Tribunal directs recomputation of Arm's Length Price & adjustments for software development

The appeal by the assessee was partly allowed. The Tribunal directed the Transfer Pricing Officer to recompute the Arm's Length Price by excluding specified companies and to consider only the software development segment margin of M/s. Megasoft Ltd. Additionally, the Assessing Officer was instructed to exclude telecommunication charges and foreign currency expenses from both the export turnover and total turnover while computing the deduction under section 10A.

---

---

Issues Involved:
1. Adjustment to the Arm's Length Price (ALP) in an international transaction.
2. Exclusion of certain companies from the list of comparables.
3. Computation of deduction under section 10A of the Income Tax Act.

Detailed Analysis:

1. Adjustment to the Arm's Length Price (ALP) in an International Transaction:
The primary issue was the addition to the total income by way of adjustment to the ALP of an international transaction carried out by the assessee under section 92CA of the Act. The assessee, a wholly-owned subsidiary of M/s. July Systems Inc., U.S.A., provided software research and development support services to its holding company and was remunerated on a cost-plus 15% markup basis. The total value of the international transaction was Rs. 18,61,98,727. The assessee initially adopted the Cost Plus Method in its Transfer Pricing Study (TP Study) to justify the price received as being at Arm's Length. However, the Transfer Pricing Officer (TPO) rejected this method and adopted the Transactional Net Margin Method (TNMM) as the most appropriate method. The TPO arrived at a final set of 26 comparables and determined an adjusted arithmetic mean of 23.36%, leading to a transfer pricing adjustment of Rs. 99,17,111.

2. Exclusion of Certain Companies from the List of Comparables:
The assessee contested the inclusion of certain companies as comparables, arguing that their turnover was significantly higher than that of the assessee, making them incomparable. The Tribunal referenced its decision in the case of Trilogy E-Business Software India Pvt. Ltd. and agreed that companies with turnovers exceeding Rs. 200 crores should be excluded. Consequently, the following companies were excluded:
- Flextronics Software Systems Ltd.
- iGate Global Solutions Ltd.
- Mindtree Ltd.
- Persistent Systems Ltd.
- Sasken Communication Technologies Ltd.
- Tata Elxsi Ltd.
- Wipro Ltd.
- Infosys Technologies Ltd.

Additionally, the Tribunal found that certain companies were not functionally comparable with the assessee, including:
- Avani Cincom Technologies Ltd.
- KALS Information Systems Limited
- Celestial Labs Limited
- Accel Transmission Limited

The Tribunal directed the TPO to recompute the ALP after excluding these companies and considering only the software development segment margin of M/s. Megasoft Ltd.

3. Computation of Deduction Under Section 10A:
The assessee also challenged the exclusion of Rs. 32,29,985 incurred on telecommunication charges and Rs. 71,35,610 incurred in foreign currency from the export turnover while computing the deduction under section 10A. The Tribunal, referencing the decision of the Karnataka High Court in the case of CIT v. Tata Elxsi Ltd., directed the Assessing Officer to exclude these amounts from both the export turnover and the total turnover.

Conclusion:
The appeal by the assessee was partly allowed. The Tribunal directed the TPO to recompute the ALP by excluding the specified companies and to consider only the software development segment margin of M/s. Megasoft Ltd. Additionally, the Assessing Officer was instructed to exclude the telecommunication charges and foreign currency expenses from both the export turnover and total turnover while computing the deduction under section 10A.

---