Appeal partly allowed, remanded for re-computation. Order pronounced on 18th July 2018.

The appeal was partly allowed for statistical purposes, with issues remanded to the Assessing Officer for re-computation and verification as directed. The order was pronounced in the Open Court on 18th July 2018.

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Issues Involved:
1. Reference to Transfer Pricing Officer (TPO)
2. Transfer Pricing (TP) Adjustment for Software Development Services
3. Calculation of Operating Margin (Profit Level Indicator - PLI)
4. Rejection of TP Documentation and Comparability Analysis
5. Elimination of Comparable Companies
6. Inclusion of Certain Comparable Companies
7. Calculation of Adjusted Arm's Length Margin (ALM)
8. Risk Adjustment
9. Benefit of +/-5% Range
10. Disallowance of Deduction u/s 80G
11. Disallowance of Deduction u/s 10AA
12. Initiation of Penalty Proceedings

Detailed Analysis:

1. Reference to Transfer Pricing Officer (TPO):
The assessee contended that the AO erred in referring the transfer pricing issues to the TPO without meeting the preconditions under section 92CA of the IT Act, 1961. The AO should have independently evaluated the TPO's order and provided the assessee an opportunity to be heard before making the reference. The TPO's addition was challenged on the grounds that tax rates in the AE's country were higher than in India, making tax avoidance or profit shifting impossible.

2. Transfer Pricing (TP) Adjustment for Software Development Services:
The TPO made a TP adjustment of Rs. 9,72,84,721/- towards the shortfall of the Arm's Length Price (ALP) in respect to software development services transactions. The assessee's profit margin was 15.96% compared to the comparables' margin of 14.48%, which the assessee claimed was at arm's length.

3. Calculation of Operating Margin (Profit Level Indicator - PLI):
The AO calculated the PLI (OP/OC) at -0.79% instead of the assessee's claimed 25.44%. The assessee argued that deferred revenue expenditure and finance costs should be excluded from the operating cost as per the DRP's directions. The issue was remanded to the AO to re-compute the operating cost in accordance with the DRP's directions.

4. Rejection of TP Documentation and Comparability Analysis:
The TPO rejected the assessee's TP documentation, search process, filters, and comparability analysis, conducting an independent analysis instead. The TPO proposed 19 companies as comparables, which was later reduced to 18 after allowing working capital adjustments.

5. Elimination of Comparable Companies:
The TPO eliminated Akshay Software Technologies Ltd from the final set of comparables without providing the assessee an opportunity to be heard, which the assessee contended was against section 144C(11) of the Act. The company had been considered comparable in earlier years.

6. Inclusion of Certain Comparable Companies:
The TPO included Persistent Systems & Solutions Ltd, Persistent Systems Ltd, and Sasken Communication Technologies Ltd as comparables. The assessee argued these were functionally dissimilar, engaged in software product services, lacked segmental details, had high turnover exceeding 200 crores, and high brand value. The issue was remanded to the AO to adjust the employee cost disparity and re-compute the operating margin.

7. Calculation of Adjusted Arm's Length Margin (ALM):
The TPO calculated the adjusted ALM of comparable companies at 22.75%. The assessee argued that no negative working capital adjustment was warranted and that the interest expenditure should be considered.

8. Risk Adjustment:
The assessee contended that it assumed limited risk as a captive service provider compared to full-fledged risk-bearing comparables. The TPO/AO should have made adjustments to the profit margin of independent comparables to account for differences in functions and risks.

9. Benefit of +/-5% Range:
The assessee argued that the benefit of the +/-5% range, as provided under the first proviso to section 92C(2) of the Act, should have been given.

10. Disallowance of Deduction u/s 80G:
The assessee did not press this ground, and it was rejected as not pressed.

11. Disallowance of Deduction u/s 10AA:
The AO disallowed the deduction u/s 10AA on the grounds of insufficient evidence. The assessee submitted additional evidence (Form No.56F) at the Tribunal, and the issue was remanded to the AO for verification and consideration of the allowability of the deduction.

12. Initiation of Penalty Proceedings:
The assessee's grounds regarding the initiation of penalty proceedings u/s 271G and 271(1)(c) were not pressed.

Conclusion:
The appeal was partly allowed for statistical purposes, with issues remanded to the AO for re-computation and verification as directed. The order was pronounced in the Open Court on 18th July 2018.

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