Transfer pricing adjustment rejected where idle capacity, fixed costs and comparable margins showed international transactions at arm's length

Transfer pricing adjustment on the assessee's international transactions was held unsustainable because the assessee and its parent operated as independent service providers, and business volumes depended on work secured by the parent. The Tribunal accepted that lower margins resulted from fluctuating revenues, fixed costs, idle capacity, and under-absorption of manpower and infrastructure costs. It also accepted the exclusion of idle fixed expenses in the margin computation and found that the operating margin remained within the permissible range against the arithmetical mean of comparables. The addition was therefore deleted and the transactions were treated as at arm's length.

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Issues: Whether the addition made on account of transfer pricing adjustment in respect of the assessee's international transactions was justified.

Analysis: The Tribunal found that the assessee and its parent company operated as independent service providers and that business volumes depended on work secured by the parent company. It accepted the assessee's explanation that lower margins were attributable to fluctuating revenues, fixed costs, idle capacity and under-absorption of manpower and infrastructure costs. The Tribunal also accepted the assessee's computation excluding idle fixed expenses, and held that the resulting operating margin remained within the permissible range compared with the arithmetical mean of the comparables.

Conclusion: The transfer pricing addition was not sustainable and the international transactions were at arm's length, so the deletion of the addition was upheld in favour of the assessee.

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