TMI Blog2011 (6) TMI 398X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee. Therefore, a consolidated order is passed. 1.1 It may be mentioned here that the assessee had applied for the stay of demand pertaining to assessment year 2006-07. "F" Bench of Delhi Tribunal passed an order on 16.12.2010 directing the assessee to pay a total sum of Rs. 20.00 lakh in two equal instalments on or before 03.01.2011 and 03.02.2011 respectively. The rest of the demand was stayed. This order, being in the nature of interlocutory order gets vacated on passing this final order on the appeals of the assessee. ITA No. 4068(Del.)/2009- Appeal of the department -A.Y 2004-05 2. In this appeal, the revenue has taken two grounds as to whether on the facts and in the circumstances of the case, the ld. CIT(Appeals) was right in -(i) treating the amount of Rs. 1,42,58,751/- as operating expenditure; and (ii) rejecting six companies identified by the TPO as comparables. 2.1 The facts of the case are that the assessee filed its return on 30.10.2004 declaring loss of Rs. 29,42,543/-. The case was initially processed u/s 143(1) of the Income-tax Act, 1961, and thereafter picked up for scrutiny by issuing statutory notice u/s 143(2). The assessee is conducting the b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ired capacity enhancement in terms of infrastructure and human resources. However, due to commercial reasons, IBM later on decided not to award the contract to TP USA. Accordingly, a contract change request agreement was signed between the IBM and TPUSA for winding up the operations and for payment of compensation for direct set up expenses. The result of this change was that the assessee was reimbursed all the initial set up costs. However, the rent paid in respect of new building hired for carrying out operations was not recoverable from the IBM or TP USA. This expenditure has been treated as the extraordinary expenditure by the assessee, which has not been taken into account for working out the PLI. However, the TPO was of the view that the expenditure was of TP USA and not of the assessee. Therefore, he made modification to the computation of the PLI submitted by the assessee and came to the conclusion that the same was (-) 0.92%. His computation is as under:- INCOME Income from Operations 19,46,40,698 Other Income Exchange Gain 56,47,297 Total income 20,02,87,995 EXPENDITURE ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... solely for TP USA according to their ventures, agreements, performance and financial guarantees. The uncontrolled PLI is 15.49%, which should have been provided to the assessee by its parent company. On this basis, the arm's length price of the international transactions has been enhanced by an amount of Rs. 3,31,61,663/-. As mentioned earlier, the AO, accepting this report, reduced the loss of the assessee by the corresponding amount. 4. The matter was agitated before the ld. CIT(A). In respect of expenditure on rent for vacant premises, the facts mentioned by him are that - (i) Sprint is a large multinational telecom company based in USA and Canada. It had engaged IBM to arrange for providing of call centre services by examining the facilities across the globe. The IBM was in touch with TP USA for assessing the possibility of assigning the contract to it; (ii) the assessee and TPUSA were in communication for securing the contract since 15.4.2002. The representatives of IBM-Sprint visited the assessee in February, 2003 to assess the facility and the capability; (iii) the assessee wanted to expand its business and was looking for prospective clients as the present fa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... different functions. The points of divergence have been tabulated by the ld. CIT(Appeals) on page nos. 40 and 41. 4.3 The ld. CIT(A) considered the submissions. He referred to the finding of the TPO in respect of IKF Technology Ltd. that this company is engaged in software services which are not non-voice based services. Applying the same logic, he rejected the inclusion of six companies in comparable cases. Finally, he came to the conclusion that there were four comparable cases with mean PLI of 4.29%, the details of which are as under:- S. No. Name of the company OP/TC 1 GTL Limited 22.13% 2 Saffron Global (-) 12.19% 3 Spanco Telesystems 19.59% 4 Transworks Information Services Ltd. (-) 12.37% MEAN 4.29% Thereafter, he worked out the PLI in case of assessee, after non-consideration of extraordinary expenditure, at 6.60%. The mean of the comparable cases, as mentioned earlier, was worked out at 4.29%. Accordingly, it has been held that no adjustment was required to be made on account of transfer pricing. 5. Before us, the ld. CIT, DR f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The agreement had lock-in-period of three years. Thereafter, permission was obtained from Software Technological Parks of India on 20.6.2003 for expanding the operational area to the new premises. This can be seen from page no. 225 of the paper book. Our attention has also been drawn to the sequence of events placed in the paper book on page no. 226 starting from initial communication received on 15.4.2002 regarding prospective business from IBM-Sprint and ending with debit note raised on TP USA for reimbursement of expenses incurred in connection with this contract. Our attention has also been drawn towards page no. 284 of the paper book, which furnishes the details of efforts made by the assessee for developing new clients after taking up the new building on lease, which furnishes date-wise details of visits by various clients. However, it appears that no new client could be engaged for business. On the basis of the aforesaid evidence, the case of the ld. counsel is that the assessee had been making efforts independently to develop its customer base. However, the business could be received only if the customer was satisfied with the infrastructure and human resources available wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Tata Management Training Center and other services to Tata group companies -do- 6.3 In the alternative, it is submitted that if the expenditure is found to be the normal expenditure, then suitable adjustment may be made in respect of capacity under-utilization. 7. In the rejoinder, the ld. DR submitted that even as per assessee's submissions before the lower authorities, it was undertaking activities of business promotion. The renting of the premises subsequent to the IBM-Sprint order was in the course of business of the assessee. Therefore, this expenditure could not be ignored as it was abnormal expenditure. This kind of infructuous expenditure gets incurred in all businesses. The difference can be sorted out by granting suitable adjustment. Further, TNMM sorts out some differences which may exist in the business of the tested party and the business of comparable cases. However, he fairly agreed with the alternative argument of the ld. counsel that adjustment may be given for capacity under-utilization. 8. We have considered the facts of the case and submissions made before us. Insofar as payment of lease rent is concerned, briefly the facts are that TP U ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... incurred by the assessee at the behest TP USA so as to part perform IBM Sprint work. No doubt, the facility was visited by parties other than IBM also but there is nothing on record to show that any worthwhile negotiation took place with any one of them for providing services. Accordingly, we tend to agree with the ld. DR that additional capacity was created at the behest of the parent company. Therefore, it follows that the expenditure, in case of frustration of IBM Sprint contract, should have been borne by the parent company. In this very connection, the ld. DR has also drawn our attention towards the report of the TPO. This report does not allocate any contract risk to the assessee, although the risk of idle capacity has been shown to be quite high (page 3 of the report). Further, our attention has been drawn towards page nos. 9 and 10 of the report, which show that PLI of the parent company has been positive in the calendar years 2001 to 2005. On the other hand, the PLI of the assessee is meagre and is, in fact, negative in the financial year 2002-03. Therefore, the conclusion which can be drawn on the basis of this analysis is that the expenditure of the parent company has be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ll have to be dealt with while disposing off the appeal. Accordingly, it is held that transfer pricing adjustment is required to be made in respect of the rent, while working out the arm's length PLI. At the same time, it is also held that suitable adjustment has to be made to such PLI in respect of idle capacity. For this purpose, the matter is restored to the file of the AO. Thus, ground no. 1 is treated as partly allowed for statistical purposes. 9. Ground no. 2 is against the finding of the ld. CIT(Appeals) that six companies identified by the TPO are not valid comparables. The details of these companies have already been mentioned in paragraph no. 6.2 (supra). The ld. CIT(A) mentioned that Rule 10B(2) as well as various rulings of the Tribunal clearly lead to a conclusion that for the purpose of comparability various factors, namely, nature and line of business, product or service market, the size and scope of operation and stage of business are required to be seen. The ld. CIT (A) considered the financial report in the case of comparable cases for this purpose. It was found that they were carrying on totally different lines of business against the business of the assessee o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tated by extraordinary circumstances beyond the control of the assessee. Referring to the finding in the case of E-Gain Communications (P.) Ltd. that "the differences which are likely to materially affect the price, cost charged or cost paid in, or the profit in the open market are to be taken into consideration with an idea to make reasonable and accurate adjustment to eliminate the differences having material effect", it was mentioned that the assumption that every time higher import duty was paid it must have been passed to the customers cannot be accepted. One way of looking at the issue would be to make adjustment for functional differences or to accept the plea that unusually high costs are paid looking to the fact that the business is in the initial stages. Thus, if there are substantial differences in comparable cases on one hand and the tested party on the other, one way at looking at the situation is to reject the comparables. The other is to make reasonable adjustment arising on account of differences. Nonetheless, the second option involves many uncertainties and, therefore, if there are substantial differences it would be proper to reject the comparables. 9.3 When we ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... utions Ltd. From the order of the TPO, it is seen that the assessee initially selected five comparables and thereafter added six more comparables, thus, citing 11 comparable cases. The PLI was worked out at (-) 1.45% against 21.80% computed in the case of the assessee. The TPO found that four comparables had substantial related party transactions. These are NIIT Smart Source Ltd., Nupima Services Ltd, Axis IT T Ltd. and Godrej Upstream Ltd. The fact of existence of related party transactions in these four comparables were accepted by the assessee, therefore, relying on the decision in the case of Sony India (P.) Ltd. (supra) these comparables were rejected. In the aforesaid decision, it was mentioned that an entity can be taken as uncontrolled if its related party transactions do not exceed 10% to 15% of the total revenue. Within the aforesaid limits, the transactions cannot be said to be having significant influence on the PLI. The TPO has also cited the case of Phillips Software Centre v. Asstt. CIT [2008] 26 SOT 226 (Bang.), in which a view has been taken that even if there is a single rupee transaction with the associated enterprise, such a case should not be considered as a co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ure of any business, but persistent losses is not the normal feature of any business. If a company has been incurring losses consistently, it can be inferred that it is not operating in normal circumstances. The situation becomes abnormal when the capital base is completely eroded. 13.1 The only submission made by the ld. counsel is that the company had positive net worth in earlier years, it is functionally comparable, it had shown higher revenue year after year and it had shown profit in financial year 2007-08. Therefore, if this comparable had to be ignored on account of higher loss, then companies having abnormally high PLI should also be rejected. On the other hand, the ld. DR relied on the order of the TPO and the DRP. 13.2 We have considered the facts of the case and submissions made before us. We are of the view that this case is not a valid comparable for the reason that it has been incurring losses year after year and the capital base has completely eroded. The erosion of capital base stands separate and apart from normal incidence of profit and loss. While looking the situation from this angle, accounts of the company for financial year 2007-08 cannot be considered b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eejal Info Hubs Ltd. as a comparable case. In this connection, it has been mentioned in the TPO's order that the assessee raised objection and it was submitted that this company is carrying out business of vending information, i.e., customer support or a contract centre. This business is similar to the BPO business. The TPO rejected the submission by mentioning that vending of information and rendering services to call centre are activities different from running a call centre. Therefore, the functional profile of the two companies were different. 15.1 Before us, the ld. counsel mentioned that the information vending is nothing but customer support or a contract centre. Thus, Shreejal Info Hubs Ltd. is imparting information of supplier of goods and services to prospective customers. As per director's report, it is carrying out the business of information vending by employing calling agents under the brand name "Ask Me", which is essentially a call centre/contract service centre. Therefore, functional profile is same i.e., to furnish information about the client-company. On the other hand, the case of the ld. DR is that Shreejal Info Hubs Ltd. is working for the clients in India w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a Fibres Ltd., whose promoters were involved in fraud as per newspaper report and the CBI report. The TPO mentioned that according to CBI bulletin of December, 2008, it was reported that the Rastogi family cheated Government of India to the tune of Rs. 54.00 crore in late 1980s and mid 1990s. Rastogi brothers had floated 14 firms for the purpose of export of bicycle parts to Russia and Hong Kong. They were arrested by the FBI and U.K. authorities and sentenced to imprisonment for more than 9 years. However, the report nowhere contains the name of this company. According to the data available at Prowess Data Base, it is engaged in the business of call centre activities; it had set up 100% EOU and it holds registration under section 10B. In regard to the second mentioned company, it was submitted that it is engaged in two activities i.e., telecom sector and BPO sector. It is also a company of Rastogi group and, therefore, other objections are the same as in the case of first mentioned company. The TPO mentioned that the company is deriving revenue from ITES activities which are comparable to the business of the assessee. Thus, both the companies were included as comparables. 17.3 I ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sses from assessment years 2002-03 and 2003-04, aggregating to Rs. 11,65,418/- and unabsorbed depreciation for assessment years 2002-03 to 2004-05 and depreciation for this year i.e., assessment year 2006-07, aggregating to Rs. 4,28,45,777/- have been deducted. The case of the assessee is that section 10A grants deduction of profit of the undertaking for the relevant previous year without taking into account brought forward losses and unabsorbed depreciation. In this connection, reliance has inter alia been placed on the order of Special Bench of Chennai Tribunal in the case of Scientific Atlanta India Technology (P.) Ltd. v. Asstt. CIT [2010] 38 SOT 252. In this case, it has been held that profits of the eligible unit are deductible u/s 10A, which means that the income computed under the head "profits and gains of business or profession" will be so deductible. This deduction is required to be made at the stage of computing the income under the aforesaid head. Even though it is a deduction admissible to the assessee, it has to be deducted while arriving at profits of the business and not from the gross total income. That is why the provision is separately enacted and does not form ..... X X X X Extracts X X X X X X X X Extracts X X X X
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