TMI Blog2015 (1) TMI 868X X X X Extracts X X X X X X X X Extracts X X X X ..... e products and the segmental details were not available. Since this company was included as comparable by the assessee itself and not contested before the TPO/DRP and in the interest of the principles of natural justice and fairness, we direct the TPO to examine as to whether the income derived from sale of products can be excluded while working out the margin of this company. For Thirdware Solutions Ltd we are in agreement with the DRP’s observation that‘Software development, implementation and support services are various sub-segments of software development services only and require employment of software engineers’.In view of the above, the TPO is directed to include this company as comparable with a rider to exclude the figure of sale and purchase of license. For TCS it cannot be considered as comparable and, accordingly, the TPO is directed to exclude TCS from the list of comparable as it is dissimilar to that of the assessee. For L & T Infotech & Mindtree TPO was justified in including these companies as comparable as no potentially comparable company can be excluded from the list of comparable simply because of its high turnover. Risk adjustment - Held that:- Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Total 24,21,16,137 3. With respect to international transactions of reimbursement of expenses to AE of ₹ 9,19,228/- and ₹ 65,80,319/-, the same was accepted by the Department and no TP adjustment was made. With reference to software development services, the bench marking analysis conducted by the assessee is as follows: Particulars Software Development Services Most appropriate method Transactional Net Margin Method ('TNMM') Profit Level Indicator (PLI) used Operating Profit ('OP)/Total cost ('OC)) No of comparable 21 Comparable mean mark-up 9.30% Assessee's mark-up 14% 4. The TPO issued a show-cause notice to the assessee proposing to modify the results of assesee s economic analysis with the results of a search undertaken by himself by applying his own set of quantitative and qualitative filters and rejecting/modifying the filters applied by the assessee. The following filters were applied by the TPO: ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7. Accordingly, the AO had passed the final order on 31.10.2013 u/s 143(3) r.w.s 144C (13) of the Act by incorporating the TP adjustment of ₹ 3,18,73,338/-. 8. Being aggrieved, the assessee is in appeal before us raising various grounds. During the course of hearing, both sides submitted that most of the grounds raised are identical to the grounds raised by the assessee for the immediately preceding assessment year, namely, AY 2008-09 which were elaborately analysed and decided by the earlier Bench of this Tribunal vide its order in ITA No.5329/Del/2012 dated 31.5.2013. On the other ground, the learned DR submitted that the issues raised by the assessee have since been deliberated by the TPO, AO and DRP in great detailand arrived at a correct conclusion and, therefore, the same require to be sustained in full. 9. We have carefully considered the rival submissions, perused the relevant materials on record, the findings of the earlier Bench of this Tribunal in the assessee s own case (supra). Taking all the facts into consideration, we shall dispose of this appeal, ground-wise as under: Ground No.1: The assessment order passed by the AO pursuant to the dire ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le to the assessee at the time of preparing its TP documentation and in doing so have grossly erred in. Ground No.3.3.1 : Interpreting the requirement of contemporaneous data in the rules to necessarily imply current/single year (i.e., FY 2008-09) data; and Ground No.3.3.2: holding that at the time of creating / maintaining the TP documentation, the assessee could have procured current/single year data (i.e., FY 2008-09 data) from sources other than the electronic data-bases, when in fact practically no such other sources were available in case of most companies 13. Similar issue was also before the earlier Bench for adjudication in the assessee s own case for the AY 2008-09. After due consideration of the assessee s submission, the Bench had dismissed the assessee s ground for the following reasons, namely: 13 ..we find that as per Rule 10B(4), the data to be utilised and analysing the comparability of an uncontrolled transaction with an international transaction shall be the data relating to the financial year in which the international transaction has been entered into. As per proviso to rule 10D earlier year data can be used in addition to the data pertainin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for the AY 2008-09 in the assessee s own case. After taking into account the assessee s contentions, the findings recorded by the earlier Bench [reproduced below for ready reference] and also our reasoning for coming to a conclusion on the above grounds are as under: (i) Exclusion of companies having turnover less than ₹ 1 Crore: 17 This filter was applied by TPO on the ground that where the turnover and cost base is very small, it is more than likely that the margins well be erratic. The TPO was of the opinion that a company which is very small in size does not have sufficient economic significance that it be used as a bench mark. The assessee objected to the filter on the ground that turnover filter should not be used and if it is used then the high turnover filter should also be used. Ast the time of hearing, ld. Counsel for the assessee did not press for exclusion of companies on the ground of high turnover filter. As far as the assessee s claim for inclusion of comparables where turnover is less than 1 crore is concerned, we do not find any substance in the same because in service sector turnover has no relevance particularly when TNMM method has been selected ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... applying the turnover filter, in the case of the assessee in the immediately preceding year wherein the TPO had applied a turnover filter of less than ₹ 1 crore as a comparability criterion. The TPO had also not provided any economic rational or logic for raising the said limit to ₹ 5 crores as against ₹ 1 crore adopted in the immediately preceding year. In view of the afore-said reasoning, we direct the TPO to exclude only those from the comparable list which were having turnover of less than ₹ 1 crore instead of ₹ 5 crores. It is ordered accordingly. (ii) With regard to applying of a filter of excluding companies with employee cost of less than 25% of the total cost: 20 ..The TPO applied this filter on the ground that the companies which are engaged in software development require a minimum level of expenditure on personnel expenses. He referred to certain judicial pronouncements in support of his contention that expense on personnel being extremely low may lead to the conclusion that company is not engaged in software development. The TPO observed that extremely low expenditure on salary/employee cost is an indication that the company is ei ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to interfere with the order of ld. DRP/AO because the diminishing revenue/persistent losses are not in conformity with the normal operational results in this line of activity. They may be indicator of the company on the verge of closer on account of under-utilization of assets or human resources which had been created/recruited earlier. These exceptional circumstances are not quantifiable and, therefore, these companies cannot be taken as comparable. We, therefore, reject this ground of appeal. 19. It was submitted by the learned AR that the above issue of excluding companies as comparable on the basis of diminishing revenue/persistent losses etc., though identical to the last years, the assessee had filed an appeal to the Hon ble High Court u/s 260A of the Act and the Hon ble Court admitted the plea of the assessee as substantial question of law is involved. However, in order to maintain consistency, we follow the findings of the earlier Bench of this Tribunal in the assessee s own case for the AY 2008-09 and decide the issue against the assessee. Therefore, ground No.3.4.1 is partly allowed since the TPO has been directed to exclude only those companies from the comparable l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of comparable, is aggrieved the inclusion of the following companies as comparable, namely: (1) Bodhtree Consul. (2) Cat Tech. (3) Infosys (4) L T Infotech (5) Mindtree (6) Persistent Systems Limited (7) Tata Elxsi (8) TCS (9) Thirdware Solutions Ltd 23. Out of the 9 companies, the assessee is aggrieved for their inclusion in the final list of comparable, four companies was also included as comparable companies in the preceding assessment year [2008-09], namely: (1) Bodhtree Consul. (2) Cat Tech. (3) Infosys (4) Tata Elxsi 24. The earlier Bench of this Tribunal, for the AY 2008-09 in the assessee s own case, restored the issue of inclusion of these companies to the TPO for de novo consideration. The relevant findings of the Tribunal read as follows: 59. Ground No.3.6 3.7 primarily assails the inclusion/exclusion of certain companies on the basis of functions performed, assets employed and risks assumed. In this regard, main contention of ld. Counsel for the assessee is that ld. TPO / DRP have not correctly appreciated the difference in functional profile of companies. He submitted that the distinction has to be kept between the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rvice. However, a service provider mainly imparts consultancy regarding software. In common parlance, however, this distinction often gets blurred and both are taken as performing similar functions and, therefore, categorized in one category only. Therefore, at least the segmental details in the case of a company which is both software product as well as software development service provider have to be available in respect of both these segments. While selecting the comparable ld. TPO / Ld. DRP in principle were agreeable that software Product Company cannot be compared with software service provider. This is evident from the fact that TPO while applying the filters had accepted the assessee s filter of rejecting companies undertaking significantly different functions compared to assessee. In para 8(3) o his show-cause notice ld. TPO applied following filter stating as under: 8. However, these are curable defects. This leads us to the next question as to what will be the correct set of filters to be used in your case. Companies in your set were subjected to following filters: (iii) Select companies where the ratio of service income to total income is at least 75%: The use of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... restore this issue of inclusion of above four companies namely, Bodhtree Consul., Cat Tech., Infosys and Tata Elxsi to the TPO for fresh consideration. The TPO shall keep in mind the directions of the earlier Bench at paras 61 to 64 of its order for the preceding assessment year (2008-09) in the assessee s own case. We are left with five companies, for which the assessee is aggrieved for their inclusion as comparable, namely: (1) Persistent Systems Limited, (2) Thirdware Solutions Ltd (3) TCS (4) L T Infotech (5) Mindtree We shall deal with the above five companies in the following manner: (1) Persistent Systems Limited: 26. This company was included by the assessee itself as a comparable. However, in view of the order of the Special Bench in the case of DCIT v. Quark Systems (P) Ltd reported in (2010) 132 TTJ (Chd) (SB) 1, the assessee can rescind from its earlier admission provided the assessee is able to point out any material difference with the assessee and comparable companies and suitable adjustment could not be made to iron out the differences. In case of Persistent Systems Limited, the assessee objects to its inclusion for the reasoning that (i) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ings and outgoing, (ii) Technology absorption, adaptation and innovation, (iii), quantitative details and (iv) segment reporting in the annual report, the TPO came to the conclusion that Thirdware Solutions Ltd. was comparable and, thus, rejected the assessee s contention [Refer: Pages 68 to 70 of TPO s order]. The DRP, in its directions, had also rejected the assessee s objection for the reason that The annual report is verified and it is observed that as per Page 54 of annual report: 23)Segment Reporting: The Company s operation comprises of software development, implementation and support services . Software development, implementation and support services are various sub-segments of software development services only and require employment of software engineers. [Source: Page 13 of DRP s directions]. 29. We have carefully considered the contentions of the assessee and also perused the TPO s reasoning and the directions of DRP in rejecting the assessee s claim. In the absence of any documentary materials, the claim of the assessee that the functioning of Thirdware solutions Limited was different from that of the assessee is rejected. We are in agreement with the DRP s obser ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rther, sale of equipment and software license constitutes only 3.76% of total sales and, hence, it was still predominantly a software development service provider. Quoting the Annual Report (Page 30), the DRP had justified the rejection of the assessee s contention for the reason that the patents received were mainly in respect of services, processes and some minor apparatus and in respect of software products. [Source: Pages 13 14 of DRP s order]. 32. We have carefully considered the assessee s submission and also perused the observation of the TPO and the directions of DRP on the issue. The functioning of TCS was dissimilar to that of the assessee. The service and offerings of TCS was wide encompassing IT solutions and services which included assurance (testing) and systems integrations services, enterprise solutions, IT Infracture services, business process outsourcing, IT enabled services, engineering and industrial services etc. Further TCS was engaged in significant R D activities which had enabled it to influence customers and facilitate business wins in several verticals. Also TCS had significant intellectual property [IP] which was evident from the annual report, ac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ai Tribunal in the case of Maersk Global Centres (India) (P) Ltd v. ACIT reported in (2014) 147 ITD 83 (Mum)(SB) wherein it was held that potential comparable cannot be excluded merely on the ground that their profit is abnormally higher. There can be no justifiable reason to exclude such high profit companies unless it is shown that such profit was due to abnormal factors. Same logic applies to the high turnover companies also. The mere fact that a company has a high turnover can be no reason to justify its exclusion if it is otherwise functionally comparable. The exclusion of companies on such as rationale runs contrary to the express provisions of the Act. We also refer to the judgment of Hon ble jurisdictional High Court in the case of CIT v. Agnity India Technologies (P) Ltd reported in (2013) 219 Taxman 26 (Del). In that case, the assessee was a captive Unit providing software services to its associated enterprises. After analysing the issue at length, the Hon ble Court directed the exclusion of Infosys Limited from the list of comparable which list otherwise included several companies with huge turnovers [including L T Infotech]. The exclusion of Infosys was ordered by the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the assessee as well as the comparable companies. Therefore, this ground was not taken up for adjudication. Ground No.3.10: Making computational errors in margins of the assessee and certain comparable companies for determination of arm s length margin in respect of the impugned transaction: 40. However, during the course of hearing, the learned Counsel submitted that this ground was not pressed. Accordingly, this ground is dismissed as not pressed . Ground No.3.11: Denying a working capital adjustment to the operating profit margins of the comparable: 41. Incidentally an identical issue to that of the present one had come up before the earlier Bench of this Tribunal in the assessee s own case for the preceding AY for adjudication. After analysing the issue at length and also taking into account the rival submissions, the earlier Bench had restored the matter to the file of TPO for making the working capital adjustment to the profit margins of comparable subject, of course, to assessee demonstrating that there was difference in the levels of working capital employed viz-a-viz the comparable [Refer: Para 73 on page 54 of Tribunal s order]. 42. In conformity with ..... X X X X Extracts X X X X X X X X Extracts X X X X
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