IT/ILT: On sale of shareholding of a company, non-compete fees was to be paid

to assessee-company which was controlling business of company over years;

same was to be calculated adopting internal CUP method
IT/ILT: Where assessee sold controlling interest in a company, addition on
account of control premium was to be made adopting CUP method ; SEBI rate
does not in any way state that price negotiated by assessee with buyer is at
arm's length price

■■■

[2013] 36 taxmann.com 350 (Mumbai - Trib.)

IN THE ITAT MUMBAI BENCH 'K'
Lanxess India (P.) Ltd.
v.
Additional Commissioner of Income-tax, Range-1, 21 Thane*
RAJENDRA SINGH, ACCOUNTANT MEMBER
AND AMIT SHUKLA, JUDICIAL MEMBER
IT APPEAL NO. 7202 (MUM.) OF 2012
[ASSESSMENT YEAR 2008-09]
AUGUST 28, 2013

I. Section 92C, read with section 28(va), of the Income-tax Act, 1961 and rule 10B of the
Income-tax Rules, 1962 - Transfer pricing - Computation of arm’s length price
[Comparables and Adjustments] - Assessment year 2008-09 - Shares in Indian company
held by assessee and one RP group belonging to 'R', were sold to a foreign joint
venture of holding foreign company of assessee - Both RP Group and assessee signed
non-compete agreement for three years - Assessee had controlling stake in company
for last three years and, therefore, it had full knowledge, know-how, process and
working of business, which are necessary for setting up of new business - Further,
assessee was a part of a multinational group running several such companies world
wide and, therefore, was in a much better position than RA group for setting up a new
business - Whether assessee should have been paid non-compete fees and there was
no infirmity in order of authorities below estimating non-compete fees at same rate as
paid in case of RA group invoking rule 10B(1)(a) - Held, yes [Para 4.12] [In favour of
revenue]
II. Section 92C of the Income-tax Act, 1961, read with rule 10B of the Income-tax Rules,
1962 - Transfer pricing - Computation of arm’s length price [CUP method] - Assessment
year 2008-09 - Assessee's controlling shareholding of 50.97 per cent in an Indian
company was transferred to a foreign joint venture in which assessee's holding US
company was a partner - Even though assessee transferred controlling interest, it was
not paid any control premium - While assessee was paid Rs. 196.36 per share, other
group holding only 18.33 per cent shares was paid Rs. 201 per share - Report of Phillip
Sounders stated that mean average premium varied from 30 to 50 per cent of public
quoted price, which in instant case was found to be Rs. 201 - Whether control premium
does not depend upon fact whether assessee was selling business or that business
was not doing well; payment of control premium largely depends upon potential buyer
believing that he or she could enhance value of company - Held, yes - Whether charging
SEBI rate would not be determinative, as SEBI rate is only a formula to safeguard
interest of general share holders; it does not in any way state that price negotiated by
assessee with buyer is at arm's length price - Held, yes - Whether control premium
estimated by TPO at rate of 25 per cent of share price adopting CUP method would be
proper - Held, yes [Para 5.9] [In favour of revenue]
FACTS-I

■ The assessee held 50.97 per cent share holding in Lanxess ABS in which RA Group
headed by one 'R' held 18.33 per cent shares. The assessee along with RA Group
transferred their entire shareholding in Lanxess ABS to INEOS ABS (New Jersey)
Ltd. a joint venture between Lanxess Group and INEOS Group in which the holding
company of the assessee-company i.e. Lanxess Deutschland GmbH held 49 per cent
shareholding and balance 51 per cent was held by INEOS group. Both the assessee
and the RA Group had signed non-compete agreement with the joint venture
company for non-competing in business with the said company for a period of three
years. RA Group had been paid non-compete fees at the rate of 25 per cent of share
value at Rs. 165632565. The assessee, however, had not been paid any such
non-compete fees.
■ The Assessing Officer/TPO treated the payment of non-compete fees to RA Group as
an internal comparable uncontrolled price (CUP) for the purpose of comparison and
made adjustment at the rate of 25 per cent of share value as non-compete fees in case
of the assessee as 25 per cent of share value was paid to RP Group as non-compete
fees.
■ The assessee filed objections before the DRP against the order of TPO. The assessee
submitted before DRP that the 'R' had been paid non-compete fees as it was involved
in day-to-day management of the company and had significant know-how about the
company and its business relationships. It was also submitted that the assessee was
only a strategic investor and was not involved in day-to-day running of the company
and, therefore, after it exited the company, it did not have the capacity to start a
similar new business. Moreover, it was also submitted that the assessee wanted to
exit the company and, therefore there was no question of competing in the said
business. It was also argued that 'R' and others had been associated with the company
for a long time and had significantly built the company over the years.
■ DRP, however, did not accept the contentions raised. The DRP observed that the
assessee being a corporate entity who had controlling stake in the company was
likely to have more resources and the capabilities than 'R' to compete in the business
with the acquirer. The assessee who was controlling the company for about three
years had more extensive involvement and must have developed its own capabilities
to provide competition in the field. DRP, therefore, rejected the case of the assessee
and upheld the adjustment made by TPO on account of controlling stake.
■ On appeal:
HELD-I

Introduction
■ Non-compete fees is paid by a party which is acquiring business for signing the
 non-compete agreement so as to not compete with the business acquired for a certain
period. Such payments are made to persons who have complete and extensive
knowledge of business process, technology and working of the company and have
the resources to compete with the business of the acquirer by setting up similar new
businesses or in any other way. 'R' had no doubt promoted the business and had been
MD of the company for several years and had full day-to-day knowledge and the
working of the company and also about business know-how and relationships.
However for setting up of a new business number of years spent on running the
company is not the only factor to be considered. What is required for setting up of a
new business is that the person, should not only be knowing the business process and
know-how and technology used in the business, but he should also have resources to
set up similar business. The assessee had controlling stake in the company for three
years and, therefore, it had full access to knowledge, know-how, process and
working of the business, which are necessary for setting up of a new business.
Secondly the assessee is a part of a multinational Group running several such
companies worldwide and, therefore, it is in a much better position than the RA
Group for setting up of a new business. If experience was the only relevant factor for
setting up of a business, 'R' could have set up such new company in the past which
he had not been able to do and remained MD throughout even though the ownership
of the company changed from time to time. If knowledge and experience are the
requirements for payment of non-compete fees, then a General Manager of the
company who was more intimately connected with day-to-day knowledge of
business process and its working should also have been paid non-compete fees.
Moreover, the revenue has rightly pointed out that investment companies holding
shares which are part of RA Group and who are not involved in the day-to-day
management of business, have also been paid non-compete fees. Therefore, it has
been rightly argued by the revenue that the assessee who had signed similar
non-compete agreement for three years could not be denied payment of such
non-compete fees. [Para 4.8]
Whether case of the assessee is different and non-comparable to the case of the RA Group and hence,
rule 10B(1)(a) was not applicable
■ Rule 10B(1)(a)(ii) provides that while applying CUP method, adjustments are
required to be made in respect of differences if any between the international
transaction and the comparable uncontrolled transaction or between the enterprises
entering into such transaction which could materially affect the price in the open
market. In this case both the assessee and RA Group had the transactions with the
same joint venture who had purchased the business. There is no difference in the
transaction which is non-compete fees in both the cases. In so far as the difference
between the assessee and RA Group is concerned, the differences pointed out by the
assessee have been noted earlier and these differences have to be evaluated from the
point of view of capabilities of the two parties for competing in the business. As it
was held earlier the assessee had better capabilities for setting up a similar new
business to give competition to the buyer. Therefore, adjustment if any on this
account under rule 10B(1)(a)(ii) has only to be positive in favour of the assessee.
[Para 4.10]
Assessee's eligibility for non-compete fees
■ In this case, both the parties have signed non-compete agreement for three years and,
 therefore, the functions performed was the same. It does not require any employment
of asset for signing non-compete agreement and there is no risk involved in signing
of such agreement. The difference in knowledge and experience, resources etc.,
between the two parties, do not in any way adversely affect the payment of
non-compete fees to the assessee. It has also been argued that the assessee was
selling the business and, therefore, there was no question of competing in the
business. This argument is also devoid of any merit. The non-compete fees is paid
only to the seller of business so that in future he does not compete with the business
purchased by the buyer. However merely because the assessee was selling the
business today it does not mean that the assessee could not start the same business
again. In the present day business environment changes are taking place at a very
fast pace. What is considered not viable today may become viable after couple of
years later. The assessee was selling the business on the ground that it saw several
competition by addition of capacities in Asia which may change with time and the
assessee if situation develops in favour could start business again. [Para 4.11]
Conclusion
■ Considering the facts and circumstances of the case and the reasons given earlier,
there is no justification for non-payment of non-compete fees to the assessee.
Therefore, there is no infirmity in the order of authorities below estimating the
non-compete fees at the same rate as paid in case of RA Group. The order of
Assessing Officer is, therefore, upheld. [Para 4.12]
FACTS-II

■ The assessee held 50.97 per cent shareholding in Lanxess ABS in which RA Group
headed by one 'R' held 18.33 per cent shares. The assessee along with RA Group
transferred their entire shareholding in Lanxess ABS to INEOS ABS (New Jersey)
Ltd. a joint venture between Lanxess Group and INEOS Group in which the holding
company of the assessee-company i.e. Lanxess Deutschland GmbH held 49 per cent
shareholding and balance 51 per cent was held by INEOS group.
■ The assessee-company had transferred controlling shareholding of 50.97 per cent in
Lanxess ABS to the joint venture, but no payment was made for control premium.
■ The TPO held that adjustment on account of control premium was required at the rate
of 25 per cent of share value.
■ The assessee raised objections before the DRP against the adjustment proposed by
TPO/Assessing Officer. The assessee submitted that control premium is not a
compulsory requirement in respect of every sale of controlling stake and that it
depends on whole set of factors including the capability of the acquirer, the nature of
business, its future growth prospects and comparative position in the market. It was
pointed out that the assessee had been paid negotiated price of Rs. 196.36 per share
and RA Group had been paid Rs. 201 per share. It was pointed out that the payment
made to the general public was at the rate of 201 per share as per SEBI regulations
20(4). Therefore, the price paid to the assessee was at arm's length and there was no
question of making any adjustment.
■ DRP however did not accept the contentions raised. It was observed by him that RA
Group which was holding only 18.33 per cent shareholding had been paid at the rate
of Rs. 201 per share where the assessee had been paid at the rate of Rs. 196.36 per
 share. The assessee had divested the controlling stake and, therefore, it was required
to be paid control premium. DRP, therefore, upheld the control premium estimated
by TPO at the rate of 25 per cent of the share price which was added by the
Assessing Officer to the total income.
■ On assessee's in appeal before Tribunal:
HELD-II

■ Assessing Officer/TPO have impliedly used CUP method. They have referred to the
cases of Maruti etc., only to emphasize the point that substantial amounts are
required to be paid on account of control over the market price. In case of Maruti, the
Government had received Rs. 1000 crore only towards control premium. However
for estimating the control premium in case of the assessee with respect to other
unrelated parties the TPO has referred the Phillip Sounders Jr. PHD report who gave
a finding that mean average premium varied from 30 per cent to 50 per cent of the
public quoted price. Assessing Officer/TPO have, therefore, estimated the control
premium at 25 per cent of share price as the share price received by the assessee has
been considered as the price only towards sale of shares without taking into account
the control premium. Though Assessing Officer/TPO have not specifically
mentioned, they have indirectly compared to price of Rs. 201 per share paid to RA
Group who held only 18.83 per cent share which was not a controlling stake, which
is clear from the fact that control premium has been computed by them with respect
to the negotiated price. The RA group in our view is a good internal CUP as both the
assessee and RA Group have sold the shares of the same company and buyer was
also the same. Therefore the transaction is identical except the fact that the assessee
had sold the controlling stake. The provisions of rule 10B(3) makes it quite clear that
an uncontrolled transaction shall be comparable if reasonably accurate adjustment
can be made to eliminate the material affect of differences if any. Further under the
provisions of rule 10B(1)(a)(ii) the price charged to a comparable uncontrolled
transaction has to be adjusted on account of differences between the international
transaction and the comparable uncontrolled transaction or between enterprises
entering into such transactions if these differences materially affect the price in the
open market. In the present case the share transaction of the assessee is identical to
that of the uncontrolled transaction of RA Group the only difference is that the
assessee had sold the controlling stake. The share price will not depend upon
personal characteristics of the sellers and, therefore, no adjustment is required on
account of differences between the assessee and RA Group which sold the shares.
The only difference as pointed out earlier between the international transaction and
the transactions with RA Group is that the assessee had sold the controlling stake.
Therefore, the adjustment on account of controlling stake transferred by the assessee
is to be considered by estimating the price for the controlling stake. The report by
Phillip Sounders Jr. PHD which is based on research undertaken in respect of several
public quoted companies can be used as reliable material. As per the said report the
mean premium varied from 30 per cent to 50 per cent. Considering this the
adjustment of 25 per cent of the share value made by Assessing Officer/TPO on
account of controlling premium with respect to the share price charged in case of RA
Group which was an unrelated person, is quite justified. [Para 5.6]
■ The argument of the assessee that it was selling the business and, therefore, could not
expect control premium, had no merit. In fact it is only the seller who can demand
 control premium in case he or she is selling the control stake. The assessee in this
case was selling the business because of rising competition in the market as was clear
from the Lanxess global report referred to in this order earlier. Moreover the control
premium does not depend upon the fact whether the assessee was selling the business
or that the business was not doing well. The Article by Phillip Sounders Jr. PHD has
clearly mentioned that payment of control premium largely depends upon the
potential buyer believing that he or she could enhance the value of the company. It is
the potential for increasing the value that makes the buyers willing to pay the
premium for control. The CIT(DR) has placed before us the report dated 29-6-2007
taken from INEOS ABS site as per which the Chairman of INEOS had stated that the
joint venture with Lanxess provides INEOS strong market position in a new portfolio
of product that complemented their Styrenic, Polyethylene, Ploypropylene and PV
Plastic activities which was a good fit in their existing business. The report also
mentioned that Lustron Ploymers was currently the world's third largest and Europe's
leading supplier of ABS plastics with sales amounting to almost Euro 900 Million.
Thus it is the perception and the capacity of the buyer to make the value addition
decides the control premium. In this case the material placed before us as mentioned
above clearly shows that the buyer saw tremendous potential in purchasing the
business of the assessee and, therefore, there is a justification for substantial control
premium in this case. The Phillip Sounders Jr. PHD report showed that the mean
control premium varied from 30 per cent to 50 per cent of quoted price. Considering
the potential of the business transferred, the control premium should be towards the
upper end of about 50 per cent of the quoted price. But in this case, since control
premium has been estimated with respect to the negotiated price which was higher
than the public quoted price, the estimation at the rate of 25 per cent of negotiated
price in case of RA Group is considered reasonable. The argument that Phillip
Sounders Jr. PHD report related to only public quoted companies is also not relevant
as the premium is linked to the potential for making the value addition to the
company by the buyer and not upon whether the company is public quoted or not.
The research had been made in cases of public quoted companies as data in such
cases is easily available. [Para 5.8]
■ The assessee has also argued that the general public shareholders had also been paid
at the rate of Rs. 201 per share as per SEBI regulation No. 20(4). It has also been
submitted that while judging the comparability of transaction, Government laws and
orders inforce have also to be taken into account. The SEBI regulations do not
regulate the price to be negotiated between the buyer and seller of shares. It only
provides that in case of transfer of stake exceeding 15 per cent of shareholding, the
general public is also required to be offered to the extent of 20 per cent of
shareholding which has to be the highest of the four factors i.e. negotiated price; the
share price paid by the acquirer for any acquisition during the 26 week period prior
to the date of public announcement; the average daily high and low on the stock
exchange during the 26 week period preceding the date of public announcement; and
average daily high and low of the share price on the stock exchange during the two
week period preceding the date of public announcement. This is only a formula to
safeguard the interest of general shareholders. It does not in any way state that price
negotiated by the assessee with the buyer is at arm's length price. In fact the general
shareholders would have got more price had the negotiated price also included the
control premium. Therefore, the argument based on SEBI regulation is devoid of any
merit. [Para 5.8]
 ■ In view of the foregoing discussion and for the reasons given earlier, there is no
infirmity in the order of Assessing Officer making adjustment on account of control
premium. The order of the Assessing Officer is, therefore, upheld. [Para 5.9]
CASES REFERRED TO

Thyssenkrupp Industries India (P.) Ltd. v. Asstt. CIT [2013] 55 SOT 497/[2012] 27 taxmann.com 334
(Mum.) (para 7.3) and Tara Jewels Exports (P.) Ltd. v. Asstt. CIT [2013] 31 taxmann.com 383 (Mum.)
(para 7.3).
Kanchan Kaushal, Aliajger and Dhanesh Batra for the Appellant. Ajeet Kumar Jain for the
Respondent.
ORDER

Rajendra Singh, Accountant Member - This appeal by the assessee is directed against the order dated
25.10.2012 of the Assessing Officer (AO) passed in pursuance of direction by the Disputes Resolution
Panel (DRP) dated 28.9.2012 issued u/s 144 C (5) of the Income Tax Act. The disputes raised by the
assessee in this appeal relate to transfer pricing (TP) adjustment on account of control premium and non
compete fees in relation to sale of shares to AE, on account of other transactions with AEs relating to
manufacturing segment, on account of sale of textile processing business (TCP) unit, and in relation to
addition made by AO on account of creditors, purchases and other expenses.
2. The facts in brief are that the assessee belongs to Lanxess Group which is engaged in the chemical
business globally. The assessee was manufacturing and trading in chemicals and chemicals ingredients
during the relevant year. The Lanxess group in the year 2006 took the decision for worldwide sale of
Lustron polymer business of the group. As a consequence, the assessee which held 50.97% shares of
lanxess ABS sold the shares to INEOS ABS (New Jercy) Ltd in which the holding company of the
assessee had 49% share holding. AO in the assessment Order made adjustment on account of control
premium and non compete fees in relation to the said sale of shares to the AE consequent to order
passed by TPO. The Lanxess group during the year had also sold the Textile Processing Chemical (TPC)
business globally to Tanatex group as a result of which different business entities of the laxness group
situated in different countries had been sold out to the said company. The consideration received had
been distributed in the ratio of net asset value of those units. TPO further noted that the payment for
capital reserve of Euro 53 Million and value of shares sale of Euro 26.9 Million received by the Sybron
Chemicals BV and the payment for IPR to Lanxess Deutschland GmbH had not been distributed and
adjustment of Rs. 9899128069/- was therefore made by the AO on the basis of order of TPO. Similarly
in relation to transactions with AE in respect of manufacturing segment adjustment had been made to the
total income by Rs. 80103961/-. The AO also made addition of Rs. 53521277/- on account of sundry
creditors, purchases and expenses u/s 69C of the Income Tax Act. All these additions made by AO have
been disputed before the Tribunal in this appeal.
3. We first take up the dispute relating to the sale of shares of the assessee held in Lanxess ABS. The
assessee held 50.97% share holding in the said company in which RA Group also held 18.33%.
Consequent to the decision of Lanxess Group to divest Lustron Polymer business globally, the assessee
sold the shares to INEOS ABS (New Jersey) Ltd. which is a joint venture of Lanxess Group and INEOS
Group. Lanxess Deutschland GmbH the holding company of the assessee held 49% share holding in
joint venture and the INEOS Group held 51%. The assessee was a subsidiary of Lanxess Deutschland
GmbH. The shares of the assessee had been transferred to the joint venture at the rate of Rs. 196 per
share whereas the payment made to Rakesh Agarwal (RA) Group was at the rate of Rs. 201 per share.
The R.A. group had also been paid non compete fees of Rs. 165632565/- at the rate of 25% of share
value wheareas the assessee who held 50.97 % share holding had not received any non compete fees.
The assessee had also not been paid any control premium though it had sold the controlling stake in the
company.
3.1 TPO, therefore asked the assessee to explain as to why TP adjustment should not be made in respect
of sale of shares on account of control premium and non compete fees. The assessee submitted that the
sale of shares had taken place between two Indian parties and, therefore it was not an international
transaction. TPO however did not accept the explanation given. It was observed by him that the shares
had been sold to JV in which the holding company of the assessee had 49% share holding and 51%
share held by INEOS group and therefore the transaction was covered by section 92F and was an
international transaction. The TPO also observed that assessee could not give any satisfactory
explanation as to why no payments had been received by the assessee company on account of control
premium and non compete fees. The TPO referred to the case of controlling stake transferred by the
Government in favour of Suzuki for a sum of Rs.1000 crore. The TPO also referred to the article by
Phillip Sounders Jr PHD in which various aspects of control premium had been discussed. It was
mentioned in the said paper that average median premium paid over the quoted price for acquisition of
controlling stake varied from 30% to 50%. The TPO, therefore, estimated the control premium at 25%
of share price which came to Rs. 49/- per share. The assessee had transferred 8963564 shares the value
of which .45 per share came to Rs.439214636/-. The TPO also held that adjustment was required on
account of non compete fees at the rate of 25% at which payment had been made to the RA Group,
which came to Rs.461327228/-. Thus the total adjustment recommended by the TPO on account of
control premium and non compete fees was Rs. 900541864/- which had been added by the AO to the
total income.
4. We now take up the issue of non-compete fees. The assessee filed objections before the DRP against
the order of TPO. The assessee submitted before DRP that the Rakesh Agarwal Group had been paid
non compete fees as it was involved in day to day management of the company and had significant
know how about the company and its business relationships. It was also submitted that the assessee was
only a strategic investor and was not involved in day to day running of the company and, therefore, after
it exited the company, it did not have the capacity to start a similar new business. Moreover, it was also
submitted that the assessee wanted to exit the company and, therefore there was no question of
competing in the said business. It was also argued that Shri Rakesh Agarwal and others had been
associated with the company for a long time and had significantly built the company over the years.
DRP however did not accept the contentions raised. It was observed by him that the assessee being a
corporate entity who had controlling stake in the company was likely to have more resources and the
capabilities than Rakesh Agarwal to compete in the business with acquirer. The assessee who was
controlling the company for about three years had more extensive involvement and must have developed
its own capabilities to provide competition in the field. DRP, therefore rejected the case of the assessee
and upheld the adjustment made by TPO on account of controlling stake, aggrieved by which the
assessee is in appeal before Tribunal.
4.1 Before us the learned AR for the assessee reiterated the submissions made before the lower
authorities that the assessee was only a strategic investor in the company i.e. Lanxess ABS. It was
pointed out that it was Rakesh Agarwal who had promoted the company in the year 1973 in the name of
ABS Plastic Ltd. The said Company had been taken by the Bayer Group in the year 1997. Lanxess
Group had taken the controlling stake in the company in the year 2004 from Bayer Group. During all
these years, Shri Rakesh Agarwal remained Managing Director of the company and remained MD even
after the exist of Lanxess Group in 2007. It was also submitted that Lanxess Group was not in this
business prior to 2004. The learned AR further submitted that Lanxess Group was exiting the business
and, therefore, there was no question of providing any competition in the field. He, referred to the
Lanxess Global report for the year 2007, a copy of which was placed at page 62 of the paperbook which
mentioned that the market situation of the business unit continued to be hampered by competitors
addition to capacities specially in Asia. The report also mentioned that search for partner for Lustron
Polymer business was successfully completed with INEOS ABS and the business was transferred in
September 2007 w.e.f 30th September 2007. The investment in JV was treated as financial investment
and was shown as current financial asset. The report further mentioned that it was agreed that INEOS
will take over the Lanxess's remaining interest in JV two years after its transfer. The report therefore
clearly showed that the Lanxess wanted to exit the business.
4.2 The ld. AR further argued that the TPO had impliedly used internal CUP method by bench marking
the transaction with non compete fees paid to RA Group which as pointed out earlier is not comparable
as Shri Rakesh Agarwal had long experience of day to day running of the company and also had
significant know how about the company. The learned AR also pointed out that the share holders of
Lanxess ABS had also filed complaint before SEBI regarding unreasonable payment of non compete
fees to RA Group. The SEBI, however, vide order dated 7.2.2008 passed by whole time Member Shri
T.C Nayar noted that Shri Rakesh Agarwal was a chemical engineer who had introduced engineering
Thermo Dynamics in India in the year 1976 and had run the company for several years. He had
extensive knowledge of market and the business of the company, the technological know how and about
suppliers and customers of the company. The whole time Member, therefore, held that the RA Group
was competent enough to given effective competition to the said company. It had been prohibited for
three years from competing with any business carried on by the said company directly or indirectly.
Therefore, payment of non compete fees at the rate of 24.88% of the offere price was reasonable. It was
thus argued that payment of non compete in case of RA Group had also been upheld by SEBI. The
assessee company on the other hand did not have extensive knowledge and experience about running of
the company so as to provide significant competition to the acquirer and, therefore, no non compete fees
was justified to the assessee company.
4.3 The learned CIT(DR) on the other hand strongly defended the orders of authorities below relating to
the adjustment on account of non compete fess. It was argued that the assessee had control over the
company for three years from 2004 to 2007 and at the time of selling the stake, it had signed 3 years non
compete agreement as done by the RA Group. It was pointed out that nobody will sign non compete
agreement without any consideration. It was also submitted that Lanxess ABS was with Bayer Group
since 1998 and Bayer Group created Lanxess as subsidiary in 2004 in which the personnel of Bayers
continued since 1998. Moreover, number of years was not relevant. The assessee company during the
three year period had controlled the company and therefore had full knowledge of the business process
and technology and also had resources to give effective competition in future. Mere knowledge and
running of the company which RA Group had, was not enough for providing competition in business
unless somebody had the resources. Rakesh Agarwal could not compete with Lanxess in terms of
resources but it had been given non compete fees. It was also pointed out that non compete fees had
been paid not only to Rakesh Agarwal but also to corporate entities of the group such as Tash
Investment and Geet Ganga Investment Pvt. Ltd. which as investment companies had no knowledge and
experience of day to day running of the company. If those investment companies could be paid non
compete fess, why then such fees should be denied to the assessee company which was controlling the
company.
4.4 As regards the SEBI order, it was submitted that the order was relevant only from the point of view
of reasonableness of the non compete fees and the SEBI had found the non compete fees reasonable.
The issue whether similar non compete fees has to be paid to the assessee company which was having
controlling stake was not the issue before the SEBI. The TPO/AO had followed the internal CUP in
which the transaction had been compared with non compete fees paid to RA Group in identical situation
and therefore had made the adjustment correctly.
4.5 In reply, the learned AR for the assessee reiterated the submissions made earlier that merely because
someone had controlling stake in the company did not entitle him for non compete fees which had to be
paid based on skills and experience required for this purpose as discussed in the order of SEBI. It was
pointed out that, as mentioned earlier, Shri Rakesh Agarwal was founder of the business and remained
its MD about forty years. The Lanxess, which had made only strategic investment, had no valid claim
for non compete fees. As regards the internal CUP, the learned AR pointed out that as per Rule
10B(1)(a)(ii), in applying the cup method, adjustment had to be made for differences between the
transactions and between the enterprises entering into the transactions. In this case as pointed out earlier
there were differences between the assessee company and the RA Group in terms of skills and
experience. Further in terms of Rule 10B(2)(b) the comparability of the transactions has to be justified
with respect to functions performed, asset employed and risk assumed, which was different in the two
cases. It was, therefore, urged that no adjustment was required on account of non compete fees in case of
the assessee company.
4.6 We have perused the records and considered the rival contentions carefully. The dispute raised in
this ground is regarding TP adjustment made by AO/TPO on account of non compete fees. The assessee
held 50.97% share holding in Lanxess ABS in which RA Group headed by Shri Rakesh Agarwal held
18.33% shares. The assessee along with RA Group transferred their entire share holding in Lanxess
ABS to INEOS ABS (New Jersy) Ltd. a joint venture between Lanxess Group and INEOS Group in
which the holding company of the assessee company i.e. Lanxess Deutschland GmbH held 49% share
holding and balance 51% was held by INEOS Group. Both the assessee and the RA Group had signed
non compete agreement with the joint venture company for non competing in business with the said
company for a period of three years. RA Group had been paid non compete fees at the rate of 25% of
share value at Rs. 165632565/-. The assessee however had not been paid any such non compete fees to
the assessee. The AO/TPO have treated the payment of non compete fees to RA Group as an internal
comparable uncontrolled price (CUP) for the purpose of comparison and have made adjustment at the
rate of 25% of share value as non compete fees in case of the assessee. The assessee before the lower
authorities had raised the issue that the transaction was between two Indian parties and, therefore, it was
not an International transaction. However the transaction being with the JV in which the holding
company of the assessee had 49% share holding and the balance being held by INEOS Group the
learned AR for the assessee submitted before us that the assessee had no objection to treating the
transaction as an international transaction.
4.7 However it has been argued that case of the assessee was not comparable to the case of RA Group
on various accounts such as (i) Shri Rakesh Agarwal being the promoter of business had long experience
for day to day management of the business as well as significant know how about the company;(ii) the
assessee was only a strategic investor and was selling the business and, therefore, there was no question
of competing in business; (iii) the payment to non payment fees to RA Group had been considered by
SEBI and found to be in order; there being substantial differences between the assessee and RA Group,
no adjustment was required in case of the assessee in view of the provisions of Rule 10B(1)(a)(ii) and
Rule 10B(2)(d). The department has however countered these arguments by pointing out that the
assessee who was controlling the company had extensive involvement and full knowledge about the
working of business and, therefore, it could easily compete in business. Moreover, it had more resources
than Shri Rakesh Agarwal. It has also been argued that even the investment companies of the RA Group
had been paid non compete fees and, therefore, there was no reason for denying payment to the assessee.
The SEBI order, it has been pointed out was not relevant as it had only considered the reasonableness of
non compete fees payment to RA Group. The case of the RA Group was identical and, therefore, it has
rightly been used as an internal CUP by AO/TPO.
4.8 We have given careful consideration to the various aspects of the matter. Non compete fees is paid
by a party, acquiring the business for signing the not compete agreement so as to not compete with the
business aquired for a certain period. Such payments are made to persons who have complete and
extensive knowledge of business process, technology and working of the company and have the
resources to compete with the business of the acquirer by setting up similar new businesses or in any
other way. Shri Rakesh Agarwal had no doubt promoted the business and had been MD of the company
for several years and had full day to day knowledge and the working of the company and also about
business know how and relationships. However for setting up of a new business number of years spent
on running the company is not the only factor to be considered. What is required for setting up of a new
business is that the person should not only be knowing the business process and know how and
technology used in the business, but he should also have resources to set up similar business. The
assessee had controlling stake in the company for three years and, therefore, it had full access to
knowledge, know how, process and working of the business, which are necessary for setting up of a new
business. Secondly the assessee is a part of a multinational Group running several such companies
worldwide and, therefore, it is in a much better position than the RA Group for setting up of a new
business. If experience was the only relevant factor for setting up of a business, Shri Rakesh Agarwal
could have set up such new company in the past which he had not been able to do and remained MD
throughout even though the ownership of the company changed from time to time. If knowledge and
experience are the requirements for payment of non compete fees, then a General Manager of the
company who was more intimately connected with day to day knowledge of business process and its
working should also have been paid non compete fees. Moreover, learned CIT(DR) has rightly pointed
out that investment companies holding shares which are part of RA Group and who are not involved in
the day to day management of business, have also been paid non compete fees. Therefore, it has been
rightly argued by the revenue that the assessee who had signed similar non compete agreement for three
years could not be denied payment of such non compete fees.
4.9 The reliance placed by the assessee on the order of SEBI passed by whole time Member, is
misplaced. The SEBI order was only regarding reasonableness of payment of non compete fess to RA
Group. Some share holders had complained that the RA Group had been paid non compete fees which
was nothing but part of the share price and thus by treating the part of the share price as non compete
fees, they had reduced the sale price of shares which resulted into lower payment to them. The SEBI,
however, considering knowledge and experience of RA Group as mentioned earlier held that the
payment of non compete fees was justified and reasonable and it could not be considered as part of the
sale price. There was no issue before SEBI as to whether similar non compete fess was required to be
paid to the assessee or not. This issue has been raised in this appeal before the Tribunal.
4.10 The learned AR for the assessee has also argued that the case of the assessee is different and non
comparable to the case of the RA Group. He has referred to the provisions of Rule 10B(1)(a)(ii) as per
which while applying CUP method adjustments are required to be made in respect of differences if any
between the international transaction and the comparable uncontrolled transaction or between the
enterprises entering into such transaction which could materially affect the price in the open market. In
this case both the assessee and RA Group had the transactions with the same joint venture who had
purchased the business. There is no difference in the transaction which is non compete fees in both the
cases. Insofar as the difference between the assessee and RA Group is concerned, the differences
pointed out by the assessee have been noted earlier and these differences have to be evaluated from the
point of view of capabilities of the two parties for competing in the business. As we have held earlier the
assessee had better capabilities for setting up a similar new business to give competition to the buyer.
Therefore, adjustment if any on this account under Rule 10B(1)(a)(ii) has only to be positive in favour of
the assessee.
4.11 The learned AR has also referred to Rule 10B(2)(d) as per which while judging the comparability
the laws and Government orders inforce are required to be kept in mind. The reference in this regard has
been made to the order of SEBI which we have already dealt with and found not relevant. The learned
AR has also referred to Rule 10B(2)(b) as per which while judging the comparability, the functions
performed, asset employed and risk assumed by the parties have also to be considered. In this case, both
the parties have signed non compete agreement for three years and, therefore, the functions performed
was the same. It does not require any employment of asset for signing non compete agreement and there
is no risk involved in signing of such agreement. As regards the difference in knowledge and experience,
resources etc, between the two parties, we have already discussed this factor earlier and in our view,
these factors do not in any way adversely affect the payment of non compete fees to the assessee. It has
also been argued that the assessee was selling the business and, therefore, there was no question of
competing in the business. This argument is also devoid of any merit. The non compete fees is paid only
to the seller of business so that in future he does not compete with the business purchased by the buyer.
However merely because the assessee was selling the business today it does not mean that the assessee
could not start the same business again. In the present day business environment changes are taking
place at a very fast pace. What is considered not viable today may become viable after couple of years
later. The assessee was selling the business on the ground that it saw severe competition by addition of
capacities in Asia which may change with time and the assessee if situation develops in favour could
start business again.
4.12 Considering the facts and circumstances of the case and the reasons given earlier, we see no
justification for non payment of non compete fees to the assessee. We, therefore, see no infirmity in the
order of authorities below estimating the non compete fess at the same rate as paid in case of RA Group.
The order of AO is, therefore, upheld.
5. The second dispute relating to TP adjustment is on account of control premium. As mentioned earlier,
the assessee company had transferred 50.97% of share holding in Lanxess ABS to the joint venture
without payment for any control premium. The TPO held that adjustment on account of control premium
was required at the rate of 25% of share value. The assessee also raised objections before the DRP
against the adjustment proposed by TPO/AO on account of control premium. The assessee submitted
that control premium was not a compulsory requirement in respect of every sale of controlling stake and
that it depended on whole set of factors including the capability of the acquirer, the nature of business,
its future growth prospects and comparative position in the market. It was pointed out that the assessee
had been paid negotiated price of Rs. 196.36 per share and RA Group had been paid Rs. 201 per share. It
was pointed out that the payment made to the general public was at the rate of 201 per share as per SEBI
regulations 20(4). Therefore, the price paid to the assessee was at arm's length and there was no question
of making any adjustment. DRP however did not accept the contentions raised. It was observed by him
that RA Group which was holding only 18.33% share holding had been paid at the rate of Rs. 201 per
share where the assessee had been paid at the rate of Rs. 196.36 per share. The assessee had divested the
controlling stake and, therefore, it was required to be paid control premium. He, therefore, upheld the
control premium estimated by TPO at the rate of 25% of the share price which was added by the AO to
the total income. Aggrieved by the decision of AO the assessee is in appeal before Tribunal.
5.1 Before us learned AR for the assessee reiterated the submissions made before lower authorities that
on the facts and in the circumstances of the case there was no justification for payment of controlling
premium. Referring to the Lanxess Global report placed at page 62 of the paperbook, it was pointed out
that the business was not doing well and the assessee company was looking for buyers and, therefore, in
such a situation the assessee could not demand control premium. It was also submitted that comparison
made by TPO to Maruti Suzuki and other Government companies was not valid as those reports were
not contemporary. As regards the report of Phillip Sounders Jr PHD in which the controlling premium
had been stated to be varied from 30% to 50%, it was submitted that said report related only to publicly
traded companies and was not applicable to the case of the assessee. It was also submitted that there
have been cases in which the controlling stake had been transferred at discount to the market price. It
was also argued that as per SEBI regulation 20(4) the same price had been paid to other share holders
and, therefore, the price received by the assessee was at arm's length.
5.2 The learned CIT (DR) on the other hand strongly defended the orders of authorities below making
adjustment on account of control premium. It was submitted that nobody will sell the controlling stake at
the prevailing market price. The control premium is paid for transferring the controlling stake which is
the price charged over the market price in ordinary trades. He referred to the article by Phillip Sounders
Jr PHD in which it was mentioned that payment of control premium largely depended upon the potential
buyer believing that he or she could enhance the value of the company. It is the potential for increasing
the value that makes the buyers willing to pay the premium for control. In this context he referred to
report dated 29.6.2007 (copy placed on record taken from INEOS ABS site) as per which the chairman
of INEOS stated that joint venture with Lanxess provided INEOS strong market position in a new
portfolio of products that complemented their Styrenic, Polyethylene, Polypropylene and PV Plastic
activities which was a good fit with a number of their existing businesses and the JV would benefit from
upstream integration into key raw materials. The report also mentioned that Lusrton Polymers was
currently the world's third largest and Europe's leading supplier of ABS plastics with sales amounting to
almost Euro 900 Million. The learned CIT(DR) therefore submitted that the company transferred had
strong potential for growth for which any buyer will be willing to pay high premium. The deal was thus
very valuable to INEOS. The control premium estimated by the TPO at the rate of 25% was, therefore,
justified.
5.3 In reply, learned AR for the assessee stated that the research paper was not relevant as it did not take
into account the fact that assessee was selling the business and, therefore, it could not ask for premium.
It was also pointed out that even the research paper mentioned that the premium depended upon the facts
and circumstances of each case. It was also argued that as per Rule 10B(2)(d) the comparability has to
be judged after taking into account various factors including the Government laws and orders inforce. It
was pointed out that as per the SEBI guidelines, the same price had been paid to other share holders and,
therefore, the price paid to the assessee was at arm's length.
5.4 We have perused the records and considered the rival arguments carefully. The dispute raised in this
ground is regarding TP adjustment on account of shares of Lanxess ABS sold by the assessee to the joint
venture(JV) i.e. INEOS (New Jersey) Pvt. Ltd. The holding company of the assessee was holding 49%
of share holding in the JV and the balance was held by INEOS Group. The TPO/AO have treated the
transaction as an international transaction. The assessee had submitted before the lower authorities that
the transaction being between two Indian parties was not international transaction. However, at the time
of hearing before us no such argument had been advanced and no dispute was raised in regard to
transaction being an international transaction. The assessee had sold the entire share holding of 50.97%
to the joint venture parting with the controlling stake at a negotiated price of Rs. 196.36 per share,
whereas the RA Group who had held only 18.83% share holding had been paid Rs. 201 per share.
AO/TPO have held that for giving the controlling stake, the assessee was required to be paid control
premium which had not been done in this case. They have referred to the cases of selling controlling
stake by the Government in case of Maruti and other Government companies for which substantial
payment had been made by the foreign companies. Reference has also been made by them to the
research Article by Phillip Sounders Jr PHD as per whom mean average premium over the quoted price
in case of public quoted businesses varied from 30% to 50%. The TPO/AO have estimated the control
premium at 25% of the share value in case of the assessee and added the said amount to the total
income.
5.5 The case of the assessee is that the comparable cases of Maruti and other Government companies
was not really comparable as those cases of sales were not contemporary. In regard to Phillip Sounders
Jr PHD report, it had been submitted that the report related to the public traded companies and,
therefore, was not applicable. The report also mentioned that control premium depended upon the fact
and circumstances of each case. The case of the assessee it has been pointed out is different. It has also
been argued that as per Rule 10 B(2)(d) the comparability of the transaction has to be judged taking into
account the Government laws and orders inforce. It has been pointed out that as per SEBI regulations
being the regulation no. 20(4) the general public had also been paid at the rate of Rs. 201 per share and,
therefore, the payment made to the assessee was at arm's length. It has been further argued that the
assessee in this case was selling the Lustron Polymer business as the business was not doing well and,
therefore, there was no case for the assessee to demand any premium. This fact had not been considered
in case of Phillip Sounders Jr PHD.
5.6 We have carefully considered the various aspects of the matter. This issue involved is determination
of arm's length price of shares sold by the assessee. AO/TPO have impliedly used CUP method. They
have referred to the cases of Maruti etc. only to emphasize the point that substantial amounts are
required to be paid on account of control over the market price. In case of Maruti, the Government had
received Rs. 1000 crore only towards control premium. However for estimating the control premium in
case of the assessee with respect to other un-related parties the TPO has referred the Phillip Sounders Jr
PHD report who gave a finding that mean average premium varied from 30% to 50% of the public
quoted price. AO/TPO have, therefore, estimated the control premium at 25% of share price as the share
price received by the assessee has been considered as the price only towards sale of shares without
taking into account the control premium. Though AO/TPO have not specifically mentioned, they have
indirectly compared to price of Rs. 201 per share paid to RA Group who held only 18.83% share which
was not a controlling stake, which is clear from the fact that control premium has been computed by
them with respect to the negotiated price. The RA Group in our view is a good internal CUP as both the
assessee and RA Group have sold the shares of the same company and buyer was also the same.
Therefore the transaction is identical except the fact that the assessee had sold the controlling stake. The
provisions of Rule 10B(3) make it quite clear that an uncontrolled transaction shall be comparable if
reasonably accurate adjustment can be made to eliminate the material affect of differences if any.
Further under the provisions of Rule 10B(1)(a)(ii) the price charged to a comparable uncontrolled
transaction has to be adjusted on account of differences between the international transaction and the
comparable uncontrolled transaction or between enterprises entering into such transactions if these
differences materially affect the price in the open market. In the present case the share transaction of the
assessee is identical to that of the uncontrolled transaction of RA Group the only difference is that the
assessee had sold the controlling stake. The share price will not depend upon personal characteristics of
the sellers and, therefore, no adjustment is required on account of differences between the assessee and
RA Group which sold the shares. The only difference as pointed out earlier between the international
transaction and the transactions with RA Group is that the assessee had sold the controlling stake.
Therefore, we have only to consider adjustment on account of controlling stake transferred by the
assessee by estimating the price for the controlling stake. The report by Phillip Sounders Jr PHD which
is based on research undertaken in respect of several public quoted companies can be used as reliable
material. As per the said report the mean premium varied from 30% to 50%. Considering this the
adjustment of 25% of the share value made by AO/TPO on account of controlling premium with respect
to the share price charged in case of RA Group which was an unrelated person, in our view, is quite
justified.
5.7 The argument of the learned AR that the assessee was selling the business and, therefore, could not
expect control premium, in our view, has no merit. In fact it is only the seller who can demand control
premium in case he or she is selling the control stake. The assessee in this case was selling the business
because of rising competition in the market as was clear from the Lanxess global report referred to in
this order earlier. Moreover the control premium does not depend upon the fact whether the assessee
was selling the business or that the business was not doing well. The Article by Phillip Sounders Jr PHD
has clearly mentioned that payment of control premium largely depends upon the potential buyer
believing that he or she could enhance the value of the company. It is the potential for increasing the
value that makes the buyers willing to pay the premium for control. The learned CIT(DR) has placed
before us the report dated 29.6.2007 taken from INEOS ABS site as per which the Chairman of INEOS
had stated that the joint venture with Lanxess provided INEOS strong market position in a new portfolio
of product that complemented their Styrenic, Polyethylene, Polypropylene and PV Plastic activities
which was a good fit in their existing business. The report also mentioned that Lustron Polymers was
currently the world's third largest and Europe's leading supplier of ABS plastics with sales amounting to
almost Euro 900 Million. Thus it is the perception and the capacity of the buyer to make the value
addition decides the control premium. In this case the material placed before us as mentioned above
clearly shows that the buyer saw tremendous potential in purchasing the business of the assessee and,
therefore, there is a justification for substantial control premium in this case. The Phillip Sounders Jr.
PHD report showed that the mean control premium varied from 30% to 50% of quoted price.
Considering the potential of the business transferred, the control premium should be towards the upper
end of about 50% of the quoted price. But in this case, since control premium has been estimated with
respect to the negotiated price which was higher than the public quoted price, the estimation at the rate
of 25% of negotiated price in case of RA Group is considered reasonable. The argument that Phillip
Sounders Jr PHD report related to only public quoted companies is also not relevant as the premium is
linked to the potential for making the value addition to the company by the buyer and not upon whether
the company is public quoted or not. The research had been made in cases of public quoted companies
as data in such cases is easily available.
5.8 The learned AR for the assessee has also argued that the general public share holders had also been
paid at the rate of Rs. 201 per share as per SEBI regulation no. 20(4). It has also been submitted that
while judging the comparability of transaction, Government laws and orders inforce have also to be
taken into account. We have perused the said regulation. The SEBI regulations do not regulate the price
to be negotiated between the buyer and seller of shares. It only provides that in case of transfer of stake
exceeding 15% of share holding, the general public is also required to be offered to the extent of 20% of
share holding which has to be the highest of the four factors i.e. negotiated price; the share price paid by
the acquirer for any acquisition during the 26 week period prior to the date of public announcement; the
average daily high and low on the stock exchange during the 26 week period preceding the date of
public announcement; and average daily high and low of the share price on the stock exchange during
the two week period preceding the date of public announcement. This is only a formula to safeguard the
interest of general share holders. It does not in any way state that price negotiated by the assessee with
the buyer is at arm's length price. Infact the general share holders would have got more price had the
negotiated price also included the control premium. Therefore, the argument based on SEBI regulation is
devoid of any merit.
5.9 In view of the foregoing discussion and for the reasons given earlier, we do not see any infirmity in
the order of AO making adjustment on account of control premium. The order of the AO is, therefore,
upheld on this point.
6. The third dispute is regarding adjustment made by TPO/AO on account of transactions relating to sale
of TPC business. In the year 2006, the Lanxess Group globally divested the TPC business to Tanatex
Group. Consequent to the global sale of TPC business, the TPC business of the assessee company had
been transferred to Tanatex Chemical (India) Pvt. Ltd. The sale consideration of TPC business was
negotiated between the Lanxess Deutschland GmbH and Tanatex Reuts GmbH as per Master Sale and
Purchase Agreement (MSPA) as a result of which the assessee company received Rs. 4.42 crore from
Lanxess Deutschland GmbH. The sale consideration had been allocated to different units globally
including Indian unit in the ratio of net asset value (NAV) of the companies. The assessee stated before
the TPO that the transactions were between the Lanxess Group and Tanatex, Group, two independent
companies and, therefore, it was not international transaction and no adjustment was required to be
made. There were two sellers i.e. Lanxess Deutschland GmbH being the seller one and the second seller
was Sybron Chemicals BV which had 100% subsidiary in the name of Lanxess BV. The TPO noted that
Lanxess Deutschland GmbH had received sale consideration of Euro 2.63 million towards sale of IPR
which had not been distributed to other units including the Indian company. Similarly the Sybron
Chemicals BV had sold the entire share holding in Lanxess BV for Euro 26.9 million to Tanatex which
had also not been distributed to other units. TPO further noted that before the sale of shares Lanxess BV
had transferred the capital reserve of 52 million Euro to Sybron Chemicals BV which also remained
undistributed. The TPO, therefore asked the assessee to explain as to why proportionate allocation
should not be made to the assessee company in relation to transfer of capital reserves, sale of share and
sale of IPR rights.
6.1 The assessee submitted that prior to the date of sale, the Lanxess BV had surplus cash which had
been distributed as capital reserves to Sybron Chemicals BV. This had been mentioned in clause 4.2 of
MSPA and thus the purchaser had been informed about it. This was an internal transaction which had
nothing to do with the sale and was thus not part of sale consideration. It was also submitted that since
the entire business of the Lanxess BV had been sold as per separate share transaction deal, no separate
consideration had been paid with regard to assets, working capital etc. As regards the sale of IPR it was
submitted that Lanxess Deutschland GmbH had negative value of business at Euro 3.75 million and the
only asset it had was IPR on which it had legal and economic ownership and at no point of time the
ownership had been transferred or absorbed in India. It was also submitted that the assessee company
had never owned any intangible asset which had been clearly brought out in the TP study submitted by
the assessee, which had been accepted by the department in the earlier years TP adjustment. It was
pointed out that Lanxess Deutschland GmbH had been paid only for the IPR and no part of sale
consideration had been paid to them. It was accordingly urged that no adjustment was required.
6.2 The TPO however did not accept the contentions raised. It was observed by him that by removing
Euro 52 Million from the assets of Lanxess BV before the date of transfer, total sale consideration had
been effectively reduced. Therefore had the transfer not taken place, the consideration would have
increased. It was also observed by him that the Indian company over the year had developed various
intangible like marketing, manufacturing, employees knowledge, customers, goodwill etc. for which
valuation should have been done along with value for its tangibles. Similarly there was no justification
for allocation of sale of shares only to the seller number 2. The TPO, therefore, allocated on
proportionate basis the above three items to the assessee company which came to Rs. 142.5 crore. The
payment received by the assessee company was Rs. 4.43 crore. The TPO, therefore, made adjustment of
Rs. 138.08 crore.
6.3 The assessee objected to the adjustment proposed by the TPO before the DRP and reiterated the
submissions made earlier that the Euro 52 Million was not part of the sale consideration and since the
Lanxess BV had been sold out as a whole, the sale price exclusively belonged to Sybron Chemicals BV
which held 100% share in the said company. It had nothing to do with sale of other assets. Similarly
Lanxess Deutschland GmbH had been paid only for the IPR and not for any asset. Therefore, it was not
required to be allocated. DRP however did not accept the contentions raised. It was observed that that all
the assets were sold as part of the global deal. He, further observed that once the global TPC business
was transferred, the sale consideration had to be taken towards the sale of all the assets owned by the
entities to be allocated on the basis of NAV. DRP, therefore, confirmed the order of TPO based on
which the addition was made by AO in the assessment order. Aggrieved by said decision of AO, the
assessee is in appeal before Tribunal.
6.4 Before us, the learned AR for the assessee submitted that transfer of capital reserve to the holding
company before the date of transfer was a dividend pay out and it was an internal transaction which had
been duly disclosed in clause 4.2 of MSPA. Therefore, it was not part of the sale consideration and thus
not required to be allocated. He referred to the document at page 252 of the paperbook which clearly
mentioned that dividend will be paid in the month of April as reported by the Auditor. As regards the
sale of shares, it was submitted that the Lanxess BV had been sold separately and the value of the shares
was same as NAV of the company. The company had been sold through a separate Dutch share transfer
agreement as per clause 4.1 of MSPA which had also been duly noted by TPO in para 6.11 of the order.
Thus it had nothing to do with sale of other businesses for which allocation had been made separately
based on net asset value. As regards the IPR, it was submitted that Lanxess Deutschland GmbH had
received only for IPR. It was also pointed out that its NAV was not negative as submitted before lower
authorities and, therefore, it had not resulted into lower allocation to other units based on net asset value.
The learned AR also submitted that this aspect could be verified by the TPO. The learned DR on the
other hand strongly supported the orders of authorities below and submitted that since this was a
worldwide sale of the assets belonging to different companies, the entire sale consideration should have
been considered together for the purpose of allocation. It was also pointed out that the assessee itself had
submitted before TPO that net asset value of Lanxess Deutschland BV was negative. It was, therefore
urged that the order of AO regarding allocation or remaining assets should be upheld.
6.5 We have perused the records and considered the rival contentions carefully. The dispute raised is
regarding adjustment made by TPO/AO on account of transactions relating to sale of TPC business. The
Lanxess Group had globally divested the TPC business to Tanatex Group as a result of which TPC
businesses of the assessee company and other entities of Lanxess Group had been transferred to the
respective companies of Tanatex Group. The TPC business of the assessee company had been
transferred to Tanatex Chemical (India) Pvt. Ltd. The sale consideration had been negotiated between
the Lanxess Deutschland GmbH and Tanatex Reuts Gmbh as per Master Sale and Purchase Agreement
(MSPA). Lanxess Deutschland Gmbh had distributed the sale consideration to the different entities
including the assessee who had been paid Rs. 4.42 crore. The assessee had initially argued before the
lower authorities that the transaction was between the two independent companies belonging to Lanxess
Group and Tanatex Group and, therefore, it was not an international transaction and no adjustment was,
therefore, required. However such arguments were not pressed before us and the learned AR raised no
objection of treating the transaction as part of international transaction.
6.6 As regards the merit of adjustment, TPO noted that certain transactions relating to the sale of
business had not been considered for distribution to other units. This consisted of consideration of Euro
2.63 million towards sale of IPR by Lanxess Deutschland GmbH, the consideration of Euro 26.9 billion
received by the Sybron Chemical BV towards the sale of shares of Lanxess BV. These considerations
had been paid exclusively to Lanxess Deutschland GmbH and Sybron Chemicals BV respectively.
Further before transfer of shares of Lanxess BV, capital reserve of 52 million Euro had been transferred
by Lanxess BV to Sybron Chemicals BV. TPO/AO, therefore, pointed out that the sale consideration
had been reduced by that amount which had not been distributed to other entities. Authorities below also
noted that net asset value of Lanxes Deutschland GmbH being negative and the said company having
been paid the entire consideration towards IPR, it had resulted into lower allocation to other entities.
6.7 The case of the assessee is that the sale consideration negotiated and received by Lanxess
Deutschland Gmbh was equal to net asset value of all the entities and therefore, the consideration had
been distributed in the ratio of net asset value. It has been pointed out that the assessee by mistake had
submitted before lower authorities that net asset value of Lanxess Deutschland GmbH was negative but
the fact was that the net asset value was not negative and, therefore it did not reduce the sale
consideration to other entities. The said company had received only towards IPR and not for any other
asset and, therefore, the entire consideration had been paid to the said company. As regards the sale of
shares by Sybron Chemicals held in Lanxess BV, it has been submitted that the shares had been sold
through the separate Dutch Share Transfer Agreement as per Clause 4.1 of MSPA and Sybron
Chemicals had, therefore, received only the share sale consideration and not for any asset as the entire
company had been sold. Therefore the said consideration had exclusively gone to Sybron Chemicals
BV. As regards the transfer of reserve before the sale of shares it has been pointed out that this was an
internal transfer which had been duly mentioned in Clause 4.2 of MSPA and the purchaser had been
informed about this. Thus the total consideration agreed between the two parties for transfer of TPC
business was after excluding the share sales which had been separately made. It has also been pointed
out that the total sale consideration was equal to the net asset value of the companies and had been
distributed in the ratio of net asset value and, therefore, if considerations relating to IPR sale, transfer of
capital reserve and sale of shares are included in the total sale consideration, these will also increase the
net asset value of those companies by that amount and the distribution being in the ratio of net asset
value, this will not impact the share of individual entities in the total consideration.
6.8 We find substance in the arguments advanced on behalf of the assessee. Firstly Sybron Chemicals
BV had sold entire share holding in its 100% subsidiary i.e. Lanxess BV and, therefore, it was alone
entitled for sale consideration. It had not received any payment for any other asset separately. The AO
himself has noted that shares had been sold through a separate Dutch Share Transfer Agreement as per
Clause 4.1 of MSPA. Thus the purchaser was aware about this sale and the total consideration thus did
not include the share sale value. The share sale value therefore, had to go exclusively to Sybron
Chemical BV. Further the transfer of capital reserve has taken place before the date of sale and had been
duly noted in Clause 4.2 of MSPA. This was only internal transfer before the date of sale agreed
between the two parties and, therefore, it had nothing to do with the total sale consideration. Similarly
the IPR rights were held exclusively by the Lanxess Deutschland Gmbh. Therefore, it had been
separately paid such consideration. Further, the claim of the assessee is that total consideration was
nothing but the total sum of net asset value of individual entities and the sale consideration had been
distributed in the ratio of net asset value and if this is found to be correct then even if these three
transactions are added to the total consideration, the individual share of different entities will not change
because these will also go to add to the NAV of these companies and all the entities will ultimately get
their net asset value. However such claims of the assessee requires verification. The claim of the
assessee that Lanxess Deutschland GmbH had no negative net asset value, which is contrary to the claim
made before lower authorities also requires verification. In our view, entire issue requires fresh
consideration at the level of AO/TPO. We, therefore, set aside the ordre of AO and restore the matter
back to him for passing afresh order after necessary examination in the light of observations made in this
order and after allowing opportunity of hearing to the assessee.
7. The fourth dispute is regarding adjustment of Rs. 8,01,03,961/-in relation to the international
transactions with associate enterprises (AE) in respect of export of furnished goods in the manufacturing
segment.
7.1 The AO noted that the assessee had made several transactions with associated enterprises (AE)
relating to the manufacturing segment. AO, therefore, asked the assessee to submit the details of TP
study undertaken by it in relation to transfer pricing regulations. The assessee in the TP study applied
Transactional Net Margin Method (TNMM) and selected seven comparables which gave arithmetic
mean margin of 6.22%. Subsequently as per direction of the TPO, the assessee recomputed the mean
margin at 5.42% using the financial data of the comparables only for financial year 2007-08 as per
details given below:-
 S.No. Company Name Average PLI (OP/Sales)
1. Alkyl Amines Chemicals Ltd. 9.93%
2. Amines & Plasticizers Ltd. 5.55%
3. Balaji Amines Ltd. 10.87%
4. Deepak Nitrite Ltd. 4.48%
5. Laffans Petrochemicals Ltd. 3.97%
6. NOCIL Ltd. -1.29%
7. SI Group-India Ltd. 4.41%
Arithmetic Mean 5.42%
7.2 The assessee submitted that operating margin to sales in relation to the manufacturing segment was
9.04% in case of the assessee which was more than the mean margin of the comparables and, therefore,
no adjustment was required on this account. The TPO however noted that while computing the margin
the assessee had made adjustment of Rs. 15,87,00,056/- on account of under-utilized capacity cost. It
was pointed out that Thane plant where manufacturing had taken place was shut down in a phased
manner and shifted to Jagadia, Gujarat which resulted into serious bottlenecks in the production
schedule and thus had the under-utilized capacity for which the assessee had made adjustment. TPO
however did not accept the contentions raised. It was observed by him that capacity utilization in
financial year 2007-08 was 86.36% which was more than capacity utilization of 78.39% in financial
year 2006-07 and 81.62% in financial year 2005-06. The TPO also observed that under utilization
shown by the assessee in the balance sheet also showed that under utilization this year was only 3041
tones per annum compared to 4564 tones per annum in 2006-07 and 3884 tone per annum in financial
year 2005-06. Further the assessee itself had admitted that there may have been reallocation of work
which also proves that there was no underutilized capacity. TPO therefore rejected the claim of
adjustment on account of under utilization of capacity and calculated operating profit of Rs.
3,77,02,807/- on operating revenue of Rs. 2173556623/- which gave PLI (OP/OR) at 1.73%. The mean
operating margin in case of comparable was 5.42%. TPO, therefore, made the adjustment of Rs.
80103961/- which was added by AO to the total income. Aggrieved by the decision of AO, the assessee
is in appeal before Tribunal.
7.3 Before us, the learned AR for the assessee submitted that the assessee had no dispute either in
relation to the selection of comparables or in relation to computation of mean margin of comparable or
the margin computed by TPO/AO in case of the assessee. The assessee was disputing only the method of
computation of TP adjustment. It was pointed out that the AO had made the adjustment to the entire
revenue which was not correct as adjustment is required to be made only with respect to transactions
with AE. The learned AR placed reliance on the decision of Tribunal in case of Thyssenkrupp Industries
India (P.) Ltd. v. Asstt. CIT [2013] 55 SOT 497/[2012] 27 taxmann.com 334 (Mum.) and the decision of
Tribunal in case of Tara Jewels Exports (P.) Ltd. v. Asstt. CIT [2013] 31 taxmann.com 383 (Mum.) for
the said proposition. The learned CIT(D)R on the other hand placed reliance on the order of AO/TPO.
7.4 We have perused the records and considered matter carefully. The dispute is regarding TP
adjustment made by AO/TPO on account of transactions with associate enterprises (AEs) in relation to
the manufacturing segment. The AO/TPO have applied TNMM for bench marking the transaction and
seven comparable have been selected which gave arithmetic mean margin of 5.42%. The margin of the
assessee has been computed at 1.73%. The assessee had computed the margin at 9.04% after making
adjustment for under-utilization of capacity which has not been accepted by the AO/TPO. The learned
AR for the assessee has not disputed before us either the comparables or the arithmetic mean margin of
the comparables or the margin of the assessee computed by AO/TPO at 1.73%. Only limited dispute
raised is that AO had made the adjustment with respect to entire revenue of manufacturing segment
whereas the adjustment is required only in relation to transaction with associated enterprises. The plea
raised by the learned AR for the assessee is quite reasonable and is supported by the several decisions of
the Tribunal as mentioned in para 7.3 of this order. We, therefore, direct the AO to make the adjustment
only in relation transactions with the AE.
8. The fifth dispute raised is regarding addition made by AO on account of purchases and other
expenses.
8.1 The AO during the course of assessment proceedings obtained from the assessee yearwise details of
creditors, purchases and other expenses with a view to verifying the genuineness of these transactions.
The AO issued notices u/s 133 (6) to the parties concerned. The notices had been issued to the 300
parties relating to purchase, creditors and expenses involving aggregate amount of Rs. 1388771673/-.
Responses had been received from the parties involving aggregate sum of Rs. 596654474/-. AO,
therefore asked the assessee vide letter dated 23.12.2011 to prove the genuineness of the balance
transactions in respect of which no responses had been received. The assessee filed some details and
evidences to prove the genuineness, on examination of which the AO accepted some of the transaction
and proposed to add Rs. 310555574/- on his account in the draft assessment order dated 30 December
2011.
8.2 The assessee filed objection before the DRP against the draft assessment order and submitted that
the AO had provided only seven days time before the order was passed for submitting further details and
evidences. The assessee filed further details and evidences in the form of additional evidences. The DRP
observed that because of voluminous nature of work and multiple parties involved, the assessee did not
have adequate time to furnish details and evidences about all the parties before the AO and, therefore, in
the interest of justice DRP directed the AO to admit the additional evidences and pass a fresh order after
necessary examination and after allowing opportunity of hearing to the assessee. AO even after
considering the additional evidences noted that in respect of the category relating to 'reply not received'
there was still aggregate sum of Rs. 11279496/-, in respect of which replies not received and the balance
figure in the category of notices "returned back" still remained at Rs. 15838065/-. The AO further
observed that in respect of parties from whom replies had been received, the amount confirmed was less
to the tune of Rs. 15387192/- and the amounts confirmed was more to the tune of Rs. 11016524/- in
certain other cases. The AO, therefore, in the final order after considering the additional evidences filed
before the DRP, confirmed addition of Rs. 53521277/- as per details below-
(i) Parties from whom replies not received Rs. 1,12,79,496/-
(ii) Parties in respect of which notices were returned back Rs.1,58,38,065/-
(iii) Parties from replies received but amount c confirmed was less Rs. 1,53,87,198/-
(iv) Parties from whom replies received but amount confirmed more Rs. 1,10,16,524/-
Total Rs. 5,35,21,277/-
AO, therefore, made the addition of Rs. 5,35,21,277/- u/s 69C of the Income Tax Act, aggrieved by
which the assessee is in appeal before Tribunal.
8.3 Before us, the learned AR for the assessee submitted that the AO had made additions u/s 69C of the
Income Tax Act as per which only the expenditure which is not explained by the assessee could be
added. In this case all the transactions were duly accounted in the books of account and, therefore, no
addition could be made u/s 69C, in respect of cases where notices were received back or replies were not
received. It was also submitted that only in those cases where replies were received and there were
discrepancies with respect to the books of accounts, the addition could be made u/s 69C of the Income
Tax Act. Learned AR for the assessee further submitted that after the receipt of draft assessment order
the assessee had filed additional evidences in 89.43% of cases in which replies had not been received
and 69.51% in which notices had been received back. These details had been filed on sample basis as the
details were quite voluminous. The AO had however disallowed the balance expenses, which was not
correct. It was also submitted that in case further details and documents were required the same could be
produced by the assessee for verification. It was argued that in respect of replies received in which there
were differences, positive or negative, the assessee had given explanation which had been mentioned by
the AO at pages 25 to 31 of the assessment order and again at pages 36 to 42 of the assessment order.
The assessee had explained various reasons for differences which were not examined by the AO and the
differences had been added by him which was not correct. It was, therefore, urged that the matter may
be sent back to AO for proper examination. The learned CIT(DR) had no objection if the matter was
restore back to AO for fresh examination of the additions made on account of other expenses.
8.4 We have perused the records and considered the rival contentions carefully. The dispute is regarding
addition made by AO on account of creditors, purchases and other expenses u/s 69 C of the IT Act. The
AO had issued notices u/s 133(6) to the parties with a view to ascertain the genuineness of the
transactions which had been returned in many cases or no reply had been received. In cases where reply
had been received, there were discrepancies and amounts confirmed was more in some cases while less
in some other cases. The total addition made by AO is Rs. 53521277/- on account of these factors as per
details given in para 8.2 of this order. The learned AR for the assessee has argued that addition u/s 69C
could be made only when the expenditure is accounted. The entire transaction in relation to the category
in which replies were not received or the notices were returned back had been unaccounted in the books
and, therefore, no addition could be made u/s 69C and accordingly it has been requested that the
addition made on this account may be deleted. We are however unable to accept the arguments
advanced. Merely because the AO has used the wrong section it does not make the addition legally
invalid if the addition could be justified based on some other provisions of the Act. In such cases the
addition could always be made u/s 68 of the IT Act and, therefore, we reject the arguments advanced.
However, we find, substance in the argument of learned AR that the AO/TPO had asked for almost
entire details of transactions entered into by the assessee which was voluminous. The assessee before the
DRP had filed further material on sample basis covering 89.43% of cases in which replies had not been
received and 69.57% cases in which the notices had been returned back. It has been pointed out that the
assessee was now having full details and, therefore, in case further details are required the assessee
could submit the same before the AO. Similarly in case of discrepancies it has been pointed out that the
assessee had given explanation in respect of differences positive or negative pointed out by the parties in
the cases in which reply had been received and these explanation had been duly noted by AO at pages
25 to 31 of the assessment order and again at pages 36 to 42 of assessment order. The explanation given
had not been examined and the entire difference had not been added. In our view matter requires fresh
examination at the level of AO by specifically considering each explanation by the assessee in respect of
differences found and the assessee may also be given further opportunity to provide details and evidence
in respect of cases in which no reply had been received or the notices had been returned back because
disallowing the entire amount considering the voluminous nature of details is not justified. We,
therefore, set aside the order of AO and restore the matter back to him for passing a fresh order after
necessary examination in the light of observations made in this order and after allowing opportunity of
hearing to the assessee.
9. In the result appeal of the assessee is partly allowed.
SB

*In favour of revenue.