TMI Blog2020 (2) TMI 1365X X X X Extracts X X X X X X X X Extracts X X X X ..... same is at page 186 to 200 of the Assessee's paper book. No defect whatsoever has been pointed out in these working by the CIT(A). We may also further add that in terms of Rule 10B(1)(e) (iii) of the Rules, the net profit margin arising in comparable uncontrolled transactions should be adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions which could materially affect the amount of net profit margin in the open market. It is not the case of the TPO/DRP that differences in working capital requirements of the international transaction and the uncontrolled comparable transactions is not a difference which will materially affect the amount of net profit margin in the open market. If for reasons given by the revenue authorities working capital adjustment cannot be allowed to the profit margins, then the comparable uncontrolled transactions chosen for the purpose of comparison will have to be treated as not comparable in terms of Rule 10B(3) of the Rules. Keeping with the OECD guidelines, endeavour should be made to bring in comparable companies for the purpose of broad comparison. Therefore the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mparable. On this aspect, we have already referred to the decision of the ITAT Bangalore Bench in the case of Trilogy e-business Software India P. Ltd. [ 2013 (1) TMI 672 - ITAT BANGALORE ] and in the light of this decision and the admitted factual position regarding presence of onsite revenue over and above the threshold limit of 25% of total revenue, we are of the view that this company should be excluded from the list of comparable companies. - IT(TP)A Nos. 2657/Bang/2018 and 2365/Bang/2019 - - - Dated:- 28-2-2020 - N.V. Vasudevan, Vice President and Chandra Poojari, Member (A) For Appellant: Sriram Seshadri, CA For Respondents: CIT (DR) ORDER N.V. Vasudevan, IT(TP)A No. 2657/Bang/2018 1. This appeal by the assessee is against the final order of assessment dated 25.7.2018 of the DCIT, Circle 7(1)(2), Bengaluru passed u/s. 143(3) r.w.s. 144C of the Income-tax Act, 1961 [the Act] relating to assessment year 2014-15. 2. The only issue that arises for consideration in this appeal is with regard to determination of ALP in respect of an international transaction of rendering software development services [SWD services] by the assessee to its Associ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the companies chosen for the purpose of comparison were engaged in multiple business segments and segmental working capital is not disclosed in the annual report. He also held that cost of working capital is different for different companies, depending upon the source of funds and credit standing of the borrower and therefore assumption of prime lending rate as interest rate applicable for making the working capital adjustment would suffer from risks of inaccuracy. 7. The TPO ultimately computed the ALP and consequent addition to the total income of assessee as follows:- 15.4. Computation of Arm's Length Price: 15.4.1 The arithmetic mean of the Profit Level indicators is taken as the arm's length margin. Please see Annexure 'A' for details of computation of PLI of the comparable. Based on this, the arm's length price of the services rendered by the taxpayer to its AE(s) is computed as under: SWD 15.4.2 The above shortfall of ₹ 6922,26,380/- is proposed as transfer pricing adjustment u/s. 92CA in respect of software development segment of the taxpayer's international transactions. No adverse inference is drawn for other transacti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y has derived revenue from sale of products amounting to ₹ 206.75 Crs. Further, there is no revenue from sale of services during the previous year. The assessee has also purchased stock amounting to ₹ 40.21 Crs. While as the assessee company is not engaged into any activity of producing physical goods. page No. 235 of PB-II (b) It is also apparent that the company is receiving revenue from various streams and none of them were pertaining to software development services. As apparent from page 237 of PB-II, the company has received Revenue from training and subscription amounting to ₹ 59.32 lakhs and sale of licenses ₹ 7.98 lakhs. The assessee company is only engaged in ITES. Extraction from page no. 237 of PB-II: (c) It is also apparent from page no. 217 of PB-II that the company has not disclosed segmental details between software development services and products. The relevant portion is extracted hereinbelow for reference:- 34) Segment Reporting The company's cooperation comprises of software development, implementation and support services. Primary segmental reporting is based on geographical areas viz., Domestic = India ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ant period. 11. Since the assessee company is primarily engaged in custom-built mobile applications and software support and maintenance related services to M/s. Kony Group of Companies, we are of the considered view that M/s. Third-ware Solutions Limited cannot be considered as a comparable company because of the reasons stated hereinabove. 11. The ld. DR submitted that the functional profile of the assessee in the present case and that of the case decided by the ITAT Hyderabad Bench in the case of Kony IT Services P. Ltd. (supra) are different. In this regard, it was submitted that the in the decision rendered in the aforesaid case, there is a reference to assessee in that case being engaged in software development services, whereas in the TPO's order in the case of assessee in this appeal, services provided are different. 12. We have considered the rival submissions and are of the view that description of services as mentioned in the TPO's order in the case of assessee in this appeal is akin to software development services and it cannot be said that the functional profile of assessee in this case and that of assessee in the case of Kony IT Services P. Ltd. (su ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... c transaction] entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction [or the specified domestic 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 an arm's length price in relation to the international transaction [or t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the TPG. A revised version of this guidance was approved by the Council of the OECD on 22 July 2010. In paragraph 2 of these guidelines it has been explained as to what is comparability adjustment. The guideline explains that when applying the arm's length principle, the conditions of a controlled transaction (i.e. a transaction between a taxpayer and an associated enterprise) are generally compared to the conditions of comparable uncontrolled transactions. In this context, to be comparable means that: None of the differences (if any) between the situations being compared could materially affect the condition being examined in the methodology (e.g. price or margin), or Reasonably accurate adjustments can be made to eliminate the effect of any such differences. These are called comparability adjustments. 17. In Paragraphs 13 to 16 of the aforesaid OECD guidelines, need for working capital adjustment has been explained as follows:- 13. In a competitive environment, money has a time value. If a company provided, say, 60 days trade terms for payment of accounts, the price of the goods should equate to the price for immediate payment plus 60 days of interest on t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hould be the figures of receivables, inventory and payable at the year end or beginning of the year or average of these figures. (ii) the selection of the appropriate interest rate (or rates) to use. The rate (or rates) should generally be determined by reference to the rate(s) of interest applicable to a commercial enterprise operating in the same market as the tested party. The guidelines conclude by observing that the purpose of working capital adjustments is to improve the reliability of the comparables. 19. In the present case the TPO held that no adjustment should be made to the profit margins on account of working capital differences between the tested party and the comparable companies for the following reasons:- (i) The daily working capital levels of the tested party and the comparables was the only reliable basis of determining adjustment to be made on account of working capital because that would be on the basis of working capital deployed throughout the year. (ii) Segmental working capital is not disclosed in the annual reports of companies engaged in different segments and therefore proper comparison cannot be made. (iii) Disclose in the balance sheet does ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lysis there is always an element of estimation because it is not an exact science. One has to see that reasonable adjustment is being made so as to bring both comparable and tested party on same footing. Therefore there is little merit in TPO/DRP's objection on working adjustment based on unavailable daily working capital requirements data. There is also no merit in the objection of the TPO/DRP regarding absence of segmental details available of working capital requirements of comparable companies chosen and absence of details of trade and non-trade debtors of comparable companies as these details are beyond the power of the Assessee to obtain, unless these details are available in public domain. Regarding absence of cost of working capital funds, the OECD guidelines clearly advocates adopting rate(s) of interest applicable to a commercial enterprise operating in the same market as the tested party. Therefore this objection of the TPO/DRP is also not sustainable. 21. In the light of the above discussion, we are of the view that the revenue authorities were not justified in denying adjustment on account of working capital adjustment. We may also add that the complete working ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... affording opportunity of being heard to the assessee. 24. The TPO/AO is directed to compute the ALP in the light of directions as given above, after affording opportunity of being heard to the assessee. 25. In the result, the appeal of the assessee is treated as partly allowed. IT(TP)A No. 2365/Bang/2019 26. This appeal by the assessee is against the final order of assessment dated 27.9.2019 of the Jt. CIT, Special Range 7, Bangalore passed u/s. 143(3) r.w.s. 144C of the Act relating to assessment year 2015-16. 27. As far as the international transaction and other details are concerned, the facts are similar to AY 2014-15. In AY 2015-16, the assessee filed a TP analysis choosing 12 comparable companies whose average profit margin was 11.82%. The assessee's profit margin was 19.23% computed in the following manner:- 28. Since the profit margin of the assessee was more than the average profit margin of comparable companies, the assessee claimed that the price received in the international transaction was at arm's length. The TPO accepted 3 out of 12 comparable companies chosen by assessee in its TP study viz., CG Vak Software Exports Ltd., E-Zest Sol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sufficiently indicates that the assessee is not a pure SWD services provider. It was also brought to our notice that the profit loss account which is at page 596 read with Notes forming part of the financial statement at page 604 wherein the segmental reporting is not based on different segments and the statement presents a consolidated financial statement without any segmental reporting. This company has also significant RPT transaction of 25% on sales. He pointed out that the TPO DRP on the application of RPT filter has not expressed any opinion. The ld. DR relied on the order of DRP wherein the DRP has made extensive reference to each of the objections regarding absence of segmental revenue in the accounts and has also noticed that the software products segment had an insignificant revenue and that the ownership of intangibles by the assessee has had no effect whatsoever. 33. We have considered the rival submissions. We find that on the question of application of RPT filter, the assessee had made the following submission before the DRP:- 4. Fails the Related Party Transaction to Sales filter applied by the learned TPO In the show-cause notice issued, the learned TP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e expenses do not adversely affect comparability and hence, such plea is rejected. 35. Further, the assessee had also raised plea with regard to onsite revenue filter by pointing out that onsite revenue is substantial and therefore this company should not be regarded as a comparable company with a company which does not have any onsite revenue. In this regard, the ld. counsel for the assessee placed reliance on the decision of the ITAT Bangalore Bench in the case of Trilogy e-business Software India P. Ltd. v. DCIT, ITA No. 1054/Bang/2011 for AY 2007-08 dated 23.11.2012 wherein this Tribunal took the following view:- 64. The next objection of the Assessee is that when the most appropriate method selected for determining ALP is the TNMM there is no reason as to why one should look at price difference in offshore software development and onsite software development. It is no doubt true that in TNMM it is only the margins in an uncontrolled transaction that is tested with reference to the controlled transaction but it is not possible to ignore the fact that pricing will have an effect on the margins obtained in a transaction. The argument that if pricing structure were to be c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ons offshore, due to the reason that the economics and profitability of onsite operations are different from that of offshore business model. As already stated the Assessee has limited its analysis only to functions but not to the assets, risks as well as prevailing market conditions in which both the buyer and seller of services located. Hence, the companies in which more than 75% of their export revenues come from onsite operations are to be excluded from the comparability study as they are not functioning in similar economic circumstances to that of the tax payer. Hence, it is held that this filter is appropriately applied by the TPO. 68. Admittedly the onsite revenue in the case of the following comparable companies identified by the Assessee was more than 75% of its export revenues viz., a) Visu International Ltd. b) Maars Software International Ltd. c) Akshay Software Technologies Ltd. d) VJIL Consulting Ltd. e) Synfosys Business Solutions Ltd. The above companies were therefore rightly not considered as comparable by the TPO. We hold accordingly. 36. It is seen that the TPO in coming to the conclusion that the onsite revenue filter is not applicable has placed relianc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , this distinction is enough to exclude this company from the list of comparable companies as held by the Hon'ble Delhi ITAT in the case of Saxo India Pvt. Ltd. (supra) which decision was also confirmed by the Hon'ble Delhi High Court. 39. The next company which the assessee seeks to exclude is Infosys Ltd. As far as this company is concerned, it is seen that the following are the functional dissimilarities brought to our notice:- Functionally dissimilar - owns intellectual properties, incurs significant R D costs onsite activity. - Engaged in diversified business activities. - Involved in development of software products in addition to software services. - Owns intellectual property rights. - Incurs significant research and development costs. - Carries out significant activities based on onsite business. - Owns products such as Finacle, Edge Verve and other product based solutions. Extra-ordinary event of merger with Infosys Consulting India Ltd. Segmental profit loss account not available. Commands substantial brand value. 40. The DRP, however, has not thought it fit to exclude this company by observing that this company has substa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y, when it is otherwise functionally comparable. On this aspect, we have already referred to the decision of the ITAT Bangalore Bench in the case of Trilogy e-business Software India P. Ltd. (supra) and in the light of this decision and the admitted factual position regarding presence of onsite revenue over and above the threshold limit of 25% of total revenue, we are of the view that this company should be excluded from the list of comparable companies. We hold and direct accordingly. 43. The only other issue that was argued before us is non-granting of working capital adjustment. In this regard, the facts are identical and the reasons for non-granting working capital adjustment are also identical. The assessee has given the working capital adjustment calculations and the same are at pages 265 to 291 of the assessee's PB. These details have not been disputed by the AO as well as the DRP. We are of the view that in the light of the decision rendered on an identical issue while dealing with similar objections raised by the assessee in AY 2014-15, the working capital adjustment should be allowed to the assessee after affording opportunity of being heard to the Assessee. We hol ..... X X X X Extracts X X X X X X X X Extracts X X X X
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