2015 (7) TMI 212 - AT - Income Tax

Tribunal upholds exclusion of large companies from comparability analysis based on turnover filter, impacting Arm's Length Price calculation.

The Tribunal upheld the decision to exclude large companies from the comparability analysis based on the turnover filter, emphasizing the importance of ... Transfer pricing adjustment - whether DRP erred in holding that the size, turnover and brand of the company are deciding factors for treating a company as a comparable and accordingly erred in excluding M/s. Infosys Technologies Ltd.? - Held that:- The provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables. The assessee’s turnover is ₹ 47,46,66,638. It would therefore fall within the category of companies in the range of turnover between 1 crore and 200 crores. As relying on Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT,[,2011 (8) TMI 952 - ITAT BANGALORE] Rule 10B(2) of the Rules which provides that uncontrolled transaction has to be compared with international transaction having regard to the factors set out therein. We uphold decision of the CIT(A), to exclude the companies I.E. 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.from the list of comparable companies on the basis of turnover and size. The AO is directed to compute the Arithmetic mean by excluding the aforesaid companies from the list of comparable. - Decided against revenue. Issues Involved:1. Turnover filter and its application in comparability analysis for determining the Arm's Length Price (ALP).Issue-wise Detailed Analysis:1. Turnover Filter and Its Application:The primary issue in this appeal revolves around the application of the turnover filter in determining the comparability of companies for the purpose of transfer pricing analysis. The Revenue's sole ground of appeal was that the Dispute Resolution Panel (DRP) erred in excluding M/s. Infosys Technologies Ltd. based on its turnover and size, arguing that these factors should not be decisive in treating a company as a comparable.The assessee, engaged in providing sales, marketing, research, and development services, had an international transaction with its associated enterprise (AE) and thus, the pricing had to meet the arm's length test as per Section 92 of the Income-tax Act, 1961. The Transfer Pricing Officer (TPO) initially chose 11 comparable companies, resulting in an arithmetic mean profit margin of 22.71%. The assessee's operating revenue was Rs. 18.47 crores with an operating profit margin of 6.98%.The TPO applied a lower turnover filter of Rs. 1 crore but did not set an upper limit, leading to the inclusion of large companies like Infosys Ltd. The assessee objected, arguing that companies with turnovers beyond Rs. 200 crores should not be compared with smaller companies like itself. The DRP accepted this objection, referring to the ITAT Bangalore Bench's decision in Genesis Integrating Systems, which adopted the Dun & Bradstreet categorization to classify companies by size. The DRP noted that the economies of scale significantly impact profitability, making it inappropriate to compare companies of vastly different sizes.The Tribunal upheld the DRP's decision, referencing the case of Trilogy E-Business Software India Pvt. Ltd., which emphasized the importance of the turnover filter in ensuring comparability. The Tribunal reiterated that significant differences in size affect comparability and that companies with turnovers exceeding Rs. 200 crores should be excluded from the analysis. This principle is supported by Rule 10B(2) of the Income-tax Rules, which mandates that comparability should consider the specific characteristics and functions of the enterprises involved.The Tribunal dismissed the Revenue's appeal, directing the Assessing Officer to recompute the arithmetic mean by excluding companies with turnovers above Rs. 200 crores from the list of comparables. This decision aligns with the consistent view taken by the Bangalore Benches of the Tribunal in similar cases.Conclusion:The Tribunal affirmed the DRP's decision to exclude large companies from the comparability analysis based on the turnover filter, emphasizing the importance of size and economies of scale in determining the Arm's Length Price. The Revenue's appeal was dismissed, and the Assessing Officer was instructed to recompute the arithmetic mean accordingly.