Leila Seth, J.
(1) These six income-tax references at the instance of the Commissioner of Income-tax, pertain to the assessment years 1965-66 to 1969-70 and 1972-73. The point in issue in each of them pertains to the question of doductibility of royalty. The question posed for our opinion under Section 256(1) of the Income-tax Act, 1961 (to be referred to in short as the 'the Act',) in the first of the two years is as follows : 'Whether on the facts and in the circumstances of the case, the Tribunal was justified in law in holding that the royalty amounts paid by the assessed to the foreign collaborators for the assessment years 19.65-66 and 1966-67 were of revenue nature ?'
(2) The question posed in the subsequent three years is identical except that the assessment years 1967-68, 1968-69 and 1969-70 have been inserted in place of 1965-66 and 3966-67. The question posed for the year 1972-73 is substantially the same, though sightly differently worded and is set out:
WHETHERon the facts and in the circumstances of the case. the Tribunal was right in law in holding that Royalty amounting to Rs. 39,666 paid by the assessed to the foreign collaborators for the assessment year 1972-73 was of revenue nature ?'
(3) The assessed. M/s. Sharma Engine Valves Ltd., is engaged in the manufacture of valves. A company known as B. K. Khanna & Co. Pvt. Ltd. (in short 'Khanna') entered into an agreement dated 25th October, 1961 with a foreign company, Bayerioches Leichtmetal Work Kommanditgeselischaft of Munchen (to be referred as ''DLW') to manufacture valves in India. Dlw was already engaged in the design, manufacture and sale of valves in Germany and export thereof. Article I of the agreement provided that the period of the agreement was for ten years; therefcre it was automatically renewable, with prior approval of the Government of India, unless terminated by six months registered notice, from year to year.
(4) Article 2 is set out: ' 'LICENSE Blw hereby grants to Khanna the foilowing rights and agrees to furnish Khanna with .'It information, data etc.; (a) an exclusive right to manufacture in the Republic of India and Nepal, Burma, Ceylon. Thailand, Pakistan, Indonesia & Hongkong.. Loas, Vietnam and Kambodscha-valves. (b) an exclusive license to use and sell the valves as manufactured by Khanna in India and Nepal, Burma, Ceylon, Thailand, Pakistan. Indonesia & Hongkong, Laos, Vietnam .and Kambodscha. (c) outside the territories mantioned under (a) and (b), Khanna is authorised to sell valves produced under this license only with BLW's prior written permission. (d) Blw grants to Khanna an exclusive right to sell in the territories mentioned under (a) and (b), the valves Blw manufactures in Germany, This exclusive selling right for Khanna will he stated by Blw in a separate agreement, which shall be part of this Principal Agreement.'
(5) Under Article 3. Blw was to communicate to Khanna the complete information required to produce valves. It was required to render assistance including all knowledge to produce valves economically and effciently and strictly in accordance with any particular customer's requirements. Blw was also to provide, whenever required, the jigs, tools and gauges and other information to manufacture the valves. It was also to furnish all information including production data, designs, drawings, working drawings, production schedules, control schedules and calculations, schemes etc. In addition Blw had to design a complete layout plan for the valve factory; and provide the detailed machinery specifications and instructions for its erection in the building as also the installation of electrical and other amenities. The complete list of staff and labour required was also to be worked out by BLW. it was to train the specialists sent to it by Khanna at its factory in Germany.
(6) Khanna was given permission to use 'BLW' trade name and sign as BLW's licensee. Blw undertook . to disclose to the Khanna the latest methods and information within its knowledge re. manufacture of valves, i.e. a supply of complete technical know-how. However, Khanna. was to the best of his ability not to 'communicats or disclose, and shall take reasonable precautions to prevent the com- munication or disclosure by its employees, or otherwise any information (other than such information as shall have become generally known to the industry) to any third party in any way whatsoever, without BLW's prior written consent'.
(7) In accordance with Article 5. Khanna had the right to proclaim its valves in India qs manufactured under BLW- license styled as 'BLW-SHAMA' and sell them under this description in the territories covered by the agreement.
(8) In terms of Article 6(a), Khanna had to pay Blw immediately on receipt of the planning design and data required for establishment of a valve factory and production a non-recurring fixed sum of 30,000 German Marks. This payment was to be made irrespective of whether the valve production started and no deductions could be made from it.
(9) Under Article 6(b) Khanna was also to pay to Blw a royalty of one per cent on the 'net selling valves' of all valves produced and sold by Khanna under licenses of this agreement. A detailed statement of the amounts was to be given to Blw every three months and payment was to be made within sixty days of the end of the same periods without any deduction. It is the nature of these royalty payments that is the point in issue.
(10) Article 7 which deals with patents provides for the situation at the and of the agreement. It says: 'After conclusion of this Agreement Blw shall place at Khanna's disposal BLW's patent applications, so that Khanna can then file the applications in India, under BLW's name. and at Khanna's expense.'
(11) Article 10 dealing with termination is set out in extenso: 'TERMINATION If either party shall; (a) default in the performance of any of the covenants or conditions of this Agreement:, and shall fail to make good or remedy such default within ninety (90) days after receipt of notice thereof in writing from the other party, giving reasonable particulars thereof and of the inbention of the party serving the notice to terminate this Agreement unless such default is made good or remedied: or (b) becomes insolvent or goes into liquidation on receivership or be admitted to the benefits of any procedure for the settlement of debts or declared bankrupt; or (c) be dissolved; or (d) if Khanna has not begun to establish the factory as contemplated in this agreement within three years after Blw has placed at Khanna's disposal all plans etc. as covered by this Agreement. then this Agreement and any and all licenses and rights granted and obligations assumed hereby (except the obligation to pay any money theretofore due and payable) may be terminated not less than thirty (30) days after the date then when notice of the same is given. On the expiration or termination of this Agreement for any cause whatsoever, Khanna shall have a perpetual non-exclusive right fo manufacture valves as being manufactured hereunder without further payment. If this Agreement is terminated prematurely through Khanna's fault, Khanna shall continue to pay the Royalty stipulated in Article 6(b) of this Agreement, for the duration of this Agreement, if Blw is prepared to grant Khanna. the use of BLW's trade Name for the duration of such payments. Khanna shall, however, have the right under such circumstances to use the trade name even after the expiration or termination of the agreement for the purpose of executing the orders against quotations submitted before such termination, subject to the payment of royalty with respect thereto in the, same amounts and to the same effect as if this agreement had not been terminated for the purposes of such orders.
(12) Further under Article 14 Khanna has ''the nght to assign all its rights and duties under this agreement to the Shama Engine Valves Limited a new company whichh will undertake the manufacture and sale of valves in the territories stipulated in this agreement. Blw agrees to this assignment already at this time of contract of agreement.'
(13) In consequence of this assignment the assessed had lo make payments to BLW. The first payment pertained to 30,000 German Marks, which it is common ground is a capita? expenditure. However, the payment, pertaining to royalty for the various years was claimed by the assessed as a deductible revenue expenditure. In making this assertion, it relied on the decision of the Supreme Court in Commissioner of Income-tax. Bombay v. Ciba of India Ltd. (1958) 69 I.T.R. 692.
(14) The amounts paid for the various assessment years, the corresponding previous years ending on 30th September, are as follows : 1965-66 R5.24,747 ] 966-67 Rs-39,068 1967-68 Rs.30,945 1968-69 Rs.25,621 1969-70 Rs.28,922 1972-73 Rs-39,666
(15) The Income-tax Officer found that the facts did not justify the applicability of the ratio of the decision of Ciba's case and held that the expenditure incurred was of a capital nature, as the assessed got an enduring benefit. Ciba's case was distinguished mainly on the ground that there, merely a right to draw upon the practical knowledge of the Swiss Company for a limited period was granted. whereas in the present case the assessed acquired an exclusive right to manufacture and to all existing skills and future improvements. The stipulation with regard to automatic renewal of the agreement after ten years and the right of the assessed to continue manufacture without payment on the termination of the agreement, for any reason. weighed with the income-tax Officer. He said, 'The assessed gets all the knowledge to that date. His loss is only the inability to use Plw name. The payment said to be made by way of royalty of a capital nature. The payment of royalty is thereforee being disallowed'.
(16) The Appellate Assistant Commissioner affirmed the order of the Income-tax Officer.
(17) On further appeal to the Income-tax Appellate Tribunal, the assessed's appeal was allowed. The Tribunal held that it had to look not only at the agreement but at die surrounding circumstances to ascertain the real nature of the payment from a commercial point of view. It found a striking similarity in the clauses of the present case to that of the Ciba case and the case decided by the Calcutta High Court in Commissioner of Income-tax v. Hindustan General Electrical Corporation : 81ITR243(Cal)
(18) The Tribunal was of the opinion that in the present case as in the Ciba case, there was no payment for parting with technical know-how permanently in favore of the assessed. It further observed that the 'object, of payment of royalty was for the purpose of getting benefit of technical assistance for running the business', like in the two above mentioned cases. The payment of royalty was recurring in nature based upon the sales. The assessed was prohibited form divulging information to the third party without the consent of BLW. The payments were for a limited period, i.e. the period of the agreement, the only difference being that in the Ciba case the tenure was for live years whereas in the present case it was for ten years. The fact that the assessed was starting a new business was not of much significance. It, thereforee, held that ''the payment of royalty related to the current expenses for the purpose of carrying on manufacture of valves' agreed to be carried 'on in accordance with the terms of the agreement. The payment of royalty was, thereforee, referable to a pooling arrangement between the assessed and Blw for manufacture of valves. No secret process was sold and as such the payment could not be treated as relating to capital expenditure. Distinguishing the case of Mysore Kirloskar Ltd. v. Commissioner of Income-tax, (1967) 67 I.T.R. 23, it held that the know-how did not become the property of the assessed even at the end of he period of agreement.
(19) By our judgment in Shriram Refrigeration-Industries Ltd. v. Commissioner of Income-tax, Delhi-1, (1981) 127 I.T.R. 745, applying the principles enunciated in Ciba (supra) by the Supreme Court, we have held that the collaboration agreement with Westinghouse providing for technical know-how did not amount to a permanent parting of the technical knowledge in favor of Shriram. We have taken a similar view in The Triveni Engineering Works Limited v. The Commissioner of Inconic-tax. New Delhi, Income-tax Reference Nos. 106 and 107 of 1974(5) disposed of on 1st April, 1982. We thereforee. do not propose to deal with the case law in any detail.
(20) What has to be seen in each case is the substance of the matter and not the words used, the surrounding circumstances and the nature of the expenditure. What is it that the assesses has acquired? An exclusive license for a limited period or an advantage of enduring benefit? It would seem to us the former. In coming to this conclusion we have examined the totality of the terms of the :agreement. These are: (!) The period of the agreement is limited to ten ywars: though it is automatically renewable; thereafter it is terminable within six months notice; further, the extensions. which are to be from year to year, require prior approval of the Government of India on each occasion. Also the agreement can be terminated even before the expiry of the ten years period in certain eventualities (Article 10): (ii) Though there is an exclusive right fo manufacture in India and the specified countries and also an exclusive license to use and sell the valves so manufactured in the specified countries, the payment of royalty of one per cent is linked with the 'net selling value'. A detailed statement has to be furnished every three months and the amounts paid every sixty days to B.L.W. The royalty is a recurring payment based on the sales of the assessed: (iii) Though the assessed can sell the valves manufactured here outside the specified territories and pay the royalty as abovementioned, it has to obtain BLW's written consent; (iv) Even the valves manufactured by Blw in Germany can be sold by the assessed in the specified countries but here too royalty will have to be paid. The payment of royalty would, thereforee, appear to be a recurring and current expenditure connected with the sales of the valves: (v) In case of default, under Article 10, the agreement can be terminated after the requisite notice. If the agreement is terminated due to Khanna's fault, prematurely, he will have to pay the royalty only if Blw permits Khanna to use the Blw trade name for the duration of the agreement. After the expiration of the agreement. Khanna can use the trade name only for the purpose of executing orders against quotations submitted before termination. Of course, royalty has to be paid. Otherwise on termination Khanna retains only a non exclusive right of manufacture without further payment; (vi) A restriction is placed on Khanna or his assignee. the assessed, pertaining to confidentiality; he is not permitted to communicate or disclose any information to any third party without BLWs written consent; (vii) A right has been given to Khanna to assign the agreement to the assessed. This has been provided for in the agreement. Nothing further is mentioned therein with regard to further assignment; (viii) Though the latest and other methods of information available with Blw are to be disclosed during the currency of the agreement to the assessed, he is debarred from disclosing them to any third party; (ix) The object of obtaining the technical know-how was clearly for running the business; (x) Though there is no provision in the agreement for return of the documents which form part of the know- how including the drawings, production schedules, calculation scheme etc, this is not pertinent as in the present state of fast technological developments these become obsolescent and mere scraps of paper unless updated; and (xi) This updating or providing of information would naturally stop at the end of the period of the agreement.
(21) It would, thereforee, appear to us that what the assessed has obtained is a license to manufacture valves, a right to sell the same and assistance in carrying this out. The recurring payment of royalty is for the use of the know-how/assistance and not for its acquisition.
(22) The payment of royalty is a recurring charge on the 'net selling value' and no advantage of enduring benefit has been obtained. The restriction pertaining to confidentiality of information would further indicate that no secret process or technical know-how has been sold to Khanna/assessed and there was no permanent parting of technical know-how.
(23) It is true that in the present case, Blw had to place the patent applications at the assessed's disposal on termination of the agreement so that the assessed can file them. This would give the impression that the assessed had a protected patent right. In any case, this right, if at all, only accrues to the assessed at the time of termination. Further, as earlier noticed, a .lump sum payment of Dn 30,000 had been made to provide for the capital element of the agreement. In the present case, it would appear to us that the payment of royalty, despite its nomenclature, has a direct nexus with the carrying on or conduct of the business of the assessed: and commercially considered, it must be treated as an integral part of the profit-making process. The purpose of payment of royalty, being based upon the production and sale of the valves manufactured by the assessed. thereforee, we are in agreement with the view of the Tribunal that the expenditure must be treated as revenue.
(24) Learned counsel for the assessed had alternatively urged that as technical know-how is an intangible asset it cannot be transferred and, thereforee, the assesses cannot be held to have acquired an advantage of an enduring nature. In support of his proposition he relied on Commissioner of Income-tax v. Lata Engineering and Locomotive Co. (P) Ltd., : 123ITR538(Bom) and Praga Tools Ltd. v. Commissioner of Income-tax. Hyderabed, : 123ITR773(AP) . This is an interesting issue but in the view we havetaken above, we need not express any opinion on this aspect of the matter. For the reasons outlined above, we answer the question in the affirmative and in favor of the assessed. As the assessed has succeeded, it will be entitled to costs : Counsel's fee Rs. 350. (One Set) Question answered in the affirmative