2025 (7) TMI 1728 - AT - Income Tax

Revenue appeal dismissed for excluding non-comparable companies in transfer pricing under relevant functional analysis

The Assistant Commissioner of Income Tax, Circle – 1 (1) (1), Bangalore Versus M/s. Acuity Knowledge Centre (India) Pvt. Ltd.

The ITAT Bangalore upheld the CIT(A)'s exclusion of several companies from the comparable set for transfer pricing adjustment due to functional ... TP Adjustment - comparable selection - Assessee is ITeS company - functional dissimilarity - HELD THAT:- Acropetal Technologies Ltd. company is functionally different since the company rendered services in the nature of high end ITeS / KPO services whereas the assessee is doing only Information Technology enabled Services. Further, the said company is functionally dissimilar to the assessee company since the engineering design segment selected by the TPO is in the nature of KPO. Further, the company also renders services comprising of enterprise solutions, IT infrastructure management services, cloud services, green house gas management etc. whereas the assessee is doing only the Information Technology enabled Services (ITeS) and therefore the said company cannot be compared to the assessee’s company. We have also perused the annual report of the Acropetal Technologies Ltd. and in the annual report, the said company had given the segment-wise revenues and also it was mentioned that the company had acquired two companies in USA and the key services are engineering design services, healthcare, enterprise solutions and IT infrastructure solutions. Therefore the activities done by the said company cannot be compared with the assessee company Accentia Technologies Ltd. company is developing their own EMR software rather than depending on third party offerings and propose to market the same all over US. Further, in the annual report, it was mentioned that the company realised that the adoption of EMR based clinical practice is opening up avenues for an integrated end to end Software as a Service (SaaS) model of service delivery. The annual report also says that the company had invested large amount in the development of EMR software and SaaS model and marketing of the same in the US. Therefore apart from the medical transcriptions, the said company is doing other development of software which will be very useful to the doctors and therefore the said company could not be taken as a comparable to the assessee company for the purpose of arriving the arms length price.CIT(A) considered the said facts and also followed the earlier orders of this Tribunal and on that basis, the CIT(A) has rightly excluded the company from the comparables. ICRA online Ltd company is rendering services in three segments and in fact, the exact nature of the services rendered by the said company are not available. Further, as seen from the three segments, i.e. the information services, software services and outsourced services, it seems that the said company is in the service of KPO and therefore the said company is functionally different. M/s. Infosys BPO Ltd.company is having a high brand value and they are market leader and therefore the said company could not be taken as a comparable. M/s. Jeevan Scientific Technology Ltd. company is a functionally different company and their margins are fluctuated very widely and they also fail in the export earning filter - company is liable for exclusion not only based on the wide fluctuation profit margin but also on different reasons which includes the functional differentiation and the failure in the turnover filter and also failure in the export earning filter. The entire facts were considered by the Ld.CIT(A) and the said company was excluded on various factors. M/s. iGate Global Solutions Ltd. company is functionally different since they are engaged in development of software and ITeS. We have also gone through the annual report of the said company in which the annual turnover of the said company is Rs. 1184 crores which is very high when compared with the assessee company. Therefore, considering the entire facts, the CIT(A) had excluded the said company. Appeal filed by the revenue is dismissed. ISSUES: Whether a narrow interpretation of functional similarity in selecting comparables for transfer pricing is appropriate, particularly when excluding companies with minor variations or ancillary services.Whether exclusion of companies engaged in multiple segments or providing ITeS/KPO services is justified based on functional dissimilarity.Whether exclusion of comparables on grounds of margin fluctuations without demonstrating extraordinary or non-recurring events is correct.Whether reliance on single-year data instead of multiple-year data for comparability analysis aligns with transfer pricing guidelines.Whether prioritizing margin stability over functional comparability in selecting comparables is legally sound.Whether turnover differences alone justify exclusion of comparables absent evidence that turnover impacts profitability.Whether exclusion of comparables due to absence of segmental data is justified when functional comparability exists.Whether exclusion of comparables due to extraordinary events such as mergers and acquisitions is appropriate without considering functional comparability.Whether the transfer pricing officer and appellate authority correctly applied filters and precedents in excluding specific comparables. RULINGS / HOLDINGS: The court upheld the exclusion of comparables that were functionally dissimilar, emphasizing that 'functional comparability is the cornerstone of transfer pricing analysis' and minor variations or ancillary services do not suffice to include companies that differ materially in core functions.Companies operating in multiple segments or providing high-end Knowledge Process Outsourcing (KPO) services were excluded as not comparable to routine ITeS/BPO service providers, consistent with prior Tribunal decisions.Exclusion of comparables based on margin fluctuations was upheld where such fluctuations indicated 'peculiar circumstances influencing the profit margin' and no 'extraordinary or non-recurring events' were demonstrated to justify inclusion.The use of single-year data without considering long-term performance was found inadequate as transfer pricing guidelines and judicial precedents recommend multi-year data to accommodate natural business cycles.The court rejected the approach of prioritizing margin stability over functional comparability, referencing precedent that 'functional comparability takes precedence over financial indicators like margin consistency.'Turnover differences alone do not mandate exclusion unless turnover has a direct impact on profitability; however, in cases where turnover was significantly disproportionate and associated with brand value or peculiar economic circumstances, exclusion was justified.Absence of segmental data justified exclusion when companies were functionally dissimilar or had diverse operations without clear segmental breakups, preventing accurate comparability analysis.Exclusion of comparables due to extraordinary events such as mergers and acquisitions was upheld where such events materially affected margins and no reasonable adjustments could be made to neutralize their impact.The filters and precedents applied by the Transfer Pricing Officer and CIT(A) in excluding specific comparables were affirmed as consistent with established jurisprudence and statutory provisions. RATIONALE: The court applied the Transfer Pricing provisions under the Income Tax Act, specifically section 92CA, and adhered to the principles of comparability analysis based on Function, Assets, and Risks (FAR analysis).Precedents from the jurisdictional ITAT Bangalore bench and relevant High Court decisions were extensively relied upon to interpret functional comparability, turnover relevance, margin fluctuations, and the treatment of extraordinary events.The court emphasized that 'not two companies can ever be same' but comparability requires substantial similarity in core business functions, rejecting attempts to find an 'exact replica' for arm's length price determination.Guidelines and judicial decisions mandate the use of multiple-year data to smoothen natural fluctuations and business cycles, and functional comparability must take precedence over financial metrics like margin stability.Exclusion of comparables with significant brand value, high turnover, or peculiar economic circumstances such as acquisitions was supported by the inability to make reasonably accurate adjustments to neutralize their impact on profitability.The court noted that segmental data absence is a valid ground for exclusion if it impedes proper functional analysis, especially when companies have diversified operations.The decision reflects a doctrinal consistency in transfer pricing jurisprudence, affirming the primacy of functional comparability and a pragmatic approach to selecting comparables rather than rigid or overly narrow filters.