ITA No.3472/Del/2010

SHRI R.S. SYAL, AM AND SHRI C.M. GARG, JM

Shri Manoj Kr. Pardasani, Shri S.K. Agarwal and Shri Sanjiv Choudhary, CAs For The Assessee :
Shri Amrendra Kumar, CIT, DR For The Department :

ORDER

R.S. SYAL, AM:-This appeal by the assessee is directed against the order passed by the CIT(A) on 30.4.2010 in relation to the assessment year 2002-03.

2. The assessee, vide ground no. 8 of the appeal, is aggrieved against the confirmation of addition of Rs. 84,06,916/- towards transfer pricing adjustment.

3. Briefly stated, the facts of the case are that the assessee, an Indian company, is a part of Swarovski Group which is globally famous for crystal and crystal related products. It is a global leader in crystal jewellery and accessories, grinding and dressing tools, precision optical equipment and synthetic gemstones. The assessee was incorporated in 1996 with a different name, which was changed on 10.11.2001 to Swarovski India Pvt. Ltd. The assessee has two units, viz., one 100% EOU in Pune, set up for coating raw beads and the other in Delhi engaged in import and sale of crystal and crystal related products in India. The assessee filed its return reporting seven international transactions, out of which only three related to the Pune unit. One of such international transactions is ‘Coating of raw beads’ with transacted value of Rs. 316,84,850/-, which is under dispute. The assessee used Cost plus method (CPM) as the most appropriate method to demonstrate that this international transaction was at arm’s length price (ALP). The Assessing Officer (AO) made reference to the Transfer Pricing Officer (TPO) for determining the ALP of the reported international transactions. The TPO took up the international transaction of ‘Coating of raw beads’ which was shown by the assessee at ALP by indicating its profit mark up over costs at around 30% against the gross mark-up of 19 comparable companies at 11%. The TPO observed that the assessee did job work of colouring raw beads at its Pune plant and was, hence, in the nature of a contract manufacturer. It was noticed that the assessee received raw beads from its associated enterprises (AEs) and after doing colour coating, the same were sent back to the AE. For this, conversion charges to the tune of Rs. 3.16 crore were received by the assessee, which constitute the international transaction under consideration. The TPO noticed functional profile of the assessee by observing that the Pune unit was set up to colour beads for only Swarovski entities and was 100% captive unit taking minimal risks and all the raw materials were furnished by its AE free of cost for which the finished goods were sent back to the AE. He noted in para 5 of his order that the 'Cost base’ as used in CPM was not defined either in the rules or in the OECD guidelines. It was further noted that CPM, unlike the Resale price method, focuses on gross mark-up earned on cost of production and, accordingly, in the case of a captive service provider, the CPM resembles the transactional net margin method (TNMM) because the mark-up on costs incurred in the provision of services is actually the operating margin at the net level. He computed the cost base of the assessee, on which the mark up could be applied, as under:-

4. Then, he proceeded to determine the ALP of the international transaction of receipt of revenue for coating raw beads. In this regard, he observed that the assessee during the course of proceedings submitted a list of 19 comparable companies engaged in similar business of diamonds and semi precious stones whose average net profit margin was worked out at 4.4% of the costs. Applying such margin as a benchmark, he determined the ALP of this international transaction as under:-

5. That is how, he recommended a transfer pricing adjustment amounting to Rs. 84,06,916/-. The AO while finalizing the order u/s 143(3) made this addition. The assessee challenged two aspects of this addition before the ld. CIT(A), namely, application of TNMM by the TPO as the most appropriate method and determination of ALP of this international transaction. The ld. CIT(A) agreed with the TPO in applying TNMM as the most appropriate method. On second aspect also, the ld.CIT(A) echoed the assessment order in determining the cost base at Rs. 3.84 crore and the amount of transfer pricing adjustment at Rs. 84,06,916/-. The assessee is in appeal against the confirmation of this addition.

6. We have heard the rival submissions and perused the relevant material on record. There are basically two issues raised on behalf of the assessee in this regard, viz., selection of the most appropriate method and computation of ALP under such method. We will espouse these issues, one by one.

I. Selection of most appropriate method

7.1. First issue before us is selection of the most appropriate method. The ld. AR submitted that the assessee correctly applied CPM as the most appropriate method to benchmark this international transaction but the TPO fell in error in resorting to the TNMM. In the opposition, the ld. DR submitted that the TPO, in fact, applied Cost plus method only as was evident from the fact that nowhere in the order did he refer to the application of TNMM as the most appropriate method. It is true that the TPO has nowhere specifically mentioned that he was applying TNMM. At the same time, it is also true that the ld. CIT(A) has specifically upheld the application of TNMM as the most appropriate method. In view of the conflicting claims of the rival parties on this preliminary issue, we first need to precisely ascertain the method applied by the TPO.

7.2. We have noticed above that the TPO determined cost base of the assessee at Rs. 3.84 crore on which profit margin of 4.4% has been applied to determine the ALP at Rs. 4.00 crore. This 4.4% has been adopted on the basis of calculations given by the assessee during the course of proceedings before the TPO, a copy of which is available on pages 272- 275 of the paper book. Para 3 of the accompanying letter dated 17.01.2005 addressed to the TPO states that the assessee has : 'now computed mark-up on cost considering overhead expenses in respect of the assessee company and also for comparable companies mainly in diamond business.’ This shows that the mark-up of the assessee and comparables has been computed in the same manner. Such a statement of determination of profit margin is available on page 274 of the paper book. When we peruse this page, it is manifested that the assessee adopted three years’ data of comparables. Profit margin of 4.4% of comparables has been determined by considering three figures, namely, Total income, Total cost and Net profit. Due to non-availability of any Annual report of the 19 comparable companies for any of the years, the manner of computation of profit rate so given in the Table on page 274 of the paper book is not capable of verification. Below this Table, the assessee computed its own profit margin in the similar way by considering Total income at Rs. 3.25 crore, Total cost at Rs. 3.92 crore and Net loss at Rs. 0.67 crore and in percentage terms at (-) 17.09%. Figure of Total income of the assessee in this Table at Rs. 3.25 crore has been computed by taking total of Income side of its Profit & Loss Account of the Pune unit at Rs. 3.32 crore as reduced by nonoperating income of Rs. 0.7 crore. This shows that the figure of Rs. 3.25 crore is gross operating revenue of the assessee. The second figure of Total cost at Rs. 3.92 crore has been determined by taking total of all the expenses appearing in the Profit & Loss account at Rs. 3.99 crore as reduced by certain non-operating costs. When we consider these two figures, namely, Total income (Operating revenue) and Total cost (Operating costs) as calculated for the assessee, and, then, view it in the setting of the Table depicting calculation of similar figures of the comparables, there remains no doubt that 4.4% is the average operating profit margin of the comparables. In other words, profit margin of 4.4% of comparables is OP/TC. The TPO applied this profit margin on costs incurred in providing job work services calculated by him at Rs. 3.84 crore to determine the ALP and the resultant transfer pricing adjustment.

7.3. This manifests that the TPO has applied TNMM and not the Cost plus method. The reason for our this conclusion is that the calculation of ALP under TNMM has been prescribed under Rule 10B(1)(e) in which the first step is to compute the net profit margin realised by the enterprise from an international transaction in relation to a particular base such as costs incurred or sales effected or assets employed or to be employed. Under sub-clause (ii), the net profit margin realized by the enterprise from a comparable uncontrolled transaction is computed with regard to the same base, which is, then, adjusted under sub-clause (iii) on account of differences, if any, between the international transaction and comparable uncontrolled transaction to find out the arm’s length margin under subclause (iv). On the other hand, the manner prescribed for calculation of ALP under Cost plus method is given under Rule 10B(1)(c). Under subclause (i) of this rule, the direct and indirect cost of production incurred by the enterprise are determined. Under sub-clause (ii), the amount of normal gross profit mark up to such costs arising in a case of comparable uncontrolled transaction is determined which is, then, adjusted under subclause (iii) on account of differences between international transaction and the comparable uncontrolled transaction. The costs referred to in subclause (i) are increased by the adjusted profit mark up arrived at under subclause (iii) to find out the ALP of the international transaction. On a comparative study of TNMM and CPM, we find that whereas the base incase of TNMM may be 'Total operating costs’ (if not sales effected or assets employed etc.) with the 'Net profit’ always as numerator, the base in the case of CPM is 'Direct and indirect costs’ of services rendered with the 'Gross profit’ always as numerator. Not only there is a difference in the numerator, being, gross profit in CPM and net profit in TNMM, the denominator is also different. Whereas in CPM the denominator is always direct and indirect costs, but, in TNMM when we take the base of costs incurred, it is the operating costs which are taken into account. Direct costs include cost of raw material and labour etc. and indirect costs include depreciation, repairs and maintenance, electricity, etc. for the production facilities. While all the direct costs can be ascertained from the Trading account alone, some of the indirect costs, like depreciation etc. are found from the Profit and loss account. On the other hand, 'Operating costs’ include not only direct and indirect manufacturing costs as referred to in the CPM, but also certain other costs, such as, Selling and Administrative expenses, which can be found from the Profit and loss account. In other words, 'Operating costs’ are equal to 'Direct and indirect costs’ plus some other costs. Insofar as the numerator is concerned, here again we find that the term 'net profit’ in TNMM does not literally mean the amount of net profit at the end of the Profit and loss account, but 'operating net profit’, which is calculated by reducing operating costs from the gross revenue. Similarly, the term 'gross profit’ in CPM does not literally mean the amount of gross profit at the end of Trading account, but gross margin, which is calculated by reducing all the direct and indirect costs from the gross revenue.

7.4. When we view the calculation made by the TPO in determining the ALP of this international transaction, it clearly emerges that he has taken costs incurred at Rs. 3.84 crore, which are 'Operating costs’ as per his calculation and profit margin of 4.4% of comparables, which is ratio of operating profit to total operating costs. Thus, it is evident that the TPO has applied TNMM for determining ALP of this international transaction. This disapproves the contention of the ld. DR that the TPO applied CPM as the most appropriate method.

7.5. Now, we come to the question of the most appropriate method in the given facts and circumstances. It is found that the assessee is doing job work for and on behalf of its AEs. Neither there is any purchase of raw material by the assessee nor any sale at its own. Rather, it is a case in which the assessee receives raw material and sends back the finished goods to its foreign AE after doing the necessary job work, for which it has been paid a sum of Rs. 3.16 crore. The ld. AR contended that the assessee applied CPM in respect of similar international transaction of receipt of job charges in the subsequent years as well. A chart has been placed on record which divulges that right from the assessment year 2002-03 (i.e. the year under consideration) up to the A.Y. 2005-06, the assessee had been applying CPM as the most appropriate method for the international transaction of receipt of job charges, which stood accepted by the TPO. Copies of orders accepting this method have been placed on record. This divulges that the TPO accepted the application of CPM as the most appropriate method for the immediately succeeding three years. It is further noticed that para 6.2.20.2 of the UN Transfer pricing guidelines for developing countries provides that : 'The cost plus method is also generally used in transactions involving a contract manufacturer, a toll manufacturer or a low risk assembler which does not own product intangibles and incurs little risks.’ As the assessee has been admitted by the TPO himself as a 'contract manufacturer’, we fail to see as to how the CPM can not be considered as the most appropriate method in the given circumstances. No contrary view has been brought on record by the ld. DR holding CPM as not the most appropriate method in the case of receipt of job charges by a contract manufacturer. Even otherwise, we find that the CPM, like the CUP method, is a transaction specific method striving to determine ALP on a micro level thereby lending more credibility, rather than the TNMM having a non-transaction specific generalized approach aiming to compute profit on a macro level. In view of the foregoing reasons, we are of the considered opinion that the Cost plus method is the most appropriate method in the given circumstances.

II. Computation of ALP under the most appropriate method

8.1. Having chosen the most appropriate method as CPM, the next vital question is the determination of ALP under this method. We find that the TPO applied TNMM for calculating the ALP of the international transaction and, as such, did not have any occasion to examine the calculation given under the CPM. The assessee has made calculation of ALP under CPM in its Transfer pricing study report as per Annexure-B. When we peruse such Annexure in juxtaposition to the Profit & Loss Account of the Pune unit, it comes to the fore that in the Profit & Loss Account, there is a mention of first item of revenue as ‘Sales (Including trading)’ at Rs. 3,16,84,853. It is this figure of Rs. 3.16 crore, which has also been taken in Annexure-B as 'Processing charges’ to which amount of foreign exchange gain has been added for arriving at total amount of revenue of Rs. 3.24 crore. From this amount of gross revenue, certain direct and indirect costs have been reduced totaling Rs. 2.48 crore to compute gross profit at Rs. 76,47,114/-. We find that there is difference in some of the items of direct and indirect costs taken in Annexure-B vis-àvis the amounts appearing in the Profit & Loss Account. Though some of the figures, namely, Chemical and clearing charges of chemicals consumed, Packing material and sewing thread consumed and Purchase of consumables, etc. given in the Annexure are matching with the respective amounts given in the Profit & Loss Account, but, there are certain other expenses whose figures are not matching. For example, in Annexure-B, there is mention of ‘Wages’ at Rs. 18,98,976/-, ‘Salaries to supervisor (approx.)’ at Rs. 5,14,000/-. These amounts are not directly traceable from the assessee’s Profit & Loss Account. On a pointed query, albeit the ld. AR submitted that these costs are part of 'Personnel expenses’ at Rs. 1,17,36,299/-, but, he could not tally the total of these two items along with other similar expenses with the amount of 'Personnel expenses’ appearing in the Profit & Loss Account. Similarly, the amount of Depreciation has been taken at Rs. 86 lac in Annexure-B with the narration ‘(approx.).’ As against that, the amount of depreciation in Profit & Loss Account is Rs. 1.07 crore. The ld. AR stated that the remaining amount of depreciation is in relation to Administrative wing of Pune unit, but, failed to point out the manner of such apportionment. Then, there is an item of Rs. 50 lac considered in Annexure-B with the narration ‘Management cost (approx) and other expenses (approx.).’ Here again, the answer to the query about the manner of determination of this cost at Rs. 50 lac was vague and unsubstantiated. Total direct and indirect costs as per Annexure-B have been taken at Rs. 2.48 crore. This is in contrast to total expenditure of Rs. 3.99 crore debited to the Profit & Loss Account. The ld. AR could not state the exact amount of overheads debited to the Profit & Loss Account included in such total cost of Rs. 3.99 crore which are not included in Rs. 2.48 crore, being the total direct and indirect processing costs. When confronted with the above variations, the ld. AR submitted that during the course of proceedings before the TPO, the assessee revised its calculation and also furnished a supporting certificate from a Chartered Accountant, a copy of which is placed on pages 465 to 483 of the paper book. He stated that that this certificate represents exact calculations. When we peruse page 466 of the paper book, which is a part of the certificate along with the subsequent pages, it comes out that total expenses have been allocated under four heads, namely, ‘Coating of Raw Beads’, 'Trading’, 'Transfers’ and 'Corporate’. Whereas some of the expenses are particular to ‘Coating of raw beads’ alone, while others have been bifurcated into other three heads also, namely, Trading, Transfers and Corporate. The ld. AR contended that the costs have been allocated to Trading, Transfers and Corporate heads as well because some of the activities of the Pune unit also related to these heads. When we peruse the Profit & Loss Account of the assessee, it discerns that there is an item of revenue characterized as ‘Sales (including trading)’ with the value of Rs. 3,16,84,843/-. We find that this is the exact amount of the revenue received by the assessee from its AE as job work charges. This is also fortified from the TPO’s order in which the international transactions have been reproduced and the transaction at Sl. No.3 is ‘Coating of raw beads’ with value of Rs. 3,16,84,850/-. This indicates that the entire revenue of the Pune unit is from 'Job work’ and there is no transaction of revenue from Trading or Transfer, which position could not be controverted by the ld. AR as well. Thus it is palpable that the revenue in the Pune unit is only from the 'Job work’ and the mention of the words ‘Including trading’ in the Profit & Loss Account is superfluous. The ld. AR has also admitted that there is no amount of revenue from the Trading activity or any other activity carried out by the assessee in Pune unit except ‘Coating of raw beads.’ Once it is established that the assessee did not carry out any income-generating activity in its Pune unit except 'Job work’, we fail to comprehend any logic in allocating costs to non-existent 'Trading’ and 'Transfers’ heads also, which have been artificially created so that the costs qua 'Job work’ could be reduced to show higher artificial profit with a view to demonstrate this international transaction at ALP. Even otherwise, we find from page 469 of the paper book, which is part of the certificate given by the Chartered Accountant, that the apportionment of certain expenses has been done in the ratio of 30% to Coating of raw beads, 30% to Trading, 10% to Transfers and 30% to Corporate. Similarly, some other expenses have been allocated in the ratio of 50%, 10%, 0% and 40%, while still some other expenses have been allocated in the ratio of 60%, 0%, 0% and 40%. On a specific query to explain the basis of such apportionment of costs amongst the sole existing head of 'Coating of Raw Beads’ and other non-existing heads, the ld. AR stated that it was done as per the subjective satisfaction of the management. Firstly, we find that there is no Trading or any other activity and allocation of costs to such heads has been made with the ulterior motive of reducing the cost base of 'Job work’ and, secondly, such allocation is absolutely on ad hoc basis without there being any parameter to justify the rationality of such allocation. In view of the above discussion, it is clear that the assessee’s determination of ALP under CPM cannot be accepted on its face value. As the TPO proceeded to determine the ALP by applying TNMM, which has not been approved by us hereinabove, we are of the considered opinion that it will be just and fair if the impugned order is set aside and the matter is restored to the file of AO/TPO for re-deciding the ALP of the international transaction of job charges of the Pune unit under Cost plus method. It is made clear that we have not examined the comparability or otherwise of the companies chosen by the assessee as comparable. This aspect also needs to be decided at the TPO/AO’s end. Care should be taken to select comparables which are rendering job charges in the capacity of a contract manufacturer alone assuming minimal risks and not the fullfledged manufacturers purchasing raw materials and then selling similar finished goods at their own assuming all the manufacturing risks as well. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in such fresh proceedings.

9.1. The next issue raised in this appeal is against the sustenance of addition amounting to Rs. 22,17,399/- in respect of amount written off under the head ‘Fixed assets written off.’ The assessee has also raised an additional ground, which reads as under:-

“Without prejudice to the fourth ground of appeal, that on the facts and in law, the ld.AO may be directed to allow depreciation on total cost of the fixed assets acquired during the year and added to the WDV of the respective block of assets, including the amount of Rs. 22,17,399 written off under the head “fixed assets written off”, under section 32 of the Income Tax Act, 1961.”

9.2. No serious objection was taken by the ld. DR against the admission of the above additional ground. The same, being a legal ground, is hereby admitted for consideration.

9.3. Briefly stated, the facts of these grounds are that the assessee debited a sum of Rs. 22,17,399/- on account of write off in respect of fixed assets. On being called upon to justify the claim of deduction, it was submitted that SPA Agencies (P) Ltd. was the erstwhile Distributor of Swarovski Crystal Products before the assessee company started its operations in India and it was agreed by the assessee company to purchase fixed assets from SPA Agencies which were used for the sale of these products. These assets were stated to have been taken over at the value appearing in their books of account, namely, Rs. 96,52,099/-. The same were revalued after acquisition at Rs. 74,34,700/- and the differential amount of Rs. 22,17,399/- was written off. The AO treated this amount as capital loss and did not grant deduction for the same. The ld. CIT(A) approved the action of the AO in this regard.

9.4. We have heard the rival submissions and perused the relevant material on record. Detail of the assets purchased from SPA Agencies Pvt. Ltd. is available at page 143 of the paper book. The assets so purchased include Land at Hauz Khas, Building at Hauz Khas, Plant and machinery including computers, printers and scanners along with generator and other assets including photocopy machine, fax machine, etc. in addition to Furniture and fixture. The assessee purchased these assets individually at a value totaling Rs. 96.52 lac. The same were again revalued item-wise and the excess purchase price over and above the revalued figure amounting to Rs. 22.17 lac was written off, which is under dispute. The ld. AR submitted that the assessee was set up in November, 2000 and prior to that SPA Agencies was acting as Distributor of Swarovski Products. On being asked to produce a copy of agreement, if any, between the assessee and SPA Agencies Pvt. Ltd., for acquiring their business of distributorship, the ld. AR contended that no such agreement was entered into because the assessee did not acquire business of distributorship from SPA Agencies and simply purchased these items of assets plus some inventory etc. at the value as appearing in their books of account. The emphasis of the ld. AR was on the fact that it was a case of purchase of fixed assets for a separate consideration and not acquisition of any business as such coupled with all the liabilities etc. This shows that the assessee purchased the fixed assets from SPA Agencies Pvt. Ltd. and revalued the same which resulted into a loss. That being the position, we fail to see as to how such differential amount on account of fixed assets written off can be considered as revenue loss deductible in the computation of income. It is a clear cut case of capital loss resulting from the valuation of fixed assets. In support of the contention that it was business expediency of the assessee in purchasing these fixed assets from SPA Agencies and hence the loss written off be allowed as deduction, the ld. AR relied on the judgment of the Hon’ble Supreme Court in the case of Patnaik and Co. Ltd. vs. CIT (1986) AIR 1483 (SC). In that case, there was a business loss from sale of Government bonds or securities which had to be purchased by that assessee as a condition for having purchase orders from the Government and the loss was held to be revenue. In that case, the assessee was told that only if it subscribed for such Bonds that the preferential treatment would be given to him in placing orders for motor vehicles required by the various Government departments. This shows that the purchase of Government bonds was obviously a pre-condition for securing orders from the Government. It was under those circumstances that the Hon’ble Supreme Court held the loss to be deductible. The facts of the extant case are entirely different. It is not the case that the assessee had to purchase the fixed assets for acquiring the distributorship from SPA Agencies (P) Ltd. The assessee’s stand ab initio has been that there was no acquisition of any business as such by the assessee and it was a case of purchase of individual fixed assets with separate value indicated against each asset. Secondly, unlike that case, there is no sale of any assets acquired under compulsion resulting into a loss. This decision, therefore, does not advance the assessee’s view point. As the loss on revaluation of fixed assets is in capital field, the same cannot be allowed as deduction. We, therefore, approve the impugned order on this score by dismissing the assessee’s ground.

9.5. On the additional ground, the ld. AR contended that if loss of Rs. 22.17 lac was not to be allowed as deduction, then, such loss written off in the accounts by reducing the value of block of fixed assets, be added to the value of assets so as to restore the full value of purchase price of such assets and the resultant depreciation may be claimed on the full purchase price of such assets. We are in agreement with the alternate prayer made by the assessee through the additional ground that such amount of Rs. 22.17 lac should be added to the purchase price of fixed assets. It is so for the reason that once the amount written off is not deductible, it will naturally add to the cost of assets purchased so that the actual purchase price constitutes addition in the respective block of assets during the year thereby allowing depreciation on the full purchase price of the assets. Thus, the additional ground is allowed and the AO is directed to examine the facts on this score and restore the purchase price of such fixed assets in the block of fixed assets and allow depreciation accordingly.

10.1. The next issue raised in this appeal is against the sustenance of disallowance of amount claimed under the head ‘Provisions for obsolete goods amounting’ to Rs. 99,95,581/-. Facts of this ground are that during the course of assessment proceedings, the assessee was required to file detail of valuation of closing stock as on 31.3.2002. From the detail so filed, it was observed that the assessee company made provision for obsolete items amounting to Rs. 99,95,581/- under the category of Traded goods (CCD), Traded goods (CGD) and Finished goods. The AO observed that the assessee did not show such provision in the Profit & Loss Account and, further, there was no mention of such provision in the Notes to Accounts. On being show caused to justify the deductibility of such provision, the assessee contended that thousands of varieties of crystals are maintained by it, out of which several items go out of present trend, which are required to be written off. Amount of Rs. 99.95 lac was claimed as loss from such obsolescence. The assessee further stated that in some cases, the stocks written off were as old as 4-5 years while in other cases, the obsolescence was not full for which valuation was proportionately reduced. The AO observed that the assessee started its CCD and CGD business in November, 2000 only and there was no possibility of having any goods 4-5 years old. In response to that, the assessee stated that stocks purchased from SPA Agencies Pvt. Ltd. also included such obsolete stocks. The assessee explained that in some items of stock there was 100% obsolescence and the stock was accordingly written off in entirety, while in others, the obsolescence was less, for which the write off was made to the extent of 80%. Not convinced with the assessee’s submissions, the AO made addition of Rs. 99.95 lac. The ld. CIT(A) required the assessee to submit basis of valuation of closing stock and also the mechanism for deciding on the write off. The assessee stated that Swarovski Group was following a global policy of write off of obsolete items of stock and the amount written off by it was determined following such policy only. Relevant extract of the Manual dealing with inventory valuation was also placed on record. Unconvinced, the ld. CIT(A) upheld the addition. The assessee is before us against the sustenance of this addition.

10.2. After considering the rival submissions and perusing the relevant material on record, it is noticed that the assessee is following : 'Cost price or market value, whichever is lower’ as the method of valuing its stock. It is the claim of the assessee that since the market price of its closing stock was lower by Rs. 99.95 lac than its cost price, so it is such reduced price which was taken into consideration. In support of determining the market price and the resultant loss from obsolescence, the assessee furnished Manual of Swarovski Group laying down mechanism for the write off of crystal products. It is not the case of the Revenue that the valuation done by the assessee does not accord with the method of valuation given in such Manual or such a global policy is defective. It is observed that the assessee purchased en bloc stock from SPA Agencies Ltd., which consisted of both good and obsolete stocks. It was a package deal for purchase of stock. The Revenue has not doubted such purchase transaction of stock as a whole. Once the entire transaction of stock purchase from SPA Agencies has been accepted as genuine and it is found that some of the items out of such purchase were fully or partly obsolete, there cannot be any bar in writing off such obsolete stock in the books of account to bring the same at its market value. In our considered opinion, the loss suffered by the assessee on the valuation of closing stock has to be and is hereby allowed as deduction. This ground is thus allowed.

11.1. The next ground is against the confirmation of disallowance of 'Provision of doubtful debts’ amounting to Rs. 2,89,475/- and 'Provision for doubtful advances’ amounting to Rs. 5,10,254/- and 'Advance written off’ at Rs. 4,218/-. The facts of this ground are that the assessee claimed deduction of these three amounts. On inquiry by the AO, it transpired that the provision for doubtful debts amounting to Rs. 2,89,475/- pertained to old debts recoverable by SPA Agencies, which were taken over by the assessee along with other assets and accordingly written off as provision. Next amount of Rs. 5,10,254/- was on account of provision for doubtful advances, which represented the amount of 1% SVB (Special Valuation Branch) loading of customs duty which Customs Department charged due to import from associated companies. There was no explanation from the assessee for a sum of Rs. 4,218/-. This led to the making of an addition of Rs. 8,03,947/- (5,10,254+2,89,475+4,218). The ld. CIT(A) echoed the action of the AO in this regard.

11.2. Having heard the rival submissions and perused the relevant material on record, we find that the assessee claimed deduction for these three amounts u/s 36(1)(vii) as a provision for doubtful debts/doubtful advances. The claim of the assessee that the amounts be allowed as deduction in terms of section 36(1)(vii), in our considered opinion, is not acceptable in view of the fact that firstly, deduction under this provision is allowed on actual write off and secondly, the condition precedent for such deductibility as set out u/s 36(2), has not been fulfilled. This latter provision provides that no deduction on account of bad debts or any part thereof shall be allowed unless such debt or part thereof has been taken into account in computing the income of the assessee of the previous year in which the amount of such debt or part thereof is written off or of an earlier previous year, etc. In so far as the first amount of Rs. 2,89,475/- is concerned, this represents the amount of debtors acquired by the assessee from SPA Agencies Pvt. Ltd. and written off during the year itself. This amount has never been taken into account in computing the income of the assessee in the current year or any earlier year. Such debts might have been considered in the computation of income of SPA Agencies Ltd. in earlier years, but that does not satisfy the condition in the hands of the assessee. Thus, there is failure on the part of the assessee to fulfill the condition of section 36(2) which is a pre-requisite for allowing deduction u/s 36(1)(vii).

11.3. The next amount of Rs. 5,10,254/- is a provision for advances written off. It is clear and also accepted by the ld. AR that it is the amount of advances and not the debts written off. Firstly, it is not a case of provision for bad debts as these are advances and not any debtors. Once it is so, there can be no question of compliance with the condition set out in section 36(2). The ld. AR’s contention for treating this amount as a 'Business loss’, is again sans merit. Unlike bad debt, no amount can be allowed as a business loss on a mere write off. The assessee is required to expressly prove the occurrence of loss. Here is a case in which the amount due from Customs Department has been written off. No amount recoverable from the Government can under any circumstance be considered as loss. This amount in our considered opinion has been rightly disallowed.

11.4. The assessee has tendered no explanation on the last amount of Rs. 4,218/- written off by it. We, therefore, approve the action of the ld. CIT(A) in sustaining the disallowance of the above three amounts.

12.1. The last issue raised in this appeal is against the confirmation of disallowance out of advertisement and publicity expenses. The assessee incurred a sum of Rs. 1,99,90,982/- on account of advertisement and publicity (net of reimbursement of Rs. 31.84 lac). The AO held that 10% of such expenditure was of capital nature because of the benefit from such advertisement also spilled over in the later years and a further 10% was disallowed by treating it as brand building of Swarovski owned by its AE abroad. In reaching the latter conclusion, the AO observed that as per Agreement dated 15.1.2002, Swarovski AG was competent to make direct sales to the customers in the territory of India on which the assessee was to be paid commission @ 15% of the net invoice value. The incurring of advertisement expenses, in the opinion of the AO, resulted in brand building of the AE, which was having a customer base in India. The ld. CIT(A) affirmed the assessment order on this point. 12.2. We have heard both the sides and perused the relevant material on record. The disallowance sustained by the ld. CIT(A) is in two parts. The first is 10% of total expenditure on advertisement and publicity treated as a capital expenditure to that extent. In this regard, we find that there is no dearth of decisions from various High Courts holding that the expenditure incurred on advertisement should be allowed as deduction in entirety as revenue expenditure in the year of incurring and no part of the same can be considered as capital expenditure or deferred revenue expenditure. The Hon’ble Delhi High Court in CIT vs. Citi Financial Consumer Fin. Ltd. 335 ITR 29 (Del) has also held to this extent. We, therefore, hold that the ld. CIT(A) was not justified in sustaining the disallowance @ 10% amounting to Rs. 19,99,098/- on account of advertisement expenditure treated as capital by the AO, which is hereby deleted.

12.3. As regards the other amount disallowed by the AO at 10% on account of brand building of Swarovski brand, we find that there is a reference in the assessment order to the fact that Swarovski AG would make direct sales to customers in the territory of India and the assessee would be paid commission @ 15% of the net value of the direct sales to the listed customers. Such income from commission in the hands of the assessee during the year under consideration stands at Rs. 15,06,754/-. We do not find much discussion in the assessment order about the reasons leading to such conclusion of brand building on behalf of the AE. In our considered opinion, it would be in the fitness of the things if the impugned order on this issue is set aside and the matter is restored to the file of AO for deciding it afresh as per law, after giving detailed reasons. We order accordingly. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in such fresh proceedings.

13. In the result, the appeal is partly allowed.

The order pronounced in the open court on 21.04.2016.