Deduction for technical knowhow cannot be allowed to trading company as it could not be said to have received any technical know how

The assessee had paid a sum of Rs. 2 crores to M/s. Procter & Gamble India Ltd (PGI) towards technical know how fees in assessment year 1994-95. The assessee had amortized the expenditure over a period of six years and claimed deduction of Rs. 33,33,333/- being 1/6th of the payment during the year. AO noted that the assessee was only a trading company and not a manufacturing company and therefore it could not be said to have received any technical know how from PGI and accordingly disallowed the claim.

IN THE INCOME TAX APPELLATE TRIBUNAL

“F Bench, Mumbai

Before  Shri R.V.Easwar, President and Shri Rajendra Singh, AM

ITA No. 988/M/2001
Assessment Year 1997- 98

ITA No. 8868/M/2004
Assessment Year 1998-99

ITA No. 8869/M/2004
Assessment Year 1999-2000

ITA No. 8870/M/2004
Assessment Year 2000-01

Assessee by:  Shri Yogesh Thar & Shri H.C.Buch

Revenue by: Shri A.P. Singh

Date of Judgment: 15.12.2010.

O R D E R

PER RAJENDRA SINGH (AM)

These appeals by the assessee are directed against orders dated 13.11.2000, 2.9.2004, 20.9.2004 and 20.9.2004 of CIT(A) for the assessment years 1997- 98 to 2000- 01. These appeals which were heard together and also involve some common disputes, are being disposed off by a single consolidated order for the sake of convenience.

2. We first take up the appeal of the assessee in appeal No.988/M/2001. The assessee in this appeal has raised disputes on six different grounds.

2.1 The first dispute is regarding dis allowance of deduction of Rs. 33,33,333/- claimed by the assessee under section 35AB of the I.T.Act. The facts in brief are that the assessee had paid a sum of Rs. 2 crores to M/s. Procter & Gamble India Ltd (PGI) towards technical know how fees in assessment year 1994-95. The assessee had amortized the expenditure over a period of six years and claimed deduction of Rs. 33,33,333/- being 1/6th of the payment during the year. The same issue had arisen in assessment years 1995- 96 and 1996- 97 in which the AO noted that the assessee was only a trading company and not a manufacturing company and therefore it could not be said to have received any technical know how from PGI and accordingly disallowed the claim. Following the reasons in earlier years the AO disallowed the claim in this year also as the claim related to the same technical know how agreement entered into in the earlier year. In appeal, CIT(A) following the decision in earlier year confirmed the order of AO aggrieved by which the assessee is in appeal before the tribunal.

2.1.1 We have heard both the parties, perused the records and considered the matter carefully. We find that the issue is covered by the decision of the tribunal in assessee’s own case in assessment years 1994- 95, 1995- 96 and 1996- 97 in ITA Nos. 5153/M/98 & 5687-5688/M/99. In the said years tribunal observed that though the assessee had not itself manufactured the goods, it had got the goods manufactured from others for which technical know how had been used. The tribunal also observed that there was no requirement in section 35AB that the assessee should itself manufacture the goods. The said section provided for deduction in respect of expenditure on acquisition of know how obtained for use in the business of the assessee. As this aspect had not been examined by the AO, the tribunal restored the issue to the file of AO for passing a fresh order after necessary examination and after allowing opportunity of hearing to the assessee. Respectfully following the decision of the tribunal in earlier years (supra), we restore this issue to the file of AO for passing a fresh order after necessary examination and after allowing opportunity of hearing to the assessee.

2.2 The second dispute is regarding disallowance of Rs.49,91,847/- being the expenditure incurred on payment of advertisement fees to foreign telecasting companies. AO noted that the assessee had made the said payment without deducting tax at source and asked the assessee to explain as to why the payment should not be disallowed under section 40(a)(i). The assessee argued that the amounts received by the foreign telecasting companies were not taxable in India and therefore no tax was required to be deducted at source. AO however did not accept the contention raised and following the decision taken in the assessment years 1994-95, 1995-96 and 1996-97 disallowed the claim under section 40(a)(i) of the I.T.Act. In appeal CIT(A) confirmed the order of AO aggrieved by which the assessee is in appeal before the tribunal.

2.2.1 Before us the Learned AR for the assessee submitted that during this year the assessee had not deducted the tax only for a short period from 1.4.1996 to 2.5.1996. The assessee had deducted the tax after 2.5.1996 following circular No.742 dated 2.5.1996 of CBDT. It was also pointed out that in the earlier years the issue had been restored to the AO by the tribunal for fresh adjudication and therefore this year also the issue may be restored to the file of AO. The Learned DR placed reliance on the orders of authorities below.

2.2.2 We have perused the records and considered the matter carefully. The dispute is regarding disallowance of deduction on account of payment to foreign telecasting companies on the ground that no tax had been deducted at source. We find that the same issue had already been considered by the tribunal in assessee’s own case in assessment years 1994-95 to 1996-97 in ITA No.5153/M/1998 and 5687-5688/M/1999. The assessee in the said years argued that all the services in connection with advertisement had been rendered outside India and payment had also been made to the bank account situated outside. The income of the foreign telecasting companies therefore was not taxable in India and no tax was required to be deducted. The assessee also submitted that the circular No.742 of the CBDT was not applicable for the period A.Y. 1995- 96 and earlier years. The assessee further pointed out that the authorities below had not considered the circular No. 23 dated 23.7.69 of the CBDT. Considering all these factors, the tribunal had set aside the order of CIT(A) and restored the matter to the file of AO for passing a fresh order after necessary examination and after allowing opportunity of hearing to the assessee. Identical facts are involved in this year also. We therefore set aside the order of CIT(A) and restore the issue to the file of AO for passing a fresh order after necessary examination and after allowing opportunity of hearing to the assessee.

2.3 The third dispute is regarding dis allowance of claim of deduction of Rs.3,66,65,058/- consisting of expenditure of Rs. 3,59,24,136/- on advertisement film and Rs.7,40,922/- on production of radio programmes, being the expenditure incurred for the purpose of advertisement of the assessee’s products. The AO observed that TV films, commercials and radio programmes were used to create brand awareness in the minds of the targets audience which endured for long time and therefore these could not be considered as revenue expenditure. The AO also observed that though advertisement expenditure could be allowed as revenue expenditure, the production of TV film did not amount to advertisement. The AO therefore treated the expenditure as capital expenditure and disallowed the same. In appeal CIT(A) observed that in assessment years 1995-96 and 1996-97, he had considered similar issue and held that irrespective of the fact whether expenditure was capital or revenue the claim was allowable under section 37(3) of the I.T.Act and accordingly had restored the issue to the file of AO to consider the limitation prescribed under Rule 6B of the I.T.Act. CIT(A) therefore restored the issue to the file of AO this year also aggrieved by which the assessee is in appeal before the tribunal.

2.3.1 Before us the Learned AR for the assessee argued that the issue was covered in favour of the assessee by the decision of the tribunal in case of Metro Shoes (258 ITR 106 (AT) (Mum) in which it has been held that the expenditure on advertisement film was allowable as revenue expenditure. It was also pointed out that the said decision of the tribunal was followed by the tribunal in case of a group company viz. Procter & Gamble Distribution Co. Ltd. in A.Y.1994-95. It was accordingly urged that the order of CIT(A) should be set aside and the claim of the assessee should be allowed. The Learned DR on the other hand placed reliance on the orders of the authorities.

2.3.2 We have perused the records and considered the rival contentions carefully. The dispute is regarding allowability of expenditure incurred by the assessee on production of advertisement film (Rs.3,59,24,136/-) and radio programmes (Rs.7,40,922/-) as revenue expenditure. The AO had disallowed the claim holding the same as capital expenditure. CIT(A) has held that claim has to be allowed, whether capital or revenue, within the limitation provided under Rule 6B. The assessee has challenged the order of the CIT(A) and argued that the claim is allowable without any limitation. We find that the issue raised in this ground is covered by the decision of the Mumbai Bench of the tribunal in case of DCIT Vs Metro Shoes Pvt. Ltd. (258 ITR 106 (AT) In that case the assessee who was a trader in footwear had produced a video film for advertising the product on TV and claimed the expenditure as revenue expenditure which had been disallowed by the AO as capital expenditure. In appeal the tribunal observed that the public interest like public memory had a short span of life and in order to keep the mass interest intact in the products, the assessee had to continuously strive to keep on advertising its products in ever increasingly novel ways and method through the media. The expenditure incurred on production of advertisement film was therefore held to be allowable as revenue expenditure. The said decision had been followed by the tribunal in case of Procter & Gamble Distribution Co. Ltd., another group company of the assessee in ITA No.2173/M/2001. The facts in the case of the assessee are identical as the expenditure claimed is on account of production of advertisement film and radio programme. We therefore respectfully following the decision of the tribunal in case of Metro Shoes Pvt. Ltd (supra) set aside the order of CIT(A) and allow the claim of the assessee.

2.4 The fourth dispute is regarding disallowance of expenditure of Rs.1,40,62,500/- on account of non compete fees. The facts of the case are that after the joint venture agreement dated 16.12.92 between PGFE and Godrej family, PGI had bought all the laundry and detergent products from GSL by the names of Trilo, Key, Biz, Ezee and Godrej liquid cleaner. The manufacturing of these products was to be done by GSL and marketing and selling, rights were sold to PGI. In lieu of GSL agreeing not to compete in the laundry and detergent business, PGI had to pay a sum of Rs. 9 croes to GSL as non compete fees. PGI had paid Rs.7.5 crores to GSL for the first phase of non compete fees of five years which was renewable to further periods of five years each upto 20 years on payment of further consideration. From 1st November 1993, PGI divested to laundry and detergent business to the assessee and recovered the non-compete fees paid to GSL from the latter.  The expenditure claimed is the payment made during the year as part of non-compete fees recovered by PGI. The AO noted that similar claim had been made in assessment year 1994-95 to 1996-97 in which the expenditure was held by the AO to be capital in nature and disallowance was confirmed by CIT(A). AO therefore following the earlier order disallowed the claim which in appeal has been confirmed by the CIT(A), aggrieved by which the assessee is in appeal before the tribunal.

2.4.1 Before us the Learned DR appearing for the revenue pointed out that the issue was covered against the assessee by the recent decision of the Special Bench of the tribunal in case of Tecumseh India Pvt. Ltd Vs ADIT in ITA No. 3759/Del./2003. The Learned AR for the assessee fairly conceded that the decision of the Special Bench of the tribunal (supra) was against the assessee and submitted that the case may be decided in the light of decision of the Special Bench.

2.4.2 We have perused the records and considered the matter carefully. In the  case of Tecumseh, USA, a leading Global compressor manufacturer, the assessee  had purchased the compressor related operations of Whirlpool India, a leading refrigerator manufacturer in India, for Indian compressor market. The assessee had paid the price of Rs. 52.5 crores which included a sum of Rs.2.65 crores to be paid as non-compete fees. The issue was whether non compete fees which was in force for 5 years, could be allowed as revenue expenditure. The Special Bench after detailed examination held that the expenditure was capital in nature. It placed reliance on the judgment of Hon’ble Supreme Court in CIT Vs Coal Shipment Pvt. Ltd. (82 ITR 902) in which it was held that payment to ward off completion in business to a rival dealer would constitute capital expenditure if the object of making that payment was to derive an advantage by eliminating competition over some length of time. The Special Bench also observed that non compete period of five years had been considered as sufficient to give enduring benefits in case of Assam Bengal Cement Co. Ltd. (27 ITR 34). In that case, the assessee who was a manufacturer of Cement had paid protection fees to the lessor of quarries for lime stone, on annual payment of Rs. 5000/- for the whole period of lease and another sum of Rs. 35000/- p.a. as a further protection fees for five years for similar undertaking in respect of the whole district. The issue was whether the payment could be allowed as revenue expenditure. Hon’ble Supreme Court observed that the fact that the payment was recurring was immaterial. It was the nature of asset acquired which was material. The asset required was the right to carry on the business unfettered by any competition which was not a part of working of the business but went on to appreciate the whole of the capital asset and make it more profit yielding. The expenditure was thus hold as capital in nature by the Hon’ble Supreme Court. The Learned AR has not brought on record any distinguishing feature from the facts of Tecumseh (I) (P) Ltd. (supra). Therefore respectfully following the decision of Special Bench in case of Tecumseh (I) (P) Ltd. (supra), we uphold the order of CIT(A) confirming the dis allowance as capital expenditure.

2.5 The fifth dispute is regarding dis allowance of Rs. 7 crores paid to Godrej Soaps Ltd. (GSL) towards termination of the manufacturing agreement for manufacture of detergent bar. Briefly stated the facts of the case are that by joint venture agreement dated 16.12.92 between Procter & Gamble Far East (PGFE), Godrej Soaps Ltd (GSL) and Procter & Gamble India Ltd (PGI), a joint venture company named as Procter & Gamble Godrej Ltd. (PGG) has formed for manufacture of synthetic detergent bar and to market, sale and distribute toilet soaps. In the said joint venture company, PGFE had 51% equity and the balance 49% was held by Godrej Designee a concern of Godrej group. The joint venture agreement also provided for manufacturing agreements with GSL and different Procter & Gamble entities. The joint venture agreement further provided for sale and transfer of the marketing and distribution of GSL toilet soap business in India to PGG. Subsequent to the signing of JV agreement, PGI had purchased the laundry and cleaning powder business from GSL and after the said purchase, PGI had entered into an arrangement with GSL for manufacturing and designing of detergent bar. The said business along with the arrangement were later transferred by the PGI to the assessee in the year 1994 w.e.f. 1.11.93. In terms of the said agreement, the assessee had agreed to buy from GSL 1800 tons of detergent bars per month at the agreed price. The agreement was to remain in force till 31.3.97. However subsequently, the Joint Venture Agreement with Godrej was terminated on 23rd July 96 and in consequence thereof, all other manufacturing agreements were automatically terminated under the provisions of the clause 14.6 of the joint venture agreement. The assessee submitted before AO that a sum of Rs. 7 crores had been paid by the assessee to GSL for early termination of the manufacturing agreement. It was pointed out that the compensation paid was for loss of sales and profits by GSL as well as for loss of capacity utilization. The assessee also submitted that the agreement had to be terminated due to change in the detergent market in India. AO however did not accept the contentions raised. It was observed by him that the real reason for paying huge amount was the termination of joint venture agreement. Therefore the payment related to restructuring and reorganization of the frame work of existing business and profit making apparatus of the P&G group and therefore was capital in nature. The AO placed reliance on the judgment of Hon’ble High Court of Mumbai in case of Godrej Philips India Ltd. Vs CIT (206 ITR 23) and judgment of Hon’ble Supreme Court in case of Chari & Chari Ltd. (57 ITR 400) and several other judgments. The AO therefore disallowed the claim as capital expenditure and not incurred for the purpose of business of the assessee.

2.5.1 The assessee disputed the decision of AO and submitted before CIT(A) that subsequent to the joint venture agreement dated 16.12.92, PGI had entered into agreement with GSL dated 22.1.93 for manufacturing of detergent bars under the name TRILO and subsequently PGI had transferred the business to the assessee. The agreement was valued till 31.03.97 but was prematurely terminated on 30.07.96 necessitating payment of Rs. 7 crores to GSL to compensate for loss. The termination had not been created any new company or extinguished the existence of the assessee company. It was pointed out that the judgments relied upon by the AO were distinguishable and the claim was allowable as revenue expenditure. CIT(A) however did not accept the contentions raised. It was observed by him that the manufacturing agreement had been entered into under the provisions of the joint venture agreement as per clause 9.3 which also prescribed the format of agreement. Further the original agreement was entered into between PGI & GSL but later it was transferred to the assessee which showed that such actions were dictated by the parent company i.e PGFE. The payment was thus for termination of the main J.V.Agreement which related to restructuring and reorganization of the frame work of the business of PGFE and it was not incurred wholly and exclusively for the purpose of business of the assessee as the assessee and the GSL had not acted as per their own will, CIT(A) therefore confirmed the dis allowance made by AO, aggrieved by which the assessee is in appeal before the tribunal.

2.5.2  Before us the Learned AR for the assessee reiterated the earlier submissions that the payment had been made as compensation for loss of sales and capacity utilization by GSL. The termination had given advantage to the assessee in the revenue field as sale and profit of the assessee had both gone up as was clear from the comparative figures placed at page 37 of the paper book which showed that both sales and profit had improved in F.Y. 1996- 97 compared to that in the immediate preceding year. The termination was thus for removing commercial constraints. It was also submitted that only the manufacturing agreement for production of TRILO brand of Godrej had been terminated and the assessee had several other contract manufacturing agreements and therefore the termination had not affected the profit earning apparatus. The advantage was thus only in the revenue field and the expenditure had to be allowed as revenue expenditure. He placed reliance on the following judgments in support of the case.

86 ITR 549 (SC) in case of CIT Vs Ashok Leyland Ltd.

107 CTR 240 Kol in case of Pieco Electronics and Electrical Ltd.

    (iii)  223 ITR 112 (Kar) CIT Vs Motor Industries Co. Ltd.

    (iv) 114 ITR 110 (Mum) CIT Vs Glaxo Laboratories (I) (P) Ltd.

    (v) 77 ITR 140 (Mum) Western India Oil Distributing Co. Ltd. Vs CIT

2.5.3 The Learned DR on the other hand argued that the payment made by the assessee was not for termination of the manufacturing agreement. The said agreement it was pointed out had emanated from the main joint venture agreement dated 16.12.92 under the provisions of clause 9.3 of the joint venture agreement. Further clause 14.6 of the JV agreement (JVA) clearly provided that in case JVA was terminated the manufacturing agreements and other agreements would automatically be terminated. Therefore the payment made by the assessee was not for termination of the  manufacturing agreement but for the termination of the JV agreement. The JV agreement was the mother agreement from which various manufacturing agreements and other agreements had emanated and payments had been made to GSL for termination of the JV agreement from the accounts of various P & G affiliates. It was also submitted that since the JV was a long term agreement which created an income earning framework and the payment thus related to reorganization and restructuring of the main business framework and therefore was capital in nature. It was also argued that payment was not for loss of any revenue by GSL. He referred in this regard to clause 19 of the JVA which provided that in case of termination of JV, no liability would be cast on any party to the agreement towards any other party for loss of anticipated sales or prospective profits. The Learned DR also submitted that the JV was not a trading relationship but it was a manufacturing relationship which provided for long term business framework for the P & G group. The cases cited by the Learned AR for the assessee were distinguishable. The Learned DR placed reliance on the following judgments in support of the case of the revenue.

74 ITR 484 P & H in case of Dalmiya Dadari Cement Ltd. Vs CIT

75 ITR 592 (All) J.K.Cotton Manufacturers Ltd. Vs CIT

27 ITR 34 (SC) in case of Assam Bengal Cement Co. Ltd. Vs CIT

2.5.4 We have perused the records and considered the rival contentions carefully. The dispute is regarding the nature of expenditure incurred by the assessee by way of payment of Rs. 7 crores to GSL towards termination of manufacturing agreement for manufacture of detergent bar. The said manufacturing agreement had been originally entered into between PGI & GSL under the provisions of clause 9.3 of the joint venture agreement (JVA) between P&G group and the Godrej group. In terms of the said agreement PGI had purchased the laundry and cleaning powder business from GSL and had entered into manufacturing agreement for manufacturing and designing of detergent bar. The said business was later transferred by PGI to the assessee w.e.f. 1.11.93. As per the agreement the assessee had agreed to buy from GSL 1800 tons bar of detergent  per month at the agreed price. The agreement was in force till 31.3.97. The JV Agreement between the two groups was however terminated on 23.07.96. Under the provisions of clause 14.6 of the JVA, in case of termination of JVA, all agreements emanating from the JVA were to  automatically cease. The case of the assessee however is that the manufacturing agreement was prematurely terminated on 30.07.96 to remove commercial constraints and the payment of Rs.7 crores had been made to GSL to compensate for loss of sale and profit and loss of capacity utilization. It has also been submitted that the agreement terminated was for manufacture of Trilo brand and it was one of many such agreements by the assessee for manufacture of different products. The termination did not therefore have any impact on the profit earning apparatus and the advantage derived from the assessee was only in the revenue field. It has been pointed out that after the termination, sales and profit both had improved. Accordingly it has been urged that the expenditure should be allowed as revenue expenditure.

2.5.5 In our view for deciding the nature of expenditure, it is first necessarily to ascertain the real purpose of payment. It is clear from the reading of the clause 14.6 of JVA that in case of termination of the JVA, all other agreements entered into under the provisions of JVA would automatically cease to exist. There is no dispute that the manufacturing agreement had been entered into under the provisions of the clause 9.3 of the JVA. There is also no dispute that the JVA had been terminated by both the parties on 23.7.96 and therefore on the said date the manufacturing agreement had ceased to exist. There was thus no need to enter into a separate termination agreement. The termination agreement dated 30.07.96 was only a formality. There is also no material produced to show that there were any difficulties between the two parties regarding the working of the manufacturing agreement. Merely because the GP rate in the subsequent period had improved, it cannot be the basis to conclude that the manufacturing agreement had been terminated because of any commercial constraints when no such material has been placed on record. It has been submitted that sale and profit had improved after the termination. But we find from the details given at page 37 of the paper book that sales of soap and detergent had fallen down to Rs.284 crore in F.Y.1996-97 compared to Rs.299 crore in F.Y.1995-96. GP rate in respect of soap and detergent is not given. No such plea was raised before lower authorities and therefore cannot be entertained at this stage as it will require going into fresh facts. Moreover the manufacturing agreement was not terminated because of any constraints in the working of the manufacturing agreement but because of the termination of the JVA as on the termination of J.V. the manufacturing agreement automatically ceased to exist. Therefore in our view the payment made by the assessee was for termination of the JVA. The argument of the assessee that payment was made for loss of sale or profit by GSL cannot be accepted as clause 19 of J.V.A clearly provided that in case of termination of J.V.A., no liability would be cast on any party towards the other party for loss of anticipated sale or prospective profits.

2.5.6 Having concluded that the payment had been made for termination of JVA, the other issue to be addressed is whether the payment can be considered as revenue expenditure in case of the assessee. A careful perusal of the JVA shows that it was not a mere trading agreement. It provided for creation of joint venture company between P&G group and Godrej group namely PGG in which the PG group was to hold 51% equity. PGG had been formed for manufacture of synthetic detergent bar and to market, sale and distribute toilet soap. The JVA also provided for different manufacturing agreements between GSL and different entities of P & G group for manufacture of different products. Further the JVA was for an unlimited period and could be terminated only in case of insolvency and bankruptcy and liquidation of either of the party and for breach of any terms and conditions of the JVA. Admittedly none of the terms and conditions of the JVA had been violated by either of the parties. Thus the JVA provided for a long term business framework and profit earning apparatus of the P & G group. With the termination of the JVA, the JV company as well as other manufacturing agreements automatically ceased to exist. The termination of JVA was thus obviously a part of restructuring and reorganization of the profit earning apparatus of the P&G group. Therefore the termination had impact on the profit earning apparatus of the group and the payment was therefore in relation to change in profit earning apparatus of the P&G group and not for termination of manufacturing agreement which had already ceased to exist.

2.5.7 We have now to consider the nature of the said expenditure. It is a settled legal position that in case an expenditure is incurred for better working of the existing profit earning apparatus, it will be revenue in nature but in case the expenditure relates to any change in the profit earning apparatus the expenditure would be capital in nature. The said view is supported by the judgment of Hon’ble Supreme Court in case of Empire Jute Co. (124 ITR 1). We have already held that the payment in this case was in relation to restructuring and reorganization of business frame work and profit earning apparatus of the P & G group. The payment  was not wholly and exclusively for termination of manufacturing agreement between the assessee and the GSL. Therefore in our view the expenditure has to be treated as capital in nature. The Learned AR for the assessee has argued that the manufacturing agreement was like one of several agencies taken during the course of business and therefore expenditure on termination of one agency has to be treated as revenue in nature. We are unable to accept the argument. Firstly this is not a case of termination of one of several agencies. The JVA as we have discussed earlier provided for long term business framework and profit earning apparatus of the P & G group. Secondly, payment made for cancellation of an agency can be considered as revenue expenditure only when it does not affect the trading or profit earning structure of the business. In the present case we have already held that the termination of JVA had an impact on the profit earning apparatus as JVA was a pivot to the business structure. We therefore hold that the expenditure was capital in nature.

2.5.8 The Learned AR for the assessee has placed reliance on several judgments in support of the case that the expenditure was revenue in nature. We have gone through the said judgments and in our view all the judgments are distinguishable and not applicable to the facts of the present case. In case of CIT Vs Ashok Leyland Ltd. (86 ITR 549) on which reliance has been placed, the assessee was originally importing and assembling motor cars, parts etc. manufactured by Austin of England. The assessee had appointed CB Ltd. as managing agent for Austin cars. With government allowing setting up of automobile industry in India, the assessee in 1954 took up manufacturing of Leyland commercial vehicle and stopped manufacturing of Austin cars. In 1955 the assessee terminated the managing agency on payment of Rs.2.5 lacs. The issue was nature of expenditure on account of the said payment and it was held as revenue expenditure. It is obvious that the termination of managing agency did not have anything to do with the stoppage of manufacturing of Austin car which had already been stopped nor did it have anything to do with the manufacture of Leyland commercial vehicle. After the assessee stopped manufacturing Austin cars, the managing agency had become redundant. Thus the termination of managing agencies did not relate to the profit earning apparatus of the assessee and by termination the assessee could only gain advantage in the revenue field by way of saving of unnecessary expenditure. The case of the assessee is different as in this case payment was for termination of JVA which had impact on the profit earning apparatus.

2.5.9 In case of Western India Oil Distributing Co. India Vs CIT (77 ITR 140) the assessee had an agreement for 10 years for obtaining aggregate loan of Rs.10 lacs. The assessee had agreed to pay interest @ 6% per annum on Rs. 10 lacs whether or not the finance was taken. The assessee was also required to pay commission on import of goods, whether finance was taken or not, even after expiry of agreement. Subsequently the assessee revoked the agreement in a consent decree on payment of Rs. 3 lacs in five equal installments. The issue was the nature of expenditure incurred. Obviously, the agreement was only in connections with obtaining finance required for the purpose of business and any payment in connection with the finance, for the working of business is a revenue expenditure. The termination of agreement did not have any impact on the profit earning apparatus. The Hon’ble High Court held that payment had been made only to remove difficulty in the smooth running of business. The case is obviously distinguishable as the payment did not relate to the profit earning apparatus.

2.5.10 In case of CIT Vs Motor Industries Co. Ltd. (223 ITR 112), the assessee was manufacture and distributor of automobile parts. The assessee had an agreement with the sole distributor which expired on 9.2.72. The assessee entered into a fresh agreement with the sole distributor on 18.3.72 as per which the distributorship was restricted to certain areas. The agreement was limited to five years till 9.2.77 without any right of renewal to the distributor. Instead of renewing the agreement in 1977, the assessee decided to take on the remaining territory from the distributor on payment of Rs.99 lacs over a period of three years and the issue was whether the expenditure could be allowed as revenue expenditure. The Hon’ble High Court observed that strictly speaking the distributor did not have any legal claim as the agreement had expired and there was no provision for renewal. The payment had been made for smooth transition from marketing through a distributor to marketing by the company itself. The payment did not relate to any assets or any augmentation of any profit making apparatus. It was only to get rid of a commercially disadvantageous business agreement and thus held as revenue expenditure. The case is obviously distinguishable. In the present case the JVA as pointed out earlier was a long term asset and constituted the profit earning apparatus in case of the assessee.

2.5.11 In case of CIT Vs Pecio Electronic & Electrical Ltd. (107 CTR 240), the assessee had contract for manufacture of goods with M/s. Vulcan Industries since November 1971. In 1975 the assessee stopped lifting goods from that party and paid compensation of Rs.4,03,000/- for breach of contract. The High Court held that the payment had been made for premature termination of a trade agreement which was creating an onerous burden on the assessee. The termination only avoid future commercial inconvenience and therefore the expenditure was held allowable as revenue expenditure. In the present case as we have pointed out earlier the payment had been made for termination of JVA which was not a mere trade agreement. It provided for long term business framework and profit earning apparatus for the P & G group and therefore the termination did affect the profit earning apparatus.

2.5.12 In case of CIT Vs Glaxo Laboratories (India) Pvt. Ltd. (114 ITR 110), the assessee had an agreement for the purpose of distribution of products. The agreement could be terminated by either party at one month’s notice. The agreement obviously did not have anything to do with the profit earning apparatus as it  only related to the sale and distribution of the products and it could be terminated any time after one month’s notice. The expenditure for termination was held to be allowable as revenue expenditure. The case is obviously distinguishable from the present case in our view of the discussion made earlier.

2.5.13 In view of the foregoing discussion and for the reasons given earlier we see no infirmity in the orders of the authorities below holding the expenditure as capital expenditure. The order of CIT (A) is accordingly upheld.

2.6  The sixth dispute is regarding dis allowance of the sum of Rs. 3 crores being the amortized portion of the sum of Rs. 21 crores paid by the assessee to GSL under the ‘Safeguard’ Confidentiality Agreement. The assessee had paid a sum of Rs. 21 crores to GSL in terms of the “Safeguard Confidentiality Agreement”. The assessee explained that during the tenure of JV agreement with Godrej the assessee developed plans to launch ‘safeguard’ an anti germicidal soap with dog bone shape. ‘Safeguard’ was accordingly manufactured for launch in the Indian market and as a result GSL had come in possession of lot of confidential information like packaging material design, formulation of anti bacterial and germicidal soap (product never manufactured by GSL), advertising material, market data etc. Under the agreement, GSL, had agreed to keep such information confidential and not to use directly or indirectly in the manufacture or marketing or sale of anti bacterial soap including ‘safeguard’ for a period of seven years in any territory. The assessee had made payment of Rs.21 crores for the undertaking to maintain such confidentiality. It was argued that the confidential information was an asset of the company which needed to be protected to preserve the business. The payment was therefore allowable as revenue expenditure. Reference was made to the judgment of Hon’ble SC in case of CIT Vs Malayalam Plantation Ltd. (53 ITR 140) in which it was held that expenditure incurred in taking measures for the preservation of business and for protection of the assets and property from ex-propriation, coercive process or assertion of hostile titles etc. would be for carrying on of the business and the expenditure will be allowable as revenue expenditure. Reliance was also placed on the judgment of Hon’ble Supreme Court in case of CIT Vs Delhi Safe Deposit Co.Ltd. (133 ITR 756) and the judgment of Hon’ble High Court of Mumbai in case of Krishna Sahakari Sakher Karkhana Ltd. Vs CIT (229 ITR 577) in which the ratio laid down by the Hon’ble Supreme Court in case of Malayalam Plantation Ltd. (supra) had been followed. The AO however did not accept the contentions raised. It was observed by him that the real reason for making the payment was the termination of JVA and therefore the payment related to restructuring and reorganization of the framework of assessee’s business and its profit making apparatus and the payment therefore related to the domain of capital expenditure. AO  referred to several judgments in support of his conclusion.

2.6.1 The AO also observed that the payment had been made for the undertaking by GSL to not manufacture and process the anti bacterial germicidal soap with the formulation of 0.95% TCC and 0.5% TCS (brand name safeguard) and for not using the confidential information to anyone. The payment was therefore basically to ward off competition from M/s. GSL and to prevent disclosure of confidential information in relation thereto to any other party. The payment was thus to ward off competition and such expenditure was therefore capital in nature. Reliance was placed on the judgment of Hon’ble Supreme Court in case of Assam Bengal Cement Ltd. Vs CIT (27 ITR 34) and on the judgment of Hon’ble Supreme Court in case of CIT Vs Coal Shipment Pvt. Ltd. (82 ITR 902) and several other judgments. Moreover the AO also observed that GSL in its return of income for A.Y.1997-98 had declared the said payment as capital receipt which also supported the case for the expenditure in case of the assessee to be treated as capital in nature. The AO distinguished the judgment of Hon’ble Supreme Court in case of Malayalam Plantation Pvt. Ltd (supra) relied upon by the assessee on the ground that the same related to the payment made during the carrying on the business whereas in the present case the intended business of launching of anti bacterial germicidal soap never materialized even after the lapse of four years from the end of the confidentiality agreement. The argument of the assessee that the payment was made for preserving and protecting its business was therefore not tenable. Considering all these factors the AO treated the payment as capital in nature and disallowed the same.

2.6.2 The assessee disputed the decision of the AO and submitted before CIT(A) that anti bacterial and germicidal soap had a great potential and therefore the confidential information relating thereto was an asset of high value to the assessee which needed to be protected in order to preserve the business. It was argued that the judgment of Hon’ble Supreme Court in case of Assam Bengal CO. Ltd. (supra) was distinguishable as in the present case the payment was not to ward off competition but for protecting the asset. Alternatively it was also submitted that the amortized amount of Rs. 3 crores may be allowed to the assessee in this year and the balance in the subsequent years. CIT(A) however did not agree with the contentions raised. It was observed by him that the payment had not been made to protect the business interest of the assessee but to protect the business interest of the parent company and others who were party to the JV agreement. It was also observed by him that clause 13.1 of the JV agreement clearly provided that none of the parties would disclose business and technical information to any other party. Therefore there was no need for entering into such agreement for getting information relating to ‘safeguard’ soap confidential. Moreover under the agreement, GSL had not only agreed to keep the information confidential but also not to use such information directly or indirectly to manufacture, market and sale of the ‘safeguard’ soap. Therefore the true nature of the payment was to ward off competition and the expenditure was therefore capital in nature. CIT(A) accordingly confirmed the order of AO aggrieved by which the assessee is in appeal before the tribunal.

2.6.3 Before us the Learned AR for the assessee reiterated the submissions made before lower authorities that the payment had been made to safeguard the confidential information relating to anti bacterial and germicidal soap which was an asset to the assessee. The payment was therefore for protection and preservation of an asset and which had to be allowed as revenue expenditure. It was further argued that the AO was not correct in concluding that the payment related to the framework of business and profit earning apparatus of the group. It was pointed out that the product concerned was one of the several products being dealt with the assessee and therefore the same did not have any impact on the profit earning apparatus. The Learned AR also argued that merely because GSL had declared the payment as capital receipt could not be the ground to conclude that the payment in case of the assessee has to be treated as capital expenditure. Reliance for this proposition was placed on the judgment of Hon’ble High Court of Madras in case of C.Lakshmi Rajyam Vs CIT (40 ITR 340). It was further submitted that the payment could also be considered as an expenditure in connection with the launch of the product which did not materialize. In such cases the expenditure has to be held as allowable as revenue expenditure. Reliance was placed on the following judgments.

221 ITR 440 (Kol) CIT Vs Graphite India Ltd.

263 ITR 357 (Guw) in case of DCIT Vs Assam Asbestos Ltd.

185 Taxman 44 in case of CIT Vs Priya Village Road shares Ltd.

2.6.4 The Learned DR on the other hand strongly supported the orders of the authorities below. It was argued that the assessee had itself capitalized the expenditure in the books of account which clearly indicated that the assessee itself was of the view that the expenditure was capital in nature. It was also submitted that the product was never launched and there was no material to show that the GSL was privy to any confidential information relating to launch of anti germicidal soap. It was pointed out that the assessee had not even produced the copy of manufacturing agreement with GSL. The agreement filed at page 59 to 60 was between PGG & PGI and even in this agreement there was provision not to divulge confidential information after expiry of the agreement as per clause 1.6. Assuming that agreement with the assessee was similar, there being already clauses in the manufacturing agreement for safeguard of information there was no need for entering into a separate confidentiality agreement. Therefore the AO had rightly observed that the payment was not for maintaining confidentiality but in connection with the termination of the JV agreement which constituted a business framework and profit making apparatus of the group and thus the payment related to capital field. Further even if the confidential information was required to be maintained, the payment was of the nature to ward off competition which was not allowable as revenue expenditure. The Learned DR also argued that in case the payment was treated as expenditure in connection with launch of a product which did not materialize, there were several judgments as per which such expenditure has to be disallowed as capital expenditure. Reliance was placed on the following judgments.

196 ITR 237 (Guj) Saurashtra Cement and Chemical Industries Ltd Vs CIT

207 ITR 239 (Guj) McGAW Ravindra Industries Vs CIT

243 ITR 348 (Mad) CIT Vs WS Insulation of India Ltd.

2.6.5 We have perused the records and considered the rival contentions carefully. The dispute raised in this ground is regarding nature of payment of Rs. 21 crores made by the assessee to GSL under “safeguard confidentiality agreement”. The case of the assessee is that during the operation of the JVA with Godrej the assessee had developed plans to launch ‘safeguard’ an anti bacterial germicidal soap with dog bone shape. As per the assessee, the product was developed for launch in Indian market and under the manufacturing agreement dated 22.1.93 and technical assistance agreement dated 22.1.93 GSL had become privies to certain confidential information relating to the anti bacterial germicidal soap such as information relating to packaging material design, formulation of anti bacterial and germicidal soap, advertising material, marketing data etc. The assessee had made the payment for the undertaking by GSL to keep the information confidential. It has been argued that such an information was an asset and the expenditure was incurred for protection of asset to preserve the business and therefore the expenditure was allowable as revenue expenditure. Reliance has been placed on the judgment of Hon’ble Supreme Court in case of CIT Vs Malayalam Plantation Ltd. (53 ITR 140) It has also been argued that the payment could also be considered as an expenditure in connection with launching of product which did not materialize and the expenditure has therefore to be allowed as revenue expenditure. Reliance has been placed on several judgments as mentioned in pars 2.6.3 earlier. The case of department is that the real reason for making the payment was the termination of the JVA and therefore it related to restructuring and reorganization of the business framework and profit making apparatus of P & G group. Secondly the department had also taken the stand that even if it was accepted that the payment was made for getting the information confidential and not to use it in  business, the nature of payment was to ward off competition and therefore it was capital in nature. The revenue has also countered the argument of the assessee that expenditure in connection with launch of products which did not materialize has to be allowed as revenue expenditure. It has been argued that such expenditure has to be considered as capital and reliance has been placed on several judgments as mentioned in para 2.6.4.

2.6.6 We have considered the various aspects of the matter and the judgments cited carefully. For deciding the nature of expenditure we have to first ascertain the true nature of payment. The payment had been made in terms of the confidentiality agreement dated 30.07.96. The said confidentiality agreement mentions that under the manufacturing agreement and technical assistance agreement both dated 22.1.93 GSL become privy to confidential information in relation to anti bacterial germicidal soap. However, no such manufacturing agreement and technical assistance agreement has been placed on record. Nor there is any material placed on record to show that there was any exchange of confidential information between the assessee and GSL in relation to development of any anti bacterial soap. To a query by the bench at the time of hearing of the appeal the Learned AR for the assessee admitted that there was no further material available with the assessee other than those placed in the paper book which does not contain any such manufacturing agreement or exchange of confidential information. It is therefore not established that GSL had acquired any confidential information for which the assessee had to make payment for protecting the information.  As the purpose of payment is not established the expenditure cannot be allowed as incurred wholly and exclusively for the purpose of business.

2.6.7 Secondly, even if it is assumed that the GSL did become privy to any such confidential information, the payment as per the confidentiality agreement had been made for undertaking from GSL not to manufacture and process any anti bacterial germicidal soap (safeguard) and for not disclosing the confidential information to anyone. The purpose of not allowing GSL to manufacture the product is only to ward off competition. Similarly the purpose for not disclosing the information to any one else by GSL is also to ward off competition by not allowing others to use the information for manufacture of product. Therefore the real purpose of payment in such scenario assuming that GSL did have in its possession some confidential information would be to ward off competition. The expenditure incurred to ward off competition is not the same as expenditure on development of product or the expenditure to protect the products. The expenditure to ward off competition is capital in nature as held by Hon’ble Supreme Court in case of Assam Bengal Cement Co. Ltd. Vs CIT (supra) and in case of CIT Vs Coal Shipment Pvt. Ltd. (supra) and as discussed in detail in para 2.4.2 earlier. The expenditure therefore cannot be allowed. The assessee has placed reliance on the judgment of Hon’ble Supreme Court in case of Malayalam Plantation (53 ITR 140) which is distinguishable as the issue of nature of expenditure incurred to ward off competition was not before the Supreme Court. In any case, the claim of the assessee that payment was made for protection and prevention of confidential information relating to development of anti bacterial soap is not supported by any evidence. Therefore the claim cannot be allowed. The payment in our view was for termination of the JVA which as held earlier was for restructuring and reorganization of the profit earning apparatus of the group which constituted a capital asset. Therefore the expenditure was capital in nature and cannot be allowed on this ground also. The alternate plea of the assessee to amortize the amount over the period of 7 years and allow a sum of Rs. 3 crores this year can also not been accepted as there is no provision for amortization of such expenditure. We accordingly confirm the order of CIT(A) disallowing the claim.

3. The appeals of the assessee in ITA Nos.8868, 8869 & 8870/M/2004. In these years the assessee has raised disputes on two different grounds. Since the disputes are common these appeals are being dealt with together.

3.1 The first dispute which is common and relates only to assessment years 1998- 99 and 1999- 2000 is regarding dis allowance of know-how fees of Rs. 33,33,333/-. This issue we have already dealt with while dealing with the appeal for assessment year 1997-98 and in view of our decision vide para 2.1.1 of this order we restore this issue to file of AO for passing a fresh order after necessary examination and after allowing opportunity of hearing to the assessee.

3.2 The second dispute which is common in all the three years is regarding dis allowance of claim on account of payment to GSL under ‘Safeguard Confidentiality Agreement’. This issue had also arisen in assessment year 1997-98 and in view of the decision vide para 2.6.7 of this order in relation to assessment year 1997- 98 the dis allowance is confirmed.

4. In the result the appeal of the assessee for A.Y. 1997- 98 is partly allowed; the appeals for A.Yrs.1998-99 and 1999-2000 are partly allowed for statistical purpose; and appeal for A.Y. 2000- 01 is dismissed.

The decision was pronounced in the open court on 15.12.2010.

NF