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Maruti, Suzuki And Intangibles!

Published on Tue, Aug 13,2013 | 19:20, Updated at Tue, Aug 13 at 19:20Source : 

By Karishma Phatarphekar, Partner-Transfer Pricing, Grant Thornton India

LG Electronics, Sony India, Glaxo Smitkline, Reebok India are some of the big names among others that have been caught in a recent row owing to the transfer pricing adjustments. Besides the amount of stake involved, one of the reasons why these cases raised so much interest in India is the discussion concerning "Intangibles".

While the matter has been dealt with by the tax authorities on numerous occasions, the recent verdict by the Income tax Tribunal in case of Maruti Suzuki India Limited ("Maruti Suzuki", 'the Company or "the taxpayer") is relevant for discussion. The tribunal gave its judgment primarily in favor of the taxpayer dealing with the some of the crucial aspects of transfer pricing. The judgment is well-drafted, with consideration to the facts presented.

By way of background, the Company is a subsidiary of Suzuki Motor Corporation ('SMC') and is engaged in the manufacture of passenger cars in India. It started its business in 1982 as a 100% Government of India owned company.  In 1993, Maruti Suzuki for a payment of royalty entered into a composite license agreement with SMC for use technical know-how for the manufacturing of vehicles and the co-branded trade mark "Maruti-Suzuki".

What could be the issue? Indian subsidiaries often enter into agreements with their foreign parents for the use of marketing intangibles like brands, trademarks etc. and manufacturing intangibles like technology, designs or know-how. These agreements are subject to the arm's length test under the transfer pricing regime and often challenged by the tax authorities especially marketing intangibles.

The basic question here is how much royalty payment should be made to the owner of the intangible? The debate has taken an interesting contour in Maruti Suzuki case, as the TPO built an argument that the royalty paid should be split towards technical assistance and brand.  He opined that the percentage of expenditure on research and development by SMC represents amount attributable to use of technology and the percentage of advertisement expenditure represents amount attributable to use of brand. For making the above bifurcation, he computed the ratio between both the expenditure and made the adjustments accordingly.

Another distinguishing feature in the case is the issue of Co- branding. Maruti Suzuki owned its own brand "Maruti", which is well-known in the Indian market. All models that used SMC's technology and designs were co-branded with the "Maruti-Suzuki" brand.  Most of us common man would believe that "Maruti" brand would be gaining from its association with the global brand. However, the position of the TPO was to the contrary. This is where the dispute becomes interesting.

The transfer pricing authorities were asserting that the "Suzuki" brand is likely to be a weaker brand in India and through intensive marketing by the Company, when co-branded with "Maruti" allows "Suzuki" to gain market recognition.  They hold that this process of "piggybacking" of Maruti trade mark by the Suzuki trade mark has resulted in impairment of Maruti brand value in a big way and asserts that this required compensation.

What did the Tribunal say? On the issue of payment of royalty by the company, the approach followed by the transfer pricing authorities was not accepted by the Tribunal.  The major points coming out of the decision are:

  • Agreement between then two independent companies: At the time of entering into the license agreement the appellant was an independent 100% GOI owned entity. 
  • Rule of consistency:  The decision of the continued use of the said cobranded logo was taken in way back 1993, 12 years before the year under consideration. This could not have been influenced by the need to manipulate and thereby erode the Indian tax base. When there is no change in facts and circumstances of different year and then different view cannot be taken.
  • Not open to revenue authorities to split an agreement: The royalty paid by the taxpayer to SMC constitute a single contract. All others rights vested in the license agreement including technical know -how and trade mark are linked and cannot be separated.
  • Business expediency: The payment of royalty has been incurred wholly and exclusively for the purpose of business of the taxpayer whether or not such expenditure actually benefits the taxpayer is an irrelevant consideration for the purpose of determination of ALP.
  • Co- branding: TPO has erroneously concluded that the Suzuki brand is weak. Suzuki name was used in order to advance Company's own commercial interest. No question of adjustment arises on the basis that the Company conferred any benefit on SMC by using its name in conjunction with Maruti.

Another issue which was raised is in relation to advertisement, marketing and sales promotion expenses (AMP expenses) incurred by the Company.  The Tribunal remitted back the issue to the transfer pricing authorities to be decided in light of Special Bench ruling in LG Electronics.

Though the judgment is welcome from the taxpayer's perspective in setting certain principle arguments relating to intangibles, the issue is still viewed as being in its infancy and may get tested at the higher courts. It is no surprise that the OECD and tax authorities globally are now particularly focused on this aspect of transfer pricing. It further re-emphasis that documentation, commercial arguments and more important overall substance is the key to sustain any tax dispute.

(Vandana Jain, AM, Transfer Pricing at Grant Thornton also contributed to this article)


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