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Show cause notice from GST dept for tax liability of INR 4bn

Zomato in a filing to the exchanges has informed that it has received a show cause notice dated 26th Dec’23 from the Directorate General of GST Intelligence, Pune Zonal Unit. The notice requires the company to show cause as to why a tax liability of slightly over INR 4bn towards delivery charges collected by the company from the customers on behalf of the delivery partners should not be demanded along with relevant interest and penalty. The demand is for the period from 29 October 2019 to 31 March 2022 so presumably the notice refers to Zomato’s food delivery business. Assuming the notice is extended till 1HFY24 (extended period of 1 Apr 2022 to 30 Sep 23), our back of the envelope calculations suggest the tax liability that could be demanded would increase by another INR 4.25bn without considering interest and penalty. Zomato already pays GST on delivery charges collected from customers in the Blinkit business, so we do not expect any such liability in that business. We await further clarity to emerge before factoring in any impact of the GST show cause notice in our model.

? Key details: 1) the alleged tax liability for the period 29 Oct 2019 to 31 Mar 2022 along with interest and penalty currently stands at INR 4.02bn. 2) Zomato has mentioned that it strongly believes that it is not liable to pay any tax since the delivery charge is collected on behalf of the delivery partners. 3) It has also mentioned that as per the contractual terms and conditions, the delivery partners provide the delivery services to the customers and not the company. As per the company, this view is also supported by opinions from its external legal and tax advisors. 4) The Company will be filing an appropriate response to the show cause notice. 5) At this stage, no order of any kind has been passed and the company has made these disclosures voluntarily as a matter of caution given the large alleged tax demand in question.

? JM View: 1) The show cause notice appears to be only for food delivery business of Zomato till FY22. Assuming the notice is extended till 1HFY24 (extended period of 1 Apr 2022 to 30 Sep 23), our back of the envelope calculations suggest the tax liability that could be demanded would increase by another INR 4.25bn without considering interest and penalty. 2) Zomato already pays GST on delivery charges collected from customers in the Blinkit business, so we do not expect any such liability in that business. 3) Assuming the final order as and when passed goes against Zomato, we strongly believe the platform would end up passing the GST burden directly to the end customers. 4) However, in case Zomato decides to not pass on the GST burden to its end customers (assuming it fails to convince the GST department), the direct impact on its food delivery profitability (adj EBITDA) basis 2QFY24 could be around 0.9% as % of GOV, which is significant considering it had reported adj. EBITDA of 2.6% of GOV in the latest reported qtr. 5) Zomato has a cash balance of INR 118bn, enough to cover the impact of any adverse orders towards historical dues. However, the key thing to watch out will be how long the case drags and the remedial measures that the company takes to mitigate any future tax liability demand

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