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The Deputy Commissioner of Income Tax, Circle 5 (1) (1) , Bangalore Versus M/s. Trident Microsystems India Pvt. Ltd.

2015 (7) TMI 212 - ITAT BANGALORE

Transfer pricing adjustment - whether DRP erred in holding that the size, turnover and brand of the company are deciding factors for treating a company as a comparable and accordingly erred in excluding M/s. Infosys Technologies Ltd.? - Held that:- The provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables .....

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anies I.E. Flextronics Software Systems Ltd.,IGate Global Solutions Ltd.,Mindtree Ltd.,Persistent Systems Ltd.,Sasken Communication Technologies Ltd., Tata Elxsi Ltd., Wipro Ltd. and Infosys Technologies Ltd.from the list of comparable companies on the basis of turnover and size. The AO is directed to compute the Arithmetic mean by excluding the aforesaid companies from the list of comparable. - Decided against revenue. - IT(TP)A No. 192/Bang/2015 - Dated:- 29-6-2015 - Shri N.V. Vasudevan and Sh .....

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rand of the company are deciding factors for treating a company as a comparable and accordingly erred in excluding M/s. Infosys Technologies Ltd. 3. The assessee is a company engaged in the business of providing sales, marketing, research and development services. The assessee entered into an agreement for provision of software R&D services with Trident Microsoft Systems (Fareast) Ltd. It is not in dispute that the aforesaid transaction was an international transaction with AE and therefore .....

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00 Op Profit on cost % 6.98% * Excluding other income ** Excluding forex & financial charges. 6. The TPO accordingly made an addition to the total income by way of adjustment to ALP after working capital adjustment as follows:- Computation of Arms Length Price: The arithmetic mean of the Profit Level indicators is taken as the arms length margin. Please see Annexure B for details of computation of PLI of the comparables. Based on this, the arms length price of the services rendered by the ta .....

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nt of the taxpayer s international transactions. 7. The assessee filed its objections to the proposals of the TPO before the DRP. Amongst other objections, the principal objection of the assessee was that out of 11 comparable companies chosen by the TPO, the turnover of Infosys Ltd., L&T, Mindtree Ltd., Persistent Systems Ltd., Sasken Communication Technologies, Tata Elxsi were beyond ₹ 200 crores and therefore they cannot be compared with a company like the assessee, whose operating m .....

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size and scale of operations have a direct impact on their profitability. In this regard, the concept of Economies of Scale was explained before the Panel, wherein, an increase in the size and scale of operations lead to a decrease in the long run average cost of each unit produced or each service project delivered. Thus, the per unit fixed cost of a small size company would be much higher than that of a medium / large sized organisation. The Hon ble Bangalore ITAT in the case of Genisys Integra .....

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t although various studies on segmentation of the IT export industry in India are available in the public domain, the above study provides one convenient thumb measure for segmentation by size. For purposes of a rough and ready organization of companies it can be relied upon as a convenient tool and this seems to have been the guiding motive behind reliance on this study by the Hon ble ITAT Bench. We, therefore, respectfully hold that the Dun and Bradstreet categorization on the basis of sales c .....

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crores it would fall in the category of a small sized firm as per the Dun & Brad Street categorization. Companies with a turnover higher than ₹ 200 crore, suggest that margins are related to turnover, this Panel is bound by the decision of the jurisdictional ITAT. Going by the taxpayer s ITS revenue of ₹ 17.01 crores it would fall in the category of a small sized firm as per the Dun & Brad Street categorization. Companies with a turnover higher than ₹ 200 crore, theref .....

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inable. 11. The ld. counsel for the assessee brought to our notice the observations of the Tribunal in the case of Trilogy E-Business Software India Pvt.Ltd. (supra) (ITA No.1338/Bang/2010) for assessment year 08-09, on the application of turnover filter and how the said filter is a valid filter in choosing comparables. It was therefore argued that the learned CIT(A) was fully justified in applying the aforesaid filter and excluding comparable companies chosen by the TPO which did not pass the t .....

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ssessee submitted that the TPO has applied a lower turnover filter of ₹ 1 crore, but has not chosen to apply any upper turnover limit. In this regard, it was submitted by him that under rule 10B(3) to the Income-tax Rules, it was necessary for comparing an uncontrolled transaction with an international transaction that there should not be any difference between the transactions compared or the enterprises entering into such transaction, which are likely to materially affect the price or co .....

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n was drawn to the decision of the Special Bench of the ITAT Chandigarh Bench in the case of DCIT v. Quark Systems Pvt. Ltd. 38 SOT 207, wherein the Special Bench had laid down that it is improper to proceed on the basis of lower limit of 1 crore turnover with no higher limit on turnover, as the same was not reasonable classification. Several other decisions were referred to in this regard laying down identical proposition. We are not referring to those decisions as the decision of the Special B .....

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o by a ₹ 1,000 crore company cannot be compared with the transaction entered into by a ₹ 10 crore company. The two most obvious reasons are the size of the two companies and the relative economies of scale under which they operate. The fact that they operate in the same market may not make them comparable enterprises. The relevant extract is as follows [on Rule 10B(3)]: Clause (i) lays down that if the differences are not material, the transactions would be comparable. These differen .....

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s which is 277 times bigger than the Assessee (turnover of ₹ 13,149 crores as compared to ₹ 47.47 crores of Assessee). It was submitted that an appropriate turnover range should be applied in selecting comparable uncontrolled companies. 14. Reference was made to the decision of the ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010, wherein relying on Dun and Bradstreet s analysis, the turnover of ₹ 1 crore to ₹ .....

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limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the var .....

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suitable and reasonable. In view of the same, we hold that the turnover filter is very important and the companies having a turnover of ₹ 1.00 crore to 200 crores have to be taken as a particular range and the assessee being in that range having turnover of 8.15 crores, the companies which also have turnover of 1.00 to 200.00 crores only should be taken into consideration for the purpose of making TP study. 15. It was brought to our notice that the above proposition has also been followed .....

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e in its own TP study has taken companies having turnover of more than ₹ 200 crores as comparables. In these circumstances, it was submitted by him that the assessee cannot have any grievance in this regard. 17. We have considered the rival submissions. The provisions of the Act and the Rules that are relevant for deciding the issue have to be first seen. Sec.92. of the Act provides that any income arising from an international transaction shall be computed having regard to the arm s lengt .....

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the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. Sec.92- A defines what is an Associated Enterprise. In the present case there is no dispute that the transaction between the Assessee and its AE was an international transaction attracting the provisions of Sec.92 of the Act. Sec.92C provides the manner of computation of Arm .....

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; (c) cost plus method; (d) profit split method; (e) transactional net margin method; (f) such other method as may be prescribed by the Board. (2) The most appropriate method referred to in subsection (1) shall be applied, for determination of arm s length price, in the manner as may be prescribed: Provided that where more than one price is determined by the most appropriate method, the arm s length price shall be taken to be the arithmetical mean of such prices: Provided further that if the var .....

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price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or (b) any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in sub-section (1) of section 92D and the rules made in this behalf; or (c) the information or data used in computation of the arm s length price is not reliable or correct; or (d) the assessee has failed .....

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tion 92C:- 10B. (1) For the purposes of sub-section (2) of section 92C, the arm s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely :- (a)……. to (d)…….. (e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in .....

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nces, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profit margin thus established is then taken into account to arrive at a .....

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ns; (c) the contractual terms (whether or not such terms are formal or in writing) of the transactions which lay down explicitly or implicitly how the responsibilities, risks and benefits are to be divided between the respective parties to the transactions; (d) conditions prevailing in the markets in which the respective parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs of labour and capital in the mar .....

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justments can be made to eliminate the material effects of such differences. (4) The data to be used in 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 : Provided that data relating to a period not being more than two years prior to such financial year may also be considered if such data reveals facts which could have an influence on the deter .....

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this regard we find that the provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables. The assessee s turnover is ₹ 47,46,66,638. It would therefore fall within the category of companies in the range of turnover between 1 crore and 200 crores (as laid down in the case of Genesis Integrating Systems (In .....

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