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TMI Blog2015 (10) TMI 485X X X X Extracts X X X X X X X X Extracts X X X X ..... e of Rs. 4,44,20,779 as Book Profits under MAT provisions and income of Rs. 34,848 under normal provisions of the Income Tax Act, 1961 (in short 'the Act') after claiming deduction of Rs. 5,05,29,384 under Section 10A of the Act. The return was processed under Section 143(1) of the Act and the case was subsequently taken up for scrutiny. 2.2 The Assessing Officer on observing that the assessee reported international transactions, made a reference under Section 92CA of the Act to the Transfer Pricing Officer ('TPO') for determination of Arm's Length Price ('ALP') of the international transactions entered into by the assessee with its AE. The TPO passed an order under Section 92CA of the Act dt.11.1.2013 proposing an adjustment of Rs. 1,95,59,772 to the ALP of international transactions entered into by the assessee with its AE. Subsequently, the Assessing Officer completed the assessment under Section 143(3) rws 92CA of the Act vide order dt.5.3.2013 wherein the income of the assessee was determined at Rs. 1,95,94,620 which included the T.P. Adjustment of Rs. 1,95,59,772. Since the assessee decided to prefer an appeal in the matter before the CIT (Appeals), the Assessing Off ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... her than March 31 or companies whose financial statements were for a period other than 12 months)should not be rejected. ii. The learned CIT(A) has erred, in law and in facts, by upholding AO/TPO action in rejecting the comparable companies identified by the Appellant wherein consolidated results have been used for analysis. The Appellant had considered the consolidated results in only those cases where the software development services related income of the Indian company constituted more than 75 percent of the consolidated company-wide/ segmental revenues. iii. The learned CIT(A) has erred, in law and in facts, by not accepting the Appellant's plea that companies should not be rejected using employee cost greater than 25% of the total revenues as a comparability criterion. iv. The learned CIT(A) has erred, in law and in facts, by not accepting the Appellant's plea that rejecting companies using export sales less than 75% of the operating revenues as a comparability criterion in respect of the software development services transaction, is not appropriate. 5. The learned CIT(A) has erred, in law and in facts, by upholding the action of AO/ TPO in accepting/ rejecting certai ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 09-10. This ground is not maintainable as no penalty has been levied on the assessee under Section 271(1)(c) of the Act for any cause of grievance to arise in the assessee's case and for us to adjudicate upon in the impugned order. This ground being not maintainable is dismissed accordingly. Transfer Pricing Issues. 10.1 In the year under consideration (i.e. Assessment Year 2009-10), the assessee reported the following international transactions it had entered into with its AE :- Sl.No. International Transactions Amount Rs. 1, Provision of software development services 29,13,15,514 2. Reimbursement of Expenses 1,65,24,195 10.2 The financials of the assessee as per its profit and loss account for the year under consideration are as under :- Operating Revenues Rs.29,13,15,514 Operating Expenses Rs.24,98,99,748 Operating profit Rs.4,14,15,766 Operating Profit on cost % 16.57% 10.3 The assessee undertook a T.P. Study in respect of the ALP of its international transactions with its AE. The assessee characterizing itself as a routine provider of software development services to its AE, took itself as the tested party, and adopted ' TNMM' as the Most ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .40 8. Larsen & Toubro Infotech 24.72 9. Infosys Ltd. 45.61 10. Zylog Systems Ltd. 7.81 11. Mindtree Ltd. 5.52 Arithmetic Mean 24.32 11.2 After providing a negative working capital adjustment of 0.08%, the net adjusted margin was computed at 24.40% on operating cost. The Assessing Officer then proceeded to compute the ALP of the assessee's international transactions with its AE as under :- Software Development Services. Arm's Length Mean Margin on cost 24.32% Less : Working Capital Adjustment (Annex. C) (0.08%) Adjusted Margin 24.40% Operating Cost Rs.24,98,99,748 Arm's Length Price (ALP) @ 124.40% of Operating Cost. Rs.31,08,75,286 Price Received Rs.29,13,15,514 Shortfall being adjustment u/s.92CA Rs.1,95,59,772 The above shortfall of Rs. 1,95,59,772 was proposed as the T.P. Adjustment under Section 92CA of the Act in respect of the software development services segment of the assessee's international transactions. 12. Ground No.5 - Exclusion of Comparables Sought for by the assessee. 12.1 In this ground, the assessee has sought for the exclusion of the following three comparables form the TPO's set of comparables : ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... being product engineering, analytics, cloud and enterprise services. The services offered include:- * Product engineering - outsourced product development, Microsoft Share Point Services, SOA Services and Q&A managed testing services. * Analytic services - includes SAP BOBJ, OBIEE, Big Data, etc. * Cloud services - including cloud applications and platforms, social enterprise, etc. * Enterprise Services - including Oracle implementation services, R12 upgrade services, Oracle Enterprise integration services, etc. * Provides software solutions like Share Tree, Tele Tree, Seema Tree, Apps Scale and MIDAS. 'Outlook' Section of Annual Report at page 15 states that this company has ventured into new areas like business intelligence, speed data management and data clearing operations. 13.3.3 The learned Authorised Representative submits that considering the fact that 'Bodhtree' provides varied business solutions and services as laid out above, it is prayed that it may be excluded from the final list of comparables as it is functionally different from the assessee, in the case on hand, who is a captive software development service provider to its AE. In this regard, the assessee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s Pvt. Ltd. (supra) is in relation to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Following the aforesaid decision of the Mumbai Bench of the Tribunal, we hold that Bodhtree Consulting Ltd. cannot be regarded as a comparable. In this regards, the fact that the assessee had itself proposed this company as comparable, in our opinion, should not be the basis on which the said company should be retained as a comparable, when factually it is shown that the said company is a software product company and not a software development services company." 13.5.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10, we hold that 'Bodhtree' cannot be regarded as a comparable to a software development service provider, like the assessee in the case on hand, as it is a software product company and consequently direct the Assessing Officer / TPO to exclude this company from the final list ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rformance management Suite", "Infosys Trade origination System", "Infosys Transaction Reconciliation System". Company is engaged in significant R&D Infosys is engaged in significant Research & Development (R&D) that has led to creation of significant Intellectual Property (IP). In this regard, the Annual Report reports as below (Page 19, Annexure to Director's Report): "Research and development of new solutions and services, designs, frameworks, processes and methodologies continue to be of top priority for us. The intellectual property (IP) created has led to enhance quality, productivity and customer satisfaction. This year we started focusing on creating significant IP to help the company's non-linear growth strategy." R&D is conducted at the various Software Engineering & Technology Labs (SETLabs) at Infosys. The SET Labs are engaged in R&D in various technologies, which inter alia includes (Page 19-20, Annexure to Director's Report) Next generation of software engineering Convergence of services, network and applications Text analysis, machine learning, symbolic and quantitative approaches to Reasoning and Decision Making, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eport). "We were ranked 14th among the most respected companies in the world by Reputation Institute. We were ranked second in the Global Sourcing list of 100 best performing IT service providers. Hays Group and CEO magazine ranked us among the best companies in the world for leaders. " Infosys is also spending substantial amounts for branding activities. During FY 2008-09, it had incurred an amount of INR 77 crore for brand building and marketing activities, as evident from the relevant screenshot of the Annual Report below: 2.c Selling and marketing expenses. We incurred selling and marketing expenses at 4.6% of our total revenues, compared to 4.7% during the previous year. Rs. In Crore. 2009 % 2008 % Growth Revenues 20,264 100.0 15,648 100.0 29.5 Selling and marketing expenses : Salaries and Bonus 682 3.4 506 3.2 34.8 Overseas travel expenses. 92 0.5 86 0.5 7.0 Brand Building and marketing expenses. 77 0.4 70 0.4 10.0 Commission Charges 21 0.1 14 0.1 50.0 Professional charges 21 0.1 18 0.1 16.7 Others 40 0.2 36 0.2 11.1 Total : 933 4.6 730 4.7 27.8" 14.2.4 T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... TPO, the assessee objected to the inclusion of the company in the set of comparables, on the grounds of turnover and brand attributable profit margin. The TPO, however, rejected these objections raised by the assessee on the grounds that turnover and brand aspects were not materially relevant in the software development segment. 11.2 Before us, the learned Authorised Representative contended that this company is not functionally comparable to the assessee in the case on hand. The learned Authorised Representative drew our attention to various parts of the Annual Report of this company to submit that this company commands substantial brand value, owns intellectual property rights and is a market leader in software development activities, whereas the assessee is merely a software service provider operating its business in India and does not possess either any brand value or own any intangible or intellectual property rights (IPRs). It was also submitted by the learned Authorised Representative that :- (i) the co-ordinate bench of this Tribunal in the case of 24/7 Customer. Com Pvt. Ltd. in ITA No.227/Bang/2010 has held that a company owning intangibles cannot be compared to a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... software products. It is also seen that the break up of revenue from software services and software products is not available. In this view of the matter, we hold that this company ought to be omitted from the set of comparable companies. It is ordered accordingly." The decision rendered as aforesaid pertains to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Respectfully following the decision of the Tribunal referred to above, we hold that Infosys Ltd. be excluded from the list of comparable companies." 14.4.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of CISCO India Pvt. Ltd. (supra) for Assessment Year 2009-10, we hold that 'Infosys' cannot be regarded as a comparable to a captive software development service provider, like the assessee in the case on hand, and consequently direct the Assessing Officer / TPO to exclude this company from the list of comparables. 15. Tata Elxsi Ltd. (Seg.) 15.1 This company selected by the TPO ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re development service segments such as embedded product design services, industrial design and engineering services, systems integrating services, Visual Computing Labs , etc. cannot be regarded as comparable to a pure software development service provider, like is the assessee in the case on hand. At para 26.4 of its order the co-ordinate bench in CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10 has held as under :- " 26.4 Tata Elxsi Ltd.:- As far as this company is concerned, it is not in dispute before us that in assessee's own case for the A.Y. 2007-08, this company was not regarded as a comparable in its software development services segment in ITA No.1076/Bang/2011, order dated 29.3.2013. Following were the relevant observations of the Tribunal:- II. UNREASONABLE COMPARABILITY CRITERIA : 19. The learned Chartered Accountant pleaded that out of the six comparables shortlisted above as comparables based on the turnover filter, the following two companies, namely (i) Tata Elxsi Ltd; and (ii) M/s. Flextronics Software Systems Ltd., deserve to be eliminated for the following reasons : (i) Tata Elxsi Ltd., : The company operates in the segments of softwa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s three sub-segments i) product design services; ii) engineering design services and iii) visual computing labs. 2. The product design services sub-segment is into embedded software development. Thus this segment is into software development services. 3. The contribution of the embedded services segment is to the tune of Rs. 230 crores in the total segment revenue of Rs. 263 crores. Even if we consider the other two sub-segments pertain to IT enabled services, the 87.45% (›75%) of the segment's revenues is from software development services. 4. This segment qualifies all the filters applied by the TPO." Regarding Flextronics Software Systems, the following extract from page 143 of TPO's order was read out by him as his submissions : "It is very pertinent to mention here that the company was considered by the taxpayer as a comparable for the preceding assessment year i.e., AY 2006-07. When the same was accepted by the TPO as a comparable, the same was not objected to it by the taxpayer. As the facts mentioned by the taxpayer are the same and these were there in the earlier FY 2005-06, there is no reason why the taxpayer is objecting to it. How the com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the Delhi Bench of the Hon'ble Tribunal in Haworth (India) Pvt. Ltd. V DCIT 11 ITR (Trib) 757 and the Bangalore Bench of the Hon'ble Tribunal in Triology E-Business Software V DCIT 23 ITR (Trib) 464 without appreciating that in transfer pricing every case is unique and requires to be decided independently and that the directions issued are beyond the mandate of the provisions of Section 251(1)(a) of the IT Act which does not empower the CIT (Appeals) to set aside the issue. 5. For these and such other grounds that may be urged at the time of hearing, it is humbly prayed that the order of the CIT (Appeals) be reversed and that of the Assessing Officer be restored. 6. The appellate craves to add, to alter, to amend or delete any of the grounds that may be urged at the time of hearing of the appeal." 18. The Grounds at S.Nos.1, 5 & 6, being general in nature and not urged before us, no adjudication is called for thereon. 19.0 Grounds at S.Nos.2 to 4 :- Foreign Exchange Gain/Loss. 19.1 In these grounds, the Revenue assails the decision of the learned CIT (Appeals) in the impugned order in holding that foreign exchange gain/loss is operating in nature without appreciat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd therefore there is no reason for its exclusion from the operating revenues for the purpose of calculating the operating margin of the assessee. We find that this proposition has been upheld by a co-ordinate bench of this Tribunal in the case of Mindteck (India) Ltd. in IT(TP)A No.70/Bang/2014 dt.21.8.2014 wherein at para 11 thereof it has been held as under :- "11. We have considered the rival submissions. It is not disputed by the Revenue that the foreign exchange fluctuation has arisen as a result of the realization of the consideration for rendering software development services. It is therefore incurred in the normal course of business and therefore there is no reason why it should be excluded from determining the operating revenue for the purpose of calculation of operating margin. In our view, the analogy drawn by the DRP regarding exclusion of interest expenses while computing operating margins is not proper. In our view, foreign exchange gain on realization of consideration for rendering software development services should be regarding as part of the operating revenue. Following the decision of the ITAT, Bangalore Bench in the case of SAP Labs (supra), we hold that t ..... X X X X Extracts X X X X X X X X Extracts X X X X
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