Madura Coats Private Limited Vs ACIT (ITAT Chennai)
Summary: Madura Coats Private Limited, a licensed manufacturer of Coats Group in India engaged primarily in manufacturing sewing threads and accessories, appealed against the final assessment order dated 28.10.2024 passed pursuant to directions of the Dispute Resolution Panel under section 144C of the Income-tax Act, 1961. The assessment sustained a transfer pricing adjustment of Rs.9,06,00,000/- in respect of the manufacturing segment.
During AY 2021-22, the assessee undertook international transactions with its Associated Enterprises (AEs), including exports of grey threads and finished goods amounting to Rs.272.13 crores and purchases of goods/raw materials amounting to Rs.6.99 crores. Other international transactions were accepted to be at arm’s length and were not in dispute.
For benchmarking the manufacturing segment, the assessee adopted the Transactional Net Margin Method (TNMM), using Operating Profit to Operating Revenue (OP/OR) as the Profit Level Indicator. It selected 88 comparables having an arm’s length range of 3.60% to 6.55% and a median of 5.12%. The relevant year coincided with the COVID-19 pandemic. The manufacturing facilities remained closed for approximately six weeks and thereafter operated with reduced factory shifts. Turnover declined by 24.53% compared with the preceding year and the assessee incurred an operating loss of 0.95%.
The assessee claimed capacity adjustment and exclusion of COVID-19 related extraordinary costs. After adjustments supported by detailed workings and subsequently by a Cost Audit Report dated 22.04.2024, it computed an adjusted operating margin of 6.93% and contended that its international transactions were at arm’s length. It also furnished segmental profitability for AE and non-AE transactions and contended that internal TNMM was the more appropriate benchmark because the margins earned from AE transactions were higher than those from non-AE transactions.
The TPO rejected the internal TNMM claim without specifically rejecting the segmental data or identifying defects in it and proceeded with external TNMM. The TPO rejected the capacity adjustment, including the alternative approach based on the Cost Audit Report, while allowing limited adjustments concerning employee cost and depreciation for 45 days. Export incentives were treated as non-operating and certain comparables were rejected on quantitative filters and non-availability of data in the Prowess database. On the basis of 77 comparables having a median margin of 6.95%, against the assessee’s margin of 3.46%, an upward adjustment of Rs.9.06 crores was proposed.
Before the DRP, the assessee furnished additional evidence, including a detailed break-up of COVID-19 related shutdown costs amounting to Rs.89.40 crores supported by the Cost Audit Report. The DRP called for a remand report from the TPO. The TPO rejected the additional evidence and reaffirmed the rejection of comparables. The DRP upheld the TPO’s action, holding that the assessee had not demonstrated that COVID-19 impacted it differently from comparable companies and that export incentives were non-operating. The DRP also rejected inclusion of eight comparables for alleged non-availability of data.
The assessee’s principal grievance before the Tribunal was that the authorities below had rejected internal TNMM without cogent reasons despite reliable segmental data demonstrating higher margins from AE transactions. It contended that the goods sold to AEs and non-AEs were identical, manufactured using the same facilities, assets and workforce, and under the same risk profile. It therefore submitted that internal comparables provided a more reliable benchmark than external comparables.
The assessee also contended that the loss in AY 2021-22 was attributable to extraordinary external factors arising from COVID-19 rather than non-arm’s length pricing. According to the assessee, gross profit margins remained consistent with the preceding and succeeding years, while the erosion in net margin was attributable to under-absorption of fixed costs and increased SG&A expenses. It relied upon recent Chennai Bench decisions in Reynolds Pen India Pvt. Ltd., POS–Hyundai Steel Manufacturing India Pvt. Ltd. and Ambattur Clothing Ltd.
The Tribunal considered whether the TPO and DRP were justified in rejecting internal TNMM and applying external TNMM without recording reasons or identifying defects in the segmental data, and whether the assessee’s loss during AY 2021-22 warranted a transfer pricing adjustment despite the asserted extraordinary COVID-19 related factors.
Referring to Rule 10B(1)(e) read with Rule 10B(2) of the Income-tax Rules, 1962, the Tribunal observed that comparison of net margins from comparable uncontrolled transactions may include internal comparables where available and reliable. In the present case, the assessee had furnished segmental profitability between AE and non-AE transactions. The TPO had neither rejected the segmental accounts nor pointed out any specific defect in allocation keys or reconciliation with audited accounts.
The Tribunal further noted that the TPO himself had aggregated AE and non-AE margins for determining the adjustment, thereby implicitly accepting functional similarity. In those circumstances, the TPO was required to first examine and reject the internal comparables with cogent reasons before resorting to external TNMM. Following the recent Chennai Bench decisions relied upon by the assessee, the Tribunal held that internal TNMM deserved primacy where reliable segmental data was available and that rejection of internal TNMM in the present case was unsustainable in law.
The Tribunal also found that the segmental results demonstrated higher margins from AE transactions than from non-AE transactions and consequently held that the international transactions were at arm’s length.
On the COVID-19 impact, the Tribunal noted that although the assessee incurred a loss during AY 2021-22, it earned profits in both the preceding and succeeding years and its gross profit margins across the three years remained broadly consistent. The Tribunal attributed the erosion in net margins during AY 2021-22 to the sharp decline in revenue, under-absorption of fixed overheads and additional COVID-19 related costs. These were treated as extraordinary external factors.
The Tribunal further observed that the TPO’s presumption that the decline in turnover was attributable to non-arm’s length AE pricing was unsupported by evidence, particularly since AE sales constituted only about 23% of total revenue and were on a cost-plus basis. It held that entity-level losses caused by extraordinary economic conditions could not, by themselves, justify a transfer pricing adjustment in the absence of evidence of manipulation of inter-company pricing.
Accordingly, the Tribunal held that internal TNMM based on the assessee’s segmental data was the most appropriate method for benchmarking the international transactions in the manufacturing segment. The rejection of internal TNMM and mechanical application of external TNMM by the TPO/DRP was held unsustainable. The Tribunal further held that the loss incurred during AY 2021-22 was attributable to extraordinary COVID-19 related factors and not to non-arm’s length pricing. The transfer pricing adjustment of Rs.9,06,00,000/- was therefore directed to be deleted.
The Tribunal thereafter considered Grounds Nos. 4 to 7 concerning disallowance of miscellaneous expenses, repair and maintenance expenses, rent expenses and bad debts written off.
For miscellaneous expenses of Rs.8,03,81,678/-, the Tribunal found that the disallowance had been made primarily on an ad hoc basis after accepting sample invoices, without identifying specific unverifiable expenses. The issue was therefore set aside to the file of the AO for fresh examination after calling for specific details and evidence and providing due opportunity of being heard. The ground was allowed for statistical purposes.
For repair and maintenance expenses relating to building and plant and machinery amounting to Rs.11,81,62,725/-, the assessee contended that the expenditure was revenue in nature and did not result in enduring benefit or enhancement of capacity. The Tribunal observed that the AO had not brought on record any specific finding showing capital advantage or extension of useful life and had not identified specific line items for which evidence was insufficient. The issue was restored to the AO for item-wise examination after considering the evidence furnished by the assessee and providing reasonable opportunity of being heard. This ground was also allowed for statistical purposes.
For rent expenses of Rs.8,36,92,634/-, the Tribunal noted that the assessee had submitted ledger extracts and sample lease agreements, but the assessment order did not deal with those documentary evidences. The issue was remanded to the AO for verification of lease agreements, ledger details and other supporting documents, followed by a fresh decision in accordance with law after granting due opportunity to the assessee. The ground was allowed for statistical purposes.
For bad debts written off amounting to Rs.1,11,06,931/-, the Tribunal observed that the assessment order did not contain a finding as to whether the amounts had been written off in the books of account. The issue was therefore set aside to the AO for fresh verification of the factual details, including whether the bad debts had been written off in the books and whether the statutory conditions were satisfied, after considering the details submitted by the assessee. This ground was likewise allowed for statistical purposes.
In the result, the appeal of the assessee was partly allowed. The order was pronounced on 12 January 2026 at Chennai.
FULL TEXT OF THE ORDER OF ITAT CHENNAI
This appeal is filed by the assessee against the final assessment order passed by the Assessing Officer dated 28.10.2024 pursuant to directions of the Dispute Resolution Panel (“DRP”) under section 144C of the Income-tax Act, 1961 (“the Act”), wherein a transfer pricing adjustment of Rs.9,06,00,000/- was sustained in respect of the manufacturing segment.
2. Brief facts of the case are that the assessee is a licensed manufacturer of Coats Group in India and is primarily engaged in the manufacture of sewing threads and accessories. Coats Group plc, United Kingdom, is the ultimate holding company. The assessee undertakes manufacturing and distribution of threads and accessories both to Associated Enterprises (“AEs”) and non-AEs.
3. During the relevant assessment year, the assessee entered into several international transactions with its AEs. The transactions under dispute are export of grey threads and finished goods amounting to Rs.272.13 crores and purchase of goods/raw materials amounting to Rs.6.99 crores. Other international transactions were accepted to be at arm’s length and are not in dispute.
4. The assessee adopted the Transactional Net Margin Method (“TNMM”) as the most appropriate method for benchmarking the manufacturing segment, with Operating Profit to Operating Revenue (“OP/OR”) as the Profit Level Indicator (“PLI”). In its transfer pricing study, the assessee selected 88 comparables with an arm’s length range of 3.60% to 6.55% and a median of 5.12%. The relevant year, AY 2021-22, coincided with the COVID-19 pandemic. The assessee’s manufacturing facilities were subject to enforced closure for approximately six weeks, followed by reduced factory shifts. The assessee’s turnover declined by 24.53% vis-à-vis the preceding year, resulting in an operating loss of 0.95%. The assessee claimed capacity adjustment and exclusion of COVID-19 related extraordinary costs, supported by detailed workings and subsequently by a Cost Audit Report dated 22.04.2024. After such adjustments, the assessee computed an adjusted operating margin of 6.93%, contending that its international transactions were at arm’s length. The assessee also furnished segmental profitability between AE and non-AE transactions and contended that internal TNMM was the most appropriate method, as margins earned from AE transactions were higher than those from non-AE transactions.
5. The Transfer Pricing Officer (“TPO”) rejected the assessee’s claim for internal TNMM without specifically rejecting the segmental data or pointing out defects therein. The TPO proceeded to apply external TNMM. The TPO rejected the capacity adjustment claimed by the assessee, including the alternative approach based on the Cost Audit Report, and allowed adjustment only to a limited extent in respect of employee cost and depreciation for a period of 45 days. The TPO treated export incentives as non-operating in nature and rejected certain comparables on quantitative filters and non-availability of data in the Prowess database. On the basis of 77 comparables with a median margin of 6.95%, and by considering the assessee’s margin at 3.46%, the TPO proposed an upward adjustment of Rs.9.06 crores.
Before the DRP, the assessee furnished additional evidence including detailed break-up of COVID-19 related shutdown costs amounting to Rs.89.40 crores, supported by the Cost Audit Report. The DRP called for a remand report from the TPO. The TPO, in remand proceedings, rejected the additional evidence and reaffirmed rejection of comparables. The DRP upheld the TPO’s action, holding that the assessee failed to demonstrate that COVID-19 impacted it differently from comparable companies, and that export incentives were non-operating in nature. The DRP also rejected inclusion of eight comparables for alleged non-availability of data.
6. The principal grievance of the assessee is that the authorities below erred in rejecting internal TNMM without any cogent reasons, despite availability of reliable segmental data demonstrating that margins from AE transactions were higher than margins from non-AE transactions.
7. It is contended that the goods sold to AEs and non-AEs are identical, manufactured using the same facilities, assets, workforce, and under the same risk profile. Hence, internal comparables provide a more reliable benchmark than external comparables.
The assessee further contends that the loss incurred during AY 2021-22 was entirely due to extraordinary external factors arising from COVID-19, and not due to any non-arm’s length pricing of AE transactions. It is demonstrated that the gross profit margins during the relevant year were consistent with the preceding and succeeding years, and the erosion in net margin was attributable to under-absorption of fixed costs and increased SG&A expenses.
The assessee relied upon multiple judicial precedents, including recent decisions of the Chennai Bench in Reynolds Pen India Pvt. Ltd., POS–Hyundai Steel Manufacturing India Pvt. Ltd., and Ambattur Clothing Ltd., wherein primacy was accorded to internal TNMM when reliable segmental data is available.
8. Per contra, ld.CIT-DR relied upon the orders of the ld.DRP and TPO.
9. The core issues that arise for our consideration are:
(i) Whether the TPO/DRP were justified in rejecting internal TNMM and applying external TNMM without recording reasons or identifying defects in the segmental data; and
(ii) Whether the loss incurred by the assessee during AY 2021–22 warrants transfer pricing adjustment, despite being attributable to extraordinary COVID-19 related factors.
10. Our Adjudication:
Internal TNMM vs External TNMM
Rule 10B(1)(e) read with Rule 10B(2) of the Income-tax Rules, 1962, envisages comparison of net margins from comparable uncontrolled transactions, which may include internal comparables where available and reliable.
In the present case, it is undisputed that the assessee furnished segmental profitability between AE and non-AE transactions. The TPO has neither rejected the segmental accounts nor pointed out any specific defect in allocation keys or reconciliation with audited accounts.
We note that the TPO himself aggregated AE and non-AE margins for determining adjustment, thereby implicitly accepting functional similarity. Having done so, it was incumbent upon the TPO to first examine and reject the internal comparables with cogent reasons before resorting to external TNMM.
The judicial precedents relied upon by the assessee, particularly the recent decisions of this Bench, clearly hold that internal TNMM deserves primacy when reliable segmental data is available. Respectfully following the same, we hold that rejection of internal TNMM in the present case is unsustainable in law.
Since the segmental results demonstrate that margins from AE transactions are higher than those from non-AE transactions, the international transactions are at arm’s length.
COVID-19 Impact and Loss Situation
The financial data placed on record shows that while the assessee incurred loss during AY 2021–22, it earned profits in both the preceding and succeeding years. The gross profit margins across the three years remain broadly consistent.
The erosion in net margins during AY 2021-22 is attributable to sharp decline in revenue, under-absorption of fixed overheads, and additional COVID-19 related costs. These are extraordinary external factors.
The TPO’s presumption that decline in turnover is attributable to non-arm’s length AE pricing is unsupported by any evidence, particularly when AE sales constitute only about 23% of total revenue and are on a cost-plus basis.
In our view, entity-level losses caused by extraordinary economic conditions cannot, by themselves, justify a transfer pricing adjustment in the absence of evidence of manipulation of inter-company pricing.
In view of the foregoing discussion, we hold that internal TNMM based on the assessee’s segmental data is the most appropriate method for benchmarking the international transactions in the manufacturing segment. The rejection of internal TNMM and mechanical application of external TNMM by the TPO/DRP is unsustainable. The loss incurred by the assessee during AY 2021-22 is attributable to extraordinary COVID-19 related factors and not to non-arm’s length pricing.
Accordingly, the transfer pricing adjustment of Rs.9,06,00,000/- is directed to be deleted.
11. Ground Nos.4-7:
We have heard the rival submissions and perused the material available on record. The present grounds relate to disallowance of various expenses and bad debts, which are dealt with issue-wise as under:
Ground No. 4: Disallowance of Miscellaneous Expenses- Rs. 8,03,81,678/-.
The assessee has challenged the action of the Assessing Officer, as affirmed by the DRP, in disallowing miscellaneous expenses on the ground that complete documentary evidences were not furnished. It is the contention of the assessee that sample invoices along with explanations were submitted during the assessment proceedings and no specific deficiency or particular line item was pointed out by the AO requiring further clarification or evidence.
On perusal of the assessment order, we find that the disallowance has been made primarily on an ad hoc basis by accepting sample invoices and disallowing the balance amount without identifying specific unverifiable expenses. In our considered view, such an approach does not meet the requirement of a reasoned assessment, especially when the assessee had sought clarification as to the exact details required.
In the interest of justice, we deem it appropriate to set aside this issue to the file of the AO for fresh examination. The AO is directed to verify the claim after calling for specific details and evidences and decide the issue in accordance with law after providing due opportunity of being heard to the assessee.
Accordingly, this ground is allowed for statistical purposes.
Ground No. 5: Disallowance of Repair and Maintenance Expenses (Building and Plant & Machinery):Rs.11,81,62,725/-.
The assessee contends that the expenditure incurred on repair and maintenance was revenue in nature and essential for maintenance of manufacturing assets, without resulting in any enduring benefit or enhancement of capacity. It is further submitted that sample invoices and explanations were filed, which were not duly considered by the AO.
We observe that the AO has disallowed the expenses without bringing on record any specific finding as to how the expenditure resulted in capital advantage or extension of useful life of the assets. Further, no specific line items were identified for which the evidence was found to be insufficient.
Considering the nature of the expenditure and the submissions made, we are of the view that the issue requires re-examination at the assessment level. Accordingly, we restore this issue to the file of the AO with a direction to examine the nature of expenditure item-wise, after considering the evidences furnished by the assessee and after providing a reasonable opportunity of being heard.
This ground is allowed for statistical purposes.
Ground No. 6: Disallowance of Rent Expenses: Rs.8,36,92,634/-.
The AO disallowed the rent expenses on the ground that the assessee failed to explain the nature of expenses. However, the assessee has submitted that ledger extracts and sample lease agreements were furnished during the assessment proceedings, clearly explaining the nature of rent expenditure.
On examination of the records, we note that the assessment order does not deal with the documentary evidences submitted by the assessee and the disallowance appears to have been made without proper verification. In the interest of justice, we consider it appropriate to remand this issue back to the AO for verification of lease agreements, ledger details, and other supporting documents.
The AO shall decide the issue afresh in accordance with law after granting due opportunity to the assessee.
Accordingly, this ground is allowed for statistical purposes.
Ground No.7:Disallowance of Bad Debts Written Off :Rs.1,11,06,931/-.
The assessee has challenged the disallowance of bad debts written off, contending that complete party-wise details, procedure followed for write-off, and justification were duly furnished during assessment proceedings. It is submitted that the AO disallowed the claim without appreciating the write-off entries and explanations provided.
We observe that the AO has disallowed the claim primarily on the ground that sufficient justification was not furnished. The assessment order does not contain any finding as to whether the amounts were written off in the books of account.
In our considered opinion, the matter requires fresh verification of factual details. We therefore set aside this issue to the file of the AO with a direction to verify whether the bad debts have been written off in the books and whether the statutory conditions are satisfied, after considering the details submitted by the assessee.
This ground is allowed for statistical purposes.
12. In the result, appeal of the assessee is partly allowed.
Order pronounced on 12th day of January, 2026 at Chennai.
