors

enumerated in Rule 10B(2), namely sub rules (a) to (d). So, according

to the ld. DR, the assessee in the instant case failed to follow the right

approach as prescribed in Rule 10B(2). For the purpose of adopting

the method as mandated in Sub Rule (1), Sub rule (2) has been laid

down for the purpose of drawing up a comprehensive Transfer Pricing

Study.

38. According to the Ld DR in the instant case it is worth noticeable

that the Taxpayer has failed to follow the prescribed approach in the

true sense, thereby hoodwinking the tax authorities for the purpose of

adopting the method to be adopted as per Sub rule (l)(e). According to

the Ld DR, TNMM method prescribes three bases namely, cost, assets

and sales and also any other relevant base. This forms the

denominator of the PLI which ultimately calculates the net profit

margin. Applying the doctrine of ejusdem genereis, where particular

words are followed by general words, the general words have to

construed as limited to things of the same kind as those specified and 30 ITA No.761/Del /2015

hence the construction of the rules would include in the context of

"any other relevant base", the FOB value in the instant case.

39. In the instant case, the according to the Ld DR, the TPO rightly

rejected the Berry Ratio (PLI) adopted by the assessee and the TPO

after rejecting the Berry ratio of the assessee, choose to follow OP/TC

as the PLI for computing net profit margin in the support services

segment. In order to find the appropriate PLI, it is critically important

to have relevant data before the Tax authorities such as those

enumerated in Rule 10B{2}. The assessee in the instant case has not

demonstrated before the Tax authorities, the following :-

"(d) conditions prevailing in the markets in which the respective parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs of labour and capital in the markets, overall economic development and level of competition and whether the markets are wholesale or retail."

40. According to Ld DR, the mandate is clear, that every TP report

should contain information pertaining to the above for the purpose of

the applying the PLI, and applying the method and computing the

ALP for the transaction. The Ld DR contented that the findings of the

TPO cannot be ignored on page 158 paras (a) to {g} which 31 ITA No.761/Del /2015

categorically records that a substantial portion of the profits which the

assessee would have earned had the arrangement between the

taxpayer and its associated enterprises been at arm's length. At Page

167 of the appeal paper book where the TPO records that the TP

report does not demonstrate whether AE has either technical capacity

or manpower to assist the assessee. In the absence of any credible

evidence, such general remarks to somehow prove the involvement of

the AE cannot be accepted.

41. The Ld DR submitted that the TPO after carefully examining the

facts and law in the case notes that several unique intangibles have

been developed by the assessee and used by the AE for its business in

India, thereby enhancing the profitability of the AE without assuming

any responsibility. The Ld DR submitted that the assessee bears a

substantial amount of risk as the Supply Chain Management of the

assessee is used by its AE and its affiliates in Japan and Asia

respectively. In the risk analysis part of the TP report, the assessee has

the following risk in connection with support services, namely,

Market risk, product/service liability risk, credit risk, foreign 32 ITA No.761/Del /2015

exchange risk, manpower risk, legal and statutory risk and volume

risk.

42. The Ld DR submitted that it is worthwhile to read the provisions

of Rule 10B(2)(supra) in general and more particularly Rule

10B(2)(d) with the study conducted by the assessee and farther

contended that it will be amply clear that the assessee has failed to

consider the various factors enumerated there under in the rules for

the purpose of conducting the TP study. Therefore the TPO was right

in rejecting the TP approach of the assessee.

43. With regard to adding of FOB value to cost base of the PLI, and

the assessee reliance upon LI & FUNG Judgment of the Delhi High

Court the Ld DR pointed to us that the said order has been challenged

by the department in the Hon'ble Apex Court and the SLP has been

admitted and Leave granted and took our attention to the copy of the

order of Hon'ble Supreme Court admitting the SLP of the department.

However we note there is no stay granted by Hon'ble Supreme Court

while admitting the SLP.

44. According to ld. DR, in LI and FUNG India, the assessee was a

captive offshore sourcing provider and was merely a support service 33 ITA No.761/Del /2015

provider, whereas in the instant case, the assessee deals in both

trading as well as support service (assessee 's admission in the TP

study). So at the outset the segments in which the assessee deals in

differ with the case of LI and FUNG. The difference is also evident in

the specific categories of products transferred and services rendered,

hence the assets deployed and risk assumed can never be the same as

can be seen from the table reproduced in LI AND FUNG'S CASE.

This again is supported by Rule 10B(2)(1) & (2). And lastly, it is the

level of risk in the steel industry that can never be compared to one

dealing with consumer goods (LI and FUNG). Therefore risk being

intrinsically connected to the function performed and the assets

deployed, the level of risk demonstrated by the taxpayer in the instant

case is inadequate and hence it can only be presumed that the assessee

was involved in the key functions of the business, unless categorically

rebutted with sufficient evidence. The decision in the case of LI and

FUNG proceeded on a different footing and cannot be of any help to

the assessee. So the Ld DR does not want us to interfere in the order

impugned before us.

34 ITA No.761/Del /2015

45. We have heard both the parties and have gone through the

records. We find that the assessee company is a part of one of the

leading "Sogo Shosha" establishment in Japan. "Sogo Shosha", a

Japanese expression, means 'general trading'. So they are generally

described as 'general trading companies'. The assessee is a wholly

owned subsidiary of MO. These "Sogo Shosha" companies are

unique in the world of commerce and play an important role in

linking buyers and sellers for products ranging from bulk

commodities, such as, grain and oil to more specialised products like

industrial equipments, ranging from noodles to missiles. The

peculiarities of "Sogo Shosha" companies have been given

elaborately by the Coordinate Bench of this Tribunal in Mitsubishi

Corporation India Pvt. Ltd. Vs. DIT (ITA No.5042/Del/2011 order

dated 21.10.2014) were also like the assessee (Marubeni Itochu Steel

India Pvt. Ltd.) also belonged to the "Sogo Shosha" establishment in

Japan. In the said case also, we find that the same issues, which are

seen in this matter, have been discussed in detail, evaluated and

adjudicated. We find that the TPO had observed that the PLI arrived

by the assessee taking the 'Berry Ratio' has not been found acceptable 35 ITA No.761/Del /2015

for the TPO because, as per him, the provisions of Rule 10B(1)(e)(i)

prescribe that net profit margins should be computed in relation to

costs incurred, sales effected or assets employed or to be employed

and as per him, the Rules do not prescribe for value added cost or

value added expenditure to be considered as base for computing net

profit margins. On the said reasoning, the claim of the assessee for

use of 'Berry Ratio' was not accepted by the TPO which, according

to him, being contrary to Rule 10B(1)(e)(i). The same issue, we find,

was before the Coordinate Bench in Mitsubishi Corporation India Pvt.

Ltd. (supra) wherein the Tribunal dealt with the same and negated the

contention of TPO and upheld the assessee's action of use of berry-

ratio, and we note that facts & circumstances of that case were

identical & similar.

46. Before going to the berry-ratio, the Bench in Mitsubishi

corporation (supra) went ahead to address the TPO's view that

compensation model of assessee does not include the profit

attributable to the assessee on account of location saving, which in the 36 ITA No.761/Del /2015

instant case also the TPO was of the same view, wherein the Bench

observed as under :-

"TPO's stand on locational savings not being accounted for

70. We have also noted that the TPO has also taken up a point regarding locational savings which, according to him, have accrued to the AEs but the compensation model, which provides for a mark up on costs, does not take into account the benefits from the locational savings. It is elementary that locational savings can only relate to net savings in costs that may be derived by an MNE group that relocates some of its activities to a place where labour or real estate expenditures, to cite only a couple of examples, are lower than in the location where the activities were initially performed. It follows that the savings have to be with respect to the activities and operations performed, which MNE was earlier performing at another location, and not with respect to the costs of purchases. Therefore, if an assessee is able to buy a product or service at a lower price vis-à-vis price in another jurisdiction, including the domicile I.T.A. No.:

5042/Del/11 Assessment years 2007-08 Page 39 of 95 jurisdiction, such purchases of goods or services per se donot give rise to a locational saving for the purpose of ALP determination. In the present case, the price advantage to the assessee, on account of sourcing his purchases from India, thus may not amount to any locational savings at all, but then, as we could make out from a perusal of material on record, that precisely is the case of the TPO. No doubt "United Nations Practical Manual on Transfer Pricing for Developing Countries" does include 'locational savings' in its comparability analysis and defines it as "net cost savings that an MNE realizes as a result of relocation of 37 ITA No.761/Del /2015

operations from a high cost jurisdiction to a low cost jurisdiction" but then it is not even TPO's case that any business operations have been relocated from another location to this location. There is no specific identification of locational savings or even efforts to compute the same. In any event, locational savings in procurement of goods, even if any, will arise to the AEs actually buying the goods and not the assessee assisting such buying by way of acting as an intermediary. In a recent OECD report, released as part of a series of deliverables pursuant to the Action Plan on Base Erosion and Profit Shifting (BEPS) project, titled "Guidance on Transfer Pricing Aspects of Intangibles", while it is accepted that the principles of locational savings will not only apply to business restructuring but also generally to all situations where location savings are present, it is also stated that in determining how location savings are to be shared between two or more associated enterprises, it is necessary to consider (i) whether location savings exist;

(ii) the amount of any location savings; (iii) the extent to which location savings are either retained by a member or members of the MNE group or are passed on to independent customers or suppliers; and (iv) where location savings are not fully passed on to independent customers or suppliers, the manner in which independent enterprises operating under similar circumstances would allocate any retained net location savings. We are in considered agreement with this approach but then no such exercise, as suggested in the above four step process, has been carried out in the present case, nor is there any concrete finding even about something as fundamental as existence of locational savings. The TPO has raised some murmurs of locational savings being present in this case but such vague generalities are devoid of legally sustainable foundation. The allocation of I.T.A. No.:

5042/Del/11 Assessment years 2007-08 Page 40 of 95 location savings comes into play only when these savings 38 ITA No.761/Del /2015

are not directly passed on to the independent customers and thus add to the profits of the group as a whole. However, in a situation in which the group is only a facilitator, as sogo shosha business model apparently envisages, there may not be any locational savings to the group. These locational savings may at best be derived by the independent customer. The question of allocating the locational savings between the AEs would have arisen only when there were any such locational savings but given the facts of the present case that aspect of the matter is wholly academic in effect."

47. The facts & circumstance being similar, we concur with the

aforesaid view of the co-ordinate bench and so the adjustment for use

of locational savings was unwarranted.

48. Thereafter, the Coordinate Bench considered the other issue that

has been raised before us that is in respect to the TPO's contention

that the assessee is the owner of the supply chain intangibles and

human asset intangibles has also cropped in Mitsubishi Corporation

India Pvt. Ltd. (supra) wherein the Coordinate Bench held as

follows:-

"Human asset intangibles and supply chain intangibles- correctness of TPO's stand

71. Coming to TPO's observations that the compensation model adopted in this case does not provide for meeting the costs of developing supply chain intangibles and human 39 ITA No.761/Del /2015

assets intangibles, but the intangible so developed by the assessee are routine intangibles developed only during the course of work carried out by the assessee and any other intangibles, other than the ones developed in the course of this business, are owned by the AEs and not the assessee company. It is only when intangibles are owned by the person, using these intangibles or transferring these intangibles per se, that the question for compensating for use or transfer of intangibles arise. There is nothing to corroborate and support the vague generalization that cost plus method does not "capture the compensation for development and use of intangibles". It is not even the case of the TPO that these intangibles were acquired or developed by the assessee by incurring certain specific costs and such costs are not taken into account in the compensation model. In the process of carrying on a business activity, an assessee may develop certain intangibles but that is quite different from the intangibles that the assessee uses in the business activities as an input or at the starting point, and, even if there were any such intangibles at the starting point, these intangibles could only have belonged to the AEs of the assessee. The value of intangibles created in the process of carrying out the business activity cannot be built in the compensation for carrying out the activity which leads to creation of these intangibles. In any event, the onus is on the revenue authorities to demonstrate and quantify, on the basis of cogent material and reasonable basis, the value of intangibles which has not been take into account in the arm's length price of the services so rendered. It is also important to note that not only that there should be intangibles in use but these intangibles should be unique intangibles which may not be possessed by the comparable entities. There is no unique intangible pointed out in this case. Any comparable involved in the similar activity will essentially have the same intangibles, and no adjustments can be justified or warranted in the cases of routine 40 ITA No.761/Del /2015

intangibles. In view of these discussions, as also bearing in mind entirety of this case, the action of the TPO is devoid of any legally sustainable merits on this count as well.

72. The particular business model which gives rise to this edge, assuming that there is indeed an edge, to the assessee is a result of group synergy and intangibles as a result of such group synergy cannot, therefore, be assigned to the assessee alone. In any event, when the impact of group synergy is taken into account, it is only when it consists of deliberate concerted action benefits, and not when it merely consists of the passive association benefits. There is no such suggestion of deliberate concerted action benefits in the present case.

73. In any event, as observed by Hon'ble Delhi High Court, in Li & Fung's case (supra), the assesse may have "developed experience and expertise which the Tribunal has held to be human capital and supply chain intangibles but such description does not in any way reveal how the appellant bears any risk - either enterprise or economic". Summing up the decision, Their Lordships have further observed that, "Tax authorities should base their conclusions on specific facts, and not on vague generalities, such as "significant risk", "functional risk", "enterprise risk" etc. without any material on record to establish such findings. If such findings are warranted, they should be supported by demonstrable reason, based on objective facts and the relative evaluation of their weight and significance".

These observations equally apply to the fact situation before us as well. As learned counsel for the assessee very aptly puts it, all these intangibles, as perceived by the TPO, are more of his figment of his imagination rather than based on any cogent material. The use of intangibles cannot be inferred or assumed. It is to be demonstrated, on the basis of cogent material, by the revenue authorities." 41 ITA No.761/Del /2015

49. Since the facts and circumstance being similar, we concur with

the aforesaid observation of the Coordinate Bench and respectfully

following the same, we are of the view that use of intangibles cannot

be inferred or assumed and needs to be demonstrated on the basis of

cogent materials by the TPO/AO and adjustment for use of

intangibles was unwarranted. Thereafter, we take note that the

Coordinate Bench adjudicated the "Berry Ratio" as under:-

"TPO's other objections to application of Berry Ratio

63. We have noted that the TPO has raised three other objections with respect to the berry ratio, i.e. (a) use of berry ratio is not permitted under rule 10B(1)(e)(i) as it does not deal with costs incurred, sales effected or assets employed or to be employed; (b) use of berry ratio is not appropriate to the facts of this case as there are unique intangibles like supply chain intangibles and human assets intangibles; and (c) use of berry ratio is unworkable due to adjustments for variations in accounting policies for recording costs.

64. None of these objections, for the reasons we will set out now, merits acceptance.

Rule 10B(1)(e)(i) and use of berry ratio

65. As for the objection that use of berry ratio is not permitted under rule 0B(1)(e)(i) as it does not deal with costs incurred, sales effected or assets employed or to be employed, it proceeds on the fallacy that the basis of 42 ITA No.761/Del /2015

computation, as set out in rule 10B(1)(e)(i), is exhaustive whereas it is only illustrative and it ends with the expression "or having regard to any other relevant base".

Just because a cost base is not of costs incurred, sales effected or assets employed, such a base does not cease to permissible under rule 10B(1)(e)(i) unless such a base can be held to be irrelevant. In view of the elaborate discussions earlier, justifying exclusion of inventory costs, the cost of base of the operating expenses is relevant. When cost of inventory is excluded from the cost base, for all practical purposes, cost bases consists only of the operational costs. In our considered in a situation in which trading is on back to back basis without anything actually going to the current assets and flash title of goods is held only momentarily, it could indeed actually be a relevant base as to what are the operating costs or value added expenses - particularly when, as we have noted above, no resources are used in the inventories.

Use of berry ratio when tested party has high level of current assets

66. As for the objection regarding use of this ratio only in the situations in which current assets are not significant, there cannot indeed be much dispute with this proposition on principle but there is nothing on the record to evidence that there are high current assets in the present case either. Such vague generalities, as resorted to the TPO, cannot be sustained in law. There is no mention about any specific element of assets which can be related to high current assets. The TPO has mentioned about use of intangibles but on the question of intangibles as well, for the reasons we will set out in a short while, the stand of the TPO was devoid of any legally sustainable foundation. It is not the case of the TPO that the assessee owns any significant unique intangibles, which are acquired by the assessee at a specific cost , which have significant replacement cost or which are developed otherwise than as a bye product of 43 ITA No.761/Del /2015

carrying out routine business activities of the assessee. As we have noted elsewhere in this order, not only that there should be intangibles in use in the business and owned by the assessee but such intangibles should be uniqueunique to the assessee which are not found in the comparables. A trained workforce, unless it has significant development cost or replacement cost, is a routine business intangible which almost all comparables will have.

Cost classification issues in application of berry ratio

67. As regards the alleged unsuitability of use of berry ratio due to operational difficulties due to variations in accounting policies, it is sufficient to take note of the fact that coordinate benches of the Tribunal have upheld the use of berry ratio in appropriate cases, including the case of GAP International Sourcing India Pvt Ltd (supra), and that no specific issues are raised by the TPO with regard to operational difficulties in the cases of selected comparables. The problem, thus, is hypothetical problem at this stage which may arise in case there are significant issues in the accounting policies of the comparables vis-à- vis the assessee. That stage has not yet come as the comparables are yet to be finalized, and no such specific issues are raised with respect to the comparables used in the analysis so far.

68. In any case, when we are dealing with business entities engaged in the trading activities and all their operating expenses pertain to the trading activities only, the issue regarding classification of operating costs are somewhat academic.

69. There is, therefore, neither there is anything inappropriate in the use as such of berry ratio per se, nor there are any real issues with respect to accounting policies of the assessee vis-à-vis accounting policies of the comparables finally selected. Obviously, as final 44 ITA No.761/Del /2015

comparables are not yet selected, there cannot be any question of the accounting policies adopted by the comparables vis-à-vis accounting policies of the assessee being so significantly different that the very comparability is not possible. The apprehensions are premature. We, therefore, see nothing wrong in principle in use of berry ratio in the case of an assessee like the one before us though, in the absence of any specific comparables before us, it is not possible to visualize and deal with the difficulties with regard to variations in, and impact of, accounting policies in such cases. Having said that, we must may also reiterate that when we are only dealing with trading activities of the tested party and the comparables, without any processing or other costs, the occasion for any impact of significant variations in the accounting policies does not arise. There can be little scope of differences in approach so far as trading costs are involved."

50. In the light of the above decision, respectfully following the

same, we repel the contention of the TPO and uphold the contention

of the assessee that 'Berry Ratio' adopted by the assessee does not

offend Rule 10B.

51. In view of these discussions, in our considered view, the use

of berry ratio as PLI is appropriate to the facts and circumstances

of this case, the objections taken by the authorities below to the

use of berry ratio are unsustainable in law, and the adjustments

for use of intangibles and locational savings are unwarranted. 45 ITA No.761/Del /2015

With these observations, the computation of ALP so far as buy

sell segment of assessee's activities are concerned stands restored

to the assessment stage. The matter will be examined afresh in the

light of the above observations which we respectfully concur with

that laid by the co-ordinate bench in Mitsubhishi Corporation

India Pvt. Ltd. (supra) and the matter is remanded back to be

examined afresh at the assessment stage.

52. Next issue is with report to service fee segment which the TPO

treated as trading segment. As per the assessee, the assessee is

involved in two segments i.e. trading segment and service

fee/commission fee segment. In respect to the computation of ALP

by the assessee reflected for trading segment is not disputed by the

TPO. However, in respect to the other segment which was claimed

by the assessee as income from service fee/commission fee segment,

the TPO, however, disagrees with the assessee's contention and treats

it as income from trading activity. The same issue cropped in

Mitsubishi Corporation India Pvt. Ltd. (supra) wherein the Coordinate

Bench following the order of the Hon'ble jurisdictional High Court 46 ITA No.761/Del /2015

decision in the case of M/s Li & Fung India Pvt. Ltd vs. CIT (361 ITR

85) has upheld the contention of the assessee that it is no longer open

to the revenue authorities to reconstruct the financial statements of the

assessee by including the cost of products incurred by its AEs, in

respect of which services are rendered, in its reconstructed financial

statements and then putting the hypothetical trading profits, so arrived

in their reconstructed financial statements, to the tests for determining

arms' length price. The Coordinate Bench held as follows :-

"Service fee/ commission segment of assessee's activities

80. Coming to the service fee/ commission segment, we have noted that as regards the service fee/ commission segment, the TPO has re-characterized the same as trading activities as he was of the view that the right course of action will be to treat the same as equivalent to trading segment, because what the assessee has disclosed as service/ commission income is infact trading income. Accordingly, the cost of goods sold by the AEs, which was Rs.2927,92,05,406, was also to be included in cost base of the service/commission segment and then ALP was recomputed. So far as this aspect of the matter is concerned, the issue is now covered in favour of the assessee by Hon'ble jurisdictional High Court's decision in the case of Li & Fung wherein Their Lordships have, interalia, observed as follows:

47 ITA No.761/Del /2015 "...........This Court is of opinion that to apply the TNMM, the assessee's net profit margin realized from international transactions had to be calculated only with reference to cost incurred by it, and not by any other entity, either third party vendors or the AE. Textually, and within the bounds of the text must the AO/TPO operate, Rule 10B(1)(e) does not enable consideration or imputation of cost incurred by third parties or unrelated enterprises to compute the assessee's net profit margin for application of the TNMM. Rule 10B(1)(e) recognizes that "the net profit margin realized by the enterprise from an international 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 ..." (emphasis supplied). It thus contemplates a determination of ALP with reference to the relevant factors (cost, assets, sales etc.) of the enterprise in question, i.e. the assessee, as opposed to the AE or any third party. The textual mandate, thus, is unambiguously clear.

40. The TPO's reasoning to enhance the assessee's cost base by considering the cost of manufacture and export of finished goods, i.e., ready-made garments by the third party venders (which cost is certainly not the cost incurred by the assessee), is nowhere supported by the TNMM under Rule 10B(1)(e) of the Rules. Having determined that (TNMM) to be the most appropriate method, the only rules and norms prescribed in that regard could have been applied to determine whether the exercise indicated by the assessee yielded an ALP."

48 ITA No.761/Del /2015 81. Clearly, therefore, it is impermissible to make notional additions in the cost base and thus take into account the costs which are not borne by the assessee. It is so opined by Hon'ble jurisdictional High Court on a careful analysis of rule 10B(1)(e)(i). It is, therefore, no longer open to the revenue authorities to reconstruct the financial statements of the assessee by including the cost of products incurred by the AEs, in respect of which services are rendered, in its reconstructed financial statements, and then putting the hypothetical trading profits, so arrived at in these reconstructed financial statements, to the tests for determining arms' length price. Respectfully following the esteemed views of Their Lordships, we hold that the adjustments carried out in the cost base of ALP computation, in respect of service fee/commission segment, are indeed devoid of legally sustainable merits. We direct the Assessing Officer to delete these adjustments. Once this notional adjustment is deleted, the ALP determination is to be done on the basis of the commission/service fees. As we have stated earlier in this order as well, in the course of proceedings before us, the assessee has filed fresh computation of the ALP which attempts to demonstrate that, if notional adjustments made by the TPO are deleted, no ALP adjustment will be warranted. However, we are not inclined to go into verifications which must take place at the assessment stage.''

53. Respectfully following the ratio laid by the Hon'ble predicted

High Court in Li & Fung out that of the co-ordinate bench in

Mitsubishi (supra) we deem it appropriate to uphold the grievances of

the assessee in principle, as the terms above, delete the notional 49 ITA No.761/Del /2015

adjustments by TPO's adopting cost base of the AEs in assessee's

ALP determination, and remit the matter to the file of the TPO for the

necessary factual verifications on impact of this corrections.

Accordingly, the matter stands restored to the file of the TPO in this

respect also.

54. In the result, so far as grievances against ALP adjustment of

Rs.14,20,93,551/- are concerned, the matter stands restored to the file

of the TPO but in the terms indicated above. Thus, the appeal is partly

allowed for statistical purposes.

(Order pronounced in the Open Court on 24.07. 2015)

Sd/- sd/-

(S.V. MEHROTRA) (A.T. VARKEY) Accountant Member Judicial Member

Dated: 24. /07/2015.

Copy forwarded to

1. Appellant 2. Respondent 3. CIT 4. CIT(A) 5. DR Asst. Registrar, ITAT, New Delhi