ORDER
O.K. Narayanan, A.M.
1. These are two appeals filed by the assessee. The relevant assessment years are 1997-98 and 1998-99. The appeals are directed against the order of the Commissioner (Appeals) VI at Mumbai dated 29-11-2001. The appeal arise out of the assessments completed under Section 143(3) of the Income Tax Act, 1961.
2. The assessee company is engaged in the business of manufacture of medicines and Lacto Calomine. The assessee had entered into a Non-Compete Agreement with M/s. Duphar Interfran Ltd. (DIL) on 3-7-1996, within the previous year relevant to the assessment year under appeal. The assessee-company had purchased the brand name of Lacto Calomine from M/s. DIL for the consideration stated in the agreement. Thereby the assessee has become the owner of the brand name with all other attendant rights relating to Lacto Calomine. The Non-compete Agreement entered into by the assessee-company with M/s. DIL was in addition to earlier sale agreement of brand name. As per the Non-Compete Agreement, the assessee paid Rs. 40 lakhs to M/s. DIL. This amount was paid to restrain M/s. DIL from competing directly or indirectly in the business activities carried on by the assessee. The payment made by the assessee company against first agreement of the purchase of brand name was accounted by the assessee-company as an item of capital expenditure. But the sum of Rs. 40 lakhs paid by the assessee-company as Non-Compete fee has been claimed as a deduction being revenue in nature under Section 37(1) of the Income Tax Act, 1961.
3. The Assessing Authority did not agree with the argument of the assessee-company that the Non-Compete fee of Rs. 40 lakhs paid by the assessee-company was in the nature of revenue expenditure. The assessing officer observed that by making payment of Rs. 40 lakhs to M/s. DIL, the assessee company has acquired an advantage of enduring nature byway of freedom from competition that would have been induced by M/s. DIL who was the leader of market segment handled by the assessee-company. The assessing officer held that the assessee has secured elimination of risk or detriment: to the assessee on account of competition and thereby has secured an enduring benefit in establishing its leadership in the business carried on by it.
4. In coming to the above conclusion, the assessing authority relied on the following judicial pronouncements:
(i) Behari Lal Beni Parshad v. CIT
(ii) Truck Operators Union v. CIT
(iii) NeelKamal Talkies v. CIT
(iv) Blaze & Central (P) Ltd. v. CIT
(v) CIT v. Hindustan Piikington Glass Works (1983) 139 ITR 5812 (Cal)
(vi) Chelpark Co. Ltd. v. CIT (1991) 191 ITR 2403 (Mad)
(vii) Grover Soap (P) Ltd. v. CIT .
Ultimately the assessing officer disallowed the claim of deduction of Rs. 40 lakhs made by the assessee-company, holding that Non-Compete fee paid by the assessee-company to M/s. DIL was a capital expenditure.
5. The issue was taken in first appeal before the Commissioner (Appeals). The assessee contended before the Commissioner (Appeals) that the case laws relied on by the assessing authority to reject the claim of the deduction made by the assessee-company were not applicable to the case inasmuch as the payment of Rs. 40 lakhs to M/s. DIL has not brought in any benefit of enduring nature to the assessee-company. The assessee explained before the Commissioner (Appeals) that Non-Compete fee was paid in respect of generic product formulation to avoid the competition from M/s. DIL who could manufacture the same Lacto Calomine formulation under a different brand name if the assessee has not entered into a Non-Compete Agreement. The assessee therefore submitted before the Commissioner (Appeals) that the payment was made for maintaining/ increasing the profit earning capacity of the brand acquired by the assessee-company from M/s. DIL. As the payment was made with a view to maintain/produce profits from the sale of the products bearing the brand name, it is revenue in nature and no enduring benefit is brought into existence. The assessee explained that the amount paid by the assessee was in the nature of removing “persisting disadvantage” by elimination of a possible competitor.
6. The assessee-company relied on the following judicial pronouncements in respect of its agreements placed before the Commissioner (Appeals):
CIT v. G.D. Naidu
Premier Automobiles Ltd. v. CIT (1984) 150 ITR 282 (Bom)
CIT v. Lahoty Bros. Ltd.
V. Damodaran v. CIT
CIT v. Bowrisankara Steam Ferry Co.
CIT v. Piggot Chapman & Co. .
7. Commissioner (Appeals) held that in respect of the decisions relied on by the revenue aswell as the assessee, what is important is the nature of the payment made by the assessee-company. The product in question was Lacto Calomine which was being manufactured by DIL. Prior to the Non-Compete Agreement, the assessee had made an agreement with M/s. DIL with the condition that the product Lacto Calomine will thereafter be manufactured by the assessee-company and M/s. DIL would stop manufacturing of the product, i.e. Lacto Calomine. This product was to be manufactured by the assessee-company for a period of ten years as agreed upon by both the parties in the said agreement. In the agreement, the assessee itself has stated that the payment was made by the assessee to increase the profit earning capacity of the business. The Commissioner (Appeals) observed that increasing of the profit earning capacity of the business carried on by the assessee-company creates an enduring benefit in favour of the assessee. The base for profit making has been increased by way of starting manufacturing Lacto Calomine for a period of ten years. During this period M/s. DIL would be out of the field as far as the said product is concerned. The Commissioner (Appeals) held that this shows that the payment of Rs. 40 lakhs made by the assessee-company was for acquiring an enduring benefit and therefore, capital in nature. He observed that money paid to restrain the potential competitor in business, is an expenditure in the nature of capital. He explained that the word ‘capital’ denotes permanency and capital expenditure is, therefore, clearly akin to the concept of acquiring something, tangible or intangible property, or corporeal or incorporeal right. He ultimately concluded that the payment of Rs. 40 lakhs was to obtain the advantage of enduring nature in the shape of enlarging the profit yielding subject and therefore, capital in nature. Period of agreement was ten years. There is a certainty in respect of the duration of the advantage and it could not be put to an end at any time before the expiry of the time stipulated in the agreement for manufacturing the product in question. He accordingly confirmed the disallowance of Rs. 40 lakhs.
8. The assessee is aggrieved on the above point and therefore filed an appeal for the assessment year 1997-98. The only issue raised in the appeal for assessment year 1997-98 is the question of deductibility of Rs. 40 lakhs paid by the assessee-company to M/s. DIL by way of Non-Compete fee.
9. The grounds raised by the assessee are as follows:
1. The Commissioner (Appeals)-VI, Mumbai (‘the CIT’) erred in upholding the order of the Joint Commissioner Senior Representative-17 (hereinafter referred to as ‘the JOT), treating non-compete Fees of Rs. 40 lakhs being consideration paid to M/s. Duphar Interfran Ltd. (hereinafter referred to as ‘DIL’) for not competing directly or indirectly in appellant’s business, as capital expenditure on the alleged ground that the right obtained thereby is of an enduring nature.
2. He failed to appreciate and ought to have held that:
(a) The said agreement merely curtailed DIL’s liberty to compete for a limited period – the appellant did not acquire any asset nor did DIL absolutely part with a right or abandon any capital asset and that;
(b) judged by the test of business expediency, the amount wasexpected wholly and exclusively for the business of theappellant.
3. The appellant therefore prays that it be held that, on the facts andcircumstances of the case, the said disallowance was unjustifiedand unwarranted, and that the aforesaid expenditure of Rs. 40 lakhs incurred by the appellant for increasing the profit earningcapacity of the business is revenue in nature, and hence allowable as business expenditure under Section 37(1) of the Income Tax Act, 1961, and further, the resultant loss be allowed to be carried forward for set off in subsequent years.
Without prejudice,
4. the appellant having entered into an agreement effectively for a period of ten years, it is entitled to write off the entire non-com petefees over this period, following the ratio in Madras Industrial Investment Corpn. Ltd. v. CIT 225 ITR 802 (SC).
5. The appellant prays that assessing officer be directed to allowthem to write off the entire amount of Rs. 40 lakhs over a period often years, which is the tenure of the non-compete agreement.
10. Shri J.D. Mistry, the learned Counsel appearing for the assessee-company argued at length to bring out his point that the amount of Rs. 40 lakhs was revenue in nature and therefore, deductible as an expenditure under Section 37(1) of the Income Tax Act, 1961. The learned Counsel explained that the assessee-company had purchased the brand name of Lacto Calomine from M/s. DIL with all attendant rights and privileges whereby M/s. DIL will not manufacture the said product. The amount paid by the assessee-company on the basis of the acquisition agreement has already been accounted by the assessee-company as a capital expenditure and not claimed as deduction in computing the taxable income of the assessee-company. Whatever capital nature is there insofar as the acquisition of the brand name is concerned, the relevant cost is already been capitalized by the assessee-company. Therefore, that part of capital expenditure pertaining to the acquisition and manufacture of Lacto Calomine has already been settled by the assessee-company without going for any dispute.
11. The contention of the learned Counsel is that the amount of Rs. 40 lakhs paid by the assessee-company to M/s. DIL as Non-Compete fee is quite distinct and different from acquisition cost of brand name. The amount of Rs. 40 lakhs was paid on the basis of separate Non-Compete agreement whereby M/s. DIL was restrained from competing with the assessee for a period of ten years; from re-entering into the same line of business and manufacturing the same generic product in any different style and brand name. The learned Counsel submitted that the second agreement for Non-Compete is not connected with the acquisition of any right of the asset but in connection with the removal of any possible hindrance in the matter of carrying on of the new business acquired by the assessee by way of the right to manufacture Lacto Calomine. The learned Counsel submitted that the earlier amount paid for acquisition of the brand name was in fact for creating income earning apparatus where as the subsequent payment of Rs. 40 lakhs was in the nature of facilitating and functioning of profit earning apparatus. He therefore submitted that the amount of Rs. 40 lakhs paid by the assessee company was essentially revenue expenditure.
12. The learned Counsel further submitted that the restrain was for a period often years and that is not an indefinite period or substantially long period whereby the assessee can stop M/s. DIL from carrying on a similar business for the years to come or in perpetuity. Therefore, the restrain imposed upon M/s. DIL cannot be treated as an enduring benefit as far as the business of the assessee is concerned. The learned Counsel submitted thatthe products manufactured by M/s. DIL and Lacto Calomine acquired by the assessee-company are of the same generic character and therefore, M/s. DIL could introduce the same product in the market in a different name and therefore, restraining M/s. DIL from doing so was essential. Non-Compete fee was essential for assessee-company for facilitating the utilization of acquisition of the brand right and therefore it is to be held that non-compete fee was in nature of rather a maintenance expenditure.
13. The learned Counsel relied on the decision of the Madras High Court in the case of CIT v. G.D. Naidu . In the said case the entire sum paid by the assessee firm as compensation to the partner to shut off competition from them to the bus service for a period of five years was held to be deductible expenditure in computing the income of the firm. The court held therein that by way of such payments the firm had not acquired any asset or advantage of an enduring nature. It was further held that the compensation paid or relatable to the restrictive covenant not to carry on a similar business was in the nature of a separate transaction unconnected with the business or assets of the firm, and hence could not be disallowed as capital expenditure.
14. Thereafter, the learned Counsel relied on the decision of the Bombay High Court in the case of Premier Automobiles Ltd. v. CIT . In the said case, the assessee has paid a sum of Rs. 24 lakhs to Automobile Products of India Ltd for a consideration that Automobile Products should agree to cancel license issued to it by the Government of India for the manufacture of Meadows engines in India. The assessee claimed the entire sum during the year on the ground that the liability for the said amount arose during the year. It was held therein that the assessee did not bring into existence any enduring advantage, but only eliminated a persisting disadvantage by removal of a possible competitor by the assessee. In the said decision, Bombay High Court has referred to the judgment of Supreme Court in K. T.M.T.M. Abdul Kayoom v. CIT , wherein it was held that if an expenditure was incurred not for the purpose of bringing into existence any asset or advantage, but. for running the business or work with a view to produce profits, it was a revenue expenditure.
15. The learned Counsel has also relied on the decision in Smartchem Technologies Ltd. v. ITO (2005) 97 TTJ (Ahd-Trib) 818 and Wipro GE Medical Systems Ltd. v. Dy. CIT (2003) 81 TTJ (Bang-Trib) 455.
16. Learned Counsel made an alternative ground that if the amount cannot be allowed as deduction as a whole for the impugned assessment year1997-98, then the expenditure should be written off over the period of noncompete agreement, which is in this case a period of ten years. He therefore submitted that amount of Rs. 40 lakhs should be spread over a period of ten years and 1/10 each should be allowed for ten years starting from 1997-98. In support of this ground, he has relied on the decision of Supreme Court in the case of Madras Industrial Investment Corpn. Ltd. v. CIT .
17. Shri Ajay, learned Senior Representative. Departmental Representative appearing for the revenue defended the order passed by the lower authorities on this point. He argued that the assessee has acquired a new product with its brand name and other rights from M/s. DIL. It is the product of Lacto Calomine which has been acquired to expand and boost the business carried on by the assessee-company. The product acquired by the assessee-company is a patented product. It is afast moving product. Therefore, any direct expenditure incurred by the assessee-company for acquiring the said brand name is a capital expenditure. The non-compete fee of Rs. 40 lakhs paid by the assessee-company is not for any temporary benefit. The assessee want to exploit the business opportunities coming out of the new brand product to its full swing. Therefore, the assessee-company has to see that M/s. DIL is not competing in any way with the assessee-company inasmuch as the production and marketing of Lacto Calomine are concerned. By paying the amount of Rs. 40 lakhs, the assessee-company is keeping away M/s. DIL from the field for a long period of 10 years. The period of ten years is sufficient for the assessee-company to establish itself in the market in respect of Lacto Calomine. Any future business made by the assessee-company would be directly related to the initial market stand held by it. In that point of view, the non-compete fee paid by the assessee-company is nothing but capital expenditure incurred for the purpose of expanding and diversifying the business carried on by the assessee-company.
18. The learned Senior Representative Departmental Representative relied on the decision of the Madras High Court in the case of Tamil Nadu Dairy Development Corpn. Ltd. v. CIT . In the case, High Court held that the sum paid to Madras Co-operative Milk Society was compensation paid to avoid competition in trade and was clearly an expenditure of capital nature as the right acquired was of enduring benefit, the vendor having undertaken not to market milk in the Madras city. The learned Senior Representative Departmental Representative submitted that facts of the present case are exactly similar to those facts considered by the Madras High Court in the above case and therefore in the light of the above decision, the Non-Compete fee needs to be treated as capital expenditure.
19. The learned Senior Representative Departmental Representative referred to a Third Member decision of Income Tax Appellate Tribunal, Kolkata in the case of Vinod Kothari Consultants v. Dy. CIT (2004) 91 ITD 153 (Kol). In the said case the assessee had taken over the business of another company and payment was made to ward off competition in that business. The Tribunal held that the consideration paid for such takeover falls in the category of capital expenditure. The learned Senior Representative Departmental Representative also relied on the decision of Tribunal, Bangalore in the case of Lucent Technologies Hindustan Ltd v. Jt. CIT (2007) 106 TTJ (Bang-Trib) 205. In the said case the Tribunal held that in any agreement the purpose for which the agreement is being made is mentioned in the beginning. Such purpose throws light on the object of agreement in respect of the fact of the case. The Tribunal found that the consideration was paid for the closure of one particular type of business by another company and therefore, the assessee has secured an advantage of enduring nature and held that expenditure to be capital expenditure.
20. The learned Senior Representative Departmental Representative also argued against the argument of the assessee on his alternative ground regarding proportionate allowance of deduction. He referred to the decision of Income Tax Appellate Tribunal, Mumbai in the case of Montgomery Watson Consultants India (P) Ltd. v. Asstt. CIT (2004) 90 ITD 324 (Mum). It was held in the said decision that payment to ward off business competition for a long period of ten years is capital expenditure. The Tribunal held that the alternate submission of the assessee that the expenditure should be allowed as deferred expenditure over a period of ten years cannot be accepted since the expenditure was in the nature of capital expenditure and not revenue expenditure. Summing up his argument, the learned Senior Representative Departmental Representative contended that the amount of Rs. 40 lakhs paid by the assessee-company to M/s. DIL was for the purpose for acquiring enduring benefit and establishing a new product in the market and therefore the expenditure was in the nature of capital expenditure.
21. Shri J.D. Mistry, learned Counsel appearing for the assessee, while replying to the arguments of the learned Senior Representative Departmental Representative. submitted that the revenue is excessively hammering on the principle of enduring benefit. He contended that the principle of enduring benefit is not the sole consideration in deciding the nature of an expenditure. An expenditure may be yielding an enduring benefit and even if so, it can be incidental and if the expenditure is for the purpose of facilitating the running of the business earned on by the assessee, the expenditure still takes the character of revenue expenditure. He relied on the decision of the Supreme Court in the case of Empire Jute Co. Ltd. v. CIT (1980) 124 ITR 11 (SC) where the court has held that what is material to consider is the nature of the advantage in a commercial sense and it is only where the advantage is in the capital field that the expenditure would be disallowed on application of test of enduring benefit. The court held that if the advantage consists merely for facilitating trading operation and for enabling the management and conduct of the assessee business to be carried on more efficiently or more profitably while leaving the fixed capital untouched, the expenditure would be on revenue account, even though the advantage may endure for an indefinite future. The test of enduring benefit is, therefore, not a certain or conclusive test and it cannot be applied blindly and mechanically without regard to the particular facts and circumstances of a given case. In view of the proposition laid down by the Supreme Court, the learned Counsel submitted that the payment of Non-Compete fee made by the assessee-company to M/s. DIL is essentially a revenue expenditure in character.
22. We heard both sides in detail and considered the rival contentions carefully. The assessee company has acquired the brand ownership of Lacto Calomine from M/s. DIL for Rs. 85 lakhs. This acquisition was carried out on the basis of an agreement. In addition to the above agreement, the assessee-company has also entered into another Non-Compete Agreement. In terms of Non-Compete Agreement, the assessee- company has paid another Rs. 40 lakhs to M/s. DIL as consideration for restraining M/s. DIL from competing in the business of products similar to Lacto Calomine, for a period of ten years. Regarding the first agreement and the amount of Rs. 85 lakhs, the assessee itself admits that the expenditure was capital in nature. It is in respect of the second payment of Rs. 40 lakhs that the claim of the assessee is that payment was revenue in character. We examined the facts of the case in the light of the various decisions cited by both sides before us. We have also kept in mind the legal principles laid down by the Supreme Court in the case of Empire Jute Co. Ltd v. CIT (1980) 124 ITR 11 (SC), wherein the court has held that enduring benefit alone is not an ultimate test to decide whether an expenditure is capital or revenue in nature. The most important and direct feature to be seen in the present case is that the agreement of acquisition as well as Non-Compete Agreement, both were executed contemporaneously. The assessee-company was in fact acquiring a new branded product in its sole right from M/s. DIL. The product namely Lacto Calomine is a valuable brand in cosmetic industry and the assessee-company acquired the brand right from M/s. DIL. Once the assessee-company has acquired the brand right of Lacto Calomine with all the attendant rights and privileges from M/s. DIL, the assessee becomes the owner of that brand against the entire worlearned The assessee-company brought has in, a new profit making apparatus in the form of a brand name in its possession. It is for the purpose of expansion into new line of product. It is also necessary for the assessee to see that the demand for the new product in the hands of the assessee-company should not be adversely affected by any possible competition from M/s. DIL. Therefore, it has entered into another Non-Compete agreement. Non-Compete Agreement has imposed restrain on M/s. DIL from indulging in competition with the assessee-company for a period of ten years.
23. In the cosmetic industry where fashion and technology are fast changing, a ten year period is sufficiently long period and the benefit of restrain acquired by the assessee for the period of ten years is definitely an enduring benefit. By paying Non-Compete fee, the assessee has acquired enduring benefit along with the acquisition of brand right of a familiar cosmetic product.
24. But we do not say that the expenditure should be treated as capital expenditure only for the reason that the assessee-company has obtained an enduring benefit as already stated. Both the agreements and payments were made contemporaneously as the assessee has acquired the brand right of the new product in its entirety and the Non-Compete clause was separately deduced in another agreement. Therefore, the Non-Compete Agreement is in fact a part and parcel of the main contract of acquiring the brand right. The agreement whereby the assessee acquired the brand right for Rs. 85 lakhs and the Non-Compete Agreement executed after paying Rs. 40 lakhs, both are to be considered and understood in unison. The two agreements are not representing two different events. The subject-matter of both the agreements are one and the same and for the purpose of declaring that the assessee company has acquired the brand right of the product known as Lacto Calomine. When both the agreements are taken together, it is clear that payment of Rs. 40 lakhs was nothing but a part of the consideration for acquiring the brand right of the product. Instead of executing a single agreement for the entire amount of Rs. 125lakhs, the assessee-company has executed two agreements for Rs. 85lakhs and Rs. 40 lakhs, qualifying the latter amount as paid for Non-Compete Agreement. The reason for splitting up the agreement is best known to the assessee. As matter of fact, it is clear that by executing both the agreements the assessee has transacted only one business; that is the business of acquiring exclusive brand name of the product “Lacto Calomine”.
25. In the above circumstances, the payment of Rs. 40 lakhs by way of Non-Compete fee cannot be isolated from the principal agreement of acquiring the brand ownership on payment of Rs. 85 lakhs. Therefore, we find as a matter of fact that the amount of Rs. 40 lakhs paid by the assessee-company by way of Non-Compete fee is essentially part of the consideration paid for acquiring the brand ownership. In addition to the above findings arrived at by us, even otherwise we find that the expenditure claimed by the assessee was capital in nature. It is not possible to hold that Non-Compete fee was paid by the assessee to facilitate the running of business of the new product. The exact nature of Non-Compete fee in the present case has set out a scenario of introducing a new product through the ownership of the brand name. Therefore, the payment of Non-Compete fee is in the nature of initial outlay necessary for launching a new product in the market through the hands of the assessee-company. Therefore, in the light of the decision of the Supreme Court in the case of Empire Jute Co. Ltd. v. CIT as well as in the facts of the case, we find that the Non-Compete fee of Rs. 40 lakhs paid by the assessee-company was in the nature of capital expenditure. Therefore the first ground raised by the assessee is rejected.
26. Regarding the alternate contention of the assessee that the amount of Rs. 40 lakhs has to be allowed for a period of ten years proportionately, it is also not tenable in law. This point was considered by Income Tax Appellate Tribunal, Mumbai Bench in the case of Montgomery Watson Consultants India (P) Ltd. v. Asstt. CIT (2004) 90 ITD 324 (Mum) in which the Tribunal held that the expenditure which is in the nature of capital expenditure cannot be treated as deferred expenditure to be spread over a period of time. In the present case, the expenditure is capital in nature. Capital expenditure cannot be spread over a period of time. The reliance placed by the assessee on the decision of the Supreme Court in the case of Madras Industrial lnvestment Corpn. Ltd. v. CIT is not valid. In the said case the expenditure allowed by the Supreme Court was an expenditure other-wise revenue in character. In this context, it is also to be seen that every capital expenditure does not necessarily bring into existence any corresponding capital asset either tangible or intangible.
27. In the facts and circumstances of the case, we find the appeal of the assessee for the assessment year 1997-98 is liable to be dismissed.
28. The ground raised by the assessee in the appeal for the assessment year1998-99 is reproduced below:
1. The Commissioner (Appeals)-VI, Mumbai (hereinafter referred to as the CIT’) erred in upholding the order of the Joint Commissioner SR-17, (‘the JOT) determining positive income of the appellantin assessment year 1997-98 on the alleged ground that the decision on the issue of non-compete fees had been disposed of in assessment year 1997-98 where the said fees were held to be capital expenditure.
As the appeal for the assessment year 1997-98 is dismissed, this ground raised by the assessee for the subsequent assessment year 1998-99 has become infructuous.
29. In result, the appeals filed by the assessee are dismissed.