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2015 (9) TMI 1398

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..... f the assessee and it is not known as to how the TPO has adopted the relevant figures for comparison. Geometric Limited (Seg.) - The assessee has no objection to the inclusion of this company in the list of comparables. Helios & Matheson Information Technology Ltd. - direct the exclusion of this company from the list of comparables as the assessee is not engaged in software sales unlike Helios & Matheson Information Technology Ltd IGate Global Solutions Ltd. - The assessee has no objection to the inclusion of this company in the list of comparables. Infosys Technologies Ltd. - direct the exclusion of this company from the list of comparables as is a giant company in terms of risk profile, scale, nature of services, revenue ownership of branded/proprietary products, onsite and offshore services, etc., cannot be compared with the assessee. Ishir Infotech Ltd. - exclusion of this company from the list of comparables as functional difference of this company vis-a-vis the assessee. So, the assessee’s objection is upheld. KALS Information Systems Ltd. (Seg.) exclusion from the list of comparables LGS Global Ltd. (Lanco Global Solutions Ltd.) - The assessee has no ob .....

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..... So, we direct its exclusion from the list of comparables. Allsec Technologies Ltd. - uphold the decision of TPO to include this comparable in the list of comparables. Asit C Mehta Financial Services Ltd. (earlier known as Nucleus Netsoft & GIS Ltd., Caliber Point Business Solutions Ltd., HCL Comnet Systems & Services Ltd. and Informed Technologies India Ltd. - we find that in this list of comparables considered by the TPO, the assessee itself had accepted eleven (11) comparables as comparable with that of the assessee. In such a scenario, we are of the opinion that the TPO may take into consideration only those comparables where related party transactions are to the extent of 15% because it is not a case of the revenue that by applying threshold limit of 15%, it will not get sufficient number of comparables. Since we are not entering into any other grounds raised by the assessee against these companies, the other grounds are left open. Eclerx Services Ltd. and Vishal Information Technologies Ltd. - both these companies cannot be compared with the low end service provider like the appellant in this case. Infosys BPO Ltd. - is into high end service to financial industri .....

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..... s of technical experts. - ITA No.5528/Del./2011 - - - Dated:- 18-9-2015 - SHRI J.S. REDDY, ACCOUNTANT MEMBER and SHRI A.T. VARKEY, JUDICIAL MEMBER For The Assessee : Shri Pawan Kumar, Advocate, Shri Rohit Tiwari, CA and Ms. Shruti Khimta, Advocate For The Revenue : Shri Bhaskar Goswami, Senior DR ORDER PER A.T. VARKEY, JUDICIAL MEMBER : This appeal, at the instance of the assessee, is directed against the assessment order dated 07.09.2011 passed under section 143 (3) read with section 144C (5) of the Income-tax Act, 1961 (hereinafter referred to the Act ) in pursuance to the direction of the DRP-I, New Delhi for the assessment year 2007-08. 2. The assessee, Avaya India Private Limited is a subsidiary in India of Avaya International LLC. During the financial year ( FY ) 2006-07, the assessee has provided software development and back office support services to the Associated Enterprises (AEs) under the cost plus model. The assessee has also provided marketing support services to Avaya International Sales Ltd. The assessee s marketing activities include providing information about Avaya Products, customer awareness, etc. 3. The assessee had conducted .....

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..... Operating Profit margin 25% 30.14% Adjustment 8,70,79,955 46,98,948 7. Accordingly, the TPO in the impugned order, proposed a total transfer pricing adjustment of ₹ 9,17,78,903/- (Rs. 8,70,79,955 + ₹ 46,98,948). 8. The DRP excluded Bodh Tree from the comparables and asked TPO to recompute the margin of R Systems. 9. Pursuant to the DRP directions, the AO passed the final assessment order dated 07.09.2011, making a transfer pricing adjustment amounting to ₹ 8,70,79,955/- to software services segment and ₹ 44,11,464/- to back office support services segment. Thus, the total transfer pricing adjustment made in the assessee s case was ₹ 9,14,91,419/- thereby assessing the total income at ₹ 20,03,30,080/- as against ₹ 10,88,38,664/- disclosed by the assessee in the return of income filed on 18.10.2007. 10. The final set of comparables in both IT segment and ITES segment is as follows :- IT SEGMENT Sr.No. Comparable OP / TC 1. Accel Tr .....

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..... OP / TC 1. Accentia Technologies Ltd. (Seg) 30.61 2. Aditya Birla Minacs Worldwide Limited (earlier known as Transworks Information Services Ltd.) 11.98 3. Allsec Technologies Ltd. 27.31 4. Apex Knowledge Solutions Pvt. Ltd. 12.83 5. Appollo Healthstreet Ltd. -13.55 6. Asit C Mehta Financial Services Ltd. (earlier known as Nucleus Netsoft GIS Ltd.) 24.21 7. Caliber Point Business Solutions Ltd. 21.26 8. Cosmic Global Ltd. 12.4 9. Datamatics Financial Services Ltd. (Seg.) 5.07 10. Eclerx Services Ltd. 89.33 11. Flextronics Ltd. (Seg.) 8.62 12. Genesys Internati .....

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..... mpany cannot be compared with the assessee company because it is functionally dissimilar and engaged in the IT and related services and own products; and that segmental data are unavailable, however, was candid enough in stating that this comparable was confirmed in Toluna (supra). We find that in Toluna (supra), the co-ordinate bench while repelling similar objections, held as under :- 17.1. The TPO found this company to be engaged in software development. Notice u/s 133(6) was issued to the company to get complete information. According to the TPO, this company qualified all the filters. The assessee argued before the TPO that this company was into software products and the segmental results were not available. The TPO rejected such contention by relying on the specific information collected from the company u/s 133(6) which divulged that this company was a purely software development company engaged in providing software development and consulting IT services to its clients. This company was concentrating on internet enabled business information systems in a wide range of industries. Resultantly, this company was included in the list of comparables. 17.2. After conside .....

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..... a copy of which is available on record. Thus this company can t be considered as functionally similar to that of the assessee. We, therefore, direct to exclude this company from the list of comparables. The assessee succeeds. In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee s objection is upheld. (iv) Datamatics Ltd. The assessee has no objection to the inclusion of this company in the list of comparables. (v) E-Zest Solutions Ltd. Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and provides diversified services, such as, Design and Development, Feature Enhancement, Product Modernization, Offshore Software Development, Custom Software Development etc. and that segmental data are unavailable. However, the assessee was candid enough in stating that this comparable was confirmed in Toluna (supra). We find that in Toluna (supra), the co-ordinate bench while repelling similar objections, held as under :- 20.1. The annual report of this company was available, but, the functionality was not .....

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..... ant R D activities which resulted in creation of Intellectual Property Rights. According to him, it also fails R D filter as R D is 4.6% of the sales. He submitted that this company develops products and provides software consulting services and segmental data disclosure provides data for products and services as a composite segment and therefore, no bifurcation is available between the two activities. He also submitted that this company has high turnover of approx ₹ 848 crores which is 10 times to the assessee s turnover. He submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 21.1. This company was finding place in the accept/reject matrix of the assessee, but was rejected in the TP study report because it failed R D spend filter. The TPO noticed that the Products and service segment of this company was comparable to that of the assessee. As the product revenue was ₹ 92.1 crore out of the total product and service segment revenue of ₹ 847.2 crore, the TPO held this company to be comparable. The as .....

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..... t this company cannot be compared with the assessee company because it is functionally dissimilar and engaged into diversified businesses and provides various diversified services like Business and technology consulting, application outsourcing, BPO / ITES services, Project Management services, Public Sector services, Maritime Practice services, Enterprise Security Privacy Practice services etc. He submitted that this company also fails on employee cost/sales filter applied by the TPO and it has high A M ratio of 3.52%. He submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 23.1. The TPO noticed from the annual accounts of this company that it was engaged in the software development services and also qualified employee cost filter. The assessee objected to its inclusion by, inter alia, contending that the PLI of this company was incorrectly worked out by the TPO. Correcting this mistake in calculation part, the TPO held this company to be comparable and determined its revised PLI at 36.63%. The DRP upheld the inclusio .....

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..... cale, nature of services, revenue ownership of branded/proprietary products, onsite and offshore services, etc., cannot be compared with the assessee. Our view is fortified by the judgment of the Hon ble jurisdictional High Court in the case of CIT vs. Agnity India Technologies Pvt. Ltd. [(2013) 219 Taxman 26 (Del)] in which Infosys Ltd. has been held to be not comparable to a company that was engaged in the business of development of software for parent company. We, therefore, direct the exclusion of this case from the list of comparables. The assessee succeeds. In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee s objection is upheld. (xi) Ishir Infotech Ltd. Ld. AR contended that this company cannot be compared with the assessee company because the company has an A M / sales ratio of approx. 10% which clearly indicates that it also enjoys a return on account of marketing intangibles and hence, is not comparable to the assessee. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the .....

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..... ailed to point out any functional difference of this company vis-a-vis the assessee. As such, we approve the view taken by the TPO in including this case in the list of comparables. The assessee fails. In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee s objection is upheld. (xii) KALS Information Systems Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company fails on software service revenue filter and has significant revenue from product. This company has no segmental details available. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 27.1. The TPO observed that this company was engaged in Software development and training. As the software products constituted only 3% of its revenue and training revenue constituted 8.56%, the TPO held that this segment of KALS Information Systems Limited was rightly includible. 27.2. After considering th .....

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..... PO to the effect that this company was mainly into software product business having license f such products. The TPO ignored the assessee s submissions despite the fact that sufficient material taken from the website of this company was placed before him in support of the contention. It can be seen from page 192 of the paper book, being Notes to the balance sheet of Lucid Software Ltd., that this company developed software products in-house. The expenditure so incurred on product development has been duly capitalized by Lucid Software Ltd. These facts amply bring out that Lucid Software Ltd. cannot be considered as comparable. We, therefore, direct the exclusion of this case from the list of comparables. The assessee succeeds. In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee s objection is upheld. (xv) Mediasoft Solutions Ltd. The assessee has no objection to the inclusion of this company in the list of comparables. (xvi) Megasoft Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company has undergone sig .....

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..... of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee s objection is upheld. (xvii) Mindtree Ltd. The assessee has no objection to the inclusion of this company in the list of comparables. (xviii) Persistent Systems Ltd. Ld. AR contended that this company cannot be compared with the assessee company because the company has undergone significant restructuring during the relevant FY and the company also derives its income from the sale of software services as well as products. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the coordinate bench while accepting the contentions of the AR, held as under :- 33. After considering the rival submissions and perusing the relevant material on record, we hold that this company also cannot be considered as comparable because of merger of another company into it, which fact is evident from page 196 of the paper book. It can be seen that a subsidiary company was merged into this company pursuant to judgment of Hon ble Bombay High Court w.e.f. 1.4.06. B .....

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..... y dissimilar and engaged in the provision of specialized embedded software development services to the customers. Further, he submitted that the company has termed the services provided by it as unique and nonrepetitive in nature involving development of embedded software for use by the customers. He submitted that this company also fails R D filter. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 39.1. The TPO included this company in the list of comparables by noticing that its Software development and services segment matched with the assessee. On being called upon to explain as to why this company be not included in the list of comparables, the assessee stated that the nature of activity done by this company was different inasmuch as it was engaged in R D activities also which resulted in creation of intellectual property. Not convinced with the assessee s submissions, the TPO included this segment of the company in the list of comparables. 39.2. After considering the rival submissions and perusing t .....

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..... d incurred expenses to the extent of ₹ 63,13,70,75,351 towards the cost of goods sold. He further submitted that during the FY 2006-07, this company had earned a markup of 33.43% on the cost incurred in the IT services and as such, on an approximation, the revenue earned by the company from the sale of products would be ₹ 84,24,37,99,640. He submitted that this company fails on R D filter and substantial turnover and also there is no standalone financial data for FY 2006-07. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 41. After considering the rival submissions and perusing the relevant material on record, we have absolutely no doubt in our mind that this company cannot be considered as comparable to the assessee inasmuch as it is a giant company in terms of parameters discussed above while dealing with the case of Infosys Ltd. The Hon ble Delhi High Court in the case of Agnity India Technologies Pvt. Ltd. (supra) has upheld the exclusion of this company also from the list of comparables on th .....

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..... notice was issued. As per the reply received form the company it has ITES segment which is into medical transcription services and qualifies all the filters applied by the TPO. We find that the TPO has treated the medical transcription segment comparable to that of the ITES back office support of the assessee, which is not correct in view of the Hon ble jurisdictional High Court decision in Rampgreen Solutions Pvt. Ltd. vs. CIT (ITA 102/2015 order dated 10.08.2015) wherein the Hon ble High Court has held as under : 33. The Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra) struck a different cord. The Special Bench of the Tribunal held that even though there appears to be a difference between BPO and KPO Services, the line of difference is very thin. The Tribunal was of the view that there could be a significant overlap in their activities and it may be difficult to classify services strictly as falling under the category of either a BPO or a KPO. The Tribunal also observed that one of the key success factors of the BPO Industry is its ability to move up the value chain through KPO service offering. For the aforesaid reasons, the Special Bench .....

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..... LP of the service rendered and not of a service (higher in value chain) that may possibly be rendered subsequently. 35. As pointed out by the Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra), there may be cases where an entity may be rendering a mix of services some of which may be functionally comparable to a KPO while other services may not. In such cases a classification of BPO and KPO may not be feasible. Clearly, no straitjacket formula can be applied. In cases where the categorization of services rendered cannot be defined with certainty, it would be apposite to employ the broad functionality test and then exclude uncontrolled entities, which are found to be materially dissimilar in aspects and features that have a bearing on the profitability of those entities. However, where the controlled transactions are clearly in the nature of lower-end ITeS such as Call Centers etc. for rendering data processing not involving domain knowledge, inclusion of any KPO service provider as a comparable would not be warranted and the transfer pricing study must take that into account at the threshold. 36. As pointed out earlier, the transfer pricing analy .....

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..... ehta Financial Services Ltd. (earlier known as Nucleus Netsoft GIS Ltd. (iv) Caliber Point Business Solutions Ltd. (v) HCL Comnet Systems Services Ltd. (vi) Informed Technologies India Ltd. As regards the aforesaid four comparables [mentioned at sl.no.(iii) to (vi)], the ld. AR at the outset had objection in the filter used by the TPO of 25% related party transactions. According to him, the ideal situation is that there should be zero related party transactions, however, the related party transactions should be taken the least when there are reasonable comparables available before the TPO. In order to buttress his arguments, he cited the order of the coordinate Bench in the case of Motorola Solutions India Private Limited (supra) wherein the Tribunal had accepted the said contention of the assessee and held as under :- 56. We are in agreement with TPO in principle that this filter is appropriate to eliminate the companies which have controlled transactions and thereby have a significant influence on the margins earned. The TPO in his order has observed that in principle the tax payer has no objection for applying this filter. However, its two main .....

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..... (viii)], The ld. AR at the outset itself pointed out that Eclerx and Vishal are into KPO services. According to him, although KPO services were ITES but the nature of these services were materially different than the services rendered by the assessee. It was asserted that eClerx is engaged in financial services in the nature of account reconciliation, trade order management services and has been rated as a leading KPO by Nelso Hall. It was contended that similarly Vishal was engaged in the services of data analytics and providing data processing solutions to some of the largest brands in the world. Vishal too had been rated as a leading KPO by Nelso Hall. In addition, it was pointed out that whilst the employee costs incurred by Vishal was relatively low and constituted only 2.30% of its total cost during the relevant year, the hire charges, vendor payments constituted almost 87% of the total costs. According to the AR, this evidenced that Vishal s business model was different and Vishal had outsourced significant part of its operations. We have heard both the sides and perused the material available on record. The Hon ble jurisdictional High Court in the case of Rampgreen So .....

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..... view, even Vishal could not be considered as a comparable, as admittedly, its business model was completely different. Admittedly, Vishal s expenditure on employment cost during the relevant period was a small fraction of the proportionate cost incurred by the Assessee, apparently, for the reason that most of its work was outsourced to other vendors/service providers. The DRP and the Tribunal erred in brushing aside this vital difference by observing that outsourcing was common in ITeS industry and the same would not have a bearing on profitability. Plainly, a business model where services are rendered by employing own employees and using one s own infrastructure would have a different cost structure as compared to a business model where services are outsourced. There was no material for the Tribunal to conclude that the outsourcing of services by Vishal would have no bearing on the profitability of the said entity. In the light of the aforesaid decision of the Honorable jurisdictional High Court in the case of Rampgreen (Supra) wherein the it was held that both these companies cannot be compared with the low end service provider like the appellant in this case. (ix) Info .....

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..... e to uphold the Tribunal decision wherein the Tribunal has held that Infosys was a giant company. We have considered the rival submission and perused the material on record and the case-laws cited by both the parties. We find that the Hon ble jurisdictional High Court in the case of Chrys Capital has repelled the exclusion of companies based on turnover provided the comparable is functionally similar. In this case, the submission of the AR that the Infosys BPO is into high end service to financial industries, manufacture and telecom, so on that account it should be excluded cannot be countenanced because we are not able to find any functional dissimilarity with that of the assessee in this case. So, we uphold the action of the TPO to include this company as a comparable. The assessee fails. (x) Maple eSolutions Ltd . (xi) Triton Corp Ltd . Maple eSolutions Triton Corporation, it is mentioned in the report of the TPO that the first named company is carrying on the business of rendering data process services and BPO services. Objection has been raised that the directors of the company were involved in a fraud. This company is a wholly owned subsidiary of Haryana F .....

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..... h the said opinion of the coordinate Bench and we direct to exclude these two companies from the list of comparables. Moreover, we find that in the case of Maple, there has been mergers and acquisitions. In the light of the aforesaid facts regarding acquisition made by this company, we find where there is amalgamation and demerger, then the accounts do not portray the correct picture in the profits due to the merging of accounts. So the financial results cannot be relied upon for the computation of PLI of this comparable. Since the terms of amalgamation is decided on the scheme of amalgamation, which is approved by the High Court, so not necessarily all the items of expenses and income are merging. So, true and correct picture of profitability cannot be ascertained. Therefore, due to extra ordinary events taking place in the instant financial year of this company, we are of the opinion that this company should be excluded from the list of comparables. In view of the above, both the aforesaid companies are directed to be excluded. (xii) Mold Tex Technologies Ltd. The DRP repelled the objections of the assessee and observed that the company has two divisions viz pla .....

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..... jections of the Appellant and observed that only the ITES segment of the comparable was selected for benchmarking purposes and there appears to be no infirmity in the order of the TPO. The Ld. AR submitted that Wipro undertook several acquisitions during the relevant year. To support the contentions, the Ld. AR directed our attention to Annual Report Page 22 and Page nos.61, 62 and 62 of the SPB where the details of these acquisitions have been given in the Annual Report: The relevant extracts of the Annual Report have been reproduced below: Acquisition and Joint Ventures We have continued to pursue the strategy of acquiring businesses which complement our service offerings, provide access to niche skill sets and expand our presence in select geographies. We have a dedicated team of professionals who identify businesses which meet our strategic requirements and are cultural fit to Wipro. The following businesses have joined the Wipro family during the year : 1. US based Quantech Global Services LLC and the India based Quantech Global Services Ltd. for a cash consideration, which includes upfront payment of approximately USD 2 million. 2. CMango Transactions consum .....

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..... nd its subsidiaries Dec. 05 Engaged in providing IT services in payments service sector 6 BVPENTE Beteiligungsverwaltung GmbHand its subsidiaries (New Logic) Dec. 05 Engaged in semiconductor Intellectual Property (IP) cores and complete system on chip solutions with digital, analog mixed signal and Radio Frequency (RF) design services India AsiaPac IT Services and Products 7 India, Middle East and SAARC operations of 3D Networks and Planet PSG Nov 06 Engaged in the business of communication solutions that include consulting voice, data and converged solutions and managed services Consumer Care Lighting 8 Trademark/brand North- West' and assets of North- West Switchgear Limited May 06 The Company acquired a substantial portion of the business and brand of North West Switchgear Limited, a manufacturer and distributor of switches, sockets and miniature circuit breakers Others .....

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..... he risk adjustment and held that the Appellant s objections were general in nature. 15. The Ld. AR placed reliance on para 116 121 of the decision of Motorola Solutions India Private Limited (supra) where the issue was discussed in details. The relevant extracts are reproduced below: Para 116.1 Ld. TPO, after detailed discussion, in respect of various risks claimed by assessee, rejected the assessee s claim for following reasons: 1. The tax payer has not given any details regarding the authority of the above method describing CAPM model for adjustment towards risk. It is not clear whether this type of calculation is acceptable in any tax jurisdiction for the purpose of risk premium adjustments. Its acceptability by any renowned and recognized research institution across the world has also not been shown. The manner in which the risk adjustment is computed by the taxpayer is not followed by any country or organization of international repute like OECD. In fact, even the OECD is reluctant to take the risk adjustment as part of the guidelines as there are divergent views on this issue among the member countries of OECD and many countries feel that there is no straight jack .....

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..... the tax payer assumed that its beta is zero, whereas when the return is guaranteed on sales or cost, the beta is not zero as the return on capital fluctuates with revenue. 8. The taxpayer did not consider the differential risk adjustment i.e. it did not considered the weighted cost of capital of comparables to bring it in line with the taxpayer. 9. The beta of a captive software service provider is not zero as the return on capital fluctuates with revenues as the taxpayer is following cost plus method on expenses. 10. As discussed above, the taxpayer bears significant single customer risk and political/country risk, which may not be compensated adequately by passing on other risks like marketing risks etc. to the parent. Further these risks are not considered in the case of taxpayer while computing the risk adjustment. 11. The taxpayer considered total assets including current assets and current liabilities, but the CAPM hinges upon return on equity or capital employed. The operating assets are the major indictor of capital employed rather than total assets. Operating assets includes fixed assets, trade receivables net of trade payables. 12. The tax payer has assumed .....

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..... nditions, the assessee has not shown how these market risks borne by the independent enterprises had an effect on the price and, thus, on the profits during the F.Y. 2005-06. From these findings of ld. TPO, it is evident that he himself is agreeable that market conditions do influence the independent enterprises. Ld. TPO has denied this adjustment mainly on the ground that associated enterprise and other independent comparables are operating on a similar model i.e. one by establishing its subsidiary in low employee cost zone viz. India and the others by outsourcing their activities to other entities operating in India. Ld. TPO has drawn parity between independent comparables and the assessee on this basis. In our opinion, this reasoning cannot be fully accepted particularly because it is not that all the independent comparables are doing only the work outsourced to them by various AEs. This is only a conjecture on the part of ld. TPO. We, therefore, are of the opinion that market risk, if quantifiable, has to be adjusted in view of Rule 10B(1)(e)(iii) 16. We find force in the contention of the ld. AR that risk adjustment sought by the assessee has not been dealt with as per R .....

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