AO cannot change DCF Method for Determining FMV of Unquoted Shares under Rule 11UA of IT Rules: ITAT [Read Order]

The Delhi bench of the Income Tax Appellate Tribunal (ITAT) has recently held that the DCF method for determining FMV of unquoted shares could not be changed by the assessing officer under Rule 11UA of Income Tax Rules.

Assessee Gamma Pizzakraft is a private limited company and holding company of wholly owned subsidiaries namely, m/s gamma pizzakraft private limited, m/s gamma pizzakraft lanka private limited and m/s french restaurants private limited.

The assessee company is doing its operational and business activities of operating a bakery restaurant and operating Quick Service Restaurants (QSR) in India and Srilanka through its Wholly Owned Subsidiaries (Wos).

The AO during the proceedings found that the assessee company had issued equity shares to sapphire foods India Pvt. Ltd. at a premium of Rs.55.65 for the share of the face value of rs.10/- and received a total of rs.30,23,74,146/-. sapphire foods pvt. ltd. is an entity of large venture capitalists and the investment in the assessee company was part of the overall transaction of acquisition of pizza hut and KFC outlets in India and Srilanka. The overall transaction has been cleared by the Competition Commission of India (CCI) Vide Its Order Dated 13.08.2015 under Section 31(1) Of the Competition Act, 2002.

AO examined the valuation report prepared by the valuer Ashok Kumar Verma, CA and noted that the valuer has determined the FMV of the shares at Rs.65.65/- per share while the same worked out to Rs.10/- per share under net asset value method.

Thereafter AO compared the projections of profit after tax (pat) made in the valuation report with the actual achieved in the intervening period and observed that there was a difference between the actual profit/loss as per financial statements for the next two years.

After being summoned the valuer by the AO made an observation that the valuer has not verified the data and the valuation has been made on the basis of projections and other details provided by the management and also noted that the valuer has also failed to produce all the documents relied upon while preparing the valuation report.

Thereafter, AO issued a show cause notice to the assessee. After verifying the explanation of the assessee,  AO passed the assessment  order rejecting the valuation of shares under DCF method and determined the value of shares at

Rs.10/- per share by adopting the “net asset value/ book value method” and made an addition.

Aggrieved by the order assesee filed an appeal before the CIT(A). After considering the submissions of the assessee CIT(A) allowed the appeal filed by the assessee. Aggrieved revenue filed an appeal before the tribunal.

Before the Tribunal, T. M. Shiva Kumar, counsel for the assessee submitted that Rule 11 (2) prescribes two methods - the book value method and DCF method. however, the said rule also provides that the method to be adopted is left to the choice of the assessee. 

Therefore the option to choose the method to be adopted to determine the FMV of unquoted shares is not with the ao but with the assessee.

In the instant case, the assessee opted for the DCF method and the AO could not have switched the method from DCF to the book value method for determining the FMV of the unquoted shares.

Mohd. Gayasuddin Ansari counsel for the revenue submitted that the entire valuation has been made at the behest of the assessee company and the inputs given by them and there was no independent analysis or application o f mind by the valuer.

It was observed by the tribunal that the assessee has the option of DCF method and the formula given under Rule 11UA. The option given to the assessee could not be read as the option given to the AO. Hence, the assessing officer has no right to change the method of valuation.

The AO can refuse the method of valuation after proving that the methodology resorted by the assessee is incorrect or not as per the standards lay down.

Further, the valuer has approached the valuation in a systematic manner. He has included a detailed list of source of information relied upon by him that includes five years’ financial projections, provisional financial statements etc. as well the different topics which he discussed with the management. Thus, he has given a very detailed step-wise process of valuation done as per DCF method.

The two members of the tribunal comprising C.M Garg, (Judicial Member) and Dr B. R. R. Kumar, (Accountant Member) held that DCF is correct method of determining the FMV of the unquoted shares, the assessee has option to determine the method of valuation and the AO has no power to reject the method resorted by the assessee.

To Read the full text of the Order CLICK HERE

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