Presentation - Ms. Karishma Phatarphekar - Pharmaceuticals and Manufacturing - 22 March 2014

Pharma and Manufacturing
Industry Overview and Recent

Updates
Karishma R. Phatarphekar
Partner,
Global Transfer Pricing Services
KPMG India
The Chamber of Tax Consultants
TP study course
22nd March 2014
Transfer Pricing A proliferation in recent times....
More and more

complex regulation
Business
restructuring and
exit charges
Dissatisfaction with
profit based
methods
Scope of rules
expanding
Increasing onus on
taxpayer
2014 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with
KPMG International Cooperative (KPMG International), a Swiss entity.
All rights reserved.
More audits,
disputes and
litigation
Location
advantages
Aggressive practices
by tax authorities
Indian TP environment
TP Adjustment scenario at present
Indian Revenue authorities are reckoned to be tough

globally in TP matters, with India accounting for about 70%
of all global TP disputes by volume
(Source: Financial Express newspaper 16 July 2012)
Pharmaceutical industry - Areas of discussion..

1
Pharmaceutical Industry - Overview
Types of International Transactions
Import of APIs
Payment of Commission
Clinical Trail Support Services
Marketing Intangibles
Contract R&D
Royalty Payouts
Location Savings
Other Pharma TP Issues
Comparison of Relevant Decisions
Key Takeaways
Way Forward

Typical FAR of Pharma Industry
Functions
Research & Development
Procurement
Manufacturing Primary &
Secondary
Inventory Management
Assets
- Tangible Assets
(e.g Building, Plant &
Machinery, etc.)
Risks
Market risk
Product liability risk

Inventory risk
- Intangible Assets
: Technical (Know-how)
: Marketing (Brand name)
Technology risk
Advertising / Marketing
Research and development

risk
Sales
Credit risk
Ordering and distribution
Foreign exchange risk
Invoicing and collection
Manpower risk
Administrative, Financial and

Legal Matters
General business risk
Quality control
5
5

Transfer Pricing Methods
CUP
RPM
TNMM
Purchase of APIs
Sale of APIs
Import / Export of Formulations
Royalty for use of technology and
trademark
Distribution of API/Formulation
Manufacture of Formulations
Contract R&D Services
Clinical Trail Services
Marketing and Promotion Services
Contract Manufacturing Services
6
Import of Active Pharmaceutical Ingredients (APIs)
Pharmaceutical Industry International Transactions

Import of Active Pharmaceutical Ingredients
Entities Involved
Primary
manufacturing
of APIs
Functions / Risks
Overseas AE
- Manufacturing and
marketing of API
- Product liability, R&D
Risk
Outside India
Import of Actives
India
- Processing of API
Secondary
manufacturing
of FDFs
Indian AE
- Sale of Formulations
- Market, credit, inventory
and forex risk

Import of Active Pharmaceutical Ingredients
Issues
Documentation
Suggestions
Comparability with generic APIs;

Secret Comparables using power u/s 133(6);
CUP analysis for import of actives / formulations. (using
CIMS data) geographic differences, quality and grade of
APIs ignored
Selection of right comparables;

Carry out analysis on Customs database;
Exclusion of companies from different geographies;
Difference in Selling Price, Pharmacopeia;
Re-iteration of high profits under TNMM, if applicable;
Analysis of the customs data / relevant industry
publications.
9
9
Analysis for APIs where external CUP not favourable
Whether the patents for the products have

expired
Independent reports on differentiation in quality
Meeting with markets team to understand

other competitors similar products and their
procurement strategy
Whether any licensing agreement executed

earlier
Selling price and market share analysis
Evaluate internal CUPs if any upfront
Quantify other adjustments R&D, quality and

other support
Why TNMM is the most appropriate method

make aggregation rationale more conclusive
Request for quality reports, data and

information on generic comparables proposed
to be utilized by the TPO very strongly and
explicitly
Comparison of the transfer price over the past 5

years whether increased or decreased
Understand the policy of the group to price the

API's whether standard cost plus
Imports is generally a high value item and therefore the

department is eyeing this closely so need to be extremely
proactive and detailed
10
11

Entities Involved
Overseas AE
Outside India
India
- Marketing outside
India of products
manufactured by
Indian AE canvasser
Payment of
Commission
- Manufacturing of
formulations
Indian AE
Functions
- Distribution of products in
and outside India directly
to the customer
12

Issues
Documentary
Suggestions
Evaluation of commission transaction separately required

as the same is not closely connected to other transactions;
If no direct documentary evidence to demonstrate, services
rendered could be disallowed;
Commission percentage more than 3-5% scrutinized;
Documentary evidences like copy of agreement, marketing
material, letters from overseas AE, CA Certificate / Bank
Realization Certificates, etc. should be maintained;
Demonstrate tangible benefits;
Demonstrate that marketing in India is routine and not nonroutine
Documentary evidence very crucial

13
Clinical Trial Support Services
14

Entities Involved
Functions / Risks
Overseas AE
Outside India
Clinical trail
services
India
Hospitals /
CROs
Indian AE
- Manufacturing
- Marketing
- Primary R&D
including clinical
trials
- Co-ordinates with
hospital and CROs
- payment to hospitals /
CROs
15

Issues
Documentary
Suggestions
High mark up comparables selected by TPO without carrying

out appropriate FAR as to whether Indian AE does actual
clinical trials or only acts as coordinator;
Difficulties arise in identifying appropriate comparable
companies
Charges mark-up even on pass through cost
Role may vary from mere facilitation/co-ordination v/s
responsibility for the completion of the trials;
Risk associated with failure of product development primarily
assumed by AE;
Service being procured from a third party pass through
cost;
Demonstrate pass through cost is pure reimbursement
Demonstrate the functional dissimilarity of comparables

16
17

Trade Intangibles
Trade intangibles are all commercial intangibles (other than

marketing intangibles)
Created through R&D activities and expenditure that the
developer seeks to recover over the life of the IP
Include patents, know-how, designs, and models that are used for
the production of a good or provision of a service, as well as
intangible rights that are themselves business assets transferred
to customers or used in the operation of a business
V/s
These are typically created through marketing activities or

developed over time through customer relationships (goodwill)
Include trademarks and trade names that aid in the commercial
exploitation of a product or service, customer lists, distribution
channels, and unique names, symbols, or pictures that have a
promotional value for the product concerned
18

Issues
Documentary
Suggestions
Determining the ALP

More than 1 party contribute to the IP what should be the arms
length share of each party
Advertisement, Marketing and Promotion expenses (AMP)
construed as marketing intangible
Indian distributor, even if not the legal owner, held to be the local
developer of trademark and hence should not pay royalty and /
or recover the AMP
TPOs adopt cost plus mark-up assuming more than normal AMP
to be reimbursed at mark-up of 10-15%
Well drafted agreements and documenting business strategy;
Demonstrate the tangible benefits and economic substance;
Demonstrate that marketing in India is routine and not towards
promoting the brand;
Policy to recover non routine expenditure as reimbursement
19
Brand
Creation /
Marketing
Intangible
Judicial Precedent
Indian Company
LG Electronics : Special Bench decision to deal

with legal issues not factual issues
Indian company, engaged in manufacturing of Electronic
goods in India , is a subsidiary of a Foreign Company
Excessive
AMP
Expenses
Indian Company incurs AMP expenses for marketing the

goods produced in India
In India
Indian company has incurred AMP expenses which

exceeds the Bright Line limit
Outside
India
Excess AMP expenses incurred by the Indian Company

is perceived to enhance the brand value of Foreign
Company
Indian tax authorities have contended that
AMP
expenditure incurred by a taxpayer at a level that exceeds
the bright line is to be reimbursed by the foreign AE with
a mark-up
Foreign Company
Owner of
Brand
Incurring of AMP expenses by the assessee towards brand legally owned by the foreign AE
constituted a 'transaction' subject to TP provisions;
Upholds use of Bright Line Test for determining cost / value of such transactions:
Under IT Act, it is legal ownership of brand that is recognized - Special Bench Majority View
Matter on the quantification set aside to re-look at comparables and appropriate cost base
20
Judicial Precedent
BMW India Pvt. Ltd.- Delhi Tribunal
The Delhi Tribunal observed that:
BMW India though not a licensed manufacturer is fully responsible for sales promotion, full utilization of market
potential, providing customer service and for establishment of efficient distribution network and therefore the
functions far exceed the functions performed by a routine distributor.
The ITAT held that it was necessary for the assessee as a distributor to incur expenditure on sales promotion
and advertising but rejected assessees stand that incurring AMP expenditure is not an international
transaction by relying on LGs ruling.
The ITAT observed that when the margins earned by the assessee were compared to those earned by the
comparables, it could be concluded that the assessee was sufficiently compensated for excess AMP
expenditure in terms of high profit margin,
The ITAT further observed that rewarding a distributor by way of price adjustment is well recognized and
well accepted remuneration model and that the department cannot insist in the absence of any
provision under the Act that the mode of compensation to the assessee by the foreign AE necessarily
be in the form of direct compensation.
21
Judicial Precedent
Casio India Co. Pvt Ltd Delhi Tribunal
The Indian co. is a wholly owned subsidiary of Casio
Japan. The Indian company is a full fledged distributor of
Indian Company
watches and consumer information and other related
products in India.
The TPO made an adjustment for excess AMP expense
relying on SB ruling in case of LG.
The CIT(A) deleted the addition holding that AMP
Import of Goods
expense have been incurred as part of its distribution
function and the benefit accruing to the AE was only
Outside
incidental.
India
The revenue was in appeal before the ITAT. While the
India
assessee relied on ruling in case of BMW, since it was a
distributor and the margins earned by the company
higher than that of comparables.
However the ITAT in this case, held that SB ruling in LG
Indian co.
Distribution
not only applies to a manufacturer, but also extends to a
distributor whether he is bearing full risk or least risk.
ITAT thus set aside CIT(A) order and restored the matter
to the AO/TPO to decide afresh in conformity with LG SB
Consumer
ruling
Almost similar facts to BMW but set aside for deciding the matter afresh
22
Contract R&D
23

Contract R&D
Issues
Documentary
Suggestions
High mark up comparables selected by TPO without carrying out

appropriate FAR as to whether Indian AE does actual R&D
activities or only acts as facilitator;
Indian R&D Centre considered to be the economic Owner of IP use of high cost plus mark ups or profit split method
TPOs allege that majority of valuable & Unique IP are generated
due to work undertaken in India
Prone to high litigation due to lack of clarity prone to subjective
interpretation;
Robust FAR to justify captive R&D activities
Primary onus on taxpayer to demonstrate remuneration on cost
plus mark-up
Reliance can be placed on clarification by CBDT vide Circular
No.06 /2013 dated 29th June, 2013 stating 3 broad categories
based on FAR i.e. Entrepreneurial, Contract R&D and Costsharing arrangements
24
Favourable
Analysis
Contract Research
Services
Guidelines for
identifying the
characterization
of R&D Centre
Foreign Entity
Indian Entity
Performs Economically Significant Functions

Economically significant functions to
include critical functions such as
conceptualization and design of the product
and providing strategic direction and
framework
Performs work assigned

by foreign entity
Funding/ Assets
Provides funds/ capital

Significant assets & intangibles
Receives remuneration
for the services
performed
Supervision &
Control
Strategic decisions for Core

Functions & Monitoring on regular
basis
Operates under direct

supervision and actual
control
Risk Profile
Economically Significant Risks
No Economically
Significant realised Risks
Outcome of
Research
Legal & economic owner of

resultant IP
No ownership of resultant
IP
Parameters
Functions
Unfavourable Analysis
Contract R&D
Entrepreneurial R&D
Cost Sharing Arrangements of R&D
Note: In the case of a foreign principal being located in a country/ territory widely perceived as a low or no tax jurisdiction, it
will be presumed that the foreign principal is not controlling the risk. However, the Indian Development Centre may rebut
this presumption to the satisfaction of the revenue authorities.
25
Royalty payouts
26

Royalty Payouts
Charging a royalty or licensing fee within a MNE for the use of valuable
know-how, technology processes, trade names, or other intangible property,
have faced stringent tax scrutiny in pharma industry.

Tax authorities are challenging the royalty rate, comparables and arms
length price as determined by the taxpayer.
Historically India has been a technology importing country.
With the advent of MNCs, royalties were increasingly viewed as cash
repatriation tools tax shield on royalty payments plus credit of withholding

tax in receiving country.
27

Royalty Payouts
Issues
Documentary
Suggestions
Satisfy Benefits test, justify royalty in a loss situation

Need to establish direct correlation with sales/ profitability
Whether royalty is embedded in price paid
Approvals received by RBI not acceptable as external CUP
Aggregation approach under TNMM Challenged and general lack
of availability of comparables.
Transaction specific approach has been adopted by revenue
Outright rejection of rationale for payment. ALP held to be NIL.
Non acceptance of foreign comparable / databases.
Tangible/Strategic benefits received and quantification
Demonstrate dependence of business on the intangibles
License agreement, quotations of comparable independent recipient
Uniqueness of intangible, market where it is used, rights of taxpayer
to receive upgrades
geographic restrictions - export based on the licensed technology.
28

Royalty Payouts
Various payment models
Normal Royalty streams
Percentage on sales or profit, per unit royalty, lump sum payment etc.
Package Pricing
Amount included in transfer price of goods, no separate royalty payment.
Industrial franchise arrangements
Franchise fee paid by licensee to licensor for entire business format including
production process, marketing strategies, etc.
Others
Separate royalty fees for trademark / trade name and technology.
29
EKL Appliances Ltd. Delhi High Court (2012)

(ITA Nos. 1068/2011 & ITA Nos. 1070/2011)]
Taxpayer engaged in the business of manufacturing and trading of refrigerators, washing
machines etc.
For FYs 2001-02 and 2002-03 the TPO disallowed the transaction of payment of royalty to
AE, whereas accepting all other international transactions to be at arms length.
Revenues Allegations
Taxpayers arguments
Taxpayer has been incurring

losses year after year. Royalty
payments did not result in
profits from operations
The allowance of royalty depends on the utility of the brand

name and the technical knowhow in respect of which the
payment is made and not on the profitability of the paying
entity.
Increase in turnover did not

result in any profit to the
taxpayer.
Royalty payment is a legitimate expenditure and nonpayment of the same would have had serious implications
for the taxpayers business.
The continuous losses incurred

showed that the taxpayer did not
benefit in any way from the
royalty payment. Thus payment
of royalty to the AE is not
justified.
There were profits at the gross level and the losses at the
net level were due to significant increases in the operating
expenses.
Due to availability of the brand name there was substantial

increase in the turnover otherwise there would have been
more losses.
30
EKL Appliances Ltd. continued
CIT(A) Ruling
It was imperative for the taxpayer to upgrade its technology due to market dynamics.
There were profits at the gross level and the losses at the net level were due to increase in
operating costs. The losses show significant reduction after technical up gradation.
The TPO disregarded the business and commercial realities of the business of the
taxpayer and acted in a mechanical manner ignoring the economic circumstances
surrounding the transaction. TPO cannot question the judgment of the taxpayer as to how it
should conduct its business.
Royalty payment was incurred for genuine business purposes and should have been
allowed even if the taxpayer had suffered continuous losses in the business.
Tribunal Ruling
Tribunal agreed with CIT(A) that the royalty payment was justified and the TPO was wrong
in disallowing the same.
31
EKL Appliances Ltd. continued

High court ruling
It is not for the Revenue authorities to dictate to the taxpayer as to how he should conduct his
business and what expenditure should be incurred.
It is not necessary for the taxpayer to show that any legitimate expenditure incurred by him
was also incurred out of necessity or
that the expenditure incurred by him for the purpose of business has actually resulted in profit
or income.
Taxpayer only needs to show that the expenditure should have been incurred wholly and
exclusively for the purpose of business.
Whether or not to enter into the transaction is for the taxpayer to decide. Quantum of expenditure
can be examined by the TPO but he has no authority to disallow the expenditure on the ground
that the taxpayer has suffered continuous losses.
High Court also relied on the OECD Guidelines - Tax administrations should not disregard and
restructure the transactions as actually undertaken by the taxpayer except
where the economic substance of a transaction differs from its form; and
where the form and substance of the transaction are the same but arrangements made in
relation to the transaction, differ from those which would have been adopted by independent
enterprises behaving in a commercially rational manner.
32
Location Savings
33

Location Savings - Meaning
General Parlance
OECD
UN
Net Cost savings realized by an MNC as a result of relocating

manufacturing functions / production / operation sites from a high
cost to low cost jurisdiction to obtain competitive advantage
Location Savings (LS) derived by an MNE group that relocates

activities to a place where costs are lower than in location where
activities were initially performed
LS are net costs savings that an MNE realizes as a result of relocation

of operations from a high cost jurisdiction to a low-cost jurisdiction
34

Location Savings
Typical cost savings include savings pertaining to:
Labour costs;
Raw material costs;
Rent and property taxes;
Training costs
Infrastructure costs and
Incentives including tax exemptions
Most low cost locations are in the Developing World (e.g.- India, China,
Malaysia etc.)
Location savings = Input cost in a high cost region Input cost in a low cost region
35

Location Savings
Issues
Documentary
Suggestions
Quantification and allocation of location savings

Attribution i.e. who is the rightful owner of additional profits from
location savings, the parent company or the overseas subsidiary
(AE) or both
Existence and allocation of location savings depends upon the
bargaining power of the parties
Bargaining Power highly subjective - depends upon factors like
economic or beneficial ownership, uniqueness and monopoly power
Benchmark industry cost structure changes rapidly due to shift of
manufacturing activity to low cost locations
Approaches to allocation of location savings :

- Facts and circumstances based approach
- Indirect approach considering location dis-savings
LS advantage passed onto end customers to survive stiff
competition
36

Location Savings Recent Case Law
GAP Intl Sourcing

(India) Pvt. Ltd
Location savings is reflected in the profitability earned by

comparables
News Paper report cannot partake the character of
comparable data
Location savings arise to industry as a whole
LS advantage could be passed to end-customers to survive
stiff competition
GAP International Sourcing has rejected the applicability of Location Savings to the
particular case in a competitive situation (where the location advantages are passed onto
customers), however, it has not rejected the concept of Location Savings.
37
Other Pharma TP Issues
38
Pharmaceutical Industry Other Pharma TP issues

Other Issues
Product Analysis vis--vis basket of products approach
Most Enterprises in Pharma Industry use basket of product approach for TP

analysis and benchmarking using TNMM
Product portfolio is a mix of established products and the products with future
potential
Parent companies invest significant time and resources to generate new product
lines
General Industry trend to promote complete mixture of products across different

therapeutic segments
Tax authorities ignore the business rationale to aggregate the transactions and
require each international transaction to be benchmarked separately.
39

Other Issues
Drugs Prices Control Order (DPCO)
In India, end consumer prices of several drugs are governed by DPCO
Price control under the DPCO may cause product margins of pharmaceutical
companies to come under pressure
Where the pricing of raw material inputs procured from AEs is sought to be
reviewed by the application of profit based transfer pricing methods, the
identification of comparable companies entails challenges
Ignoring the effect of DPCO on pricing of drugs, tax authorities have been
attributing the lower profits /losses to poor transfer pricing policies of the
taxpayers.
40

Other Issues
Distribution start-up losses
TP Documentation to take into account the following :
Loss analysis stating demonstrating factors triggering losses i.e. unfavourable
business decision, external / extraordinary causes,
Variance analysis between budgeted and actual figures with regards prices and
volumes
Countermeasures taken to cope with the loss situation
Documentary evidence in defending losses stating not only profits of the taxpayer
but overall profitability (including other related parties in the supply chain of the
business decreased
Consider applying for Mutual Agreement Procedure (MAP) based on taxpayers
position
41

Other Issues
Entity level Comparison v/s Segment Comparison
Rule10B(1)(e)(i) net profit margin realised by the enterprise from an international

transaction entered into with an associated enterprise
Taxpayer to maintain segmental accounts separately for transactions with AEs and
Non-AEs
Expenses to be allocated between AE and Non-AE Segment using appropriate basis /

allocation keys :
- Direct Expenses : On actual basis
- Indirect Expenses : Based on allocation keys such as turnover, employee
headcount, time spent, area occupied, number of computers etc
Adoption of segmental data upheld in the decision of UCB India Pvt Ltd v/s ACIT
(Mumbai) and Iljin Electronics India Pvt Ltd v/s ACIT (Delhi).
Real time audited segmental data preferred over unaudited segmental data by the
authorities during assessment
42
Pharma Industry Comparison of Relevant Decisions
43
Pharmaceutical Industry Comparison of Relevant Decisions
Issue
Branded V/s
Generic API
Quality Differences
UCB India
Branded products
cannot be
compared with
generics
Even a minor
difference in quality
will affect price,
efficacy and safety
of product.
GlaxoSmitkLine Inc
Serdia India
Tax Court - Price of generic

API constitutes CUP
After the patent

expiry branded
product can be
compared to generic
products.
Federal Court of Appeal

Overruled tax court,
importance should also be
given to commercial factors
such as the agreement
Quality difference cited in
granulation. GMP, HSE
practices bear no
significance on import
prices.
Allowed adjustment
based on
pharmacopeia
standards.
Requirement for
authoritative quality
grading systems.
44
Pharmaceutical Industry Comparison of Relevant Decisions

(contd.)
Issue
Priority of Methods
UCB India
Hierarchy of methods
citing CUP as the most
preferred methods. Also in
OECD hierarchy taken into
consideration.
Transactional methods
to be preferred over
profit based methods
NA
License and royalty

agreement are separate.
Need to be considered for
ALP calculation
Hidden Technical fees

needs to be supported
by agreement.
Fresh adjudication
with rejection of
TNMM and CUP
method. New TP
documentation study
to be undertaken.
Extra amount above ALP

treated as dividend.
Additional evidence
required and referred back
for fresh adjudication to
take into account the
licensing agreement
Upheld the CIT(A)

order.
Serdia India
Rational judgment
needs to be adopted
for CUP method.
Rejection of TNMM
based on entity level
margins.
Importance of
Agreement
Final Decision
GlaxoSmitkLine Inc
45
Manufacturing - Areas of discussion..
Manufacturing Industry- Types of Manufacturer
FAR Analysis
Compensation Model
Typical Transfer Pricing Issues
Specific Transfer Pricing Issues
Challenges for Contract Manufacturers
Management Payouts
46
Manufacturing Industry
47
Manufacturing Industry Types of Manufacturer
Functions
and risks
Toll
Manufacturer
Contract
Manufacturer
Licensed
Manufacturer
Intangibles
Sales
Inventory
Manufacturing
Entrepreneur
48
Manufacturing Industry FAR Analysis
Risks
Functions
Characterization
Products
and entities
Transactions
Forecasts/
business
plan
Business
process
Asset
Organization/
staff
Internal
comparables
Agreements/
terms
Basis to
search for
external
comparables
FAR
Analysis
Risk
opportunity
assessment
Forecasts/
business
plan
Financial
results
Documentation
Inputs
Planning
possibilities
Understanding
of business
Outputs
49
Manufacturing Industry Compensation Model
Functions
Typical Compensation model
Contract / Toll
manufacturing operations
Full cost plus mark up (or)
Routine manufacture /
assembly activity with
licensed technology from
Group.
Risk free assured return in line with industry benchmarks
As a variant of the above

with significant local
marketing efforts
Receipt of compensation for marketing intangible in addition

to the above
Full fledged manufacturer

and contributing to the R&D
effort of the Group
Profit Split Method (PSM) to determine the contribution

towards routine functions and towards intangibles
Return for value added services plus appropriate return on

capital investments in material and finished goods inventory
50
Manufacturing Industry Typical Transfer Pricing Issues

Start up phase challenges
Application of the TNMM method Dealing with losses
Application of CUP Comparability issues
Aggregation of transactions Trading, Sourcing, Product Bundling
Payment towards Technical Know - How
IPR Valuation
TP Vs. Customs
51
Manufacturing Industry Specific Transfer Pricing Issues

Business Restructuring
Challenges for Contract Manufacturers
Comparability Adjustments Specific focus working capital
Payouts - Specific focus on Royalty
Imports V/s Local
Apparent transfer pricing risk
Global effective high tax rate
Potential need for ongoing capital contributions
52
Manufacturing Industry Challenges for Contract

Manufacturers
Functional profile of Contract Manufacturers - Risk-free operations
Remuneration model - remunerated with a Cost Plus Mark-up with reference to third party
manufacturers
Challenge
Third parties available as benchmarks are Entrepreneurial manufacturers
Undertake full gamut of risks
Not remunerated on Cost Plus basis
Solutions
Adjustments for better comparability
Possible adjustments for working capital and Risk differential
Alternate PLIs
Use of Return on Assets (ROA) as PLI
Use of Return on Capital Employed (ROCE) as PLI
Safe Harbours
As a percent of return on value of assets employed/return on total costs
Recent safer harbours announced in India for auto manufacturing industry
53
Manufacturing Industry Management Payouts

Typical forms of payouts - Royalty, Technical fee, Management fee, Guarantee fee
Primary challenge Payouts through having economic substance are challenged in the start up
phase due to existing losses
Benchmarking - Is a challenge due to inadequate comparable data in public domain
Documentation - Under the transaction specific approach it is necessary to analyze potential
cost-benefit and maintain appropriate documentation to substantiate arms length nature of
payouts
Cost- Benchmarking payouts of comparable companies, Basis of arriving at the value of

payouts ( Direct / Indirect Method) by the Group
Potential Benefits - Need for obtaining service from the Group, Analysis of potential benefit
obtained by the Company and value attributable to the service
Other Regulatory Considerations - The recent relaxation of the statutory RBI / FEMA limits on
royalty and technical fee payouts increases the challenge of defending the arms length nature of
such transactions.
54
Key Takeaways
Need for proactive and robust CUP analysis.
Mere reliance on the reason of difference in quality not
sufficient for rejection of CUP
Commercial justification to be built on to source APIs
from AEs vis--vis third parties
Need to have a detailed licensing agreement where
trademark/brand is involved taking care of possible

imputation of royalty
Appropriate documentation of business rationale
FAR very crucial to defend the transaction and
determination of value and non-value additions
55
Key Takeaways
Strong and robust economic analysis with supporting
documentation along with business rationale
Cost-benefit analysis vital
Internal CUPs preferred over external CUPs
Important to characterize value added and non-value
added activities for tested party and attribution of profits
Segmented financials play key role
56
Way Forward
Be Proactive not reactive - consider APA?

Adopt Coordinated and centralized approach.
Involve operational teams in tax and TP

planning and documentation process
Holistic solutions not fragmented responses
Global awareness and vision not myopic
Harmonize TP documentation with
other
regulatory requirements
57
Questions & Answers
Answers
&
Questions
58

Presentation - Ms. Karishma Phatarphekar - Pharmaceuticals and Manufacturing - 22 March 2014

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Pharma and Manufacturing

Industry Overview and Recent

Transfer Pricing A proliferation in recent times....

More and more

Indian Revenue authorities are reckoned to be tough

Pharmaceutical industry - Areas of discussion..

Pharmaceutical Industry - Overview

Types of International Transactions

Clinical Trail Support Services

Other Pharma TP Issues

Comparison of Relevant Decisions

Pharmaceutical Industry - Overview

Pharmaceutical Industry - Overview

Product liability risk

Research and development

Ordering and distribution

Foreign exchange risk

Invoicing and collection

Administrative, Financial and

General business risk

Pharmaceutical Industry - Overview

Import of Active Pharmaceutical Ingredients (APIs)

Pharmaceutical Industry International Transactions

Pharmaceutical Industry International Transactions

Comparability with generic APIs;

Selection of right comparables;

Pharmaceutical Industry International Transactions

Analysis for APIs where external CUP not favourable

Whether the patents for the products have

Independent reports on differentiation in quality

Meeting with markets team to understand

Whether any licensing agreement executed

Selling price and market share analysis

Evaluate internal CUPs if any upfront

Quantify other adjustments R&D, quality and

Why TNMM is the most appropriate method

Request for quality reports, data and

Comparison of the transfer price over the past 5

Understand the policy of the group to price the

Imports is generally a high value item and therefore the

Pharmaceutical Industry International Transactions

Pharmaceutical Industry International Transactions

Evaluation of commission transaction separately required

Documentary evidence very crucial

Clinical Trial Support Services

Pharmaceutical Industry International Transactions

Pharmaceutical Industry International Transactions

High mark up comparables selected by TPO without carrying

Demonstrate the functional dissimilarity of comparables

Pharmaceutical Industry International Transactions

Trade intangibles are all commercial intangibles (other than

These are typically created through marketing activities or

Pharmaceutical Industry International Transactions

Determining the ALP

LG Electronics : Special Bench decision to deal

Indian Company incurs AMP expenses for marketing the

Indian company has incurred AMP expenses which

Excess AMP expenses incurred by the Indian Company

Pharmaceutical Industry International Transactions

High mark up comparables selected by TPO without carrying out

Pharmaceutical Industry International Transactions

Performs Economically Significant Functions

Performs work assigned

Provides funds/ capital