COVID Fixed Costs Are Extraordinary; Exclude Them From TP Operating Costs: ITAT Bangalore

Kennametal India Limited Vs DCIT (ITAT Bangalore)

Summary: Kennametal India Limited appealed against the Final Assessment Order dated 24.10.2024 passed under section 143(3) read with sections 144C(13) and 144B of the Income-tax Act, 1961 for Assessment Year 2021-22. The assessee, engaged in manufacturing mining tools, metal castings, fixtures and jigs, special-purpose machines and hard-metal products, had reported total income of Rs.44,79,58,851/-. The Transfer Pricing Officer (TPO), after examination of the assessee’s international transactions with Associated Enterprises (AEs), proposed a transfer pricing adjustment of Rs.27,78,67,225/-. Following directions of the Dispute Resolution Panel (DRP), relief of Rs.15,29,96,103/- was granted and the adjustment was reduced to Rs.12,48,71,122/-.

Before the Tribunal, the assessee challenged, among other matters, the treatment of COVID-related fixed overheads, capacity underutilisation adjustment, allocation of lease rental and support-service income, restriction of transfer pricing adjustment to international transactions, working-capital adjustment, an addition of Rs.76,28,409/- towards bad debts, and interest under sections 234A and 234C.

On the COVID-related adjustment, the Tribunal found that the assessee’s manufacturing operations were impacted by the pandemic and lockdown and that substantial fixed costs continued to be incurred while revenues were affected. It held that identified fixed overheads attributable to the COVID-19 pandemic were extraordinary expenditure and should be excluded from operating costs for computation of the Profit Level Indicator (PLI). The Tribunal referred to Rule 10B(1)(c)(3) of the Income-tax Rules, 1962 and the OECD guidance referred to in the proceedings.

On capacity underutilisation, the Tribunal accepted that the assessee had underutilised its capacity but noted the lack of sufficient information concerning comparable companies. It directed the TPO to exercise powers under section 133(6) to obtain capacity-utilisation details of comparable companies and provide the assessee an opportunity before granting any adjustment. The ground was therefore partly allowed for statistical purposes.

On the scope of the transfer pricing adjustment, the Tribunal relied on the jurisdictional Karnataka High Court’s decision in PCIT Vs. TT Steel Service India (P.) Ltd. and the principle stated in CIT v. Phoenix Mecano (India) Ltd.. It directed the Assessing Officer to restrict the adjustment to international transactions and not transactions entered into with other parties.

The Tribunal also remanded the issue concerning the Rs.76,28,409/- bad-debt addition to the AO/TPO for examination on merits, after noting the assessee’s contention that the amount had already been offered to tax and that a further addition would result in double addition. The working-capital adjustment issue was likewise remitted to the AO/TPO, with a direction to the assessee to demonstrate the material differences warranting such adjustment.

In the result, the appeal filed by the assessee was partly allowed for statistical purposes.

Facts and Transfer Pricing Proceedings

The assessee filed its return of income for Assessment Year 2021-22 on 15.03.2022 declaring total income of Rs.44,79,58,851/-. The case was selected for complete scrutiny through CASS and notice under section 143(2) dated 28.06.2022 was issued.

The AO observed that the assessee had entered into various international transactions with its AEs, including purchase of raw materials, sale and purchase of finished goods, royalty, IT charges, professional charges, commission income, service fees, ESOP-cost reimbursement, other expense reimbursement, recovery of expenses and purchase of fixed assets.

The AO made a reference under section 92CA to the TPO. The TPO computed the assessee’s operating revenue at Rs.4,581.80 million, operating cost at Rs.4,556.65 million and operating profit at Rs.25.15 million, resulting in a PLI of 0.55%. The median margin of the comparable set was stated as 6.65%, resulting in an ALP of Rs.4,859.67 million and a shortfall of Rs.27,78,67,225/-.

The TPO accordingly proposed a transfer pricing adjustment of Rs.27,78,67,225/-. The AO passed a Draft Assessment Order under section 144C(1) on 21.12.2023. The assessee filed objections before the DRP. Pursuant to the DRP’s directions dated 04.09.2024, the TPO granted relief of Rs.15,29,96,103/-, reducing the TP adjustment to Rs.12,48,71,122/-. The AO thereafter passed the Final Assessment Order dated 24.10.2024.

Assessee’s Grounds Before the Tribunal

The assessee challenged the transfer pricing adjustment, including rejection of its TP documentation and comparability analysis, denial of economic adjustments for COVID-19 and capacity underutilisation, allocation of lease rental income and support-service income, the scope of the adjustment, and working-capital adjustment.

The assessee also challenged the addition of Rs.76,28,409/- towards bad debts, contending that the amount had already been offered to tax, and raised grounds concerning levy of interest under sections 234A and 234C.

COVID-19 Adjustment and Extraordinary Fixed Costs

The assessee submitted that its manufacturing operations were materially affected by the COVID-19 pandemic and lockdown restrictions. According to the learned AR, sales declined significantly while fixed costs continued to be incurred.

The fixed costs identified by the assessee were:

Particulars	Amount
Salary paid to employees	Rs. 11,98,07,000/-
Depreciation incurred on fixed assets, PPE	Rs. 4,17,16,000/-
Fixed overheads incurred during the period	Rs. 4,04,35,000/-
Total	Rs. 20,19,58,000/-

The assessee also relied upon its manufacturing sales trend and submitted that the reduction in sales resulted in under-absorption of fixed overheads and reduced profitability. The learned AR relied on Costrategix Technologies Pvt. Ltd. v. DCIT, DGS Technical Services P. Ltd. v. DCIT and Madura Coats P. Ltd. v. ACIT.

The Departmental Representative supported the AO and DRP and submitted that COVID-19 had affected the assessee as well as comparable enterprises.

Tribunal’s Findings on COVID Costs

The Tribunal found that the assessee was severely impacted in manufacturing operations on account of the COVID-19 pandemic, resulting in reduced sales and unabsorbed fixed costs. It noted the comparative financial information furnished by the assessee and the difference in profitability during the relevant period.

The Tribunal held that the assessee continued to incur substantial salary and other expenditure to retain employees, whereas these costs were incurred to preserve employment and sustain long-term business continuity and did not generate operating revenue during the affected period.

Accordingly, the Tribunal considered the identified fixed overheads attributable to the COVID-19 pandemic to be extraordinary expenditure and directed that they be excluded from operating costs for computation of the PLI. The Tribunal also referred to Rule 10B(1)(c)(3) of the Income-tax Rules, 1962 concerning adjustments for differences materially affecting comparability.

In support of its reasoning, the Tribunal referred to the decisions of the Co-ordinate Bench in DCIT Vs. M/s Lam Research (India) Pvt. Ltd. and DCIT Vs. ITE Ltd..

Capacity Underutilisation Adjustment

The assessee submitted that its primary customers were in the automotive industry and that the slowdown in the automobile sector, together with the shortage of integrated circuits, affected its business. It relied upon automobile production figures and submitted that the reduction in production and sales affected its manufacturing operations.

The assessee further submitted that capacity underutilisation adjustment had been accepted in its own case for Assessment Year 2013-14. Reliance was also placed on IKA India (P.) Ltd v. DCIT, Continental Automotive Components (India) (P.) Ltd. v. ACIT, Denso Kirloskar Industries (P.) Ltd. v. DCIT, Tokai Rika Minda India (P.) Ltd v. DCIT and ACIT v. TE Connectivity India (P.) Ltd.

Direction to Obtain Comparable Capacity Data

The Tribunal noted that the assessee had underutilised its capacity during the relevant financial year and was therefore eligible to seek an adjustment. It also noted the DRP’s observation that sufficient public-domain information concerning comparable companies was unavailable.

The Tribunal held that placing the entire burden on the assessee to maintain information concerning comparable companies would effectively require it to perform an impossible task. It observed that the TPO could exercise powers under section 133(6) to obtain the required information from comparable companies.

Accordingly, the Tribunal directed the TPO to call for capacity-utilisation details of the comparable companies under section 133(6) and provide the assessee an opportunity before granting any adjustment. The grounds were partly allowed for statistical purposes.

Restriction of Transfer Pricing Adjustment to International Transactions

The assessee contended that lease rental income and support-service income had been allocated between the manufacturing and trading segments even though the related expenses formed part of the manufacturing segment’s cost base. It further submitted that Chapter X applies to international transactions with AEs and that a transfer pricing adjustment should not extend to transactions with independent parties.

The learned AR relied upon CIT v. Phoenix Mecano (India) Ltd., PCIT v. TT Steel Service India (P.) Ltd., CIT v. Thyssen Krupp Industries Pvt. Ltd. and IKA India (P.) Ltd. v. DCIT.

Tribunal Follows Jurisdictional High Court

The Tribunal considered the DRP’s view that, where TNMM is adopted at the entity level, the profit of the assessee is compared with comparable companies using the appropriate PLI. The assessee, however, contended that the adjustment should be restricted to international transactions.

The Tribunal reproduced the findings of the Karnataka High Court in PCIT Vs. TT Steel Service India (P.) Ltd., including the principle that re-determination under Chapter X concerns income arising from international transactions and that an adjustment should not extend to transactions with independent third parties.

The Tribunal also referred to the Bombay High Court decisions in CIT v. Thyssen Krupp Industries India (P.) Ltd. and CIT v. Phoenix Mecvano (India) (P.) Ltd., noting that the latter had attained finality before the Supreme Court.

Respectfully following the jurisdictional High Court, the Tribunal directed the AO to restrict the transfer pricing adjustment to international transactions and not to transactions entered into with other parties. The grounds were accordingly allowed.

Bad Debt Addition of Rs.76,28,409/-

The assessee challenged the addition of Rs.76,28,409/- towards bad debts in the intimation issued under section 143(1). The learned AR submitted that the amount had already been offered to tax in the return and that its further inclusion resulted in double addition.

The Departmental Representative relied upon the orders of the Revenue authorities.

The Tribunal noted the assessee’s contention that the amount had already been offered to tax. In the circumstances, it deemed it appropriate to remand the matter to the AO/TPO to examine the assessee’s claim regarding the bad-debt deduction and decide the issue on merits in accordance with law. This ground was partly allowed for statistical purposes.

Working Capital Adjustment

The assessee sought an appropriate working-capital adjustment while determining the ALP and relied upon Rule 10B of the Income-tax Rules, 1962 and judicial decisions including Mentor Graphics (Nioda) Pvt. Ltd. and VMware Software India Pvt. Ltd., Vs. DCIT.

The DRP had rejected the claim on the ground that the assessee had not demonstrated with supporting data the impact of differences in working capital on price, cost or profits.

The Tribunal directed the assessee to demonstrate before the AO/TPO the material differences warranting working-capital adjustment and remitted the matter to the AO/TPO. The ground was allowed for statistical purposes.

Final Decision

The Tribunal partly allowed the appeal for statistical purposes. The COVID-related extraordinary fixed overheads were directed to be excluded from operating costs for PLI computation. The TPO was directed to obtain capacity-utilisation data of comparable companies under section 133(6) and provide the assessee an opportunity before granting any capacity adjustment. The transfer pricing adjustment was directed to be restricted to international transactions. The bad-debt issue and working-capital adjustment were remitted to the AO/TPO for examination in accordance with the directions recorded in the order.

Cases Discussed

• Costrategix Technologies Pvt. Ltd. v. DCIT (Order dated 18.12.2025 passed by this Hon’ble Tribunal in IT(TP)A No. 2354/Bang/2024 for the assessment year 2021-22)
• Madura Coats P. Ltd. v. ACIT (reported in (2026) 182 taxmann.com 741 (Chennai-Trib.))
• DGS Technical Services P. Ltd. v. DCIT (reported in (2025) 180 taxmann.com 266 (Hyd. Trib.))
• PCIT v. TT Steel Service India (P.) Ltd. (reported in [2024] 168 com 515 (Karnataka))
• Continental Automotive Components (India) (P.) Ltd. v. ACIT (reported in [2022] 139 com 187 (Bangalore – Trib.))
• Denso Kirloskar Industries (P.) Ltd. v. DCIT (reported in [2022] 136 com 405 (Bangalore – Trib.))
• Tokai Rika Minda India (P.) Ltd v. DCIT [reported in (2022) 141 com 170] (Bangalore – Tribunal)
• ACIT v. TE Connectivity India (P.) Ltd. [reported in (2022) 141 taxmann.com 158] (Bangalore – Tribunal)
• DCIT Vs. M/s Lam Research (India) Pvt. Ltd. in IT(TP)A No. 2327/Bang/2016
• CIT v. Phoenix Mecano (India) Ltd. [reported in (2019) 108 com 124] (Bombay High Court), SLP dismissed by Supreme Court
• IKA India (P.) Ltd. v. DCIT [reported in (2018) 98 com 312] (Bangalore – Tribunal)
• DCIT Vs. ITE Ltd., 104 taxmann.com 281
• CIT v. Thyssen Krupp Industries Pvt. Ltd. [reported in (2016) 70 com 329] (Bombay High Court)
• Kiara Jewellery P. Ltd. in ITA No.8109/Mum/2011
• Mentor Graphics (Nioda) Pvt. Ltd., reported in (2007) 109 ITD 101 (Delhi – Trib.)
• VMware Software India Pvt. Ltd., Vs. DCIT in IT(TP)A No.276/Bang/2023

Alternative SEO Titles

1. Bangalore ITAT Excludes COVID Costs in Transfer Pricing Computation

2. Bangalore ITAT Restricts Transfer Pricing Adjustment to AE Transactions

3. Bangalore ITAT Directs Capacity Utilisation Review Under Section 133(6)

4. Bangalore ITAT Remands Bad Debt and Working Capital Adjustment Issues

5. Bangalore ITAT Partly Allows Transfer Pricing Appeal for Statistical Purposes

FULL TEXT OF THE ORDER OF ITAT BANGALORE

This appeal filed by the assessee against the Final Assessment Order passed under section 143(3) r.w.s. 144C(13) r.w.s. 144 B of the Act, dated 24.10.2024, for the Assessment Year 2021-22.

2. Brief facts of the case are assessee is engaged in the business of manufacturing mining tools, metal castings, fixtures and jigs and special purposes machines and products made of hard metals, filed its return of income for the Assessment Year 2021-22 on 15.03.2022 admitting a total income of Rs.44,79,58,851/-. The case was selected for complete scrutiny through CASS. Accordingly, notice under section 143(2) of the Act dated 28.06.2022 was issued and served on the assessee. The learned Assessing Officer (in short ‘AO’) observed that assessee has entered into the following international transactions with its Associated Enterprise (in short ‘AE’):

S. No.	Particulars	Amount	Method used
1	Purchase of raw materials	710.444,470	TNMM
2	Sale of finished goods	1,350,005,105	TNMM
3	Purchase of finished goods	1,657,767.023	TNMM
4	Payment of Royalty	21,424,716	TNMM
5	IT Charges paid	149,370.001	TNMM
6	Professional charges paid	17,694,225	TNMM
7	Commission income	6308908	TNMM
8	Service fees recovered	14886083	TNMM
9	Reimbursement of ESOP cost	11,399,882	TNMM
10	Reimbursement of other expenses	8184.751	TNMM
11	Recovery of expenses	20.190,998	Other Method
12	Purchase of fixed assets	43,589,109	TNMM

3. The AO made a reference under section 92CA of the Act to the learned Transfer Pricing Officer (in short ‘TPO’) after obtaining approval from competent authorities. The learned TPO, after considering the submissions made by the assessee on various dates, computed the Arm’s Length Price (in short ‘ALP) as follows:

Particulars	Formula	Amount in Rs million
Taxpayers operating revenue	OR	4.581.80
Taxpayers operating cost	OC	4.556.65
Taxpayers operating profit	OP	25.15
Taxpayers PLI	PLI=OP/OC	0.55
35th Percentile Margin of comparable set		4.03%
Adjustment Required (if PLI< 35th Percentile)		Yes
Median Margin of comparable set	M	6.65
Arm’s Length Price	ALP=(1+M)*OC	4,859.67
Price Received	OR	4,581.80
Shortfall being adjustment	ALP-OR	27,78,67,225

4. The learned TPO proposed a Transfer Pricing (in short ‘TP’) adjustment of Rs.27,78,67,225/-. The learned AO, thereafter, passed a Draft Assessment Order under section 144C(1) of the Act on 21.12.2023.

5. Being aggrieved by the Draft Assessment Order, assessee raised objections before the Dispute Resolution Panel (in short ‘DRP’). The learned DRP, after considering the submissions made by the assessee, gave directions to the TPO on 04.09.2024. The learned TPO, thereafter, passed Order Giving Effect based on the directions of the learned DRP by granting relief amounting to Rs.15,29,96,103/- and thereby the total adjustments on account of TP are reduced to Rs.12,48,71,122/-. The learned AO thereafter made an adjustment of Rs.12,48,71,122/- to the returned income of the assessee. During the assessment proceedings, the learned AO also issued various notices under section 142(1) of the Act wherein the assessee submitted its reply on various dates. The learned AO considering the replies furnished by the assessee, passed the Final Assessment Order on 24.10.2024.

6. On being aggrieved by the Final Assessment Order passed by the learned AO, the assessee filed an appeal before the Tribunal by raising the following grounds:

1. Assessment Order passed by the learned Assessing Officer is bad in law:

1.1 The Appellant submits that the order of the Assessing Officer (“AO”) is bad in law and facts on account of the grounds raised as below.

2. Transfer Pricing

The grounds mentioned hereinafter are without prejudice to one another.

2.1 The Learned AO, Learned Transfer Pricing Officer (“Learned TPO”) and Hon’ble Dispute Resolution Panel (“Hon’ble DRP”) grossly erred in determining an adjustment of INR 12,48,65,735/-, u/s 92CA of the Income-tax Act, 1961 (“the Act”), for the manufacturing segment without considering the submissions filed by the Appellant.

2.2 The Learned AO/ Learned TPO/ Hon’ble DRP erred in rejecting the TP documentation maintained by the Appellant by invoking provisions of sub-section (3) of 92C of the Act.

2.3 The Learned AO/ Learned TPO/ Hon’ble DRP erred in rejecting comparability analysis carried in the TP documentation without providing any cogent reasons for the same.

2.4 The learned AO/ learned TPO/ Hon’ble DRP erred in not appreciating the claim for suitable economic adjustment considering the impact of COVID, being an exceptional event, on the business operations of the Appellant during the relevant year, while determining the arm’s length price(‘ ALP’).

2.5 The learned AO/ learned TPO/ Hon’ble DRP erred in not appreciating the Appellant’s claim for exclusion of the fixed overheads incurred during the COVID period while computing the ALP.

2.6 The learned AO/ learned TPO / Hon’ble DRP erred in not granting suitable economic adjustment towards capacity underutilization arising due to significant drop in business volume along with the downturn in the automotive industry, during the relevant year, while determining the ALP.

2.7 The learned AO/ learned TPO/ Hon’ble DRP erred in not taking into the cognizance that capacity underutilization adjustment was allowed in favor of the Appellant, in its own case for AY 2013-14, and hence, the same ought to be allowed for the current year under consideration as well.

2.8 The Learned AO/ Learned TPO/ Hon’ble DRP erred in allocating the lease rental income and support services received between both the manufacturing and trading segment without considering the fact that the expenses connected to these income items were forming part of the manufacturing segment’s cost base.

2.9 Without prejudice to the above, the Learned AO/ Learned TPO/ Hon’ble DRP erred in not appreciating that transfer pricing adjustment, if any, should be restricted to the proportionate value of cost of international transactions of the Appellant.

2.10 The Learned AO/ Learned TPO/ Hon’ble DRP ought to have allowed the appropriate adjustment towards working capital between the Appellant vis-a-vis the comparable companies, while calculating the ALP.

3. Corporate Tax

3.1 The learned AO/ Hon’ble DRP erred in making an addition amounting to INR 76,28,409 towards bad debts claimed, in the intimation issued under Section 143(1) of the Act, without considering the submissions filed by the Appellant.

3.2 The learned AO/ Hon’ble DRP has erred in not considering the fact that the aforesaid amount of INR 76,28,409 was already offered to tax in the return of income and hence making an addition for the same resulted in a double addition thereby amounting to a mistake apparent on record.

3.3 The Hon’ble DRP has erred in concluding having no jurisdiction on the additions made under section 143(1) without appreciating the fact that while computing the assessed income, the income determined under section 143(1) of the Act has been considered.

3.4 The learned AO/Hon’ble DRP failed to take cognizance of the submissions filed by the appellant and erred in accepting the adjustment made by the Centralized Processing Center (‘CPC’).

4. Levy of interest under section 234A of the Act

4.1 The learned AO has erred in computing interest under section 234A of the Act without considering the fact that the return of income was filed within the prescribed timeline.

5. Levy of interest under section 234C of the Act

5.l The learned AO has erred in computing interest under section 234C of the Act without appreciating the fact that the same is to be computed on the tax due on the returned income.

The appellant craves leave to add, alter, rescind and modify the grounds herein above or produce further documents, facts and evidence before or at the time of hearing of this appeal.

For the above and any other grounds which may be raised at the time of hearing, it is prayed that necessary relief may be provided.

7. Ground No.1 is general in nature and needs no adjudication. In ground No.2, the assessee has raised covid adjustment which is exceptional, on the business operations of the assessee by way of sub-grounds in 2.4 and 2.5. On this issue, the learned AR submitted that learned TPO has included the extraordinary event as part of the operating expenses due to which the margin of the assessee stood drastically reduced. He further submitted that the assessee’s manufacturing operations which are materially and demonstrably impacted by the covid 19 pandemic wherein the assessee did not make any significant sales during the lock down period due to strict regulations on the movement of the personnel. He further submitted that the following various fixed overheads connected with the covid period were impacting the manufacturing operations of the assessee. The fixed overheads are as under:

Particulars	Amount
Salary paid to employees	Rs. 11,98,07,000/-
Depreciation incurred on fixed assets, PPE	Rs. 4,17,16,000/-
Fixed overheads incurred during the period	Rs. 4,04,35,000/-
Total	Rs. 20,19,58,000/-

8. He further submitted that manufacturing sales trend show a dip in the current year on account of covid as follows:

Particulars	FY 2022- 23	FY 2021- 22	FY 2020- 21	FY 2019- 20	FY 2018­19
Manufacturing sales	6,660.50	6,025.48	4,543.72	5,510.77	6,053.92

9. He further submitted that the assessee’s sales are significantly dropped during the Financial Year 2020-21 which was primarily due to the impact of covid. Thus, the reduced sales has contributed to the under absorption of fixed overhead which ultimately resulted in reduced profitability for the impugned Assessment Year. He also submitted that the gross profit to sales ratio remained fairly consistent whereas the profitability at the net level was reduced drastically due to under absorption of fixed overheads. He further submitted that the OECD guidelines recognized the grant of adjustment on account of covid in para 36 as follows:

“enterprises may incur exceptional, non-recurring operating costs during the pandemic and that appropriate comparability adjustments may be necessary to improve the reliability of a comparability analysis.”

10. The learned AR relied on the following decisions:

– Costrategix Technologies Pvt. Ltd. v. DCIT (Order dated 18.12.2025 passed by this Hon’ble Tribunal in IT(TP)A No. 2354/Bang/2024 for the assessment year 2021-22)

– DGS Technical Services P. Ltd. v. DCIT (reported in (2025) 180 taxmann.com 266 (Hyd. Trib.)

– Madura Coats P. Ltd. v. ACIT (reported in (2026) 182 taxmann.com 741 (Chennai-Trib.)

11. He, therefore, prayed that the impact of covid adjustment which reduces the operational profit of the assessee shall be adjusted while computing the ALP.

12. Per contra, the learned Departmental Representative (in short ‘DR’) fully supported the Order of the AO and the DRP stating that effect of covid is not only on the assessee but also on the other enterprises which was used as comparables. Therefore, the learned DRP has rightly rejected the covid adjustment and prayed to uphold the same.

13. We have heard the rival contentions and perused the material on record. It is an apparent fact that the assessee was severely impacted in the manufacturing, on account of covid 19 pandemic reducing the sales for the impugned Financial Year wherein the fixed costs remained unabsorbed during the year. The assessee has demonstrated in its written submissions the comparative sales summary for the Financial Years 2019-20 to 2021-22 as follows:

Plant	FY 2019-20	FY 2020-21	FY 2021-22
BN01	5,27,343	5,97,043	25,14,946
BN02	55,98,28,062	56,15,67,521	79,40,71,275
BN03	37,64,98,412	25,14,53,659	32,87,29,932
BN04	18,15,03,795	17,23,05,313	23,33,42,914
BN05	1,25,61,33,264	1,22,79,95,267	1,78,71,78,545
BN06	18,22,76,119	15,68,56,151	18,99,51,915
BN07	53,17,12,256	58,53,27,066	77,46,49,826
BN08	11,04,00,720	12,36,48,096	21,21,64,995
BN09	1,86,40,36,157	1,06,32,26,550	1,14,59,94,419
BN10	26,42,78,934	24,46,42,536	33,33,94,180
BN14	4,73,04,116	3,54,61,752	4,75,31,194
Total	5,37,44,99,178	4,42,30,80,954	5,84,95,24,141

14. Further, the assessee has also stated the decline in the profitability due to under absorbed fixed overheads as compared to Financial Years 2019-20 to 2021­22.

Particulars	FY 2019-20 (in INR, 000s)	FY 2020-21(in INR, 000s)	FY 2021-22(in INR, 000s)
Operating revenue	55,69,173	46,09,399	60,25,480
Operating cost	50,41,709	44,21,072	50,97,661
Net profit	5,27,464	1,88,327	9,27,819
Net profit / Cost	10.46%	4.26%	18.20%
Net profit / Revenue	9.47%	4.09% (unadjusted margin)	15.40%

15. The assessee has computed the operating margin @ 4.09% after adjusting unabsorbed fixed overheads incurred during the covid period. The learned TPO has computed the ALP @ 3.64% on operating cost before adjusting the extraordinary expenses. It was the contention of the learned DRP that the covid pandemic has affected not only the assessee but also the comparables selected by the assessee and hence no adjustment is required in the case of the assessee. However, we find that the business operations of the assessee were impacted due to covid pandemic period on account of lockdown. The assessee continued to incur substantial salary cost and other expenditures to retain the employees whereas these costs cannot be considered as incurred in the ordinary course of business operations but as a measure to preserve employment and sustain long term business continuity. These fixed overheads did not generate any operating revenue and therefore these costs are considered extraordinary attributable to the covid 19 pandemic. Therefore, in our considered opinion, these expenditures needs to be considered as non-operating in nature and hence to be excluded in the computation of operating margins. The OECD guidelines on TP implications of the covid 19 pandemic recognizes that exceptional and non-recurring cost arising from covid 19 may warrant separate treatment and has to be excluded from the computation of tested parties PLI provided they are clearly identified and non-reflective of normal business conditions. Rule 10B(1)(c)(3) of the Income Tax, 1962, also allows adjustment on account of differences materially affecting the comparability. Therefore, in our view, expenditure incurred by the assessee should be treated as an extraordinary expenditure incurred not in the regular operations of the assessee and the same needs to be excluded from the operating cost for the computation of PLI. Similar observations were also made in the decision of the Co-ordinate Bench of Tribunal in the case of DCIT Vs. M/s Lam Research (India) Pvt. Ltd, in IT(TP)A No. 2327/Bang/2016 and also Co-ordinate Bench of Delhi in the case of DCIT Vs. ITE Ltd., 104 taxmann.com 281.

16. The next ground raised by the assessee in 2.6 and 2.7 relates to economic adjustments towards capacity underutilization. On this issue, the learned AR submitted that the assessee’s primary customers are in the automotive industry and the major portion of its manufacturing revenue derived from its automotive sector. He further submitted that automobile sector witnessed a slow down in the past few years which was further compounded due to shortage of integrated circuit that had a wide scale impact. He also referred to the automobile production trends which is given below:

Category	2016-17	2017-18	2018-19	2019-20	2020-21
Passenger cars	27,11,911	27,46,658	27,11,160	21,56,868	17,72,972
Utility vehicles	9,09,555	10,93,346	10,99,780	11,36,209	11,82,085
Vans	1,80,204	1,80,263	2,17,531	1,31,487	1,07,164
Total passenger vehicles	38,01,670	40,20,267	40,28,471	34,24,564	30,62,221

17. He therefore submitted that there was a fall in the production as well as sale of vehicles which impacted the assessee who caters the automobile industry. He also submitted that these facts were reported in the annual report of the assessee wherein the sales declined by 34% for 2 wheelers, 12% for passenger vehicles, 51% for commercial vehicles compared to year over year. He further submitted that in the assessee’s case for the Assessment Year 2013-14, the learned DRP accepted the claim for capacity underutilization adjustment, however, rejected the claim in the impugned Assessment Year for the reason that details in relation to other comparable companies are not available in the annual report. He relied on the decision of Co-ordinate Bench of Bangalore in the case of IKA India Pvt. Ltd., Vs. The Deputy Commissioner of Income Tax in IT(TP)A No.2192/Bang/2017. He also relied on the following judicial precedents:

• IKA India (P.) Ltd v. DCIT [reported in (2018) 98 com 312] (Bangalore – Tribunal)- refer para 21 to 36; and
• Continental Automotive Components (India) (P.) Ltd. v. ACIT (reported in [2022] 139 com 187 (Bangalore – Trib.)) – refer para 17-24;
• Denso Kirloskar Industries (P.) Ltd. v. DCIT (reported in [2022] 136 com 405 (Bangalore – Trib.))
• Tokai Rika Minda India (P.) Ltd v. DCIT [reported in (2022) 141 com 170] (Bangalore – Tribunal)
• ACIT v. TE Connectivity India (P.) Ltd. [reported in (2022) 141 taxmann.com 158] (Bangalore – Tribunal)

18. Per Contra, the learned DR fully supported the Order of the learned DRP.

19. We have heard the rival submissions and perused the material available on record. The assessee has stated that it did not utilize installed capacity fully and therefore as per the OECD guidelines, the comparability adjustment to be made to the data of the comparables in line with the OECD guidelines which also requires certain economic adjustment made to the financial data of the comparable companies. The learned TPO has observed that assessee did not submit any evidence for assuming the capacity utilization of the comparable companies and the data relied upon by the assessee for seeking capacity utilization adjustment was either unreliable or incorrect. It is a fact that assessee has underutilized capacity during the Financial Year and therefore eligible for adjustment to the same. The learned DRP observed that it is difficult to make an adjustment for differences in capacity utilization between the assessee and comparable companies due to lack of sufficient data available in the public domain. The DRP has put the onus on the assessee for the maintenance of robust documentation in this regard in order to claim capacity adjustment which would tantamount to requiring the assessee to perform an impossible tax. On the other hand, the TPO, by exercising his powers under section 133(6) of the Act should have collated the same from comparable companies. In this regard, we find that Co-ordinate Bench of Mumbai in the case of M/s Kiara Jewellery P. Ltd. in ITA No.8109/Mum/2011 has directed the AO/TPO to obtain the details of capacity utilization of comparable companies if not available in the public domain. Accordingly, we direct the TPO to exercise powers under section 133(6) of the Act calling for capacity utilization of the comparable companies. Assessee shall also be provided an opportunity before granting any adjustment for capacity underutilization. Thus, the grounds raised by the assessee is partly allowed for statistical purposes.

20. With respect to ground Nos.2.8 to 2.10, the assessee has raised these grounds challenging the TP adjustment to the entire transaction and not restricting it to the proportionate cost of international transactions. On this issue, the learned AR submitted that assessee has earned least rental income from support services by letting it out to its group entities for service operations. These costs were included in the cost based on the manufacturing segment; income therefrom was allocated between manufacturing and trading segment by the TPO which is inconsistent with the settled accounting principles. The learned AR prayed that since the cost form part of manufacturing segment, the corresponding revenue also ought to be included in the manufacturing segment alone. He also submitted that Chapter X of the Act permits determination of ALP only in respect of international transactions entered into with the Associated Enterprises (in short ‘AE’) and the cost relating to such international transactions cannot be extended to the non-AE transactions. On this issue, he relied on the following decisions:

• CIT v. Phoenix Mecano (India) Ltd. [reported in (2019) 108 com 124] (Bombay High Court), SLP dismissed by Supreme Court;
• PCIT v. TT Steel Service India (P.) Ltd. (reported in [2024] 168 com 515 (Karnataka));
• CIT v. Thyssen Krupp Industries Pvt. Ltd. [reported in (2016) 70 com 329] (Bombay High Court);
• IKA India (P.) Ltd. v. DCIT [reported in (2018) 98 com 312] (Bangalore – Tribunal)

21. Per Contra, the learned DR relied on the Orders of the learned DRP.

22. We have heard the rival contentions. The learned DRP observed that when Transaction Net Margin Method (in short ‘TNMM’) is chosen as the Most Appropriate Method (in short ‘MAM’) at the entity level, profit of the assessee must be compared with the set of comparable companies using appropriate PLI. The contention of the assessee is that this adjustment should be restricted to the international transactions only. The learned DRP has observed that the fundamental principle is that since the transactions with non-AEs are at arm’s length, no adjustment is necessary for those transactions and therefore the entire adjustments should be made with respect to the transactions with AE and therefore adjustment between AEs and non-AEs is not appropriate. The Hon’ble High Court of Karnataka in the case of PCIT Vs. TT Steel Service India (P.) Ltd., reported in (2024) 168 com 515 (Karnataka) by relying on the findings of the Hon’ble High Court of Bombay held as follows:

(d) The grievance of the Revenue before us is that the adjustment is not to be restricted only in respect of transactions entered into with the AE. All the transactions of the respondent-Assessee would have necessarily be varied/adjusted by the margin arrived at by the TPO to arrive at the ALP.

(e) We find that in terms of Chapter X of the Act, re-determination of the consideration is to be done only with regard to income arising from international Transactions on determination of ALP. The adjustment which is mandated is only in respect of International Transaction and not transactions entered into by assessee with independent unrelated third parties. This is particularly so as there is no issue of avoidance of tax requiring adjustment in the valuation in respect of transactions entered into with independent third parties. The adjustment as proposed by the Revenue if allowed would result in increasing the profit in respect of transactions entered into with non-AE. This adjustment is beyond the scope and ambit of Chapter X of the Act.

8. At this stage, we may state here that the judgment of the Co-ordinate Bench in Texport Overseas Private Limited (supra) was taken in appeal to the Hon’ble Supreme Court, but the tax effect being less than prescribed limit, the appeal was withdrawn. Since the issue with regard question Nos. 1 to 3 is covered by the judgment of Co-ordinate Bench of this Court, for parity of reasons, we hold, the questions are not sustainable. Insofar as, question No.4 is concerned, though the learned Senior Counsel for the respondent has also relied upon another judgment of Bombay High Court in the case of CIT v. Phoenix Mecvano (India) (P.) Ltd. [2019] 108 taxmann.com 124/265 Taxman 354/414 ITR 704 (Bombay) wherein according to him, the appeal was filed against the order of the Tribunal, wherein Tribunal has relied upon the judgment of the Bombay High Court in the case of Thyssen Krupp Industries India (P.) Ltd. (supra) which judgment [in the case of Phoenix Mecvano (India) (P.) Ltd. (supra)] was taken in appeal before the Hon’ble Supreme Court the same was dismissed in SLP No.2234/2018 dated 05.02.2018.

9. In view of the fact that the issue relatable to question No.4 is covered by the judgment of the High Court of Bombay in Thyssen Krupp Industries India (P.) Ltd. (supra), and also Phoenix Mecvano (India)(P.) Ltd. (supra), which have attained finality till the Hon’ble Supreme Court, we find no merit insofar as question No.4 is concerned. Accordingly, the appeal being without merit is dismissed. The questions of law are answered in favour of Assessee and against the Revenue.

23. Respectfully following the decision of the jurisdictional High Court, we direct the learned AO to restrict the adjustments only with respect to the international transactions and not to transactions entered into by the assessee with other parties. Thus, the grounds raised by the assessee are allowed.

24. The assessee has raised in ground No.3 and sub grounds challenging the additions amounting to Rs.76,28,409/- towards bad debts in the intimation issued under section 143(1) of the Act. The learned AR submitted that the claim of bad debts as a deduction was mechanically done by the CPC under section 143(1) of the Act without considering the adjustment already made in the computation of income by the assessee. The learned AR submitted that the same amount of Rs.76,28,409/- has already been offered to tax while filing the return of income and making an addition again leads to clear case of double addition. He further submitted that the learned DRP mechanically upheld the action of the CPC. He therefore prayed that amount which has already been offered to tax by the assessee cannot be included in the income of the assessee arising out of the intimation.

25. Per contra, the learned DR relied on the Orders of the Revenue authorities.

26. We have heard the rival contentions. It is the contention of the learned AR that the assessee has already offered to tax the impugned addition of Rs.76,28,409/- in the return of income filed by the assessee. The learned DRP considered these objections raised by the assessee as not maintainable before the DRP thereby rejecting the objections raised by the assessee for double addition. In these circumstances, we deem it fit to remand the matter back to AO/TPO to examine the claim of deduction on account of bad debts by the assessee and decide the case on merits in accordance with the law. Thus, the grounds raised by the assessee are partly allowed for statistical purposes.

27. With respect to ground No.2.10, the adjustment towards working capital while computing the ALP, the learned AR submitted that as per Rule 10B of the Income Tax Rules, 1962, an adjustment not to be provided for any difference in economic facts between the tested party and the comparables, in the absence of workings, the learned TPO/learned DRP considered that assessee did not demonstrate with the data, the impact of the working capital differences, therefore rejected the claim of the assessee. The learned AR further submitted that under TNMM, the comparison of net profit margins expressly require adjustments to eliminate material difference that could affect the profit. The assessee also referred to the OECD discussion on the comparability and the standard approach in determination of differences in the working capital levels of the tested party vis-à-vis comparables. The learned AR placed reliance on the decision of Co-ordinate Bench of Delhi in the case of Mentor Graphics (Nioda) Pvt. Ltd., reported in (2007) 109 ITD 101 (Delhi) and the decision of this Tribunal in the case of VMware Software India Pvt. Ltd., Vs. DCIT in IT(TP)A No.276/Bang/2023.

The learned AR prayed that appropriate working capital adjustment be granted while computing the ALP in accordance with Rule 10B(3) of the Income Tax Rules, 1962.

28. Per contra, the learned DR relied on the Orders of the Revenue authorities.

29. We have heard the rival contentions. The learned DRP has observed that assessee has not demonstrated with any data or information as to the impact of such difference or the price, cost or profits as to whether such difference materially affect the price, cost or profits. In the absence of reasonable data, it is noted that accurate adjustment arising out of the differences in working capital adjustment could not be ascertained. The learned DRP also noted that assessee has failed to demonstrate such material differences as to warrant an adjustment. Therefore, it upheld the Order of the TPO by rejecting the assessee’s claim on working capital adjustment. In these circumstances, we direct the assessee to demonstrate before the learned AO/TPO such material differences so as to warrant an adjustment in the working capital. We therefore remit this matter back to the file of learned AO/TPO. Accordingly, this ground is allowed for statistical purposes.

30. In the result, appeal filed by the assessee is partly allowed for statistical purposes.

Pronounced in the open court on the date mentioned on the caption page.