1. In this reference made at the instance of the Commissioner under s. 256(1) of the I.T. Act, 1961, the following two questions have been referred to us :
'(1) Whether, on the facts and in the circumstances of the case, the cost allowable to the assessee-company in computing the capital loss in respect of the 22,500 shares of Scindia Steam Navigation Co. Ltd. should be Rs. 5,60,625 or Rs. 6,73,125 or any other amount
(2) Whether, on the facts and in the circumstances of the case, capital gains and profits under section 41(2) in respect of the sale of machinery should have been determined at Rs. 54,219 and Rs. 33,939, respectively, as returned by the assessee ?'
2. The assessee is a company and we are concerned with the assessment year 1962-63, the relevant accounting year being the year ended 31st December, 1961. Prior to 1956 there were two private limited companies, viz., Maharani Shri Khalsabai Cotton Mills (Private) Ltd. of Dewas and Surat Cotton Spinning and Weaving Mills (Private) Ltd., Surat. With effect from 1st January, 1956, the two companies were amalgamated into one unit under the name and style of Maharani Shri Khalsabai Cotton Mills Private Ltd. ; this was pursuant to a scheme of amalgamation which was sanctioned by the Bombay High Court on 26th November, 1956. A copy of the High Court's order sanctioning the scheme of amalgamation, to which is attached the scheme itself as schedule A, is to be found annexed to the statement of case as annexure 'A'. On the amalgamation taking place all the assets and liabilities of the said Surat Cotton Spinning and Weaving Mills Private Ltd. (the transferor-company) stood transferred to and vested in Maharani Shri Khalsabai Cotton Mills Co. Private Ltd. (the transferee-company). Prior to its amalgamation the transferor-company was holding certain shares of Scindia Steam Navigation Co. Ltd. which became the property of the transferee-company after the scheme became effective. It maw be mentioned that the name of the transferee-company was subsequently changed in 1957 to Surat Cotton Spinning and Weaving Mills Private Ltd., which was the name of the transferee-company for the sake of clarity. In 1947, he transferor-company had purchased 15,000 shares of Scindia Steam Navigation Co. (hereinafter referred to the same of brevity as 'Scindia') of the face value of Rs. 15 each for the price of Rs. 27-6-O per share. In 1948, the transferor-company acquired further 7,500 such shares of Scindia at Rs. 20 each. On 20th March, 1954, the shareholders of Scindia were allotted and distributed one fully paid up share of Rs. 5 in respect of each fully paid up share of Rs. 15 held by them. The result was that the transferor-company notionally obtained as a free script 22,500 shares of Scindia of the face value of Rs. 5 each. By another resolution passed at the ordinary annual general meeting of the shareholders of Scindia held on 20th March, 1954, the two types of shares (one of the face value of Rs. 15 and other of the face value of Rs. 5) were consolidated into the share of the face value of Rs. 20 each. The effective result was that the 22,500 shares of the face value of Rs. 15 each purchased by the transferor-company stood converted into 22,500 shares of the face value of Rs. 20 each as a combined result of the resolutions passed by the shareholders of Scindia on 20th March, 1954. It may be mentioned that on the passing of the resolutions of 20th March, 1954, and the consequential enhancement in the face value of the shares, the transferor-company in its books showed the enhanced cost of acquisition of the Scindia shares by Rs. 1,12,500.
3. On the amalgamation taking place, the assets of the transferor-company were taken over by the transferee-company at the respective book values. Thus, the 22,500 shares of Scindia were taken over by the transferee-company at their book value as shown in the books of the transferor-company wherein the sum of Rs. 1,12,500 had been added to the cost of investment in respect of the said 22,500 shares. This became the book value of the said lot of 22,500 shares for the transferee-company also. This book value, it may be mentioned, came to Rs. 6,73,125. Subsequently, in 1958, there was a further issue of bonus shares by Scindia, as a result of which the assessee obtained 4,500 bonus shares valued at Rs. 20 per share. In 1958, with this bonus issue, the assessee enhanced the cost of Scindia shares in its books by Rs. 90,000. The assessee sold the entire lot of Scindia shares for Rs. 3,88,160. According to the assessee, the cost of the shares come to Rs. 7,63,125 made up of Rs. 6,73,125 plus Rs. 90,000. Accordingly, it claimed a capital loss in the amount of Rs. 3,74,960.
4. The ITO expressed the opinion that there was no transfer of assets when one company merged into another. In his view, the company which is merged lost its independent entity but continued intact as a unit of the new company. In his view, therefore, the cost to the continuing company will be the same as the actual cost to the merged company. In his view, therefore, the amount of Rs. 90,000 (in respect of bonus shares issued in 1958) and the amount of Rs. 1,12,500 (which was the addition made to the book value after the resolutions of 20th March, 1954) were required to be deleted for the purpose of computation of capital loss. The loss in respect of the sale in Scindia's shares was, therefore, reduced by him.
5. The matter was then carried in appeal to the AAC. The AAC upheld the order of the ITO and the action of reduction of the amount of capital loss by the two amounts of Rs. 1,12,500 and Rs. 90,000. According to him, these were windfalls which went to add to the value of the shares of Scindia and this value could not by any standard be treated as representing part of the cost of the shares which had been sold in the previous year.
6. In connection with another asset, to which we shall refer a little later on, according to the AAC, the mergers and changes in the name did not in any way affect the actual ownership of the assets which were the subject-matter of the mergers and changes, a the two units always belonged to the same set of shareholders and were managed by the same managing agents.
7. The matter was thereafter carried by the assessee to the Tribunal. The Tribunal in its order considered the facts and found that there was no special provision in the I.T. Act (though provisions were subsequently introduced in 1967) dealing with the situation such as the one which existed before it. It accepted the submission of the assessee that the cost of these shares to the transferee-company must be the amount at which they were taken over by it and on the basis of which the scheme of amalgamation was framed. In the scheme of amalgamation it is found that as consideration for the transfer of the assets and liabilities of the transferor-company to the transfer-company every member of the transferor-company in respect of every share of Rs. 100 of the transferor-company held by him would be allotted 16 new ordinary shares in the transferee-company of Rs. 7-8-O each. If the basis of this ratio and the basis of the entire amalgamation was that these shares of Scindia were valued at the book value at which they appeared in the transferor-company, then, it was submitted before the Tribunal and accepted by the Tribunal that this book value would be the cost to the transferee-company. After the resolutions of 20th March, 1954, a higher cost had been shown for the Scindia share in the books of the transferor-company which higher value was reflected in the books of the transferee-company at the time of and pursuant to amalgamation. The Tribunal accepted the contention of the assessee that this was the cost to the assessee-company and to that extent varied the order of the ITO who had reduced the capital loss by Rs. 1,12,500. As far as the bonus shares of 1958 were concerned, the actions of the ITO and the AAC were upheld by the Tribunal and the contentions of the assessee rejected.
8. A similar question arose in respect of sale of certain machinery which had also belonged to the transferor-company. They were, on amalgamation, taken over at the book value by the transferee-company. The assessee's contention was that the actual cost to the transferee-company was the cost at which they were taken over on amalgamation and on that basis the capital gains and profits under s. 41(2) of the I.T. Act should have been determined. On that basis, the assessee had shown capital gains of Rs. 54,219 and profits of Rs. 38,939 under s. 41(2). The ITO and the AAC, taking the same view as they had taken in respect of Scindia shares, held that the correct figures were : capital gains of Rs. 3,455 and profits under s. 41(2) of Rs. 89,703. In view of its decision on the first point, viz., as regards Scindia shares, the Tribunal upheld the assessee's contention in respect of this item of machinery which also were taken over by the transferee-company on the amalgamation.
9. If the view is taken that the book value of Scindia shares and this item of machinery were taken into for framing the scheme of amalgamation, (which scheme was ultimately sanctioned by the High Court in November, 1956), the conclusion reached by the Tribunal that the book value of this item in the books of the transferor-company would represent the cost to the transferee-company will have to be upheld. In this connection, the auditors of the company had addressed a letter to the AAC in which the basis of amalgamation had been explained. It appears to us that if this letter is properly understood, the basis of the amalgamation is as we have explained earlier. It is in this sense that the Tribunal has understood the amalgamation. The approach of the ITO and the AAC that there is no transfer of assets or that there was no change in the legal, personality appears to be totally incorrect and does not represent the true legal position. In the view that we have taken of the basis of the amalgamation, the conclusion reached by he Tribunal of the actual cost of the assets to the transferee-company will be required to be upheld. In this view of the matter, the two questions referred to us are answered as follows :
Question No. 1 - The cost allowable to the assessee in computing the capital loss in respect of 22,500 shares to the Scindia Steam Navigation Company Ltd. should be Rs. 6,73,125.
Question No. 2 - In the affirmative and in favour of the assessee.
10. The Commissioner will pay to the assessee the coasts of the reference.