UCB India (P.) Ltd. v. Assistant Commissioner of Income-tax, Circle 7(3), Mumbai

ORDER

1. Both these appeals are filed by the assessee and are directed against the consolidated order of the CIT(A)-XXIII, Mumbai dated 16-10-2006 for the assessment years 2002-03 and 2003-04. As the issues arising in both these appeals are common, for the sake of convenience, they were heard together and are disposed of by way of this common order.

2. Facts in brief: The assessee-company, M/s. UCB India (P.) Ltd. (hereinafter referred to as 'UCB India' or 'the assessee'), formerly known as UCB India Ltd., is a 100 per cent subsidiary of UCB S.A., Belgium. The assessee is engaged in the business of manufacture and marketing of prescription drugs in the therapeutic areas of allergy and asthma, central nervous system and internal medicine.

3. The assessee filed its return of income for the assessment year 2002-03 on 31-10-2002 returning total income of Rs. 12,51,59,397 and for the assessment year 2003-04 on 4-11-2003 returning total income of Rs. 13,49,62,484. Along with the return of income, the assessee filed Accountant's Report in Form 3CEB in accordance with section 92E of the Income-tax Act, 1961 reporting inter alia particulars of its international transactions with its associated enterprises. The case was selected for scrutiny and notice under section 143(2) issued. The Assessing Officer referred the case under section 92A(1) of the Income-tax Act to the Additional Commissioner of Income-tax, Transfer Pricing-3, Mumbai on 18-11-2004 after obtaining approval from the Commissioner of Income-tax, Mumbai City-VII, Mumbai, for the purpose of determination of arm's length price with reference to all the transactions reported by the assessee in Form 3CEB filed by it. The Transfer Pricing Officer, vide her order dated 31-1-2005 proposed adjustments of Rs. 2,09,75,500 for the assessment year 2002-03 and an amount of Rs. 3,00,18,803 as adjustments for the assessment year 2003-04. The Assessing Officer, in addition to making additions on account of adjustments given by the Transfer Pricing Officer, disallowed sales promotion expenses, employees' contribution to provident fund in both the assessment years. There were certain other disallowances, adjustments on account of bank interest, short credit of TDS, etc. The Assessing Officer assessed the income of the assessee for the assessment year 2002-03 at Rs. 14,73,94,400 and for the assessment year 2003-04 at Rs. 16,59,28,900. Aggrieved, the assessee carried the matter in appeal. The first appellate authority granted part relief. Further aggrieved, the assessee is in appeal before us on the following common ground of appeal for both the assessment years, i.e., assessment years 2002-03 and 2003-04.

"Ground 1 - The learned CIT(A) has erred in upholding the disallowance of sales promotion expenses incurred by the appellant to the tune of Rs. 8,89,796

Ground 2 - The learned CIT(A) has erred in upholding the non-acceptance of Transactional Net Margin Method ('TNMM') adopted by the appellant for determination of its arm's length price in connection with its international transaction relating to import of raw materials from its associated enterprises.

Your appellant submits that TNMM has been considered as the most appropriate method as per rule 10C of the Income-tax Rules, 1962 and is a recognized method in accordance with law and accordingly, ought to have been accepted in the facts of this case.

Ground 3 - The learned CIT(A) has erred in upholding the adoption of Comparable Uncontrolled Price ('CUP') Method which require high degree of similarities in product, functions, etc., for determining the arm's length price in respect of appellant's international transaction relating to import of raw materials from its associated enterprises.

Accordingly, the learned CIT(A) has erred in confirming the addition of Rs. 2,09,75,500 to the total income of the appellant, by applying the CUP method.

Your appellant submits that the invocation of CUP method is solely at instance of the Assessing Officer and the same is erroneous in the facts of this case and ought to be set aside. Further, your appellant prays that the addition be deleted.

Ground 4 - The learned CIT(A) has erred in not considering and adjudicating the ±5 per cent variation from the arm's length price permitted to the appellant under the provisions of section 92C(2) of the Act.

Your appellant prays consideration of the ±5 per cent variation from the arm's length price."

4. In addition to the above common grounds, the assessee, for the assessment year 2003-04 has also raised the following grounds:

"Ground 2 - The learned CIT(A) has erred in not considering the bank interest amounting to Rs. 7,96,634 as business income and excluding the same while computing the eligible profits for deduction under section 80HHC of the Act.

Ground 3 - The learned CIT(A) has erred in upholding the addition of sales tax of Rs. 1,86,94,762 and excise duty of Rs. 7,14,45,433 to the total turnover of the appellant for the purpose of calculation of the eligible deduction under section 80HHC of the Act."

5. We first take up the common grounds 2, 3 and 4 relating to the determination of arm's length price.

6. Before we consider the arguments of both the parties, for the sake of clarity, the brief facts relating to these international transactions with associated enterprise are narrated below:

7. As already stated, UCB India (P.) Ltd. is engaged in the business of manufacture and distribution of pharmaceutical products in three main therapeutic segments of, allergy and asthma, central nervous system and internal medicines. The assessee manufactures intermediates, bulk drugs and formulations, both in the tablet and capsule form at its own factory. The liquid and injectible form of the products are manufactured on toll basis by three third parties. The assessee manufactures some of the active ingredients required for manufacturing of formulations and certain other ingredients are imported by it from its parent company, or are procured locally from third parties. The assessee-company also imports certain finished formulations from its parent company. Such imports constitute a small portion of the turnover of the assessee. The assessee markets its formulations in the domestic market as well as in overseas markets such as Sri Lanka, Bangladesh and Nepal. The international transactions in question before us, relate to purchase of raw material from its parent company. In the instant case, the assessee has entered into international transactions of import, with its associated enterprises, i.e., UCB S.A., Belgium.

8. The products under consideration are "Piracetam" and "Mesna" which are an Active Pharmaceutical Ingredient (hereinafter referred to as 'API').

9. APIs are active molecules, which are processed into formulations which are called Finished Drug Formulations (FDFs), which are ready for consumption by patients, upon prescription by the doctors. Piracetam is a drug to cure central nervous system related disorders and Mesna is used to cure respiratory system related disorders. The FDFs manufactured out of Piracetam is sold in the market by the assessee-company under the brand name "Nootroil" and similarly the FDF manufactured out of Mesna is marketed under the brand name Mistabron. The APIs i.e. Piracetam and Mesna are purchased by the assessee, only from its parent company and the parent company, it is stated, does not sell these two APIs to any other company in India.

9A. Another term for API is "Bulk Drug Substance". API can be original APIs or generic APIs. An import of an original API entitles the Indian company to use the global brand name for its formulation developed from the said API. Now, let us consider the use of the term "generic substance". In brief, when a new chemical entity emerges from pharmaceutical research which seems to have any potential for development, it will usually be patented as a "generic substance" with a generic name. If and when the drug is successfully developed using the new chemical entity as its captive ingredients, the drug (sometimes in the context called the "generic drug") will be sold under one or more brand names by the patent owner or its licencee. When its patent protection runs out it will be possible for anyone to occupy the generic substance and sell it under his generic name or under his own brand name. Production by the copier, whether under the generic name or under his own brand name, will be described as "generic production" or "production of generics". The companies that are engaged in the manufacture and sale of generics, are able to sell the substance at a comparatively low price, because they do not bear the cost or risk of R&D which is borne by the companies in the business of producing new and innovatory substances. They often do not have to bear the heavy cost involved in getting regulatory approval for the new product, cost in bringing the new product into the market, etc. They need not continuously monitor the effect of drugs which are in the market. The profile, functions, assets employed, risks, the standards, etc. of the companies which indulge in production of copier, or generics, have to be carefully considered.

10. In the above backdrop, the issue in these grounds is whether the purchases in question of these two APIs, i.e., Piracetam and Mesna from the A.E. were at arm's length price or not. The assessee claims to have applied the transactional Net Margin Method to determine the arm's length price in respect of these international transactions. The total value of raw material purchased by the assessee from its associated enterprises is Rs. 4.5 crores. The main items imported are "Piracetam" and "Mesna". In its transfer pricing analysis filed along with the return of income the assessee claimed to have carried out the Functional, Asset and Risk (FAR) analysis and has characterized itself as "a licensed manufacturer", which is exposed to less than normal risk associated with the carrying out of such business operations. In order to apply the transactional net margin method, the assessee identified other companies engaged in the similar business activity and thereafter compared its profit margins with those of the identified companies and drew a conclusion that the assessee's international transactions are at arm's length, on the fact that its margins are in excess of or comparable with such identified entities.

11. For identifying other companies with similar activity, the assessee employed filters. It had undertaken a search in the "Prowess data base" and identified companies engaged in the manufacture of drugs, medicines and allied products and from out of this list, it filtered and eliminated Government owned and co-operative owned companies and thereafter it also excluded those companies which are not predominantly in manufacturing activity. The assessee further filtered those companies which are having predominantly export sales. On a further quantitative analysis the assessee further filtered, companies which, in its view, are not comparable functionally. Ultimately it had identified thirty-six companies, which according to the assessee-company, fit into the criteria of companies engaged in similar business activity as that of the assessee. The assessee-company found that the operating profit margin of these identified companies is 8.86 per cent and whereas the assessee's operating profit margin is 27.54 per cent and therefore it concluded that the international transactions entered into by the assessee with its associated enterprises are at arm's length. This claim is disputed by revenue.

12. The transfer pricing officer, in the transfer pricing proceedings sought the following information/clarifications from the assessee :

(a) Whether the associated enterprise supplied similar APIs to third parties in India or to any other parties in other parts of the world;
(b) As to how the price for those products is fixed between the assessee and its AE.
(c) The process by which the decision to buy or not to buy a particular item at a particular price is taken by the assessee-company;
(d) The end products manufactured out of the 'APIs';
(e) To furnish brand names of other brand FDS which are available in the market in competition to "Nootropil" and "Mistabron".
(f) To file a copy of the economic analysis forecasts or any other estimates undertaken by the assessee or its associated enterprise, based on which the transfer price of the imports effected by the assessee are determined.
(g) To prove that comparables cited by the assessee, i.e., 36 identified companies are also licensed manufacturers having similar business as that of the assessee.

13. The transfer pricing officer further requested the assessee to submit material studied by it in filtering various companies in the same category on account of mismatch and explain the same.

14. In reply, the assessee submitted that -

(a) The associated enterprise supplies the two APIs to other group entities as well as to third parties in different countries but it expressed its difficulty in furnishing the information on price charged, etc. on the ground that it is not in the possession of more details and being a 100 per cent subsidiary, it would not be possible for it to obtain the said information from its parent company. A further submission was made stating that sales are undertaken in different geographical locations and thus the same may not be comparables. Reliance was placed on paragraph 5.6 of the OECD guidelines to contend that the tax department should not ask for details that would not otherwise be prepared or available with the assessee.
(b) On the determination of the price the assessee replied that the associate enterprise considers the further selling price of the formulation and after evaluation of the profitability of the assessee upon considering the functions performed and the risk assumed by the assessee, it determines the transfer price. Further the transfer price is fixed in a manner so as to ensure that the overseas entity earns an adequate return for the functions performed by it and the risk assumed. Certain portion of the price was also attributable to indigenous and patents which vested with the associate establishment. Reference was also made to the past and ongoing investments in these intangibles.
(c) On queries raised on transactional net margin method, the assessee clarified that from the data base available, it was not possible to ascertain whether each of the companies are licensed manufacturers or full-fledged manufacturers. Similar reply was given on the issue of comparables which also include leverage, intangibles and patents.

15. On the issue of exclusion from the identified companies of companies having related party transactions, the assessee-company pleaded that the information was not available in the public domain and hence the assessee was not able to provide the same.

16. The transfer pricing officer drew adverse inference on these replies and her conclusions are at paragraph 8 of the transfer pricing order. She issued notice under section 133(6) of the Act to three entities, i.e., Micro Labs; Torrent Pharmaceuticals; and Dabur India Ltd., who are competitors to the assessee's products seeking information on the purchase price of APIs, i.e., Piracetam and Mesna. The comparative purchase prices are given at paragraph 10 of the TPOs order which is extracted below for ready reference:

17. The TPO later summoned the managing director of the assessee-company and its marketing manager under section 131 of the Act and examined them on oath after confronting the information obtained from Micro Labs, Torrent Pharmaceuticals and Dabur India Ltd. Later, the TPO furnished copies of the information obtained by her from three third parties on the above issue and the assessee replied to the same. After considering the contentions of the assessee, the TPO rejected them and came to a conclusion that the Comparable Uncontrolled Price method (CUP) is a direct method and it should be examined as to whether the same can be applied in the given case and that Transaction Net Margin Method (TNMM) is not a direct method. As per the TPO, only when CUP method fails, the other method could be brought into service. The reasons given for the same is that the profits are affected by so many other factors besides the price and these factors may dilute the impact of the price on profits and hence correct results may not be available. The finding of the TPO at paragraph 14 reads as follows:

"14. The various contentions of the assessee are considered as follows:—

(a) The first contention of the assessee is that it has complied with the onus placed on it by determining the arm's length price by using TNMM. This contention of the assessee is not acceptable as the TNMM is not a direct method. It only evaluates the effect of the international transaction on profits and not the international transaction itself. The Comparable Uncontrolled Price Method on the other hand is a direct method and it should be examined whether the same can be applied in a given case. It is only when it is not possible to apply the CUP method that the other methods should be considered. This is because the profits are affected by so many other factors besides the price and these factors may dilute the impact of the price on profits and hence not show the correct results. As regards documentation, as already explained, the assessee has been unable to provide details of comparable transactions entered into by the overseas entity with third parties. Hence, the CUP method being the most direct method is applied in this case as comparable prices of the raw material imported by the assessee could be obtained.
(b) During the entire transfer pricing proceedings, the assessee has not produced any documentary evidence as to how the import price was fixed. Though it is contended again and again that the price was fixed in a manner giving adequate return to the AE for the functions performed by it and the intangibles owned by it, and the functions performed by the assessee, the evidence of such economic analysis was not furnished. The economic analysis relied upon by the assessee consisting of the Transaction Net Margin Method and determination of arm's length price is only in the nature of a post mortem to test the correctness of the price. However, this analysis is not the basis for the price determined. In the absence of such evidence, the price paid by the assessee is subject to verification and accordingly the exercise was undertaken by this office to obtain the comparable prices. Hence, the argument of the assessee that the import price cannot be disturbed as there is nothing wrong in the TNMM method adopted by it, is rejected in the light of the specific comparable prices obtained by this office.
(c) The assessee contends that its margins are very good and hence its transfer price at arm's length. This argument fails to consider the effectiveness of CUP method and its superiority over the indirect profit based methods.
(d) The assessee has accepted in the course of the statement recorded under section 131 that after an evaluation of the market situation, the import prices were revised downwards. This is evident from the table at para 13( c) which shows that the import price has fallen down from Rs. 1,749 during the relevant year to Rs. 1,080 in 1 and half years, on the basis of market evaluation. This clearly shows that the prices originally fixed were not realistic at all and did not reflect the fair market price. The so-called reason given by the assessee for the reduction in prices to be due to appreciation of Euros against Rupees is totally baseless as is evident from the same table. From the said table, it can be seen that the price of piracetam has almost reduced to half as against a much greater appreciation of Euros against Rupees.
(e) As regards any differences between the material purchased by the assessee and that purchased by the competitors, it is contended that the material purchased by the competitors may be of same chemical standards but the product does not have the same efficacy as that of the assessee. It is contended that only the originator's molecule guarantees the ultimate purpose and not the others. In this connection, a letter dated 27-1-2005 was issued to the assessee requesting them to substantiate this contention by producing necessary evidence. In this connection, the assessee has clarified in its letter dated 31-1-2005 that they did not contend that the formulations manufactured out of the comparable raw material may not have the same efficacy as that of the assessee's formulations. The assessee has clarified that being the inventors molecule their raw material is supported by continuous research and its international use gives confidence to the doctors. Thus, from the assessee's submission it is clear that the chemical standards of the raw material imported by the assessee and the other Indian manufacturers is same. The assessee has brought no other material on record to show that there is any significant difference between the raw material compared. The quality and characteristics of the raw material imported by the assessee are known only to it. Hence, any difference in quality has to be explained by the assessee only. As already explained, the end products of the Indian competitors are sold in the same market in competition with the assessee's product which also clearly shows that there is no significant difference in the raw material.
(f) The last contention of the assessee is that the purchase price of the raw material is also to compensate the AE for the research and development costs incurred by it for the development of this molecule and to give a reasonable return on the AEs ownership of intangibles, patents and registration for this product. In this connection, a letter dated 14-1-2005 was issued to the assessee requesting it submit the particulars as to when the said molecule was patented, the territory where patented, duration of the patent and whether such patent protection continues till date in the overseas territory and India or not. In this connection, the assessee has submitted its reply dated 24-1-2005 wherein it is stated that the patent for the product Piracetam was filed on 6-8-1964 in Belgium, Germany, Denmark, Finland, France, Israel, Italy, Netherlands, Sweden and the United States. It is further explained that the patent expired on 5-8-1985. Considering these facts, it is clear that the overseas entity cannot expect to be compensated for its R&D activity indefinitely even after the patent has expired almost 20 years ago. In any case, patent is a specific legal protection granted by law and such protection is not available to the assessee in India. Hence, effectively even if there had been a current patent as on date, there is no question of being compensated for the same as such patent is not recognized in India. In the circumstances, the fact that the assessee does not pay any royalty does not have any significance. Further, even in the case of royalty, the same has to be benchmarked and justified and is subject to the restrictions imposed by RBI. Also royalty is subject to tax deductible at source before remittance. Therefore the transaction of import cannot be compared to the royalty situation.

In view of all the above facts, the arm's length price for the import of active ingredients 'Piracetam' and 'Mesna' is determined applying the CUP method in the following manner as provided in rule 10B(1)(a). The prices obtained from third parties as explained at para 10 is the price of these materials in the open market in India. Hence, no adjustments are required to the prices ascertained :

*This is the Wt. Average rate of Piracetam

Hence, the total income of the assessee increases by Rs. 2,09,75,500.

It is hereby clarified that the findings and discussion made in this order are applicable only in respect of Reference received for assessment year 2002-03 and not for subsequent assessment years."

18. Aggrieved, the assessee carried the matter in appeal before the CIT(A). The first appellate authority rejected the various contentions of the assessee and confirmed the conclusions drawn by the TPO. Further aggrieved, the assessee is in appeal before us.

19. Shri N. Venkataraman, the learned Senior Advocate, argued on behalf of the assessee. Smt. Malati Sridharan, the learned Senior Departmental Representative, argued on behalf of the revenue.

20. The assessee filed paper books running into 643 pages. Separate compilations and loose papers were filed during the course of hearings along with copies of certain case laws cited. Smt. Malati Sridharan, on the other hand, filed a paper book consisting of pages 1 to 35. She also filed various other papers including extracts of Law Relating to Drugs & Cosmetics.

21. The learned Senior Advocate, Shri N. Venkataraman appearing for the assessee started his arguments by referring to the facts and thereafter explaining the Transfer Pricing Study undertaken by the assessee which was filed in the form of a report before the assessing authority. He took this Bench to the various chapters of the Transfer Pricing Study Report and explained that this brings on record - (a) the ownership structure; (b) industry overview of the global market as well as the Indian market, (c) the research and development carried out by the assessee's AE; (d) intellectual property rights, marketing and pricing; (e) computation of market share and finally the FAR analysis, i.e., the functions performed, the assets employed and risk assumed by the assessee as well as its AE. Shri Venkataraman argued that the Transfer Pricing Reports satisfies the requirements of rule 10D(1) of the Income-tax Rules, 1962. He further submitted that after examining and analysing each of the available methods under the Transfer Pricing Regulations, the assessee had come to a conclusion that the most appropriate method for computing the arm's length price is TNMM, under the facts and circumstances of the case. Shri Venkataraman drew the specific attention of this Bench to pages 389 to 415 of the Transfer Pricing Report and submitted that it was clearly brought out that due to the factors such as contractual terms, locational differences and other abstract factors such as use of intangibles, quality, level of market, transaction details and alternative commercial arrangements are not available in public domain and absence of the same would result in rejection of application of the CUP method in this case. Thereafter he justified TNMM method and also demonstrated as to how from a total list of 8,067 companies picked up as uncontrolled comparables through electronic data bases, selection of time period of the cut off month in "prowess", etc., the assessee has narrowed down to just a list of 36 companies. The details of filters that were applied were explained with the help of the parameters adopted in eliminating certain companies. He vehemently contends that through this objective process, which is in line with the methodology approved by OECD, the assessee has arrived at the arithmetic mean of the margins of 36 comparables, which disclose an operating margin of 8.86 per cent with the inter-quartile range between 8.28 per cent to 13.17 per cent and the median being 9.12 per cent and whereas the operating margin of the assessee was as high as 27.54 per cent and hence he submitted that it is conclusive that the price charged by the assessee is at arm's length price.

22. After justifying the TNMM method adopted by the assessee and the conclusions drawn by it, Shri Venkataraman dealt with the revenue's objection. He submitted that the revenue's case is that CUP is the most appropriate method and for coming to such a conclusion it depended on just 3 letters issued by Torrent Pharmaceuticals Ltd., Microlabs and Dabur which indicated the price at which these entities purchase piracetam and mesna. He later dealt with each of the objections raised by the revenue, the first being that the assessee has not complied with the mandatory requirements of rule 10D. He took this Bench through rule 10D(1) and argued that except for not furnishing information on item No. (f), which deals with forecasts and budgets or other financial estimates the report cannot be said to be vitiated. He further contended that the revenue has not placed on record as to how the lack of data relating to forecasts, budgets or other financial estimates would vitiate the report and the methodology arrived at by the assessee. He further referred to rule 10D(1) items (k), (l), (m ) and (n) and submitted that these are not mandatory columns and the assessee need to furnish the information, only in case the data is available. He specifically laid emphasis on the words "if any" mentioned in rule 10D(1)(k) and 10D(1)(l). He vehemently contends that when data is not available on a particular issue, the same cannot be brought on record. Similarly he submits that rule 10D(1)(m) is a omnibus clause.

23. On the second objection of revenue, i.e., non-furnishing of invoices issued by the AE to the third parties as evidence, the assessee relied upon the statement given on oath by the Managing Director of the assessee-company before the TPO and submitted that a reading of this statement clearly indicates that the information sought, regarding similar sales by the AE to third parties, could not be furnished as they are private and confidential and the AE would not part with it. For the proposition that the tax authority cannot insist on the taxpayer to furnish information that he does not possess or is not required to maintain under the rules, Shri Venkataraman placed reliance on the decision of the Special Bench of the Tribunal in the case of Aztec Software & Technology Services Ltd. v. Asstt. CIT [2007] 107 ITD 141 (Bang.) . He further relied on OECD Transfer Pricing guidelines wherein it is stated that the tax administration further should not require taxpayers to produce documents that are not in the actual possession of control of the taxpayer or otherwise reasonably available.

24. Shri Venkataraman wanted to file certain additional evidences before the Tribunal in the form of letter dated 27-8-2008 addressed by the AE, along with sample invoice, copies of sale issued by the AE to third parties located in Indonesia and USA and tried to justify his contention that the same was at arm's length price.

25. On the objections of the revenue to the filing of these documents, he submits that the Managing Director, in his original statement has confirmed that the purchase price from the AE by the assessee is at the lowest and these documents just support the same. On the argument that these documents pertained to different geographical territory, he submits that there are no third party sales in India and if the revenue's contention that the invoice pertained to different geographical location cannot be considered is to be accepted, then the assessee could not be faulted with for not furnishing these invoices. Thus, he submitted that this can be no ground for rejecting the submissions of the assessee.

26. The third objection of the revenue is that sample evidences of the analysis provided by the assessee vide communication dated 10-5-2004 involving five entities are disputable and not reliable and these companies may have related party transactions, export turnovers, etc. and therefore need not be excluded. Shri Venkataraman submitted that the Transfer Pricing Report was examined in detail by the TPO and neither she nor the Assessing Officer had at any stage of the proceedings raised such objection and for the first time such objection is being taken before the Tribunal and thus the same need not be entertained. He further submitted that all the data obtained by the assessee were in the public domain and the Assessing Officer had access to prowess by which the revenue could have found, read and analysed the data relating to all the 36 entities without any strain or difficulty. It was submitted that the assessee did not want the search to be limited and that it wants it to be all pervasive. He submitted that the assessee proceeded to eliminate extreme cases of high margins as well as low margins to arrive at a fair and sensible operating margin range. He justified the comparison with the help of data of five companies.

27. Shri Venkataraman submitted that the assessee-company has made detailed submissions vide its letters dated 20-4-2004, 19-7-2004 and 24-1-2005 and the submissions therein remained uncontroverted. The assessee-company is a pioneer in these drugs which were the result of continuous research and development functions. He referred to paper book and submitted that "Piracetam" is identified as "Nooropil" only, by all the leading research organizations throughout the world. He explained that, just as the term "Dalda" which is the brand name of a refined oil, is identified as the pioneer product, "Nootropil" has such a standing. He pointed out that the AE spent 15 per cent of its turnover on research and development activities. He pointed out that the Transfer Pricing Report discloses that UCB group employs as many as 9,000 people and the pharmaceutical sector employs 4,700 people which included highly qualified scientists, competent manufacturing, marketing as well as trained medical representative, etc. His case is that the product of the AE cannot be compared with the product of unknown entities.

28. He referred to the technical specifications and standards maintained by the AE and submitted that the assessee vide its letter dated 9-7-2004 brought on record product-wise specifications of the same and submitted that this is not, at any point of time, disputed by the revenue.

29. Shri Venkataraman specifically pointed out that, at no point of time the revenue brought any material on record, to demonstrate that the specification of the alleged comparables are one and the same with the standards of the assessee's products. On the contention of the revenue that the assessee had asked it not to share its data with any third party, the assessee's counsel submits that since the data was very much available with the revenue, it could have conducted comparability of technical specifications between all the comparables on its own.

30. On the issue of Patents, he submitted that in the case of piracetam, the same was obtained on 6-8-1964 and it expired on 5-8-1985. The product was patented in Germany, Denmark, Finland, Israel, Italy, Netherlands, Spain and USA but not in India. On the argument of the revenue that the patents have expired in 1985 and there is no royalty paid by the assessee to its AE in international transactions and consequently no patent has been handed over to the assessee, the learned counsel reiterated the stand of the assessee, that it neither received any technical know-how nor any intangible in India. He reiterated that the consistent plea of the assessee is that the AE is the originator of these molecules, i.e., piracetam and mesna and in spite of the expiry of its patent in 1985 the assessee's AE continues to remain the market leader. He claimed that there is sustained research and development going on these products and the same is brought on record. Consequently the submissions of the revenue on patent and its expiry it is argued as misconceived and misdirected.

31. On the efficacy of the two APIs, the learned counsel for the assessee drew the attention of the Bench to the submission of the Managing Director dated 2-7-2004 to question No. 14 where it specifically stated that the stands of the assessee-company are much better than the local companies though the applications are similar. It was claimed that lot of research in terms of efficacy and safety is undertaken by the assessee and that numerous clinical trials are also done on global basis which is usually not done by others. It was further submitted that the reputation enjoyed by the assessee-company internationally for these products and their command in the market demonstrate better efficacy. He contends that though the final products may be acceptable in terms of chemical standards the same may not necessarily show the desired efficacy in human beings. He tried to support this argument by drawing attention to the articles written by authors of international repute from journals. The assessee had also argued that the purity levels of the product in comparison to the items imported from China is much higher. He submitted that these submissions have not been disputed by the revenue. He further argued that the assessee's market share is higher though its pricing of the "Drugs" in the market is also higher. He pointed out that in the case of "Piracetam" the market share is 62.25 per cent as against 9.39 per cent of Torrent and 22.82 per cent in the case of Micro Labs. In case of "Mesna" he pointed out that the assessee enjoys 96 per cent of the market share whereas Dabur enjoys the rest 4 per cent. He submitted that higher price of products of the assessee-company having a higher market share, demonstrates that the products of the assessee-company have higher quality, efficacy and proven standards and therefore they are unique and different.

32. He referred to various technical literature and articles and reports by authors of international repute which are at pages 293 to 295 of the assessee's paper book and submitted that in this original research articles on the clinical efficacy of piracetam, its effects, the clinical trials, in terms of dosage effect etc. piracetem is referred to as "Nootrapil" which is the brand name of the assessee's FDF. He reiterated the contention that the product itself is known by the brand name given by the assessee-company, just like in the case of vegetable oil being marketed as "Dalda" and argued that it is universally agreed that the product manufactured by the assessee-company is unique as compared to others.

33. Thus, on facts the learned counsel for the assessee contends that the assessee's APIs are nowhere comparable with that of the evidence sought to be relied upon by the revenue and on the parameters, i.e., purity, standards, market share, pricing, efficacy, group profile and product quality, current manufacturing process, contractual terms, research and development. He reiterated the following factors and argued that this differentiated the assessee's API with the comparables of revenue:

(a) Product specification;
(b) Intellectual property;
(c) Quality;
(d) Price;
(e) Contractual terms including credit terms;
(f) Functions performed (including assets and risks);
(g) Business strategy;
(h) Geography; and
(i) Level of market.

34. Shri Venkataraman pointed out that vide letters dated 19-7-2004 and 24-7-2005 the assessee sought from the revenue, the entire search process undertaken by it as well as the level and depth of the details available with the revenue, with a view to bring about various factors determining comparability. He pointed out that no such material was available with the revenue except information collected from the three entities by invoking powers under section 133(6). Thus he argues that CUP method cannot be applied as the comparable should be perfect or realistic and if not it should allow reasonable and accurate adjustment. He relied on the proposition laid down by the Special Bench of the Tribunal in the case of Aztec Software & Technology Services Ltd. (supra) and the Delhi Bench of the Tribunal in the case of Mentor Graphics (Noida) (P.) Ltd. v. Dy. CIT [2007] 101 ITD 101, on this issue. He also relied on rule 10D(3) and argued that only authentic data available in public domain can constitute basis for arriving at the most appropriate method or for making accurate and reasonable adjustments. He submitted that the revenue has not done the FAR analysis and has also not brought on record the information sought by the assessee. He submitted that three pieces of paper are the only evidence available with the revenue and these three papers are not in the public domain and therefore cannot be relied or acted upon.

35. During the course of hearing the assessee sought to place on record copies of letters dated 2-10-2001 and 31-10-2007 addressed by US Food and Drug Administration to North East General Pharmaceutical Factory, China setting out therein very clearly, that the devices resorted to by manufacturers, which would show that the basic or rudimentary requirement of manufacturing processes are not being followed but in fact has been violated. The admission of this additional evidence has been objected to by the revenue.

36. After reiterating his contentions that the TNMM is the most appropriate method in this case rather than CUP and once again taking this Bench to section 92C(1), rule 10C(1), 10C(2) and rule 10B(2) he argued that the CUP method applied by the revenue is to be held as not the correct method.

37. Coming to the legal arguments, the learned counsel submitted that the assessee has discharged the burden of proof cast on him by doing a proper Transfer Pricing Study and obtaining information from the public domain and filtering the same in the most scientific manner and submitting a Transfer Pricing Study Report. He relied on the decision of the Special Bench of the Tribunal in the case of Aztec Software & Technology Services Ltd. (supra) and submitted that once the assessee has discharged his liability the burden shifts to the revenue if it has to reject the methodology adopted by the assessee and wants to impose its own methodology. He vehemently contended that the burden of proof shifted to revenue in this case and the revenue has not discharged the proof.

38. The assessee placed reliance on the decision of Mentor Graphics (Noida) (P.) Ltd.'s case (supra ) and also placed on record the relevant OECD guidelines stipulating the norms. Thus he concluded his arguments.

39. Smt. Malati Sridharan, the learned Senior Departmental Representative vehemently controverted the submissions made by Shri Venkataraman, the learned senior advocate and submitted that there are two primary reasons as to why the assessee's choice of most appropriate method was rejected by the revenue. The first reason being that the assessee failed to produce documentation as required by law with respect to import of APIs and second the assessee failed to discharge the onus cast on it to determine the ALP in accordance with the most appropriate method. Mrs. Malati Sridharan submits that the assessee had never disclosed the profit made by it on the API and also demonstrated as to how the comparable cases under TNMM are similar to that of the assessee in terms of functions performed, assets employed and risks assumed (FAR). She emphasized that the assessee had considered the net profit of the whole entity for the purpose of comparison rather than considering the net profit that arise on an international transaction in the TNMM method. Thus she submitted that the TPO rightly rejected the determination made by the assessee and proceeded to adopt CUP method. Her case is that the assessee confirmed that three Indian companies, viz., Torrent Pharmaceuticals, Micro Labs and Dabur manufacture finished formulations in competition with assessee's Nootropil and Mistabron. The TPO, she submitted, ascertained the price at which these companies had imported the same active API and compared the rates by applying CUP method. Thus she submits that CUP is the most appropriate method and all the requirements contained in section 92C(3) and rule 10B have been complied with in determination of ALP made by the Assessing Officer.

40. Mrs. Malati Sridharan reiterated the findings of the TPO that there was no proper maintenance of documentation by the assessee. She emphasized that the assessee was unable to produce any correspondence to explain the methodology in which the transfer pricing was arrived at between the assessee and its AE. A vague reply without any material was given, i.e., the price fixed was in such a manner as to give a return to the assessee and its AE which is proportionate to the functions performed. She pointed out that these assertions or submissions are not backed by any document or evidence.

41. Mrs. Malati Sridharan specifically relied upon the statement of the Managing Director of the company and pointed out the following from the facts and statements made by the Managing Director:

(a) That the product and the generic versions available in the market and are same as far as the application is concerned;
(b) That in terms of chemical standards, the raw material used by the assessee and that of the competitors in the market are the same. The only difference according to the managing director was that the local companies or their suppliers did not undertake research whereas, its associated enterprise undertook research;
(c) That with regard to the pricing of the raw material, the managing director stated, that they undertook an evaluation of price against quality from time to time and whenever there are any changes in circumstances. Further based on an evaluation done a year earlier, the assessee was able to negotiate a reduction in the price of API from its AE;
(d) That the only other country, other than the AE manufacturing the said active ingredient, was China;
(e) That the AE did not provide the assessee with particulars of the sale price at which the same active ingredient was sold by them to other third parties and other entities around the world. The assessee was also not aware of the group pricing policy adopted by the AE; and
(f) That the price of the finished product was dictated by the market conditions prevailing in the Indian market where a number of genetic products were also sold in competition with the assessee's products.

42. She reiterated her contention that these statements of the assessee, were also not backed by any documentary evidence. The Managing Director has stated that in view of the price of competitive products, the assessee could secure a reduction in price of the API in the subsequent years, i.e., as against an import price of 40 Euros during the relevant previous year, the price of active ingredients was reduced to 30 Euros during the subsequent year and finally to 20 Euros by the next year. In this connection she pointed out to contradictory statement made by the learned counsel for the assessee that the reduction in the price was given by the associated enterprise only to compensate for the appreciation of Euros against Indian rupees. She pointed out that no evidence was furnished in support of this contention and on the contrary in the study report it is stated that the foreign exchange fluctuation loss is to be borne by the assessee only. The ld. DR vehemently contended that it is absolutely clear that the import price should not be more than 20 Euros under the facts and circumstances of the case.

43. Mrs. Malati Sridharan referred to section 92D read with rule 10D and reiterated the findings of the TPO that there was no compliance as far as sub-clauses (d), (f), (g ), (h), (j), (k ) and (m) are concerned. She pointed out that rule 10D(3)(f) is also not complied with.

44. On the argument of the learned counsel for the assessee by placing reliance on the study report submitted in the course of the proceedings, she argued that the Auditor's Study Report merely provides justification for the certificate issued by them under section 92E and that this document can neither take place nor be confused with the documentation that is required to be maintained by the assessee in respect of the specific international transaction. The only reference made in the study report, as per Mrs. Malati Sridharan, is regarding the compliance with the documentation rules which is placed at page 458 of the paper book. She pointed out that in the entire study report there is neither any detailed analysis in respect of international transaction nor reference to the documentation maintained as required by the statute.

45. The ld. DR relied upon the OECD commentary specifically to paragraphs 5.2, 5.3, 5.17 and 5.27 and argued that these explain and clarify the importance of maintaining proper documentation. Referring to paragraph 5.2 of the commentary she submits that this clearly states that where a taxpayer does not provide adequate documentation, there is a shifting of burden of proof, in the manner of a rebuttable presumption, in favour of the adjustment proposed by the tax authorities.

46. The ld. DR repeated her contention that the Transactional Net Margin analysis of the assessee is not in accordance with rules 10B and 10C for the reason that there is no comparison transaction-wise. She pointed out that the assessee has neither maintained nor produced details of profits earned on international transaction separately which accounts for approximately less than 50 per cent of its activity. She pointed out that though law permits aggregation of closely linked transactions, the assessee had aggregated manufacturing and non-manufacturing activities. She pointed out that trading activity on import of finished goods, service activity for its Malaysian AE and export transactions are aggregated.

47. The ld. DR further submitted that the assessee has not followed rule 10B(3) and established comparability between the international transaction and uncontrolled transaction having regard to the FAR analysis. She pointed out that a crude elimination process has been adopted and finally, in respect of short listed cases, the assessee has not shown as to how they are comparable in terms of FAR analysis. Mrs. Malati Sridharan pointed out that for the purpose of identifying comparable cases, the assessee had placed reliance upon a private database called "Prowess". She pointed out that the assessee itself expressed reservations on this database and particularly referred to the reservations expressed by the auditors therein that they have not even examined the published financial results of the comparable set or inquired into the nature, circumstances and their activities. She reiterated the findings of the TPO that (a) there is no information on the database to identify other licensed manufactures though the assessee, classified as a licensed manufacturer with less than normal risk; (b) the assessee concedes that no information is available on the database to ascertain whether the comparable cases are also engaged in marketing patented drugs; (c) that there is no information in the database to exclude cases which are also engaging in related party transactions. Though the assessee was requested to provide all the data relied by it to ascertain the comparability of the cases considered by it, it had provided the particulars only in respect of 5 cases. She argued that the cases are not comparable functionally and that the other details given in Annexure I are sketchy. Thus she concludes that the revenue authorities were right in holding that the data used by the assessee is not reliable and thus the TNMM cannot be the most appropriate method. She relied on the decision of the Delhi Bench of the Tribunal in the case of Mentor Graphics (Noida) (P.) Ltd. (supra) and pointed out that the Bench explained the importance of FAR analysis. The Bench, she submitted, particularly cautioned against placing reliance on paragraph 2.37 of the OECD commentary. She further relied on the decision of the Calcutta Bench of the Tribunal in the case of Development Consultants (P.) Ltd. v. Dy. CIT [2008] 23 SOT 455 and submitted that arm's length price should be determined on transaction to transaction basis and not by aggregation of all the transactions at the entity level. Mrs. Malati Sridharan further relied on the OECD commentary to bring out the weaknesses in the TNMM. Thus she submitted that the Assessing Officer was right in adopting the CUP method.

48. Mrs. Malati Sridharan strongly contended that the TPO as well as the Assessing Officer were right in adopting the CUP method. On the points raised by the assessee against the adoption of the CUP method, she argued that - (a) the assessee did not produce any document to show how much weightage is to be given to factors such as quality, efficiency, intangibles, R&D recovery, etc. No evidence of valuation undertaken on competitors' products was given. On the argument of the assessee that in view of the purity of its products it enjoys 60 per cent market share, though the product is priced at a premium as compared to its competitors' products, Mrs. Malati Sridharan pointed out that the price premium enjoyed by the assessee is less than 5 per cent. She demonstrated before the Bench that the prices given by the assessee at page 321 and the paper book are not correct for the reason that the number of tablets in each strip is different. Thus she submits that the net price of the product is almost the same and hence this argument has to be brushed aside.

49. On the argument of the assessee that it has been in the market for a long duration and that the competitors are now entering into the market, Mrs. Malati Sridharan contended that when the assessee is purchasing large quantities of raw material to cater to its higher market share, it should secure a lower price from its AE as compared to its competitors.

50. On the submission of purity standards she pointed out that during the assessment proceedings the assessee categorically stated that chemical standards of the competitors' raw material are acceptable and there is no difference in terms of efficacy in the finished formulations. Thus she submits that there is no difference in standards between raw material imported by the assessee and the raw material imported by the competitors. She also feels that in terms of efficacy the assessee could not demonstrate any difference.

51. Mrs. Malati Sridharan vehemently contended that the drugs and pharmaceutical products of this country are subjected to stringent Government regulations and in the copy of the guidelines submitted to the Bench, on page 1, the guidelines for Bioavailability and Bioequivalence Studies issued by the Government of India, it is explained that they are issued for ensuring uniformity in standards of quality, efficacy and safety of pharmaceutical products. Thus she submits that the law on drugs and Pharmaceuticals ensures that the competitors' prod- ucts are comparable transaction and the products sold by the assessee and other organizations have to be clinically equivalent. She further pointed out from page 14 of the compilation which is the Second Schedule to the Drugs and Cosmetics Act, 1940 and submitted that the law requires that imported drugs should comply with standards of purity and strength specified therein. She produced samples of the assessee's formulations as well as the formulations of the competitors and pointed out that British pharmacopoeia establishes that there is no difference between the assessee's raw material and finished goods and that of the competitors.

52. On the argument of the assessee that the AE performed additional functions of research and development the benefit of which can be reaped by the assessee, Mrs. Malati Sridharan argued that cost recovery of R&D is an independent transaction and as it is international transaction, a disclosure should have been made by the assessee. As there is no disclosure, this argument is not correct. She further pointed out that piracetam was discovered in 1960 and was patented in many other countries, except India and that the patent expired in 1985 and it cannot be claimed that there would be fresh recovery of costs. Thus she concluded that no component of cost of intangibles, is embedded in the price. Similar contentions were raised on other intangibles such as patents, clinical trials, manufacturing technology know-how, etc. She pointed out that there is neither technology transfer nor transfer of intangible rights.

53. The ld. DR contended that at paragraph 6.17 of OECD, it is specially stated that compensation for use of intangible property, can be included in the sale price for sale of goods, but the package price must be disaggregated to calculate the separate ALP for royalty, in countries that impose royalty withholding taxes. Considering the fact that the assessee has not disaggregated the transaction in the manner indicated, shows that the argument of the assessee is not supported by facts.

54. On geographical reference she submitted that the location of the market cannot be decided on the basis of the supplier and the market in fact is located where the buyers are. Thus she argues that all the buyers being located in India, imports from Belgium or from China cannot be segregated on the basis of geographical differences. She vehemently contended that the price in both the situations is the price at which the API can be purchased in India.

55. On the issue of differences on account of credit terms and transportation and insurance, the ld. DR agreed that the Assess- ing Officer may be directed to carry out necessary adjustments, but at the same time, pointed out that the differences will not be significant though the assessee gets two months credit and the price paid is CIF price.

56. Mrs. Malati Sridharan contended that the conditions contained in section 92C(3) has been complied with by the Assessing Officer. She pointed out that the Assessing Officer can disturb the ALP determined by the assessee, when some material or document or information is in the hands of the Assessing Officer based on which he can come to a conclusion that the ALP determined by the assessee is incorrect. She argued that the Assessing Officer has comparable cases. She pointed out that the first condition for invoking sub-section (3) of section 92C is that the ALP has not been determined in accordance with the most appropriate method as per section 92C(1) and 92C(2) read with rule 10C. She pointed out that the revenue has already brought out as to how TNMM is not the most appropriate method in this case in the given facts and circumstances of the case. Secondly she submitted that the assessee has failed to maintain proper documentation and thus section 92C is attracted. Thirdly the information and data used for calculation of ALP by the assessee, are not reliable and hence the third condition for invoking section 92(3), as per Mrs. Malati Sridharan, stands satisfied. She pointed out that if at least one condition is satisfied, the Assessing Officer was right in invoking section 92C(3). She reiterated that all conditions provided in rule 10B have been complied with in the determination made by the Assessing Officer under the CUP method. She relied on the following case laws:

(1) CIT v. Shatrunjay Diamonds [2003] 261 ITR 258 (Bom.) for the proposition that the intricacies of the transactions are required to be explained by the assessee and the onus is on the assessee to explain the differences while leading proper evidence.
(2) CIT v. T.T. Krishmachary & Co. [1997] 223 ITR 224 (Mad.) for the proposition that CUP method may be accepted as a reliable basis for determination of profits in case of an addition under section 40A(2).
(3) Seth Gurumukh Singh v. CIT [1944] 12 ITR 393 (Lahore) (FB) for the proposition that the Assessing Officer is entitled to make enquiries and collect the information and though it is the duty of the Assessing Officer to disclose the information upon which he proposes to rely and give a fair opportunity to the assessee to rebut the same, there is no requirement to disclose the source from which the same has been acquired.
(4) Dhakeshwari Cotton Mills Ltd. v. CIT [1954] 26 ITR 775 (Cal.) wherein the proposition in Seth Gurumukh Singh's case ( supra) were reiterated.
(5) Satellite Engineering Ltd. v. Union of India 1983 (14) ELT 2177 (Bom.) for the same proposition wherein the Bombay High Court has held that it is not necessary for the department to name all the intending importers on the ground that if such a requirement is imposed the department will never be able to obtain information from third party sources. She further referred to paragraph 5.31 of OECD commentary which cautions against providing competitor information.
(6) Aztec Software & Technology Services Ltd.'s case ( supra ) for the proposition that FAR analysis should be conducted for identifying comparable cases.
(7) Eli Lilly & Co. & Subsidiaries v. Commissioner of Internal Revenue 84 United States Tax Court Reports 996 where the facts were narrated as follows:

"This is a case decided in United States involving a US parent company purchasing finished formulations from its subsidiary in Puerto Rico. The facts are narrated in detail in the said decision up to page 1107. The decision of the court is from page 1107 onwards. A number of issues are involved in this case but what is relevant in the present context is the approach adopted by the court in determining the transfer price for finished formulation purchased by the US company. The years involved in this case are 1971, 1972 and 1973. For the years 1971 and 1972 the formulation imported by the US Company was protected by patent in US and hence there were no other comparable uncontrolled sales of similar formulations. Hence profit split method was applied by the Court. This part of the decision is not very relevant.

However in 1973 the patents in respect of the formulations expired. Immediately, at least 24 pharmaceutical companies manufactured and sold similar formulations in the US and hence comparable uncontrolled price method was considered to be the most appropriate method both by the tax-payer and the court. (refer to page 1168 onwards)."

57. Thus, for the year 1973, unlike the two previous years, they appear to be comparable uncontrolled sales. In the Tax Court both Lilly and the Commissioner agreed that CUP method be applied but the point that arose before the Court was the comparability between controlled and uncontrolled sales as adjustments could not be made because of the difference arose on account of (a) credit terms; (b) supply of raw material; (c) packaging; (d) product quality; and (e) patents. However, at the end, the Tax Court rejected the CUP method because of the fact that the difference between controlled and uncontrolled transactions could not be accounted for by a reasonable number of adjustments. Mrs. Malati Sridharan prayed that the order of the revenue authorities be upheld.

58. Joining the issue, Shri Venkataraman, the learned Senior Advocate, distinguished the decisions relied upon by the learned Departmental Representative and argued that in the case of Shatrunjay Diamonds ( supra) it was a case under section 40A(2) which is a non obstante clause. He pointed out that there is a fundamental difference between section 40A(2) and the Transfer Pricing provisions in respect of the methodology and application of the provisions. Under section 40A(2), the burden of proof is on the assessee and he argued that in respect of the Transfer Pricing provisions the burden of proof shifts to the revenue once the assessee has discharged its onus of demonstrating ALP. He relied on the decision in the case of Aztec Software & Technology Services Ltd. (supra), at paragraph 127, for the proposition that the responsibility of determining the ALP shifts to the revenue authorities, once they are not satisfied with the ALP and the supporting documents, furnished by the taxpayer. On the decision in the case of Seth Gurumukh Singh (supra) he submitted that the ITO was not satisfied with the character of evidence led by the assessee and under those circumstances he was not duty bound to lead evidence on his own with a view to rebut it. It was further held that the Assessing Officer may gather information in the manner he likes and utilizes the same against the assessee, even if it does not in all respects satisfy the requirements of the Evidence Act. Shri Venkataraman pointed out that these cases pertained to best judgment assessments where assessee has not co-operated.

59. On the reliance placed by the revenue on the judgment of Satellite Engineering Ltd. (supra) he submitted that in that case the information of suppliers was held back from the petitioners whereas in the present case, the identity of the importer is well-known and whereas the identity of the supplier, which is a vital importance for comparison has not been provided. He reiterated his contentions and concluded that - (a) the revenue has not brought out any tangible evidence to sustain CUP; (b) the submissions of the assessee on rejection of CUP have not been rebutted by the revenue; (c) all parameters prescribed by law are satisfied by the assessee in adoption of the methodology of TNMM; and (d) the objections of the revenue have been met.

59A. After the hearing was over, both the parties filed written submissions. Later, the assessee's representative came out with an application stating that the revenue has not given a copy of its submission to them for a long time and that on receipt of these submissions, they would like to give a rejoinder and that the Bench should post the case for fresh hearing to consider these issues. As per this request, the case was refixed for fresh hearing. Shri Rajan Vora, appeared on behalf of the assessee and Smt. Malati Sridharan represented the revenue.

59B. Shri Rajan Vora recapitulated all the arguments made by Shri Venkataraman, the learned counsel for the assessee on the earlier dates of hearing. However, he specifically submitted that it is practically not possible to look at the margins at the transaction level in the case of the assessee for the following reasons:

(a) Segmental data of comparables is not available in public domain in most cases and hence margins of comparables have to be compared only at the entity level;
(b) Segmental data may not be available with the taxpayer. That there is no statutory requirement to maintain segmental data or the cost relating to different products which was integrated with segregation of cost, is not practical.

Thus, he pleads that the law regarding comparison of net margins need to be given a rational interpretation, to mean that segregation of same/similar/inter-related transactions should be allowed by computing net margins from an international transactions in certain cases, as otherwise application of TNMM would be an impossibility in most of the cases, which is not the intention of law. They also filed written submission on these issues, the sum and substance of which is that the transactions need not be evaluated on stand alone basis especially when the statute does not require maintenance of such records and that various authors as well as OECD commentaries permit aggregation of similar transactions and such aggregation permits entity level comparison. Specific reliance is place at paragraph 1.20 of "Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations". Reliance is also placed on extracts from the book on "Transfer Pricing" written by the eminent author Robert T. Cole and another by Shri D.P. Mittal as well as J. Harold Mc Lure as edited by Robert Feinchrieber. The points made have been summarized in their written submissions, as under:

"II. CONCLUSION IN CASE OF UCB INDIA

UCB India is largely engaged in a single business segment of manufacturing of Finished Dosage Formulations ('FDF') from Active Pharmaceutical Ingredients ('API') (constituting 95 per cent of turnover in the relevant period), using common manufacturing plant, manpower, infrastructure and other facilities. Within this business segment, UCB India has undertaken the international transactions of purchase of APIs to manufacture different FDFs. However, the broad category/class of these transactions remains one, i.e., manufacturing of FDFs.
Given the use of common assets and the fact that same functions are performed and risks are undertaken to manufacture all FDFs entail that significant amount of expenses incurred are common to all FDFs, thus, rendering the manufacture of FDFs "closely linked".
The segregation of costs within the same segment may be possible by way of approximate allocation of expenses, which may though be practically implemented to follow the letter of the law, may not give accurate results of costs/profits for each of the FDFs.
UCB India not required to maintain data of costs/profits for each product statutorily.
Data of product-wise net margin of comparables is not available in public domain - Data regarding product-wise costs/profits of Torrent and Micro Labs, the only two Indian manufacturers that purchase the APIs under dispute is not available in public domain.
TNMM does not require product comparability. Comparability of transaction/segment/enterprise, which is necessary for application of TNMM has been undertaken by UCB India in selecting the 36 comparables, the net margin of which has been used for benchmarking."

59C. Smt. Malati Sridharan, on the other hand, strongly controverted the submissions of the assessee and argued that the transaction has to be evaluated on a stand alone basis and in case of aggregation of similar transaction, it would be restricted to a class of international transactions that are closely linked or comparable uncontrolled transactions that are closely linked. She pointed out that only 50 per cent of the total turnover of the assessee arises out of formulations in which the imported APIs are used where AE imports are involved. Thus, she argues that the balance 50 per cent on which no AE imports are involved, could have been a good comparable and an ideal internal TNMM analysis. On the statutory requirement of maintenance of records he submits that there is a specific mandate to maintain records both under rule 10B(1)(e)( i). She reiterated her contention that the assessee has not given any information as to whether the comparable cases were of licensed manufacturer, whether they marketed patented products, whether they were engaged in related party transactions, whether they undertook less than normal risk, whether they leverage invaluable intangibles, etc.

60. Both, Mrs. Malati Sridharan, the learned Senior Departmental Representative as well as Shri Venkataraman, the learned Senior Advocate specifically submitted that no useful purpose would be achieved by restoring the matter back to the file of the Assessing Officer for fresh adjudication and for considering the additional evidences that are sought to be filed before the Bench. Both the parties wanted a decision to be taken on merits.

61. We have considered rival contentions. We have perused the papers on record, the case laws cited and those documents which were referred to from the paper book. On a careful consideration of the facts and circumstances of the case we hold as under:

(i) The first issue that we seek to address is as to whether the requirements of section 92C(3) have been fulfilled in this case. Section 92C(3) reads as follows:

"92C(3) Computation of arm's length price.—Where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the basis of material or information or document in his possession, of the opinion that—

(a) the price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or
(b) any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in sub-section (1) of section 92D and the rules made in this behalf; or
(c) the information or data used in computation of the arm's length price is not reliable or correct; or
(d) the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued under sub-section (3) of section 92D.

The Assessing Officer may proceed to determine the arm's length price in relation to the said international transaction in accordance with sub-sections (1) and (2), on the basis of such material or information or document available with him:

Provided that an opportunity shall be given by the Assessing Officer by serving a notice calling upon the assessee to show cause, on a date and time to be specified in the notice, why the arm's length price should not be so determined on the basis of material or information or document in the possession of the Assessing Officer."

The main thrust of the revenue's argument is that -

(a) The assessee has failed to maintain and produce the documents as required by law;
(b) The assessee failed to discharge the onus cast upon it to determine the arm's length price in accordance with the most appropriate method.

62. In that context, first we examine as to whether the revenue authorities were right in holding that the assessee has failed to maintain proper documentation in accordance with law. In the order dated 9-1-2006, the TPO held that the assessee failed to maintain and furnish information as required by section 92D read with rule 10D(1)(f), 10D(1)(i), 10D(1)( k), 10D(1)(l) and 10D(1)(m) and also on the ground that the assessee has not furnished documentation, on the methodology under which the AE and the assessee have arrived at the purchase price of the APIs in question. During the course of arguments, the learned Departmental Representative improved on these findings of the Assessing Officer and sought to raise some more issues of documentation, which we will be deciding in the later part of this order.

63. Rule 10D specifies the information on documentation to be kept and maintained under section 92D. It is mandatory for every person, who has entered into an international transaction to keep and maintain such information and documents as may be prescribed and the Assessing Officer may require such person to furnish any such information or documentation within a particular period of time.

64. We now consider each of the specified documentation which the revenue alleges that the assessee has not maintained.

64.1 We first consider rule 10D(1)(f), which reads as follows:

"(f) a record of the economic and market analyses, forecasts, budgets or any other financial estimates prepared by the assessee for the business as a whole and for each division or product separately, which may have a bearing on the international transactions entered into by the assessee."

The assessee's case is that it has never prepared the abovesaid records. When no such analysis or estimates or forecasts or budgets are prepared by the assessee for its business, non-furnishing of such non-existing record, in our humble opinion, cannot lead to a conclusion that the assessee has not furnished the information and documents prescribed under rule 10D(1)(f). If at all the assessee had prepared such estimates for the business as a whole, the same should be furnished, that too, if such records have a bearing on the international transaction. In case no such estimate is prepared, in our humble opinion, the same need not be furnished. The maintenance of these records, in our opinion, is procedural and non-maintenance of the same is not such that it would affect the determination of ALP. Similarly clauses (k), (l) and (m) to rule 10D(1) read as follows:

"(k) the assumptions, policies and price negotiations, if any, which have critically affected the determination of the arm's length price.

(l) details of the adjustments, if any, made to transfer prices to align them with arm's length prices determined under these rules and consequent adjustment made to the total income for tax purposes;

(m) any other information, data or document, including information or data relating to the associated enterprise, which may be relevant for determination of the arm's length price." [Emphasis supplied]

65. The situation that arise in clauses (k) and ( l), by the very wording "if any" suggest that, the documents may be furnished if they are in existence. In cases where no such documentation exists, these clauses do not come into play. Coming to clause (m), it is an omnibus provision and it gives an option to the assessee to furnish any other information or data which, would be relevant for determining the arm's length price. Thus, non-maintenance or non-furnishing of these individual items pointed out by the revenue does not negate the claim of the assessee that it had maintained the information and documents statutorily required under rule 10D(1) read with section 92D of the Act. In our humble opinion, the revenue should positively look on the vast data and documentation maintained by the assessee and not only pick up some defects here and there as an excuse to reject the documentation. The sum and substance has to be seen and substantive compliance should be a criteria. Therefore, in our humble opinion, the test should be, as to whether the non-maintenance or deficiency in the maintenance of some records fundamentally effects or distorts the computation of the ALP. If it does not make a material different to the process, then the defects are not fatal. Thus, this finding of the revenue authorities that non-furnishing of the abovesaid information is fatal to the Transfer Pricing Analysis for determining ALP is not correct. This is a case where the assessee has substantially complied with the law of maintenance of records.

66. The next issue is that the assessee has not furnished the documentation or particulars of negotiations between the AE and the assessee. A close look at rule 10D(1)(a) reveals that price negotiations, if any, which have critically affected the determination of arm's length price has to be maintained as an information and document under the rule, if at all such documents are available. As we have interpreted the term "if any", the assessee would not be required to furnish the said information if the same is not within its possession or if such price negotiations did not exist. The Managing Director has indicated to some discussion on the issue with the A.E. in his statement but no documents were produced before the TPO. Such correspondence or minutes of the meeting should have been produced by the company, if the same are in existence.

67. The learned Senior Departmental Representative also stated that rule 10D(1)(d) is also violated. This rule refers to the nature and terms including the price of the international transaction along with the details of properties transferred or service provided. The assessee has given the quantity and qualitative details of the product and we do not see how the revenue can allege that this information and documentation has not been maintained. The revenue, seeks to pin the assessee, against its argument, that being the originator of the drug and its research and development profile, the cost factors, the intangibles such as R&D costs, result in its products being of higher standard and of higher cost. This has nothing to do with the type of information to be furnished under clause (d). Similarly the allegations that clause (g), clause (h) and clause (j) are not complied with, in our considered opinion, is devoid of merit. The assessee has adopted TNMM. The question of maintaining a record of uncontrolled transactions for analyzing the comparability under the CUP method arises only if the assessee finds comparables for Bench marking. Thus, in our considered opinion, the TPO was not justified in invoking clause (b) to sub-section (3) of section 92C as the assessee has kept and maintained the documents specified under section 92D(1), which, in our opinion, substantially complies with the law.

68. We now consider the second limb of invoking provisions of section 92C, i.e., the adoption of TNMM by the assessee. The assessee has adopted the TNMM by comparing the overall operating profits of the assessee company with the overall operating profits of certain other organizations or companies which were the comparable companies selected by it, from out of data available in the public domain, by using the software 'Prowess' and adopting various filters for elimination of uncomparables as listed out by it. The assessee classifies itself as a licensed manufacturer and thus having lesser risks. While so the learned Senior Departmental Representative is right in pointing out that the comparables selected by the assessee are not of licensed manufacturers of the similar commodity. The TNMM compares net margins of uncontrolled transactions between independent entities, with those achieved in controlled transactions between related parties. The Tribunal in the case of Aztec Software & Technology Services Ltd. (supra) on page 238 observed as follows:

"The TNMM requires establishing comparability at a broad functional level. It requires comparison between net margins derived from the operation of the uncontrolled parties and net margin derived by an associated enterprise on similar operations.

Under this method, the net profit margin realized by an associated enterprise from an international transaction is computed in relation to a particular factor such as costs incurred, sales, assets utilized, etc. The net profit margin realized by an associated enterprise is compared with net profit margin of the uncontrolled transactions to arrive at the ALP. The TNMM is similar to RPM and CPM to the extent that it involves comparison of margin earned in a controlled situation with margins earned from comparable uncontrolled situation. The only difference is that, in the RPM and CPM methods, comparison is of margins of gross profits and whereas in TNMM the comparison is on margins of net profit.

TNMM requires comparison between net margins derived from the operations of the uncontrolled parties and net margins derived by an associated enterprise from similar operations. Net margin is indicated by the rate of return on sales or cost of operating assets, and this forms the basis for TNMM. A functional analysis of the tested party or the independent enterprise, as the case may be, is required to determine whether the transactions are comparable and the adjustments that are required to be made to obtain reliable results. The tested party would have to consider other factors, like cost of assets of comparable companies, etc., while applying the return on assets measure. Ordinarily, the tested party, has to be the party provided services because it is on the basis of rate of return on sales or cost or operating assets that transactional margin is computed. These parameters generally available in the case of a party providing services."

69. Under the Transfer Pricing Regulations the following steps are to be taken to determine the TNMM :

Step 1 : The net profit margin realized by an enterprise from an international transaction entered into with an AE is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base.

Step 2 : The net profit margin realized by the enterprise or by an unrelated enterprise, form a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base.

Step 3 : The net profit margin referred to in step 1 arising in comparable uncontrolled transactions is adjusted taking into account the differences, if any, between the international transaction and the comparable uncontrolled transaction or between the enterprise entering into such transactions, which would materially affect the amount of net profit margin in the open market.

Step 4 : The net profit margin realized by the enterprise and referred to in step 1 is established to be the same as the net profit margin referred in step 3.

Step 5 : The net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the international transaction.

70. Section 92C(1) refers to arm's length price in relation to an international transaction. Rule 10B(1)(e) read with section 92C deals with TNMM, and it refers to only net profit margin realized by an enterprise from an international transaction or a class of such transaction, but not operational margins of enterprises as a whole. Paragraph 3.26 of Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations issued by OECD reads as follows :

"3.26 The transactional net margin method examines the net profit margin relative to an appropriate base (e.g., costs, sales, assets) that a taxpayer realizes from a controlled transaction (or transactions that are appropriate to aggregate under the principles of Chapter I). Thus, a transactional net margin method operates in a manner similar to the cost plus and resale price methods. This similarity means that in order to be applied reliably, the transactional net margin method must be applied in a manner consistent with the manner in which the resale price or cost plus method is applied. This means in particular that the net margin of the taxpayer from the controlled transaction (or transactions that are appropriate to aggregate under the principles of Chapter I) should ideally be established by reference to the net margin that the same taxpayer earns in comparable uncontrolled transactions. Where this is not possible, the net margin that would have been earned in comparable transactions by an independent enterprise may serve as a guide. A functional analysis of the associated enterprise and, in the latter case, the independent enterprise is required to determine whether the transactions are comparable and what adjustments may be necessary to obtain reliable results. Further, the other requirements for comparability, and in particular those of paragraphs 3.34 to 3.40, must be applied."

71. Paragraph 3.42 of Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations issued by OECD reads as follows :

"3.42 An analysis under the transactional net margin method should consider only the profits of the associated enterprise that are attributable to particular controlled transactions. Therefore, it would be inappropriate to apply the transactional net margin method on a company-wide basis if the company engages in a variety of different controlled transactions that cannot be appropriately compared on an aggregate basis with those of an independent enterprise. Similarly, when analyzing the transactions between the independent enterprises to the extent they are needed, profits attributable to transactions that are not similar to the controlled transactions under examination should be excluded from the comparison. Finally, when profit margins of an independent enterprise are used, the profits attributable to the transactions of the independent enterprise must not be distorted by controlled transactions of that enterprise."

71A. The arguments of Shri Rajan Vora that entity level comparison is permitted both by the OECD commentary as well as by the commentaries by eminent authors like Robert T. Cole, J. Harold Mc Lure and others, in our considered opinion is not correct. In the book "Transfer Pricing Note Book Third Edition Robert T. Cole at Chapter XXV what is said is that the regulator should also note that segmentation of transaction does not always lead to more reliable results and that the combined effect of two or more separate transactions may be considered, if such transactions are taken as a whole and are so inter-related with consideration of multiple transactions, is the most reliable means of determining the arm's length consideration of the transactions. At paragraph 25.4 the learned author states that OECD guidelines may also require some segmentation of the inter- company transactions. The issue whether further disaggregation is required, depends on practical issues. Such comments cannot be interpreted as permitting entity level comparison. Similarly, Taxman's book on "Law of Transfer Pricing" by D.P. Mittal, Second Edition paragraph 7.9 has been cited and the book "US Transfer Price" by Robert T. Cole paragraph 2.06 was relied upon by Shri Rajan Vora. On a perusal of all these material we find that none of them suggests entity level comparison. Reliance was also placed on paragraph 1.20 of "Transfer Pricing Guidelines" of OECD. From a perusal of this paragraph it is clear that they are applicable to all methods, that may be adopted for arriving at the arm's length price. The learned counsel for the assessee cannot restrict para 1.20 to the method of transactional net margin. Thus, this argument cannot be accepted. Coming to the decision relied upon by the assessee in the case of Philips Software Centre (P.) Ltd. v. Asstt. CIT [2008] 26 SOT 226 (Bang.) , the Bangalore Bench of the Tribunal was considering a case wherein the assessee's business was only software development. So the comparable of another assessee also only in software development was considered sufficient. This was a case of aggregation of similar transactions and where the assessee had no other transactions. In our case, 50 per cent of the assessee's production is from APIs imported from the AE and whereas the balance is production from APIs which are not imported from AE. There is also trading activity. Thus, we are unable to accept the contentions of Shri Rajan Vora.

71B. We are surprised that the assessee does not want to come out with information or documentation to demonstrate that a transaction or a class of transaction can be evaluated for the purpose of comparison. Though the assessee is a 100 per cent subsidiary of UCB S.A., Belgium, the parent company does not seem to be interested in giving proper support to the subsidiary company by way of furnishing data on comparables. After the lapse of so many years, we do not know what were the reasons that prevented the parent company from sharing the data on uncontrolled transactions entered into by it for the very same ingredients. Such a data would have gone a long way in concluding the issue. Only it was at the time of hearing that photocopies of some comparable uncontrolled transactions, as made available by the parent company was sought to be filed. If the parent company does not want to come to the rescue of its subsidiary by furnishing authentic data, then it cannot except the revenue authorities to come to conclude in favour of the subsidiary. Shri Vora also argues that there is no statutory requirement to maintain quantitative details so as to arrive at the net margin on a transaction. This is a fallacious argument. The assessee cannot justify its inability to evaluate a transaction or a class of transaction on stand alone basis, on the ground that there is no statutory requirement to maintain segmental data. Irrespective of the fact whether there is a requirement or not, if the assessee wants to adopt a particular method to demonstrate that the international transaction in question is at arm's length, then it is its duty to maintain and furnish the required data. When the burden of proving that a particular method is the most appropriate method is initially on the assessee, it is for the assessee to demonstrate the same by furnishing adequate records and data, irrespective of the fact whether they are statutory required or not. Thus, we are unable to accept the contentions of the assessee.

72. From the above, it is clear that the net margins on the transaction is the basis of comparison. Only in cases where profits of an enterprise are attributable to similar transactions and when an enterprise does not have any other transaction or activity which is not similar, and which distorts the profits, then probably the net margin derived by an enterprise may also be the net margin of a transaction. In other words, when in an enterprise, only similar transactions are undertaken, i.e., all the transactions are of the same type, same class and of similar variety, and the enterprise does not have any other transaction which is not similar, in such a situation, the operating margins of the enterprise would be the TNMM of a class of transaction.

73. In the case on hand, the net profit margin of the international transaction or transactions of the same class which could have been aggregated, has not been arrived at by the assessee. The assessee manufactures many other drugs than the two i.e., piracetam and nutropil. It has also trading activity. In the comparables that have been narrowed down in its Transfer Pricing Report, the assessee has taken the aggregate net operating profit margins of multiple activities of an organization as a whole. Net profit margins reflect manufacturing of different types of drugs, patented, licensed, etc. as well as trading activity in the case of the assessee. In the case of the comparables narrowed down and arrived at by the assessee the functional comparison has to be established. It has to be demonstrated that these companies have similar ratio of manufacturing activity as compared to trading activity. Product mix is to be seen. FAR analysis has to be demonstrated. It is to be seen if these enterprises also manufacture licensed and patented drugs and if so what is their percentage to total productivity. As operational profit of one entity is compared with the other, in our considered opinion, such comparison is not in accordance with law. Thus, the manner in which the Transfer Pricing analysis is done by the assessee under TNMM is, in our considered opinion, on the facts of the case, is not correct. Hence, the Assessing Officer is right in invoking provisions of section 92C(3)(a) of the Act and proceeding to determine the arm's length price in relation to the international transaction.

74. The assessee in its analysis of transfer price arrangement with UCB group has narrowed down on 36 comparable companies which are at pages 53 and 54 of its report (pages 398 and 399 of the assessee's paper book). Further, in the conclusions, it clearly states that UCB India, as a licensed manufacturer is exposed to less than normal risks. It also states that UCB India does not own any intangible property rights or leverages. It is not demonstrated as to how, in all these comparables, that are identified, the criteria of also being (a) licensed manufacturers; and (b) those which do not own any intangible property or rights is met. The company now claims that 80 per cent of its activity is manufacturing. It is to be seen that a similar percentage of activity of manufacturing exists in other companies.

75. In our understanding, the international transaction or an aggregate of similar international transactions, have to be evaluated, on a stand alone basis and then compared with similar analysis undertaken on independent transactions. Comparison of the operating profits of the assessee-company as a whole, with the overall operating profits of certain other companies, without any adjustments, in our considered opinion, would not satisfy the requirements of evaluating an international transaction under TNMM, for the purpose of arriving at the arm's length price. In this case, the assessee has taken all the activities of the company as one unit and on an analysis of its profit & loss account, arrived at an overall operating profit margin of 27 per cent. This is compared with the chart of overall operating profit margins of identified comparable companies, which is summarized in Table 5 of the report. No adjustments or segregations have been made between turnovers involving licensed manufacturing, patented drugs, trading and other revenues. No exercise has been done to iron out the variations by making suitable adjustments. In other words, what the assessee has tried to do is to compare the overall operating profit of one entity, with the overall operating margins of the assessee and as the operating margin of the assessee is higher, it asserts that all its international transactions done with its AE are at arm's length price. This cannot be accepted. Thus, as already stated we agree with the revenue that provisions of section 92C(3) are attracted in the instant case on this ground. As we have decided this issue in favour of the revenue on this ground, we do not feel it necessary to go into other arguments of the revenue. Once the method adopted by the assessee is rejected, the revenue is duty bound to compute the ALP by adopting a most appropriate method and it has also to substantiate and justify the use of such a method.

75A. Now we consider the method applied by the revenue. The first argument of revenue is that CUP method is a direct method and it only should be applied. The law provides for five alternative methods and the assessee or the revenue should examine as to which method is the most appropriate method and decide accordingly. Though CUP is a direct method, it cannot be applied in all situations. Much depends on the availability of data on comparables. Just because it is the only direct method, it does not automatically become the most appropriate method. In the case on hand, the Assessing Officer had identified three entities which have purchased similar APIs from different sources. The three entities are - Torrent, Micro Labs and Dabur. The comparison of the quantities and rates are as below :

Assessment year 2002-03

Assessment year 2003-04

76. The operating margins of Torrent Pharmaceuticals Ltd. as calculated by the assessee is as follows :

From the above it can be seen that other income is also considered while arriving at the operational profits. Trading margins are not segregated.

77. The details of the market share of the products as compiled by the assessee is as follows :

This table shows that in the case of piracetam, UCB India has 60 per cent share and the rest of the industry has almost 40 per cent share. In the case of Mistabron, UCB India has almost a monopoly with 97 per cent.

78. The revenue has applied CUP method and determined the arm's length price, on the ground that API, are comparable products, which are subject to quality regulations and when certain organizations purchase the very same product at a particular rate, for producing the similar 'FPS', they are comparable transactions which are uncontrolled and the price at which these are traded have to be compared with the prices the AE charged to the assessee-company in this case.

79. We now examine the CUP method. Comparable Uncontrolled Price method is the most direct method for determining arm's length price. Under this method, the price at which controlled transaction is carried out is compared to the price obtained in comparable uncontrolled transaction. An uncontrolled price is the price agreed between unconnected parties for the transfer of goods or services. The CUP can be either (a) internal CUP or (b) external CUP. In this case on hand, we are concerned with external CUP. The CUP method may be applicable in the following situations:

(a) The taxpayer or any other member of the group sells similar goods, in similar quantities and under similar terms to an independent enterprise in a similar market (an internal comparable).
(b) An independent enterprise sells the particular product in similar quantities and under similar terms to any other independent enterprise in a similar market (an external comparable).
(c) The taxpayer or another member of the group buys similar goods, in similar quantities and under similar terms from an independent enterprise in a similar market (an internal comparable).
(d) An independent enterprise buys similar goods in similar quantities and under similar terms from other independent enterprise in a similar market (an external comparable).

80. Under the CUP method the properties of a product and accompanying circumstances and conditions have to be evaluated for comparison. Even a minor change in the properties of the products, circumstances of trade (billing period, amount of credit therein, etc.) may have a significant effect on the price. Product comparability is absolutely key, in particular physical features such as size, weight, appearance along with volume, reliability/storage requirements, regulatory requirements, etc. Pricing of a product is a very subjective exercise and its true value, as received by the receiver, can differ from that received by others in the market place. Thus, CUP method requires a high degree of comparability along the following dimensions :

(i) Quality of the product or service;
(ii) Contractual terms (example, scope and terms of warranties provided, sale or purchase volumes, credit terms, transportation terms, etc.)
(iii) Level of market i.e., wholesale, retail, etc.
(iv) Geographical market in which the transaction takes place.
(v) Date of transaction
(vi) Intangible property associated with the sale
(vii) Foreign currency receipt
(viii) Alternatives realistically available with the buyer and the seller.

81. In OECD Transfer Pricing Guidelines at II-3 paragraphs 2.8 & 2.9 it is stated as follows :

"2.8 It may be difficult to find a transaction between independent enterprises that is similar enough to a controlled transaction such that no differences have a material effect on price. For example, a minor difference in the property transferred in the controlled and uncontrolled transactions could materially affect the price even though the nature of the business activities undertaken may be sufficiently similar to generate the same overall profit margin. When this is the case, some adjustments will be appropriate. As discussed below in paragraph 2.9, the extent and reliability of such adjustments will affect the relative reliability of the analysis under the CUP method.

2.9 In considering whether controlled and uncontrolled transactions are comparable, regard should be had to the effect on price of broader business functions other than just product comparability (i.e., factors relevant to determining comparability under Chapter I). Where differences exist between the controlled and uncontrolled transactions or between the enterprises undertaking those transactions, it may be difficult to determine reasonably accurate adjustments to eliminate the effect on price. The difficulties that arise in attempting to make reasonably accurate adjustments should not routinely preclude the possible application of the CUP method. Practical considerations dictate a more flexible approach to enable the CUP Method to be used and to be supplemented as necessary by other appropriate methods, all of which should be evaluated according to their relative accuracy. Every effort should be made to adjust the data so that it may be used appropriately in a CUP method. As for any method, the relative reliability of the CUP Method is affected by the degree of accuracy with which adjustments can be made to achieve comparability."

82. From the above it can be seen that, broader business functions, and not just the product comparability have to be consid- ered. It would also be necessary to come to a conclusion, with some scientific study or enquiry that the APIs imported by independent entities are same as the API imported by the assessee, as even a minor difference could materially affect the price. Just because there is an objective to ensure uniformity in stands of quality, efficacy and safety of pharmaceutical products as the fundamental responsibility of CDSZCO (see guidelines for Bioavailability and Bioequivalence studies issued by Ministry of Health & Family Welfare, Government of India), if it is fallacious on the part of the revenue to argue that, there are absolutely no differences in the products. If the quality, efficacy, safety, etc. are uniform and same for all products which fall within the ken of Drugs and Cosmetics Act, 1940, this objective would not have been one that is sought to be implemented. There should be a scientific basis to say that these APIs are identical, with the same purity, potency, and characteristics. APIs are unique compound making, and the effect of usage of a particular FDF using an API would depend on the composition, purity, method of usage, dosage used, side-effects. All such data should be first obtained by the revenue or the assessee, who wish to compare products and then arrive at the ALP or wish to make adjustments to a price, cost or margin.

83. In the case on hand, the assessee, on the one hand, is the subsidiary of a highly reputed company, which is the pioneer and inventor of many drugs including Nootropil and Mistabron. These drugs, were the result of exclusive research and they also enjoyed patent protection in certain countries for a certain period of time. On the other hand, the suppliers of the same APIs to the three other Indian companies, i.e., Torrent Pharmaceuticals; Micro Labs and Dabur, are not known. The revenue does not disclose the names and addresses of the supplier companies. The credentials, capabilities, research budgets, manpower, quality and quantity, size, standing, etc. of these supplier companies are not known. Reasonable inference drawn by both the parties is that the suppliers are some Chinese companies, the details of which the revenue is not disclosing to the assessee. Though the argument of the revenue that the law relating to drugs and cosmetics ensures uniformity in stands of quality, efficacy and safety of pharmaceutical products, the fact remains that the APIs produced and supplied by the originator, which is like a Branded Company Product, cannot be taken as identical or similar in all aspects, with the product supplied by a duplicator unknown Chinese company. No information is available in the public domain. It is common knowledge that Chinese goods are flooding international markets with a very low pricing. It is also true that the quality of these products is not rated by independent bodies to enable comparison in some cases. The assessee's repeated queries on the standards, processes, purity, barrels, etc. followed by those Chinese companies and many other details, data, information and parameters, could not be replied to or supplied by the revenue. What the TPO has done is to simply compare the purchase price of the particular product, with the purchase price of the assessee-company. No FAR analysis has been attempted on the Chinese companies supplying the goods. In fact it is not possible to do so because the information is not in the public domain nor has the revenue gathered the same from its own sources. The assessee is a large organization with R&D as a major thrust area and is a company with a proven track record, standards and practices. The suppliers of the same drugs, on expiry of patents in the absence of any data or information of the company or the product, cannot be taken as comparables. There is no data on the structure of the organization, functions performed, assets involved or risks assured and also the process, protocols followed are not known, particularly when a slight variation in the purity of the product affects the comparability. From the purchase price identified by revenue, it can be seen that the rate at which Micro Labs has purchased 875 kgs. is Rs. 667 per kg. in the case of Piracetam and whereas Torrent Pharmaceuticals has purchased 4500 kgs. of the same drug @ Rs. 326 per kg. There is huge variation in the purchase price of the same product by both the parties which are independent entities doing uncontrolled transactions. Time of purchase is not known. Thus, with such variation in prices, it is difficult to accept the revenue's contention that the product in question is the same and identical in all aspects including quality and efficacy. Under these circumstances in the absence of any data whatsoever on the supplier company/organisation, or on the products supplied by it, adoption of that price as a comparable, in our considered opinion, would not be most appropriate. Thus we do not agree with the revenue's contention that the comparables identified by it should be taken for the purpose of determination of arm's length price.

84. The undisputed fact is that the Associated Enterprise a global leader, which dominates the world market in these drugs relating to central nervous system disorders and respiratory system related disorders. We agree with the submissions of Shri Venkataraman that the products in question are not simply a common product but highly specialized and proven drug formulations connected with cure of respiratory disorders and central nervous system disorders. Such highly specialized drugs have been developed and patented by the assessee. It is another issue that the period of patent has expired. The assessee had furnished information regarding research and development, product and drug development cycle, the time and efforts spent along with the expenditure generally incurred by the assessee. It further submitted that 15 per cent of the annual turnover is spent on research and development activities by the group. The group employs 9000 people who include highly qualified scientists, etc. These claims have not been disputed by the revenue. The assessee also provided technical information on the products. The revenue has not found fault with the assessee for not submitting these details. When the product specifications, quality, efficacy, etc. are furnished by the assessee as far as these product is concerned, as rightly claimed by Shri Venkataraman, the revenue itself could have conducted a comparability test of these parameters with the products identified by it, particularly when it does not want to share the product specifications of the competitor companies with the assessee. We are also convinced with the argument of the assessee that the Associated Enterprise, being the originator of the molecules continues to remain the market leader and the assessee has brought enough evidence on record to demonstrate that there is sustained research and development on various products which is regularly undertaken by the assessee. The undisputed fact is that UCB group has international reputation which the local companies or Chinese companies do not match. The assessee has placed on record concrete evidence in the form of technical specifications, purity standards, level of research and development, and claims better efficacy, and on the other hand, the revenue has not brought out any information on these particular aspects for enabling comparability. The revenue could not even gather any technical literature on the comparable products identified by it. The revenue has not conducted any such exercise of comparing products nor has it examined the comparability of the companies supplying the same so as to bring out factors which would be helpful in determining comparability. The parameters such as purity standards, quantity of productions and sales, manufacturing practices employed, efficacy of the products, group profiles, research and development activity, clinical trials, technical literature on product quality, contractual terms of supply, etc. are not brought out by revenue so as to enable comparison by adopting CUP method. In the case of Aztec Software & Technology Services Ltd. (supra) the Special Bench of the Tribunal has specifically observed that a proper analysis of the transactions with respect to functions performed, assets employed and risk assumed (FAR Analysis) should be undertaken, as this has a direct bearing on the pricing of a product/services. This has not been done. In fact, no enquiry whatsoever has been done on the similarity between the APIs. General arguments have been made without any reference to specific material, data or evidence. Arm's length price cannot be determined on preponderance of probabilities or based on objectives sought to be achieved in an enactment or in a policy guideline of the Government. Documentation and data has to be made available and comparability demonstrated before an addition is made. The TPO should have taken the differences into account and examined whether these differences could be ironed out by way of making permissible adjustments for achieving comparability. The Delhi Bench of the Tribunal in the case of Mentor Graphics Noida (P.) Ltd. (supra) has specifically stated that Indian Transfer Pricing regulations have force of law and the tax authority cannot refuse to consider specific characteristics of transactions, functions performed and assets employed. When no such effort is made by the TPO, we have no other alternative but to hold that CUP is not the most appropriate method under the facts and circumstances of this case.

85. In the case of Aztec Software & Technology Services Ltd. (supra), at paragraph 127 it has been stated that the burden to establish that international transaction was carried out at arm's length price is on the taxpayer. Once the authorities are not satisfied with the assessee's determination of ALP, the responsibility for determination are shifted to the revenue authorities. Thus, in such situation, it is for the revenue authorities to demonstrate that the ALP arrived at by them is in accordance with the statutory regulations. At paragraph 132, the Special Bench held as follows :

"132. A dispassionate study of provisions of various countries on Burden of Proof, would show, the following fundamental features;

(i) That the burden to establish that the international transaction is carried at ALP, is on the taxpayer who is to disclose all the relevant information and documents relating to prices charged and profit earned with related and unrelated customer.
(ii) If the Assessing Officer has determined an ALP, other than price declared by the assessee, Assessing Officer has to prove that the price determined by him is reliable and reasonable and confirms the statutory requirement unless the case is covered by situation No. ( iii) below.
(iii) In case of failure on the part of the taxpayer to comply with the statutory provisions, the tax authorities would have to determine the ALP. In such a situation, burden of proof on tax authorities is much reduced."

86. Applying these propositions to the case of hand, we hold that the revenue has failed to discharge the onus placed on them that CUP is the most appropriate method and it has found the right comparable. Thus, for all these reasons the additions made by the revenue on this issue cannot be sustained.

87. As we have not approved the method followed by the revenue or the assessee, though both the parties have desired that we decide the issue of sustaining the addition or not, we deem it fit to set aside the issue to the file of the Assessing Officer for fresh adjudication in accordance with law, as we do not have the right information and data to decide the issue.

88. The assessee has sought to file additional documents in the form of Warning Letter issued to Northeast General Pharmaceutical Factory, No. 37, Zhonggong Bei Street, Tiexi District, Shenyang, Liaoning 1234 China, by United States Food & Drug Administration, Rockville, MD 20857 dated October 2, 2007 and October, 2007, to demonstrate that the companies, which supplied APIs to the three Indian entities, i.e., Torrent Pharmaceuticals, Micro Labs and Dabur are substandard companies which did not meet the required regulations. Similarly the assessee's counsel tried to file Photostat copies of invoices evidencing sale by the parent company to an Indonesian entity at Jakarta i.e., PT Darya Varia Laboratoria, Invoice No. 2710001883. These documents are not admitted as they were not filed before any of the authorities below nor was there any separate application made before us for admission of additional evidence. The Assessing Officer had no occasion to examine the veracity of these documents. As we have remanded the matter, determining the ALP by most appropriate method to the Assessing Officer, the additional evidences sought to be filed before the Bench, may be filed by the assessee before the Assessing Officer. In view of the peculiar situation, the assessee is permitted to file fresh Transfer Pricing Study report and also file fresh documents, and to adopt any methods to arrive at ALP, as a fresh exercise is to be done. In all fairness, the assessee should not be pinned down to his submissions in the first round of Transfer Pricing Proceedings. It should be appreciated that Transfer Pricing regulations are relatively new provisions and the case does require special consideration. The assessee is free to support his case in any manner it deems fit by filing any additional evidence or document before the Assessing Officer. Further information may be gathered from the parent company, if possible. Fresh methods may be adopted to prove ALP. Our intention is that, the assessee should not be shut out in the second round of proceedings, on the ground that, certain documents were not filed in the first round or certain method was not adopted originally. Similar facility is also given to the revenue. Instead of adopting a technical view, the issue may be adjudicated freshly on substantive basis on merits. The entire exercise may be done de novo by both the assessee as well as the revenue as this is a special case and Transfer Pricing regulations are newly introduced.

88A. In view of the above discussion we formulate our conclusions as follows :

(i) In our considered opinion, the assessee was in error in comparing the operational margin at entity level and terming it as 'Transaction Net Margin Method'. Adoption of such method is rejected;
(ii) On the facts and in the circumstances of the case, the adoption of CUP method by the revenue, cannot be considered as the most appropriate method as the same suffers from many deficiencies and infirmities and specifically lack of information and data on comparables;
(iii) Under these circumstances, we remand the issue to the file of the Assessing Officer for fresh adjudication in accordance with law after giving adequate opportunity to the assessee, with the following directions :

(a) The assessee shall be allowed to file a fresh transfer pricing study report and any other document or evidence, which he may seek to furnish, for the first time, in support of his report and the Assessing Officer shall take the same on record and examine the same.
(b) The assessee is free to adopt any method as prescribed by law, if it considers that method as the most appropriate method. TNMM may also be considered, if the transaction or a class of transaction are properly evaluated in accordance with law. In case external comparables are not available due to lack of data in public domain, the Assessing Officer may accept internal comparables including segmental data or internal TNMM.

88B. In short, a fresh exercise may be undertaken on this aspect by both the parties, unconstrained by technicalities and with an open mind, so as to arrive at the most appropriate method of evaluating the arm's length price.

89. We now discuss the other grounds of appeal. A common disallowance is made for the assessment years 2002-03 and 2003-04 which pertains to a disallowance of a percentage out of the total sales promotion expenses claimed by the assessee. During the assessment year 2002-03 the assessee claimed a sum of Rs. 3,93,15,069 as expenses in connection with sales promotion activity. Out of this, an amount of Rs. 44,48,975 pertained to purchase of various gift items for doctors. For the assessment year 2003-04 the figures were Rs. 4,43,19,844 being expenses connected with sales promotion activities and amount of Rs. 1,04,71,947 being sales promotional expenses pertaining to purchase of various gift items for doctors. The Assessing Officer described the expenses as that which is incurred towards purchase of various gift items such as, ball pens, towels and tissue foils, household appliances and watches. On a query the assessee explained that the company distributed its product through various medical representatives, who got in touch with large number of doctors, etc. for marketing and distributing the company products. It was submitted that the gift items are distributed through these medical representatives and the sales promotion expenses incurred were for the purpose of business to promote sales and has to be allowed. The undisputed fact was that all the gift articles bore the logo of the company and were useful for brand regulating. Samples of these gift articles were produced before the Assessing Officer. The Assessing Officer directed the assessee to submit details of recipients of gift articles. On the ground that non-business utilization of the same cannot be ruled out. 20 per cent of Rs. 44,48,975 was disallowed for the assessment year 2002-03 and 10 per cent of Rs. 1,04,71,947 was disallowed for the assessment year 2003-04 by the Assessing Officer. Aggrieved, the assessee carried the matter in appeal without success. Further aggrieved, the assessee is before us.

90. After considering rival submissions we observe that there is no dispute as to the allowability of this expenditure as business expenditure. Only the quantum is being restricted on ad hoc basis. In one year an ad hoc 20 per cent disallowance is made and in the other year an ad hoc 10 per cent of the disallowance is made. The primary reason for making such disallowance is that the assessee has not furnished details of recipients of the gift articles. The Assessing Officer presumes that, there might be an element of non-business use. The assessee explains that it distributes its product through various medical representatives, who inter alia get in touch with a very large number of doctors, etc. who are contacted for improving the marketing and distribution of the assessee's products. He states that the total list of doctors, who received the gifts are extremely voluminous and hence cannot be attached. A list of representatives was furnished to the CIT(A). He also submits that the CIT(A) was wrong in stating that there is no procedure or system in place to monitor, control, supervise, guide or even to veto the distribution of samples. The assessee submits that it is an internal procedure of approval and a copy of the same is attached as Annexure II. Thus submissions of the assessee on facts are not controverted by the revenue. There is an internal control procedure in place. On this factual matrix we are of the considered opinion that the ad hoc disallowance is not based on firm legal ground. There is no dispute that the expenditure incurred on gifts was for the purpose of business. The gifts display the logo of the assessee-company. To assume that 20 per cent or 10 per cent of these gifts might have not been used for the purpose of business, in our considered opinion, is based on mere surmises and presumptions. It is well-settled that no addition can be made merely on the basis of such presumptions and assumptions. Thus, the ad hoc disallowance is hereby deleted for both the assessments.

91. The next ground is on the issue whether on the bank interest in question, on the facts and circumstances of the case, is assessable under the head "Business income". The undisputed fact is that the assessee has earned interest on excess operating cash balance in the current account under the interest bearing account facilities provided by the bank. The excess operating cash in current account, is not in the nature of investment of surplus funds in fixed deposit. It is not surplus money kept apart with the sole intention of earning interest. It is a circulating capital/fund which is used for day-to-day business operations. On these facts and circumstances we are of the considered opinion that the interest earned on such current account is assessable under the head "Profits and gains of business or profession". The assessee has rightly relied upon the decision of the jurisdictional High Court in the case of CIT v. Indo Swiss Jewels Ltd. [2006] 284 ITR 389 (Bom.) , where interest earned on short-term deposits of surplus money kept apart for the purpose of payment towards purchase of machinery has been treated as income earned on business.

92. Once it is held that the interest in question is to be assessed as income from business, 90 per cent of the net interest has to be excluded while computing quantum of exemption under section 80HHC. On the issue whether net of interest or gross interest has to be eliminated under clause (baa) of Explanation below section 80HHC we follow the decision of the Special Bench of the Tribunal in the case of Lalsons Enterprises v. Dy. CIT [2004] 89 ITD 25 (Delhi) as well as the decision in the case of CIT v. Shriram Honda Power Equipment [2007] 289 ITR 475 (Delhi) and direct the Assessing Officer to eliminate only net of interest. Thus, this ground of the assessee is allowed.

93. The next ground that arise in the appeal for assessment year 2003-04 is on the inclusion of sales tax and excise duty on total turnover for the purpose of calculation of relief under section 80HHC. This issue is covered in favour of the assessee and against the revenue by the decision of the Hon'ble Supreme Court in the case of CIT v. Laxmi Machines Works [2007] 290 ITR 667 . Respectfully following the same we allow this ground of the assessee.

94. In the result, appeals for both the assessment years are allowed in part.