TaxTMI 
TaxTMI 
2013 (2) TMI 607
X X X X Extracts X X X X
X X X X Extracts X X X X
....05, grounds No.1 to 7 are against (a) the reference made by the AO to the Transfer Pricing Officer (TPO) u/s 92CA of the Income-tax Act for the determination of the ALP by rejecting the TP study made by the assessee; (b) the order of the TPO holding the assessee to be a Service Provider, working on Research and Development and not Software Development as claimed by the assessee; and (c) rejecting the assessee's comparables and conducting his own study and selection of comparables. 4. For the assessment year 2005-06, grounds No.1 and 2 are also against the rejection of TP study conducted by the assessee and upholding the transfer price study conducted by the Transfer Pricing Officer. 5. For the assessment year 2006-07, the grounds of appeal Nos1 and 2 are against the order of the DRP in upholding the draft assessment order in spite of it being passed - (1) in violation of principles of natural justice; (2) not fulfilling the conditions for making a reference u/s 92CA of the Income-tax Act; and (3) failing to demonstrate that the assessee's motive was to shift the profit outside India and in upholding the TPO's order in maki....
X X X X Extracts X X X X
X X X X Extracts X X X X
....bsp; Metallurgy & Ceramics (h) Manufacturing & Business Process (i) Mechanical Systems (j) Polymer and other material sciences (k) Or any other areas mutually agreed. 9. As per the services agreement dated 1.12.2003, it has to provide the following services to the party making such request - * Identify business opportunities for overseas customers business (of AE) for sourcing research & development/other services from GEITC (the assessee) in the following areas - (a) Controls & Software (b) Propulsion Rotating Equipment (c) Tier II engine (d) Diesel Engine COE (e) Loco Modernization & Requisition Systems (f) Drafting (g) Cooling systems (h) New Product Introduction (i) Remote Monitoring & Diagnostics (j) Cores Engineering (k) E-Engg-Analysis (l) Or any other areas to be mutually agreed. 10. From the perusal of above agreements, the TPO observed that the tax payer is doing the research and development activities and the end ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....S (Ready to Serve) programs. Inputs along with the clear deliverables are discussed before the beginning of the financial year and appropriate investments including software tools are committed. 6. The general process employed in carrying out the said research and engineering services using computer aided technology includes - (a) Study the existing product capabilities/engineering/chemical/manufacturing process; understand the requirement for enhanced features/improved processes and work on modeling using software tools and deliver the desired results in the form of revised engineering design/drawings, analysis reports in the form of customized electronic data; (b) Collect existing data for the above purpose of analysis and building engineering models using simulation techniques and high-end software tools; (c) Primary and detailed designing using computer aided design tools; and (d) Testing the design at the actual environment. 11. In order to verify the exact nature of assessee's activities, the TPO also searched the web site of the tax payer and observed that the assessee is basically carrying out the research and developmen....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... from the website do not speak of software development and, therefore, the enterprises developing software cannot be used as comparables. As regards the risk free environment in which the assessee claimed to be working, he held that the risk of success and failure is common to any R & D undertaking and, therefore, there is no difference in the risk level of the assessee and the comparables chosen by the TPO. As regards the assessee's contention that the assessee should be considered as ITES company as it is so treated by NASSCOM, he held that the comparable companies are to be identified on the basis of the functions carried out by the assessee and not on the basis of the category considered by NASSCOM. 14. Pursuant to the TPO's direction, the assessee also had done a fresh search with an emphasis primarily on the functions performed i.e IT enabled engineering services and research and development. It also considered the contemporaneously available data in the data base. On the basis of the said search, the assessee arrived at 10 comparables which are functionally similar to that of the tax payer and are in the software industry. The TPO however held that the assessee is again l....
X X X X Extracts X X X X
X X X X Extracts X X X X
....assessee's activities, the learned counsel for the assessee submitted that the assessee is exporting the computer programs, customized electronic data and engineering analysis and designs. He submitted that the TPO, has, without any basis completely disregarded the detailed explanation provided by the assessee as being involved in Software Development and not as 'Research and Development'. According to the learned counsel for the assessee, the assessee is a software development company and, therefore, companies which are involved in the business of software development only are to be considered as comparables for the purposes of computing the ALP. 17. The learned DR however submitted that the assessee is engaged in contract research and development activity and derives income from foreign principals/associated enterprises and merely because the result of such research and development is delivered to its AE's in customized electronic data, it would not make the nature of services as software development. Thus according to him, the TPO has rightly treated the assessee as engaged in contract research and development, technical engineering services and accordingly selected the relev....
X X X X Extracts X X X X
X X X X Extracts X X X X
....w-cause notice issued by the TPO, Vimta Labs and Celestial Labs did not find place, but in the final TP order, these two companies have been considered as comparables and their margins considered which is in violation of principles of natural justice. He submitted that the assessee has raised its objections before the DRP which only confirmed the order of the AO holding that assessee's objection to these comparables were considered by the TPO in the earlier assessment years. According to the ld. counsel for the assessee, Vimta labs and Celestial Labs are not at all comparable to the assessee for the following reasons : (1) They are diversified companies engaged in dissimilar activities like earning income from franchisee model and products. (2) No separate segment reporting is available in their annual report and even otherwise also, their margins cannot be adjusted to make them comparable with the assessee. (3) The assessee is working in risk free atmosphere, whereas Vimta Labs and Celestial Labs are facing various risks that cannot be quantified or adjusted. 21. The learned counsel for the assessee has drawn our attention to the methods prescribed for dete....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ng reasons : (I) Functions Performed : (1) Vimta is a clinical trial company and is engaged in conducting testing of new pharmaceutical drugs on humans and animals to study the effects of drugs, side effects associated with increasing doses, and, if possible, to gain early evidence on their effectiveness. (2) Vimta Labs maintains a database of 20,000 healthy male and female volunteers to conduct clinical trials. (3) It has so far conducted over 600 bio-availability and bioequivalence studies and clinical trials involving more than 120 drugs. (4) It has a state of the art barrier maintained animal facility designed to conduct experiments using rodents, rabbits and beagle dogs. (5) It has entered the scheme of Clinical reference laboratory services in 1999 and offers more than 600 laboratory tests for clinical programs and also provides diagnostic services such as lipid profile, diabetes, kidney, anemia, HIV and hepatitis tests etc., (6) It works on franchisee model; (7) It focuses on analytical studies to check water and food quality, and on testing for effectiveness and drugs to meet the requirements under the ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ars, according to the learned counsel for the assessee, it should be excluded from the list of comparables. 25. As regards the adoption of Celestial Labs as a comparable, the learned counsel for the assessee submitted that it is also functionally different from the assessee because of the following features : (a) Celestial Labs is into development and manufacture and distribution of bio and IT products; (b) Development and manufacture of molecules and enzymes ; (c) Clinical research and trial business; (d) On line portal for live ayurvedic consultation and trading of herbal products - Sanjivini; (e) Contract manufacturing of pharmaceutical products such as creams, lotions, tablets, syrups and capsules.; (f) SAP implementation services; and (g) It has already been licenced 55 herbal products for manufacturing. Some of the products include Bioliv syrup, Cel-digest syrup etc. 26. He submitted that it is evident from the annual report of Celestial Labs for the assessment year 2006-07, that it is a product driven company. He submitted that Mumbai bench of this Tribunal in the case of Tevapharm (P.) Ltd. v. Addl. CIT [2....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e provider working on research and development and also doing engineering analysis and the results of which are captured/computerized and transferred through electronic media, which are merely means of delivery to the AE. 30. As regards the adoption of Vimta Labs as a comparable, he submitted that the assessee is into contract 'Research and Development' as in the case of Vimta and Celestial Labs and, therefore, they are comparable companies. 31. As regards the reliance by the learned counsel for the assessee on the decision of the Tribunal in the case of Tevapharm (P.) Ltd. (cited Supra) for exclusion of Celestial Labs from the list of comparables, the ld. DR submitted that the same is distinguishable on facts as in the said case it was directed to be excluded on the ground that Tevapharm was a pharmaceutical company whereas Celestial was dealing with IT related services where as in the case before us, the assessee was also dealing with IT related services as well as engineering services. Hence, according to the DR, even applying the decision of the Tribunal in the case of Tevapharma, Celestial is comparable to the assessee on the basis of its functions. 32. Having heard b....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ssessee that the functions are synonymous with or analogous to the industry and the comparable companies have to be from the same industry for comparability analysis under TNMM is not in tune with the principles enunciated by the guidelines of OECD or United Nations Manual which advocate that under TNMM only broad functional and product comparability is to be considered as net margins are less influenced by differences in products and functions. 34. As per the principles of comparability, controlled and uncontrolled transactions are regarded as comparable if their economically relevant attributes and the circumstances surrounding them are sufficiently similar to provide a reliable measure of an arm's length result. However, in reality, two transactions are seldom completely alike. To be comparable does not mean that the two transactions are necessarily identical, but that either none of the differences between them could materially affect the arm's length price or, where such material differences exist, then reasonably accurate adjustments can be made to eliminate their effect. It is important to note that the type and attributes of the comparables available in a given situation....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e and intangible assets and the assets/sales ratio is substantially higher. Being an entrepreneurial company, it assumes significant risks and also has high liability risk due to human involvement and life threatening nature of the clinical trials. The assessee's contention that it is a clinical trial company is only partly true. As the TPO has mentioned, it is into multi-disciplinary research services. It provides contract and research testing services in other areas like analytical testing and environment monitoring and impact assessment. While the assessee has totally ignored these activities of the company, the TPO has not examined as to whether these services are significant enough to consider the activity of this company as 'technical consultancy & engineering services and R & D. The contention that the company has significant investments in both tangible and intangible assets does not, by itself, make the company dissimilar. After all as noted by the TPO, even the R&D centre of the assessee is reported to have filed for more than 185 patents and has been granted quite a few of them. Unless it is analyzed as to how these intangible assets are valued, it may not be appro....
X X X X Extracts X X X X
X X X X Extracts X X X X
....nces, the claim of the assessee that it is totally risk free is not acceptable. However, the relative risk profile of the comparable company, particularly on the factors of human involvement in the clinical trails needs to be evaluated and a determination made whether such differences in risk needs to be adjusted or whether such risks are not amenable for adjustment at all, as claimed by the assessee. In view of all the above, the issue of comparability of Vimta Labs is remanded back to the AO/TPO with a direction that the comparability may be analyzed in the light of the observations made above. 37. Now let us examine the correctness or otherwise of the comparables adopted by the TPO for all the three assessment years. Though the assessee has not specifically advanced arguments for exclusion of the comparables raised in its grounds of appeal for the assessment year 2004-05 and 2005-06, it is necessary to consider the appropriateness of the action of the TPO for the said years also as the detailed reasoning for the said selection/ adoption are mentioned therein. For the purposes of convenience and ease of comparison the details of the final list of comparables adopted by the TPO....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ial Labs and Engineers India Ltd. and Oil Field Instrumentation India Ltd but did not raise any objection to adoption of Vimta Labs as a comparable for A.Y 2008-09, which goes to show that it has accepted Vimta Labs as a comparable for the relevant A.Y probably because its margin was only 18% for the relevant A.Y. The Celestial Labs was retained by the TPO while the other two companies were excluded. 43. From the above details, it can be seen that the assessee is not adopting a uniform approach for objecting to the comparables proposed by the TPO. As regards Lugri Labs, it appeals against its adoption in A.Y 2004-05 while it accepts the decision of TPO for A.Y 2005-06. As regards Vimta Labs, it appeals against its adoption in A.Ys 2004-05, 2005-06, & 2006-07 while it does not even object to the proposal of TPO for its adoption in A.Y 2008-09. Such cherry picking by the assessee cannot be allowed. Uniformity and consistently in approach is essential for both the Revenue as well as the assessee alike unless the circumstances warrant otherwise. The objections of the assessee to Lurgi Labs and Vimta Labs was that they are functionally different. There is evidently no change in the f....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ng by brought forward losses of 10A undertaking from the earlier years and thereafter further reduced the income by the losses from the non-10A undertaking and thereafter arrived at 'Nil' deduction u/s 10A of the Act. Against the said computation, the assessee filed an appeal before the CIT(A) who confirmed the action of the AO and the assessee is in second appeal before us. 47. The learned counsel for the assessee submitted that the 10A deduction/exemption should be allowed from its source i.e 10A unit itself and accordingly the said deduction/exemption should be allowed at the time of calculation of business income itself. Thus according to him, 10A profit will not at all enter the computation of business income and the same should be allowed before arriving at the gross total income and before setting off of losses, whether 10A losses or non 10A losses. He submitted that in the case of the assessee, if sec. 10A deduction/exemption is allowed at source itself, then there will be no business profit left against which the loss of non-10A units and brought forward losses of 10A units can be set off and, therefore, the said losses will be eligible to be carried forward to the subs....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the only issue is with regard to the transfer pricing adjustment made on account of research and development activity carried on by the assessee and as the issue has already been remanded to the file of the AO/TPO in our order for the assessment year 2004-05, this ground of appeal of the assessee is also remanded to the AO/TPO for de novo consideration. 53. For the A.Y 2006-07, in addition to the above, TP adjustment to the ALP on account of Research and Development activity, the assessee has also raised ground of appeal No.4 against the order of the Assessing Officer making TP adjustment to the ALP on account of interest on external commercial borrowings. 54. The brief facts of the case are that the assessee had obtained two commercial borrowings from its AE's (GE India & Pacific Mauritius Ltd.) These were obtained under long term loan agreements entered in 2001 and interest rates of such ECBs were fixed @ 7.5% and 8.49% which was determined based on business and economic circumstances at the time of entering into loan agreement and these ECBs were not renegotiated on a year to year basis. According to the assessee, the interest rates and the loan agreements were in accordan....
X X X X Extracts X X X X
X X X X Extracts X X X X
....n, he placed reliance upon the decision of the Delhi Bench of the Tribunal in the case of Perot Systems TSI (India) Ltd. v. Dy. CIT [2010] 37 SOT 358 (Delhi). 57. Having heard both the parties and having considered their rival contentions, we find that two ECB loans have been obtained by the assessee in the year 2000-01 at the fixed rate of interest at 7.5% and 8.49% respectively. As rightly submitted by the learned counsel for the assessee, the interest rate is depending upon the credit rating of the borrowings and also on the prices and economic conditions prevailing at the time of advancing the loan. The assessee has obtained the loans in the year 2001 and the issue has been considered by the TPO for the assessment years 2004-05 and 2005-06 and also for the assessment year 2008-09. After considering the assessee's submissions, the TPO accepted the rate of interest fixed in the loan agreements. In view of rules of uniformity and consistency we are of the opinion that the same approach is to be adopted this year also. 58. In view of the above, as the Assessing Officer for the assessment year 2002-03 onwards up to the assessment year 2008-09 except for the assessment year 200....