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CASE NO.: Appeal (civil)  4172-4185 of 2000

PETITIONER: Commnr. of Central Excise, Indore

RESPONDENT: M/s S. Kumars Ltd.  & Ors.

DATE OF JUDGMENT: 21/11/2005

BENCH: Ruma Pal & H.K. Sema

JUDGMENT: J U D G M E N T

With

C.A. Nos. 775-781 of 2004

RUMA PAL,  J.  

                The respondent No. 1 processes grey fabric.  Sometimes  the grey fabrics are processed on its own account and  sometimes the grey fabrics are received for processing on job  charge basis from others (who are referred to as ’the merchant  manufacturers).  For the period 01.09.1985 to 28.02.1989, the  respondent No. 1 had paid excise duty on the fabrics processed  by it during this period, calculating the duty payable by treating  the value of the processed fabrics as being that at which the  merchant manufacturer was selling the processed goods.   According to the respondents, this was in keeping with the  decision of this Court in Empire Industries Ltd. V. Union of  India & Ors. (1985) 3 SCC 314 (briefly referred to as Empire  Industries).  With effect from 01.03.1989, the same method was  followed in respect of the fabrics processed by the respondent  No. 1 on its own account.    However, on the fabrics processed  by it which had been received from the merchant   manufacturers,  the respondent No. 1 valued the processed  goods on the basis of the cost of grey fabrics plus the  processing charges as well as its manufacturing expenses and  profits.  In other words, the price at which the merchant  manufacturer was selling the processed goods was not taken.   This was done relying upon the decision of this Court in M/s  Ujagar Prints and Others V. Union of India (1989) 3 SCC 488  (briefly referred to as M/s. Ujagar Prints II) as explained in M/s  Ujagar Prints and Others V. Union of India and Others  (1989) 3 SCC 531 (briefly referred to as M/s. Ujagar Prints III).    On 5th October 1990, a show cause notice was issued by  the appellant to the respondent proposing to recover differential  duty of excise amounting to Rs.4,84,62,452/- from the  respondent No. 1 within the extended time limit under the  proviso of Section 11A of the Central Excise Act, 1944   (hereinafter referred to as ’the Act’) and proposing to impose  penalty against the respondents.  The basis of the demand  against the respondents was that they were all firms and  companies having a common management and control with  some of them selling grey fabric to the respondent No.1 which,  after processing the fabrics, sold the same to some of the other  respondents.  The latter ultimately sold the processed fabrics to

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independent dealers. All the respondents were described as  ’S.Kumars’  and the appellants claimed to treat the price  charged by the trader respondents from the independent  dealers as the assessable value of the processed fabrics and to  levy excise duty thereon. The respondents replied to the show  cause notice. They denied that the respondents were related  persons and disputed the basis for the additional claim of  excise duty.  It was submitted that by virtue of this Court’s  decision in M/s. Ujagar Prints III they were liable to treat the  notional sale by the respondent No.1 to the merchant  manufacturers as the relevant point for determining the  assessable value. The claim of the respondent No.1 was that  prior to the decision in  M/s. Ujagar Prints III it had paid the   excise duty by taking the assessable value of the processed  fabric at the wholesale price at the time the goods reached the  open market. This was followed till the decision of this Court in  Ujagar Prints III. It was submitted that in any event the  respondent No.1 was not only entitled to discounts in respect of  the excise duty levied for the period 01.09.1985 to 28.02.1989  but there were gross inaccuracies in the computations made by  the appellant.  The Commissioner of Central Excise, held that   the respondents were related persons and  upheld the demand  for duty to the extent of Rs.3,82,41,53 for the period 01.09.1985  to 30.09.1989 from the respondent No. 1. The claim for  discounts was also rejected.         The respondents appealed before the Customs, Excise  and Gold (Control) Appellate Tribunal (hereinafter referred to as  the ’Tribunal’).  The Tribunal held that the respondents had  rightly invoked the principles of M/s Ujagar Prints III. In doing  so, it did not go into the question whether the respondents were  related persons as alleged in the show cause notice. The  Tribunal therefore allowed the respondents’ appeal and  remanded the matter back to the Commissioner in order to re- compute the duty payable.         Being aggrieved, the appellant has preferred these  appeals.  By this judgment, we propose to dispose of these  appeals as well as other appeals preferred by the appellant  from orders of the Tribunal in which the Tribunal has merely  followed the decision in the case of the respondents.          The demand for excise duty raised by the appellant  against the respondent’s covers the period 1985 to 1989.  The  period in question may conveniently be considered in two parts,  namely, (1) 01.09.1985 to 28.02.89 and (2) 01.03.1989 to  30.09.1989.  The reason for the division of the period in two  parts is the law which this Court has laid down in M/s Ujagar  Prints III.    The first question, therefore, is what did this Court  decide in that decision?  Having determined that, the next  question would be whether the principles so laid down apply to  the respondents’ case.         But before we determine these questions we would have  to consider the law in the background of which the decision in  M/s. Ujagar Prints III was rendered.         The principles of valuation for the purposes of  charging excise duty are contained in Section 4 of the  Act. Section 4 in so far as it is relevant, provides:- "(1) Where under this Act, the duty of excise is  chargeable on any excisable goods with  reference to value, such value shall, subject to  the other provisions of this section, be deemed  to be\027

(a)     the normal price thereof, that is to say, the  price at which such goods are ordinarily sold  by the assessee to a buyer in the course of  wholesale trade for delivery at the time and

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place of removal, where the buyer is not a  related person and the price is the sole  consideration for the sale:

Provided that---  (iii) where the assessee so arranges that the  goods are generally not sold by him in the  course of wholesale trade except to or through a  related person, the normal price of the goods  sold by the assessee to or through such related  person shall be deemed to be the price at which  they are ordinarily sold by the related person in  the course of wholesale trade at the time of  removal, to dealers (not being related persons)  or where such goods are not sold to such  dealers, to dealers (being related persons) who  sell such goods in retail;

(b)     where the normal price of such goods is not  ascertainable for the reason that such goods  are not sold or for any other reason, the  nearest ascertainable equivalent thereof  determined in such manner as may be  prescribed.

(2)  xxx     xxx     xxx     xxx    xxx

(3)  xxx     xxx     xxx     xxx    xxx

(4) (a) xxx   xxx   xxx    xxx  xxx

     (b) xxx   xxx   xxx   xxx xxx

     "(c) related person" means a person who is  so associated with the assessee that they  have interest, directly or indirectly, in the  business of each other and includes a  holding company, a subsidiary company,  and relative and a distributor of the  assessee and any sub-distributor of such  distributor".

 Section 4(1)(a) deals with cases where the assessee  sells the manufactured goods to a buyer, whereas Section  4(1)(b) deals with cases other than sale. Chapter II of the  Central Excise (Valuation) Rules, 1975 (referred to hereafter  the Rules), provides for the determination of the value of any  excisable goods for the purposes of Section 4 (1)(b) of the Act.  We may note at the outset that Rule 3 provides for the  applicability of all the valuation rules when it says ’the value of  any excisable goods shall, for the purposes of clause (b) of  sub-section (1) of Section 4 of the Act, be determined by the  proper officer in accordance with these rules’.   No distinction is  made between the applicability of the succeeding rules save  that they are to be considered for application in numerical  order. Rule 4 deals with the determination of the value of  excisable goods on the basis of sale by the assessee at any  other  time nearest to the time of the removal of the goods  being assessed. Rule 5 deals with a situation when the  excisable goods are sold in circumstances specified in Section  4(1)(a) of the Act. If the price is not the sole consideration, the  value of the excisable goods is required to be based on the  aggregate of the price and "the amount of the money value of  any additional consideration flowing directly or indirectly from  the buyer to the assessee".  If the value of the excisable goods

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cannot be determined under Rules 4 or 5 then the procedure  prescribed under Rule 6 would have to be followed viz.  "(a) where such goods are sold by the  assessee in retail, the value shall be based on  the retail price of such goods reduced by such  amount as is necessary and reasonable in the  opinion of the proper officer to arrive at the  price at which the assessee would have sold  such goods in the course of wholesale trade to  a person other than a related person;

Provided that in determining the  amount of reduction, due regard shall be had  to the nature of excisable goods, the trade  practice in that commodity and other relevant  factors.

(b) where the excisable goods are not sold by  the assessee but are used or consumed by  him or on his behalf in the production or  manufacture of other articles, the value shall  be based--

(i) on the value of the comparable goods  produced or manufactured by the assessee or  by any other assessee:

      Provided that in determining the value  under this sub-clause, the proper officer shall  make such adjustments as appear to him  reasonable, taking into consideration all  relevant factors and, in particular, the  difference, if any, in the material characteristics  of the goods to be assessed and of the  comparable goods;

(ii)  if the value cannot be determined under  sub-clause (i), on the cost of production or  manufacture including profits, if any, which the  assessee would have normally earned on the  sale of such goods;

(c) where the assessee so arranges that the  excisable goods are generally not sold by him  in the course of wholesale trade except to or  through a related person and the value cannot  be determined under clause (iii) of the proviso  to clause (a) of sub-section (1) of Section 4 of  the Act, the value of the goods so sold shall be  determined--

(i)  in a case where the assessee sells the  goods to a related person who sells such  goods in retail, in the manner specified in  clause (a) of this rule;

(ii) in a case where  a related person does not  sell the goods but uses or consumes such  goods in the production or manufacture of  other articles, in the manner specified in clause  (b) of this rule:

(iii) in a case where a related person sells the  goods in the course of wholesale trade to  buyers, other than dealers and related

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persons, and the class to which such buyers  belong is known at the time of removal, on the  basis of the price at which the goods are  ordinarily sold by the related person to such  class of buyers". (Emphasis supplied)

Rule 7 is the residuary section in the sense that if the  value of excisable goods cannot be determined under Rules 4  to 6, the proper officer is required to determine the value of the  excisable goods according to the best of his judgment, and for  this purpose, he "may have regard, among other things,  to any  one or more of the methods provided for in the foregoing rules". Thus the basic principle relating to the assessable value  of manufactured goods is normally the ordinary wholesale  price. That is the principle underlying Section 4(1)(a), which  principle may also be made applicable to Section 4(1)(b) read  with rules 3,5 and 7  of the Valuation Rules.  The principle is  subject to certain exceptions among them being the  qualification that the sale is not to or through a related person  as defined in Section 4 (4) (c ) of the Act.         In Ujagar Prints II, the Constitution Bench was required  to consider the correctness of the view taken by three Judges  of this Court in Empire Industries.  In Empire Industries, this  Court had primarily held that the Central Excise & Salt and  Additional Duties on Excise (Amendment) Act, 1980 by which  the processes of bleaching, dyeing and printing were brought  within the definition of "manufacture" for the purposes of the  Central Excise and Salt Act, 1944 and the Addition Duties  of  Excise (Goods of Special Importance) Act, 1957, was  constitutionally competent. While upholding the validity of the  Amendment Act this Court had stated:- "When the textile fabrics are subjected to the  processes like bleaching, dyeing and printing  etc. by independent processes, (sic)  (processors) whether on their own account or  on job charge basis, the value for the   purposes of assessment under Section 4 of the  Central Excise Act will not be the processing  charges alone but the intrinsic value of the  processed fabrics which  is the price at which  such fabrics are sold for the first time in the  wholesale market".(pg.342) (Emphasis  supplied)

       In other words the basic principle enumerated in Section  4(1) (a) of the Act was applied to processed goods. The  respondents had applied this principle and paid excise duty for  the first period taking the price at which the processed goods  were first sold in the open market as the assessable value.  M/s. Ujagar Prints II affirmed the decision in Empire  Industries in all respects including the passage quoted earlier.   The submission of the independent processors that the  assessable value of the processed fabric could comprise only  of the processing charges was rejected in the following words:- "The incidence of the levy should be uniform,  uninfluenced by fortuitous considerations.  The  method of determination of the assessable  value suggested by the processors would lead  to the untenable position that while in one class  of grey fabric processed by the same  processor on bailment, the assessable value   would have to be determined differently  dependent upon the consideration that the  processing  house had carried out of  processing operations on job work basis, in the

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other class of cases, as it not unoften happens,  the goods would have to be valued differently  only for the reason the same processing house  has itself purchased the grey fabric and   carried out the processing operations on its  own". (pg.520)

       Therefore, the assessable value of the processed goods,  as far as that processor was concerned, would have to be the  same irrespective of the fact that it either manufactures the  goods and then process it itself or is given the goods and  merely undertakes the processing before returning the same to  the manufacturer/owner. That common norm was the wholesale  price.           This was made abundantly clear by Justice Mukharji, J.  (as he then was). He delivered a separate but concurring  judgment and was the author of the judgment in Empire  Industries. He said:-         "If the trader, who entrusted cotton or  manmade fabrics to the processor for  processing on job work basis, would give a  declaration to the processor as to what would  be  the price at which he would be selling the  processed goods in the market that would be  taken by the excise authorities as the  assessable value of the processed fabrics and  excise duty would be charged to the processor  on that basis.  Where a manufacturer sells the  goods manufactured by him in wholesale to a  wholesale dealer at the arms length  and in the  usual course of business, the wholesale cash  price charged by him to the whole sale dealer  less trade discount would represent the value  of the goods for the purpose of assessment of  excise.  But the price received by the  wholesale dealer who purchases the goods  from the manufacturer and in his turn sells the  same in wholesale to other dealer, would be  irrelevant for determination of the value of the  goods and the goods would not be charged on  that basis".  

\005 It has to be reiterated that the valuation  must be on the basis of wholesale cash price  at the time when the manufactured goods enter  into the open market". (Emphasis supplied).

This was therefore, in terms, an unconditional approval of  the ratio in Empire Industries. However on an application filed  for clarification of the judgment in M/s. Ujagar Prints II, this  Court in a short order in M/s. Ujagar Prints III clarified:- "\005 it is made clear that the assessable value  of the processed fabric would be the value of  the grey cloth in the hands of the processor  plus the value of the job work done plus  manufacturing profit and manufacturing  expenses whatever these may be, which will  either  be included in the price at the factory  gate or deemed to be the price at the factory  gate as if the processed fabric was sold by the  processor". (pg. 531)

       This clarification, in fact, was a deviation from the formula  approved in Empire Industries. In other words, it was not the  wholesale price at the merchant manufacturers stage which

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would be the assessable value of the processed goods, but the  value of the processed fabrics on the basis of a deemed sale at  the factory gate of the processor. The Court went on to say:- "If the trader, who entrusts cotton or manmade  fabric to the processor for processing on job  work basis, would give a declaration to the  processor as to what would be the price at  which he would be selling the processed goods  in the market, that would be taken by the  excise  authorities as the  assessable value of  the processed fabric and excise duty would be  charged to  the processor on that basis  provided that the declaration as to the price at  which he would be selling the processed goods  in the market, would include only the price or  deemed price at which the processed fabric  would leave the processor’s factory plus his  profit".    \005It is necessary to include the processor’s  expenses, costs and charges plus profit, but it  is not necessary to include the trader’s profits  who gets the fabrics processed, because those  would be post-manufacturing profits".  (Emphasis supplied)  

The actual wholesale price was jettisoned in favour of a  deemed sale price by the processor to the merchant  manufacturer. The decision in M/s. Ujagar Prints III was construed and  followed subsequently by this Court in Pawan Biscuits  Company Private Limited V. Collector of Central Excise  (2000) 120 ELT 24; (2000) 6 SCC 489 (briefly referred to as  Pawan Biscuits). In that case, it was alleged that the assessee  was really an agent of M/s. Britannia Industries Limited and,  therefore the price at which M/s. Britannia Industries Limited  was selling the manufactured goods in the wholesale market  was to be taken as the assessable value. The Tribunal’s  decision was reversed by this Court. It was found that the  agreement between the parties indicated that the relationship  was one of principal to principal and not principal and agent and  also that the assessee could manufacture biscuits of other  brands and sell the same. It was observed that the assessee  had been established much prior to its agreement with Britannia  Industries Limited. In the circumstances it was held that the  decision in M/s. Ujagar Prints II and others could not be  factually distinguished. The Court proceeded on the basis that  the last three lines of the explanatory order in M/s. Ujagar  Prints III (which we have quoted earlier) contained the ratio of  the decision of both M/s. Ujagar Prints II and III.         In M/s. Ujagar Prints II and III, the assessees were  independent processors and the Court proceeded on that  factual basis.   The appellant’s contention therefore is that as  the processor (the respondent No.1 in this case) is not  independent of the merchant manufacturer or trader, the ratio of  M/s. Ujagar Prints III would not apply.  In Pawan Biscuits  although no conclusion from the facts has been recorded, it is  clear that it was the facts which induced the Court to come to  the conclusion that the relationship between the assessee and  M/s. Britannia Industries Limited was that of an independent  processor and a merchant manufacturer and that M/s. Ujagar  Prints II and III were factually on all fours.  The decision  therefore does not take us nearer to a solution of the dispute  raised by the appellant.

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     The contention of the respondents is that neither the  show cause notice nor the Commissioner in his order  proceeded on the basis that Section 4(1) (a) of the Act applied  but that they had applied Section 4(1) (b) and the Valuation  Rules. It is their submission that the concept of deemed sale at  the processors factory introduced by M/s. Ujagar Prints III,  does not strictly fall within Valuation Rules 4 or 5. They urged,  and the Tribunals view was, that M/s. Ujagar Prints III applied  the procedure prescribed in Rule 6(b)(ii). As we have seen Rule  6(b) deals with excisable goods which are not sold by assessee  but "are used" or "consumed" by him or on his behalf in the  production or manufacture of "other" articles.  In such case, the  value of the excisable goods is to be based either (i) on the  value of the comparable goods produced or manufactured by  the assessee or by any other assessee, or if that is not possible  under (ii) on the cost of production or manufacture, including  profits, if any, which the assessee would have normally earned  on the sale of such goods.  We do not agree that if Section 4(1)(b) is invoked Rules 4  and 5 do not apply. We have already held that Rule 3 does not  make any distinction between the rules which may be invoked  even when Section 4 (1) (b) is invoked. If none of the rules i.e.  4, 5 or 6, in terms apply, then Rule 7 would. In other words, the  sale which is referred to in Rules 4, 5 and 6 may in the  circumstances reflect a notional sale and provide a guideline for  applying analogous principles mutatis mutandis under Rule 7.  Rule 6(b) relied on by the respondent does not in terms  apply. As we have noted, Rule 6(b)(ii) envisages a situation  where a manufacturer consumes the manufactured commodity  himself for making other excisable articles. But assuming it  does in terms apply it is noteworthy that Rule 6(b)(ii) speaks of  the excisable value being the cost of manufacture including the  profits "normally" earned.  Thus, it would still be open to the  Revenue to say that the cost of grey fabrics as well as the  processed charges were depressed because the parties were  related persons. Indeed, the underlying principle of all the Rules  as well as Section 4 is that different considerations would apply  if the transactions concerned are not at arms length. Neither  section 4(1) (b) nor Rule 6(b)(ii) have done away with the  concept of "related person".   We therefore do not agree that Ujagar Prints III would  apply even to a processor who is not independent and, as is  alleged in this case, the merchant manufacturers and the  purchasing traders are merely extensions of the processor.  In  the latter case, the processor is not a mere processor but also a  merchant manufacturer who purchases/manufactures the raw  material, processes it and sells it himself in the wholesale  market.  In such a situation, the profit is not of a processor but  of a merchant manufacturer and a trader. If the transaction is  between related persons, the profit would not be "normally  earned" within the meaning of Rule 6(b)(ii).  If it is established  that the dealings were with related persons of the manufacturer  the sale of the processed fabrics would not be limited to the  formula prescribed by Ujagar Prints III but would be subject to  excise duty under the principles enunciated in Empire  Industries as affirmed in Ujagar Prints II, incorporating the  arms length principle. The respondent No.1 assessee had submitted before the  Department and before us that if the assessee was not  permitted to rely upon the formula laid down in M/s. Ujagar  Prints III then it was entitled to discounts and advertisement  expenses.  These were not allowed by the Commissioner.   As  the question whether the respondent No.1 would be entitled to  discounts and deductions claimed would only arise if it held that  the ratio of M/s. Ujagar Prints III would not apply, the  Tribunal

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did not address this aspect of the matter at all nor did it  consider whether the merchant-manufacturers and the  respondent No.1 were related persons. Since the Tribunal, in  our opinion, wrongly upheld the respondent’s contention that  the formula in M/s. Ujagar Prints III would apply in full  measure,   it is now necessary for the Tribunal to consider  whether the respondents were related persons and whether the  respondent No. 1 would be entitled to claim discounts or could  exclude the advertisement expenses incurred by the dealers.   We therefore allow the appeals and remand the matter  back to the Tribunal for the purpose of determining the nature  of the alleged relationship between the respondent No.1 and  the other respondents. If it is found that the respondents are not  related persons then the earlier decision of the Tribunal will  stand.  If on the other hand it is found that the respondents are  related, the Tribunal will consider the questions of discounts  and deductions claimed by the respondents before remanding  the matter to the Commissioner for a correct computation of the  calculation errors. No order as to costs.