TMI Blog2022 (8) TMI 1193X X X X Extracts X X X X X X X X Extracts X X X X ..... ax Act,1961 ['the Act' for short] dated 30.4.2021. 2. The assessee has raised various grounds of appeal. However, Ld. A.R. has pressed only ground Nos.11 17, which reads as follows:- 11. The Learned AO/Learned TPO/Hon ble DRP erred in accepting companies that ought to have been rejected as comparable: Rheal Software Pvt. Ltd. Larsen Toubro Infotech Ltd. Nihilent Technologies Ltd. Inteq Software Pvt. Ltd. Persistent Systems Ltd. InfoBeans Technologies Ltd. Thirdware Solutions Ltd. Infosys Ltd. Aspire Systems (India) Pvt. Ltd. Cybage Software Private Ltd. 17. The Learned AO/Learned TPO/Hon ble DRP has erred in not allowing appropriate adjustment towards working capital between the appellant vis- -vis the comparable companies. 3. Facts of the case are that the assessee is a wholly owned subsidiary of LG Electronics and provides software development services in the areas such as mobile application development, digital video broadcast and biometrics software etc. 3.1 During AY. 2016-17, the international transactions with its AE are as follows:- International transaction Value (INR) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nal Assessment Order was passed wherein the total TP adjustment stood at INR 32,43,02,300/- Aggrieved, the asseseee approached this Tribunal. 4. In ground No.11, assessee seeks exclusion of following comparables only. Other comparables are not pressed and the assessee also made an endorsement that assessee is not pressing other comparables in this ground. 1) L T Infotech Ltd. 2) Persistent Systems Ltd. 3) Infosys Technologies Ltd. 4) Thirdware Solutions Ltd. L T Infotech Ltd. 5. The Ld. A.R. submitted that similar comparable was considered for exclusion in earlier assessment year 2015-16 in assessee s own case in IT(TP)A No.2412/Bang/2019 vide Tribunal order dated 31.5.2022. 5.1. We have heard the rival submissions and perused the materials available on record. This comparable has been considered in assessee s own case in AY 2015-16, wherein held as under:- 9. The Ld. A.R. submitted that this company has to be excluded from the list of comparables on the following reasons:- L T Infotech is functionally dissimilar and ought to be rejected. No segmental details are available in the annual report and hence the company should be rejected ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . Accordingly, Ld. DRP held it as functionally comparable being a software service provider. 9.3 On the pleas as to presence of brand, Ld. DRP noted that, there is no specific information in the financial statements to indicate that the brand has contributed to revenue growth of the company. On the other hand, the reference in the annual report mentions that the company's efforts to be cost-effective and agile in contributing value to clients have strengthened its brand. In other words, its operational efficiency has contributed to its revenue growth and brand name and not the other way. There is no information to indicate that the brand has impacted the revenue or profit of the company. The intangibles referred in the Asset Schedule represent the computer software, and business rights and as such does not refer to any IPR or license owned by the said company. Certain developments are under way which has not crystallized into an intangible to be a source of revenue. Thus, the assessee has failed to establish that such differences have material effect on the margin of the above company, in terms of clause (i) of sub-rule (3) of Rule 10B, which provides that an uncontrolled ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... profit loss account contains expenditure for cost of bought out items for resale and this is a significant part of the operating expenditure. When we see the revenue in Schedule M of the profit loss account, there is no break-up of the revenue with regard to software services and software product. In our opinion, 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. 9.8 Similar view was taken in the case of Yahoo Software Development India Pvt. Ltd. cited (supra), wherein, L T Infotech Ltd. has been excluded from the list of comparables. Respectfully following the above order, we direct the AO/TPO to exclude L T Infotech Ltd. from the list of comparables. 5.2 The facts in this assessment year are also similar. Being so, following the above order of the Tribunal in assessee s own case, we direct the AO/TPO to exclude this company from the list of comparables. Persistent Systems Ltd. 6. The Ld. A.R. submitted that similar comparable was considered for exclusion in earlier assess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1,533,750 Grand Total 71,445,689 6.2 From the information in the above table Ld. DRP observed that only an amount of Rs.2.25 crore (i.e. 22.5 million) represent income on account of internally developed which constitute 0.18% of operating revenue, and all others license revenue was from distribution or reselling activity. Besides, the company has also categorically clarified in its reply u/s 133(6) that it is engaged in software product development services only. The relevant extract of the reply is as under:- Persistent System Limited is predominantly engaged in the business of providing outsourced software product development services to customers across the globe from following industry verticals: Infrastructure and systems, Telecom and Wireless, Life science and Healthcare and Financial services. The company reports segment information based on the above industry verticals. The nature of services provided that each of these segments differs only in terms of the industry and specific requirements of customers in each of these industries. The essential activity across ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (0.18) 23.68 As at March 31, 2013 1,289.28 542.68 1,831.96 6.6 All these clearly show that the IP related and product revenue pertain to other group entities and does not pertain to M/s Persistent Systems Ltd, which is being compared. It is also relevant to note that this company has clarified in its reply given u/s 133(6) of the Act, that M/s Persistent Systems Ltd is predominantly engaged in the business of rendering software development services; the revenue reported is primarily on account of rendering of software development services only. The relevant extract is as under:- In respect of the information you have requested under 3(a) and 3(c) in respect of software products and innovations, overseas subsidiary companies of Persistent Group have acquire certain Intellectual Property (IP) products and generating some revenue from licencing and support of these products. In case of PSL India, which is predominantly engaged in the business of rendering software development services, the revenue reported is primarily on account of rendering of softwar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iew of the above, Ld. DRP upheld the selection of this comparable. 6.10 Ld. DRP observed that the approach of the TPO in treatment of related party transaction into two sets, are for revenue transactions and other for expense transaction is logical and correct. Further, the RPT filter was adopted by the TPO was with the above conditions and has adopted consistently. Hence, Ld. DRP did not find any infirmity in the approach. Hence, Ld. DRP rejected the assessee's plea. 6.11 In view of the above discussion, Ld. DRP upheld the selection of this company as comparable. 6.12. Against this assessee is in appeal before us. 6.13. We have heard the rival submissions and perused the materials available on record. As rightly pointed out by Ld. A.R., this comparable is considered as not a comparable in the case of Yahoo Software Development India Pvt. Ltd. cited (supra), wherein it was held as under: 32. At the time of hearing, the ld. counsel for the assessee has prayed for exclusion of 4 comparable companies that remain after the order of the DRP viz., Persistent Systems Ltd., Infosys Ltd., Mindtree Ltd. and L T Infotech Ltd. He brought to our notice that as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t is relaxed then companies with predominantly related party transactions would get included which would not represent uncontrolled transactions. Therefore, on a balancing note, 25% is a proper threshold limit for related party transactions. The companies having more than 25% related party transactions should therefore be rejected as comparables. The Hon'ble ITAT has upheld the application of this filter by the TPO in its order in the case of M/s. Supporisoft India Pvt. Ltd for AY 2005- G6 in IT (TP)A 1372/B/11 20/2012 dated 28.03.2013 following its own decision in the case of M/s. Actis Advertisers Pvt. Ltd vide ITA No.5277/De1/2011 dated 12.10.2012. On perusal of the Annual Report of Persistent, we observe that the company has RPT in excess of 25% of the sales. The calculation of the same has been provided below for your ease of reference: RPT to sales ratio for FY 2014-15 particulars Amount (INR Million) Sale of services 2,410.02 Commission received 10.26 Purchase of software 1.49 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... obtained in a transaction. The argument that if pricing structure were to be considered as criteria, then it will have to be seen as to what is the pricing structure of all the comparable for various projects cannot be accepted because the TPO has not chosen any other onsite software service provider with a revenue composition of more than 75% from onsite software services as comparable. As rightly observed by the TPO, the pricing is different in onsite when compared to offshore operations. The further observations of the TPO that the reasons for the same lie in the fact that while in the case of OFFSHORE projects most of the costs are incurred in India; an ONSITE project has to be carried out abroad significantly increasing the employee cost and other costs. 65. The next objection of the Assessee is with regard to Assets employed. The companies, which predominantly generate revenues from onsite activity, do not have significant assets as most of the work is carried on the site of customer outside India. The argument that the TPO has himself observed that software service providers do not require much assets cannot be basis to accept the Assessee s plea. Those observations a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ming to the conclusion that the onsite revenue filter is not applicable has placed reliance on the decision of the ITAT Mumbai Bench in the case of Capegemini as quoted in para 16 in para 14 of the TPO s order, but that decision does not deal with a case of onsite revenue filter and the decision was rendered on the facts of its own case. 37. On the issue of RPT filter, we notice that the TPO in para 16 has accepted that the RPT filter should be @ 25%. In the case of Persistent Systems Ltd., the RPT is at 31.32% as extracted in the earlier part of this order and therefore this company should be excluded by application of RPT filter. In view of the above, we do not wish to go into other grounds on which this company is sought to be excluded viz., that it is a product company and there is no segmental data between product and services segment, presence of onsite activity and the impact of extra-ordinary event of acquisition during the relevant previous year. Therefore, this company is directed to be excluded from the list of comparable company. 6.14 In view of the above order of the Tribunal, we are inclined to direct the AO/TPO to exclude this company Persistent Systems ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nalytic services which is high end and hence, cannot be compared to the assessee. Ld. DRP did not find merit in the plea, as undoubtedly, provision of data analytic services is not functionally different from software development activity. The data analytic services also use only certain software and tools, write codes to perform certain tasks. Like any other software application, these tools also facilitate and enables business enterprises for informed management and decision. Therefore, Ld. DRP did not find merit in the plea. Further, there cannot be any distinction between high end software activity and low end activity, so long as it falls within the purview of software development services. Besides, under the TNMM, such differences are tolerable and there is no requirement that the services / activities performed are identical. It is enough that that the services are similar and fall within the same domain of software development. Accordingly, the pleas raised were rejected by the Ld. DRP. 7.3 It was pleaded by assessee that this company has a huge brand which has contributed to its growth in revenue and hence not comparable. A perusal of the annual report show that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e differences, if any, between enterprises entering into business transactions or likely to materially affect the profit arising from such transactions in the open market. Further, as discussed in para 2.6.2.3 above, the assessee also performs R D functions. Hence, these pleas were rejected by Ld. DRP. 7.5 On the plea as to difference in the scale size of operations and consequent abnormal profits, Ld. DRP noted that turnover does not influence the margins in the service sector: Ld. DRP already held that turnover cannot be a criteria for selection of comparables. In this regard it is relevant to note that the coordinate bench of Bangalore in the case Advice America Software Development Centre Private Limited (in ITA (TP) No. 2531/Bang/2017 dated 23.05.2018 relating to A.Y. 2013-14) rejected the plea of the assessee to exclude a company comparable on the ground of size and level of operations. Hence, these pleas were rejected by the Ld. DRP. 7.6 In view of the above, Ld. DRP upheld this company as comparable to the assessee. 7.7 Against this assessee is in appeal before us. 7.8 We have heard the rival submissions, perused the materials available on record a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... als available on record. As rightly pointed out by the Ld. A.R., this comparable has been considered by the Tribunal on the earlier occasion and directed the AO/TPO to exclude this comparable from the list of comparables by observing as under:- 8. The Ld. A.R. submitted that this company has to be excluded from the list of comparables on the following reasons:- Thirdware is functionally dissimilar and ought to be rejected. No segmental details are available in the annual report and hence the company should be rejected. Thirdware has incurred brand promotion expense. 8.1 The Ld. A.R. for the assessee argued that this company is engaged in sale of products and diversified activities. It was also argued that there is no segmental information for the product and services business and hence cannot be taken as comparable. It was also contended that the company has intangibles and deriving revenue from licensing of software. 8.2 Ld. DRP observed that on perusal of the annual report, Ld. DRP noted that this company is engaged in the business of software development services and software services. (page 116 of annual report), and that the company s op ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... order of the Tribunal cited (supra) we direct the AO to exclude this company from the list of comparables. 8.2 In view of the above order, we direct the AO/TPO to exclude this company from the list of comparables. Ground No.17:- 9. Facts of the case are that the TPO did not allow any working capital adjustment and the Ld. DRP also confirmed the order of the TPO. 9.1 We have heard the rival submissions and perused the materials available on record. The similar issue came for consideration before this Tribunal in the case of Huawei Technologies Ltd. reported in 101 Taxmann.com 313 (Bang Trib) (IT (TP)A No.1939/Bang/2017 dated 31.10.2018), wherein held as under:- 10. The next grievance projected by the Assessee in its appeal is with regard to the action of the CIT (A) in not allowing any adjustment towards working capital differences. On this issue we have heard the rival submissions. The relevant provisions of the Act in so far as comparability of international transaction with a transaction of similar nature entered into between unrelated parties, provides as follows: Determination of arm's length price under section 92C. 10B. (1) For the pur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 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 markets, overall economic development and level of competition and whether the markets are wholesale or retail. (3) An uncontrolled transaction shall be comparable to an international transaction [or a specified domestic transaction] if- (i) none of the differences. if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged or paid in, or the profit arising from, such transactions in the open market; or (ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences. 11. A reading of Rule 10B(1)(e)(iii) of the Rules read with Sec.92CA of the Act, would clearly shows that the net profit margin arising in comparable uncontrolled transactions has to be adjusted to take into account the differences, if any, between ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nefit from an increase in the amount of cash surplus available to invest. In a competitive environment, the cost of goods sold should include an element to reflect these payment terms and compensate for the timing effect. 15. A company with high levels of inventory would similarly need to either borrow to fund the purchase, or reduce the amount of cash surplus which it is able to invest. Note that the interest rate July 2010 Page 6 might be affected by the funding structure (e.g. where the purchase of inventory is partly funded by equity) or by the risk associated with holding specific types of inventory) 16. Making a working capital adjustment is an attempt to adjust for the differences in time value of money between the tested party and potential comparables, with an assumption that the difference should be reflected in profits. The underlying reasoning is that: A company will need funding to cover the time gap between the time it invests money (i.e. pays money to supplier) and the time it collects the investment (i.e. collects money from customers) This time gap is calculated as: the period needed to sell inventories to customers + (plus) the period neede ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 231/120141 61 SOT 40. That decision was based on the factual aspect that the Assessee was not able to demonstrate how working capital adjustment was arrived at by the Assessee. Therefore nothing turns on the decision relied upon by the CIT (A) in the impugned order. In the matter of determination of Arm's Length Price, it cannot be said that the burden is on the Assessee or the Department to show what is the Arm's Length Price. The data available with the Assessee and the Department would be the starting point and depending on the facts and circumstances of a case further details can be called for. As far as the Assessee is concerned, the facts and figures with regard to his business has to be furnished. Regarding comparable companies, one has to fall back upon only on the information available in the public domain. If that information is insufficient, it is beyond the power of the Assessee to produce the correct information about the comparable companies. The Revenue has on the other hand powers to compel production of the required details from the comparable companies. If that power is not exercised to find out the truth then it is no defence to say that the Assessee has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s 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 CIT (A) 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 CIT (A) 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, which provides as follows: (3) An uncontrolled transaction shall be comparable to an international transaction if- (I) none of the differences, if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged to paid in, or the profit arising from, such transactions in the open market; or (ii) reasonably accurate adjus ..... X X X X Extracts X X X X X X X X Extracts X X X X
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