Sun Pharma verdict – A deeper dive to the core..

August 07,2017
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Bhavik Timbadia (Partner, BMR & Associates LLP)

A classic case of what to expect from a TP audit post business restructuring

  • By Bhavik Timbadia, Partner, BMR & Associates LLP with inputs from Saurabh Singla, Manager and Abhijeet Borpuzari, Associate

The Income Tax Appellate Tribunal, Ahmedabad (“ITAT”) recently pronounced a ruling in the case of Sun Pharmaceutical Industries Limited[1] (“SPIL” or “taxpayer”) and among other issues this case deliberates upon determination of arm’s length price (“ALP”) of international transactions for a contract manufacturer in the pharmaceutical industry that was on account of a business restructuring of transfer of Intellectual Property Rights (“IPR”) to its Associated Enterprise (“AE”).

Overview :

SPIL is a pharmaceutical company engaged in manufacturing and sale of generic drugs including bulk drugs as well as formulation products. SPIL is the parent entity of Sun Pharma Group. The manufacturing activities are carried out at its factories located in India. A division of SPIL carried out research and development (“R&D”) activities till February 2007, consequent to which, this R&D division was demerged into a separate Indian company, Sun Pharma Advance Research Company Limited (“SPARC”). Thereafter, all the Intellectual Property Rights (“IPRs”) were transferred by SPARC to Sun Pharma Global BVI (“SPG”), a 100% subsidiary of SPIL in October 2007. (The sale consideration for transfer of IPRs by SPARC to SPG is also subject to transfer pricing litigation in a separate audit proceeding and no conclusion has been reached as yet.) Consequent to this, SPG entered into an agreement with SPIL for contract manufacturing of generic drugs as per specifications and technology provided by SPG. Key facts around this transaction have been outlined below:

  • During FY 2007-08, SPIL sold Pantoprazole tablets (“tablets”) on a contract manufacturing basis to SPG and earned a profit margin of 21.57%. SPIL’s functions in India were merely restricted to manufacturing operations post the transfer of IPR to SPG. The margin from such contract manufacturing services of SPIL to Associated Enterprise (“AE”) were benchmarked considering Transactional Net Margin Method (‘TNMM”) as the most appropriate method (“MAM”) and compared with a third party arrangement between SPIL and Eli Lilly where it had earned 14.43%.
  • The tablets manufactured by SPIL were further sold in the US market by SPG through Caraco Pharmaceutical Laboratories Limited (“Caraco”) with a margin of over 95%.
  • SPG was the owner of all IPRs including the Abbreviated New Drug Application (“ANDA”) and technology for the manufacture of tablets. Further, the SPG was assuming all the risks relating to IPRs such as litigation cost, chargebacks, self-stock adjustments, product returns and infringement issues. In this regard, two entities (Pfizer and Takeda) filed legal suits against SPG for violation of US patent rights which concluded with an out of court settlement for which USD 506 million was paid by SPG in respect of sale of pantoprazole tablets.

Proceedings before the TP Officer (“TPO”):

The TPO purported that SPIL performed substantial manufacturing functions, assumed key associated risks and owned the underlying IPRs.


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