Case: Alembic Chemicals Works Company Limited Vs. Commissioner of Income Tax, Gujarat

2. On June 8, 1961, the assessee, a company engaged in the manufacture of antibiotics and pharmaceuticals was granted a licence for the manufacture, on its plant, of the well known antibiotic, penicillin. In the initial years of its venture, the assessee was able to achieve only moderate yields from the penicillin-producing strains used by it which yielded only about 5000 units of penicillin per mililitre of the culture medium3. In the year 1963, with a view to increasing the yield of penicillin, the assessee negotiated with M/s. Meiji Seika Kaisha Limited (Meiji for short), a reputed enterprise engaged in the manufacture of antibiotic in Japan, which agreed to supply to the assessee the requisite technical know-how so as to achieve substantially higher levels of performance or production - of more than 10, 000 units of penicillin per mililitres of cultured broth - with the aid of better technology and process of fermentation and with better yielding penicillin strains developed by Meiji. The negotiations culminated in an agreement dated October 9, 1963, whereunder, Meiji, in consideration of the once for all payment of 50, 000 U. S. dollars (then equivalent to Rs. 2, 39, 625) agreed to supply to the assessee the sub-cultures of Meijis most suitable penicillin producing strains, the technical information, know-how and written description of Meijis process for fermentation of penicillin along with a flow sheet of the process on a pilot plant; the design and specifications of the main equipment in such pilot plant; arrange for the visits to and training at assessees expense, of technical representatives of the assessee Meijis plant at Japan and to advise the assessee in the large scale manufacture of penicillin for a period limited to 2 years from the effective date of the agreement. It was also stipulated that the technical know-how supplied by Meiji was to be kept confidential and secret by the assessee which was prohibited from parting with the technical know-how in favour of others or to seek any patent for the process4. In the proceedings for assessment to income tax for the assessment year 1964-65 the assessee claimed that Rs. 2, 39, 625 paid under the agreement to Meiji was one laid out wholly and exclusively for the purpose of the business and claimed its deduction as revenue expenditure. The Income Tax Officer, in the view that the expenditure was for the acquisition of an asset or advantage of an enduring benefit, held it to be a capital outlay and declined the deduction. This view was affirmed by the Appellate Assistant Commissioner in the assessees first appeal5. The Income Tax Appellate Tribunal, Ahmedabad Bench, dismissed the further appeal of the assessee holding that the arrangements with Meiji envisaged the setting up of a large commercial plant for the production of the antibiotic modelled on the lines of the pilot plant and that, therefore, the outlay could not be treated as expenditure laid out on and for purposes of the existing business, but must be regarded as one incurred for a new venture on a new process with a new technology on a new type of a new type of plant. The Tribunal held that the payment was an once for all payment and was made for the acquisition of a capital asset. The Tribunal inter alia heldThe sub-cultures and the information design and flow sheet etc., were to be furnished once for all. Meiji also agreed to advice the assessee in respect of any difficulty the assessee may encounter in applying the sub-cultures and informations obtained by the assessee from Maiji to the large scale manufacture of penicillin. It is apparent from the agreement and the correspondence which has been made available to us that Meiji agreed to give the designs, etc., not only for a pilot-plant but for the manufacture of penicillin according to Meijis process on commercial scale. The assessee has to put in a large plant modelled on the pilot plantIt is consideration of Meijis agreeing to supply the assessee with completed details of the technical know-how, the design, sub-cultures, flow-sheet and written descriptions of the process once for all that the assessee paid to Meiji the stipulated sum of $ 50, 000It would thus appear that the payment was made for acquiring a capital asset in the shape of technical know-how and other allied information. It was not made in the course of carrying out of an existing business of the assessee but was for the purpose of setting up a new plant and a new process. It would, therefore, appear that the revenue authorities have rightly treated the payment as of capital natureThe process which the assessee took over from Meiji was not the same as it was working heretofore. In the present case the outlay was incurred for a complete replacement of the equipment of the business inasmuch as a new process with a new type of plant was to be put up in place of old process and old plant6. At the instance of the assessee the Tribunal stated a case and referred the following question of law for the opinion of the High Court

Reasoning: It would, in our opinion, be unrealistic to ignore the rapid advances in researches in antibiotic medical microbiology and to attribute a degree of endurability and permanence to the technical know how at any particular stage in this fast changing area of medical science. The state of the art in some of these areas of high priority research is constantly updated so that the know-how cannot be said to be the element of the requisite degree of durability and non-ephemerality to share the requirements and qualifications of an enduring capital asset. The rapid strides in science and technology in the field should make us a little slow and circumspect in too readily pigeon-holing an outlay, such as this as capital. The circumstance that the agreement insofar as it placed limitations on the right of the assessee in dealing with the know-how and the conditions as to non-partiability, confidentiality and secrecy of the know-how incline towards the inference that the right pertained more to the use of the know-how than to its exclusive acquisition31. The improvisation in the process and technology in some areas of the enterprise was supplemental to the existing business and there was no material to hold that it amounted to a new or fresh venture. The further circumstance that the agreement pertained to a product already in the line of the assessees established business and not to a new product indicates that what was stipulated was an improvement in the operations of the existing business and its efficiency and profitability not removed from the area of the day to day business of the assessees established enterprise32. It appears to us that the answer to the questions referred should be on the basis that the financial outlay under the agreement was for the better conduct and improvement of the existing business and should, therefore, be held to be revenue expenditure. Reference may also be made to the observations of this Court in CIT v. CIBA of India Ltd ((1968) 2 SCR 696 , 705 : AIR 1968 SC 1131 : 69 ITR 692) 33. There is also no single definitive criterion which, by itself, is determinative whether a particular outlay is capital or revenue. The `once for all payment test is also inconclusive. What is relevant is the purpose of the outlay and its intended object and effect, considered in a commonsense way having regard to the business realities. In a given case, the test of `enduring benefit might break down. In CIT v. Associated Cement Companies Ltd. (1988 Supp SCC 378 : 1988 SCC (Tax) 358), this Court said : (SCC p. 382, para 10)As observed by the Supreme Court in the decision in Empire Jute Co. Ltd. v. CIT ((1980) 4 SCC 25 : 1980 SCC (Tax) 335 : (1980) 124 ITR 1 ), that there may be cases where expenditure, even if incurred for obtaining an advantage of enduring benefit, may, nonetheless, be on revenue account and the test of enduring benefit may break down. It is not every advantage of enduring nature acquired by an assessee that brings the case within the principles laid down in this test. 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 disallowable on an application of this test34. In the result, for the forgoing reasons the appeal succeed and is allowed and the question of law referred to the High Court for its opinion in Income Tax Reference No. 78 of 1970 is answered in the affirmative and against the revenue. The judgment under appeal is set aside35. Likewise, the supplementary question of law raised in ITA No. 24 of 1971 before the High Court and now constituting the subject matter of the supplementary reference made by the Tribunal to this Court is answered in the negative and against revenue