2013 (11) TMI 772 - AT - Income Tax

Appeal partially allowed: exclusions, adjustments on comparables, working capital, export turnover.

The Tribunal partly allowed the appeal, directing the exclusion of certain comparables due to turnover differences and functional dissimilarities, ... Adjustment of arm's length price - Internation transaction with associated enterprise - Rejection of comparables - Held that:- The TPO has come to a wrong conclusion that 25% employee cost filter is not satisfied by excluding the cost of outsourcing incurred by this company. The fact remains that this company has never outsourced any of the project. The conclusions of the TPO are therefore erroneous. This company is therefore directed to be accepted as a comparable company. From a perusal of the formulae which has been advocated by the OECD shows that unbilled revenues and advance from customers have to be taken into account while working out the working capital adjustment. The TPO's computation as done at page 161 of the order shows that he has not considered the aforesaid items pointed out by the Assessee. We are of the view that it would be just and appropriate to set aside this issue to the TPO and direct him to consider this objection in the set aside proceedings as the same has not been considered by the TPO or the DRP.- AO directed to work out the ALP as per directions - Decided in favour of assessee. Issues Involved:1. Adjustment to the Arm's Length Price (ALP) of international transactions.2. Application of the turnover filter for comparables.3. Exclusion of certain comparables due to functional dissimilarities.4. Calculation of working capital adjustment.5. Reduction of foreign currency travel expenses and telecommunication expenses from export turnover.6. Inclusion of foreign receipts received within the stipulated time in export turnover.Issue-wise Detailed Analysis:1. Adjustment to the Arm's Length Price (ALP) of international transactions:The assessee, an Indian subsidiary of HCL EAI Services Inc., provided offshore software development services to its parent company. The consideration for these services had to be at Arm's Length Price (ALP) as per section 92 of the Income-tax Act, 1961. The assessee's transfer pricing (TP) study identified 28 comparables with an arithmetic mean PLI of 14.53% against the assessee's PLI of 11.4%. The Transfer Pricing Officer (TPO) rejected some of these comparables and identified 26 others, arriving at an arithmetic mean PLI of 23.22%, leading to an addition of Rs. 2,78,19,761 to the assessee's income.2. Application of the turnover filter for comparables:The Tribunal held that companies with a turnover of more than Rs. 200 crores cannot be taken as comparables for companies with a turnover of less than Rs. 200 crores. Accordingly, comparables like Flextronics Software Systems Ltd., iGate Global Solutions Ltd., Mindtree Ltd., Persistent Systems Ltd., Sasken Communication Technologies Ltd., Tata Elxsi Ltd., Wipro Ltd., and Infosys Technologies Ltd. were excluded.3. Exclusion of certain comparables due to functional dissimilarities:The Tribunal excluded several comparables due to functional dissimilarities:- Avani Cimcon Technologies Ltd.: Functionally different due to revenue from software product sales.- Celestial Labs Ltd.: Engaged in research & development and biotechnology products.- KALS Information Systems Ltd.: Involved in software products and training.- Accel Transmatic Ltd.: Engaged in diverse activities including hardware and animation services.- Ishir Infotech Ltd.: Did not satisfy the employee cost filter and had significant related party transactions.- Lucid Software Ltd.: Involved in software product development.- Megasoft Ltd.: Only segmental data for software services was considered relevant.- Thirdware Solutions Ltd.: Required further examination due to unclear functional details.4. Calculation of working capital adjustment:The Tribunal noted that the TPO did not consider 'Advance from customers' and 'Advance recoverable in cash or in kind' while computing the working capital adjustment. The issue was set aside to the TPO for reconsideration, ensuring these items are included.5. Reduction of foreign currency travel expenses and telecommunication expenses from export turnover:In line with the Karnataka High Court's decision in CIT v. Tata Elxsi Ltd., the Tribunal directed that foreign currency travel expenses and telecommunication expenses should be excluded from both the export turnover and the total turnover.6. Inclusion of foreign receipts received within the stipulated time in export turnover:The Tribunal accepted the assessee's argument that export proceeds brought into India within the extended period permitted by the RBI Circular should not be excluded from the export turnover, as per section 10A(3) of the Act.Conclusion:The appeal was partly allowed, with directions to exclude certain comparables, reconsider the working capital adjustment, and adjust the export turnover calculations as per the Tribunal's observations.