TMI Blog2013 (1) TMI 773X X X X Extracts X X X X X X X X Extracts X X X X ..... cided partly in favor of assessee - IT(TP)A No. 1119/Bang/2011 - - - Dated:- 29-1-2013 - SHRI N BARATHVAJA SANKAR, VICE PRESIDENT AND SHRI GEORGE GEORGE K, JUDICIAL MEMBER For the Appellant: Shri K P Kumar, Sr. Counsel For the Respondent: Shri S K Ambastha, CIT (DR-I), ITAT ORDER PER GEORGE GEORGE K : This appeal, at the instance of the assessee company, is directed against the order of assessment passed under section 143(3) rws 144C of the Act dated 30/9/2011. The relevant assessment year is 2007-08. 2. Briefly stated, the facts are as follows:- The assessee is a company, which is a wholly owned subsidiary of UBiNietics VPT Limited, United Kingdom ('UL'). The assessee company is a captive service provider and is engaged in the business of rendering software development services to its holding company. It had entered into a Research and Development Sub-contracting agreement with its holding company (UL) in terms of which, it had undertaken software development activity solely for UL in the field of wireless communications, Bluetooth technology and cellular 3G protocol solutions. During the financial year relevant to the assessment year 2007- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ,38,784/- The transfer pricing issue before the Tribunal relates to the amounts received by the assessee company on account of software development services, amounting to ₹ 27.74 crores. With regard to the other receipts Page 4 of 26 4 IT(TP)A No.1119/Bang/2011 and payments mentioned above, no adjustments were made to the International transaction with the AE. 3.1 The assessee company, in order to justify its transfer pricing study, had adopted Transaction Net Margin Method (TNMM) as the most appropriate method and selected 17 companies as comparables. The operating/net margin of the assessee was arrived at 13.22%, which was inclusive of the gains of ₹ 86,96,431/- on account of foreign exchange fluctuation. With reference to the comparable companies, the data for the years 2005, 2006 and 2007 was taken and the arithmetical mean of the net margin was arrived at 10.86%. Therefore, according to the assessee company, since its margin was at 13.22% and that of the comparables being at 10.86% the price at which the assessee had entered with its AE was at Arms Length Price (ALP). 3.1.1 The details of the net margin on cost earned by the assessee company, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... NA NA 14 V K Softech Limited 16.33% 1.49% NA 8.91% 15 VJIL Consulting Limited 8.26% 9.86% NA 9.06% 16 Visualsoft Technologies Limited 16.10% 13.29% NA NA 17 Bodhtree Consulting Limited 26.47% 17.18% NA 21.83% Arithmetic Mean 11.03% 10.46% 13.55% 10.86% 3.1.2 When the matter was referred to the TPO, the TPO undertook his own study and accepted certain filters adopted by the assessee company. The methodology adopted by the TPO was the same as that of the assessee, namely, TNMM. Twenty-six companies were selected as comparables by the TPO and the arithmetical mean of the comparables was fixed at 25.14%. After providing for the working capital adjustment, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 19 Quintegra Solutions Ltd 12.56 10.99 20 R S Software (India) Ltd 13.47 14.83 21 R Systems International Ltd(Segment) 15.07 14.95 22 Sasken Communication Technologies Ltd(Segment) 22.17 22.66 23 S I P Technologies Exports Ltd 13.90 12.45 24 Tata Elxsi Ltd (Segment) 26.51 27.69 25 Thirdware Solutions Ltd. (Segment) 25.12 23.09 26 Wipro Ltd (Segment) 33.65 35.89 Arm's Length Mean Margin 25.14 Less: Working Capital Adjustment 0.43 Adjusted mean margin of the comparables 24.71 Operating Cost Arms Length Margin ( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tion of ₹ 86,96,431/- as part of its operating revenues in computing its margin (page 1187 of paper book), the TPO excluded the said gain from the operating revenue of ₹ 28,61,70,306/- on the ground that foreign exchange fluctuation gains would not form part of operating revenue. He therefore arrived at an operating income of Rs. ₹ 27,74,73,875/- and computed the margin of the Appellant to be 9.78% instead of 13.22% as computed by the Appellant in its TP report. Computation of net margin on cost as done in the TP Report and by the TPO is as under: As per TP report As per TPO Operating revenues ₹ 28,61,70,306/- ₹ 27,74,73,875/- Operating Expenses Rs.25,27,43,515/- ₹ 25,27,43,515/- Operating Profit (Op. revenue -Rs.3,34,26,791/- ₹ 2,47,30,358/- Op. Expenses) Operating/Net margin (OP/TC) 13.22% 9.78% The TPO did the same while arriving at the final transfer pricing adjustment of ₹ 3,77,22,565/- as well (refer page 455 of the paper book). It is submitted that gains on account of foreign exchange fluctuation are an integral part of sale proceeds and cannot be excluded in computing the operating margin o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he TP adjustment made by the TPO is liable to be set aside. 3.2.1 On the other hand, the learned D R had supported the findings of the authorities below. It was, further, submitted that the learned TPO had analyzed the various factors, as recorded in his order u/s 92CA of the Act, to arrive at a conclusion that the assessee's international transactions had resulted in an adjustment to the extent of ₹ 3,77,22,656/- which has been duly sustained by the DRP in its directions u/s 144C of the Act. It was, therefore, pleaded that there was no infirmity in the order of the AO warranting any interference of this Bench. Page 11 of 26 11 IT(TP)A No.1119/Bang/2011 3.2.2 We have heard the rival submissions and perused the materials on record. Before we proceed to consider the issues, it is to be mentioned that the line of business of the assessee in this case and that of three case laws (Trilogy, Telecordia 24/7 Customer) are similar, namely, development of software and the size/turnover was also similar to that of the assessee in the instant case. Moreover, the assessment year 2007-08 was subject matter of consideration in the case of Trilogy E-Business Software India Pvt. Ltd. an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e 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 various benches of the Tribunal, when companies which are loss making are excluded from comparables, then the super profit making companies should also be excluded. For the purpose of classification of companies on the basis of net sales or turnover, we find that a reasonable classification has to be made. Dun Bradstreet is more 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 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 crores only should be taken into consideration for the purpose of making TP Study. 3.3.2 The above view has been followed in the recent order of the Tribunal in the case of Trilogy E -Business (supra). The relevant findings of the Tribunal are extracted as under: 20. In this regard we find that the provisions of law ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as under: 50. We have considered the submissions and are of the view that the plea of the assessee that the aforesaid company should not be treated as comparables was considered by the Tribunal in Capgemini India Ltd (supra) where the assessee was software developer. The Tribunal, in the said decision referred to by the ld. counsel for the assessee, has accepted that this company was not comparable in the case of the assessees engaged in software development services business. Accepting the argument of the ld. counsel for the assessee, we hold that the aforesaid company should be excluded as comparables . B. Avani Cimcon Technologies Ltd: The selection of this company as comparable by the TPO was rejected by the earlier Bench of the Tribunal in Trilogy E-Business for the reasons that- 41. We have given a careful consideration to the submissions made on behalf of the Assessee and are of the view that the same deserves to be accepted. The reasons given by the Assessee for excluding this company as comparable are found to be acceptable. The decision of ITAT (Mumbai) in the case of Telcordia Technologies Pvt. Ltd. v. ACIT (supra) also supports the plea of the assessee. We ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lify as comparables in the case of the assessee under consideration. It is ordered accordingly. E) Lucid Software Limited 3.4.2. The above company has been rejected as comparable in the case of Telcordia Technologies Pvt. Ltd. v. ACIT (supra). The submissions and the finding of the Hon'ble Mumbai Tribunal is reproduced below:- 7.2 Lucid Software Limited: It has been submitted before us that this company, besides doing software development services, is also involved in development of software product. The learned AR has tried to distinguish by pointing out that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received in response to notice under section 133(6), the company has described its business as software development company or pure software development service provider. This information itself is very vague as the segmental details of operating revenue has not been made available to examine how much is the ratio of sale from software product and sale of software service and development. Looking to the fact that i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .5. The above companies have been retained as comparables in conformity with the findings of the earlier Bench in the cases of Trilogy E-Business and Telcordia Technologies Pvt. Ltd. (supra). It is to be noted that in the case of Trilogy E-Business, the Tribunal turned down the plea of the assessee that M/s. Megasoft Ltd should be rejected as comparable. However, the Tribunal accepted the alternative submission of the assessee that the segmental profit margin is to be reckoned with instead of entity level margin and held that the profit margin of 23.11% which is the margin of the software service segment be taken for comparability. The discussion and the findings of the Bench with regard to the acceptance of the alternative submission of the assessee to adopt the segmental margin of 23.11% are reproduced below: 37. The next plea of the Assessee is that if at all this company is considered as a comparable then the segmental margin of 23.11% (which is the margin for software service segment) alone should be considered for comparability. On the above submission, we find that the TPO considered the segmental margin (Software service segment) in the case of Geometric, Kals Info syst ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ccurate adjustments can be made to eliminate the material effects of such differences. 38. Neither the TPO nor the DRP have noticed that there is bound to be a difference between the Assessee and Megasoft and the profit arising to the Megasoft as a result of the existence of the software product segment and no finding has been given that reasonably accurate adjustments can be made to eliminate the material effects of such differences. For this reason, we are inclined to hold that the profit margin of 23.11% which is the margin of the software service segment be taken for comparability........... . 3.4.6 In conformity with the findings of the earlier Bench (supra), we are of the considered view that the TPO was justified in selecting M/s. Megasoft Ltd as comparable. However, the AO/TPO is directed to take segmental margins of 23.11% for comparability. It is ordered accordingly. (iii) Related party transaction: 3.5 Ishir Infotech Limited: The assessee had objected to the inclusion of Ishir Infotech Limited as a comparable being related party transaction in excess of 15% of total sales/revenue. The TPO had set a limit of 25% on the related party transaction. According to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dinate Bench order of the Tribunal in the case cited supra, we direct the Assessing Officer/TPO to exclude, after due verification, those comparables from the list with the related party transactions or controlled transactions in excess of 15% of the total revenue for the financial year 2006-07. It is to be mentioned here, Geometric Ltd. is also to be removed from the comparable list, since that company was having RPT at 19.98% (going by assessee's own calculation), however, no argument was raised for its exclusion by the assessee, probably, on account of low margin of Geometric Ltd. (iv) Foreign Exchange gain/loss impact 3.6 The Tribunal in the case of Trilogy E-Business had directed that the foreign exchange gain or loss should be considered as operating revenue or cost while computing the operating margin of the asssessee as well as the comparable. The relevant finding of the Tribunal read as follows: 79............................................................................................................ (B) .............................................................................................. As far as foreign exchange gain/loss being consid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on 10A of the Act was reduced by ₹ 91,394/-. 4.1 Before us it was submitted by the learned AR that the issue in question is squarely covered by the judgment of the Hon'ble jurisdictional High Court in the case of CIT v Tata Elxsi Ltd. (2012) 349 ITR 98 (Kar.). 4.2 The learned DR was unable to controvert the submissions made by the learned AR. 4.3 We have heard the rival submissions and perused the materials on record. The Hon'ble jurisdictional High Court in the case cited supra had held that when the expenses are reduced from the export turnover while computing deduction under section 10A of the Act, the same should also be reduced from the total turnover in order to maintain parity between the numerator and the denominator. In the light of the above judgment, we direct the Assessing Officer to reduce a sum of ₹ 8,15,037/- from the export turnover as well as from the total turnover while computing deduction under section 10A of the Act. It is ordered accordingly. 5. In the result, the assessee's appeal is partly allowed as indicated above. The order is pronounced on the 29th day of January, 2013 at Bangalore. - - TaxTMI - TMITax - Income ..... X X X X Extracts X X X X X X X X Extracts X X X X
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