TaxTMI 
TaxTMI 
2016 (11) TMI 1534
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....ansactions pertaining to provision of software development services with its Associated Enterprises (AE) for Rs. 19,35,17,429/-. In its TP study, the assessee has adopted TNNM as the most appropriate method, selected 28 comparables and arrived at the arithmetic mean of unadjusted net margin of the comparable companies at 14.53% of operating cost (with arm's length range being 8.8% to 20.25%). Since its net margin of 9.5% was within + / - 5% of the ALP margin of the comparable companies, the assessee considered that the price charged by it in respect of software development service transactions is at arm's length. 04. However, the TPO rejected the assessee's TP study and has undertaken FAR study. He picked up 26 comparables which included eight of the following comparables selected by the assessee : Sl.No. Name of the company 1 Helios & Matheson Information Technology Ltd, 2 Infosys Technologies Ltd 3 Lanco Global Systems Ltd 4 Mindtree Consulting Ltd 5 Quintegra Solutions Ltd 6 R S Software (India) Ltd 7 SIP Technologies and Exports Ltd The TPO arrived at arithmetic mean at 25.14% . After giving a deduction....
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....her willful nor wanton but due to the above reasons , no prejudice would be caused to the Respondent by reason of the above additional grounds being admitted and adjudicated and accordingly the balance of convenience is in favour of such an order being passed by this Hon'ble Tribunal etc and in the above circumstances pleaded that that this Hon'ble Tribunal may be pleased to; (i) admit and adjudicate the above additional ground, (ii) pass any other order that may be required in the circumstances of the case and render justice. 08. We have considered the above submissions and find merit in them and hence accepted the additional ground. We have perused the orders and heard the rival contentions. Assessee is seeking exclusion of 18 comparables out of 26 companies selected by the TPO. This 18 comparables included 5 comparables selected by the assessee and retained by the TPO Viz Helios & Matheson Information Technology Ltd, Quintegra Solutions Ltd, Infosys Technologies Ltd, Mindtree Consulting Ltd & Sasken Communication Technologies Ltd. Out of which, the asssesse filed additional grounds on Helios & Matheson Information Technology Ltd & Quinteg....
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....6), it is engaged in software development services and qualifies all the filters applied by the TPO 6 Helios& Matheson Information Techno-logy Ltd Functionally different, Company is engaged in development and sale of software products Qualifies all the filters applied. Hence to be accepted as comparable 7 Quintegra Solutions Ltd Functionally different, Company is into preparatory software products, owns intangibles. Also engaged in R & D activities and hence creation of IPR It is in to software development services and qualified all the filters applied by the TPO 8 Thirdware Solutions Ltd Functionally different, company is engaged in product development and earns revenue from sale of licences & subscription. Segmental information for product development and software development not given in P & L A/c. Based on the information u/s 133(6), it qualified all the filters applied by the TPO 9 Ishir Infotech Ltd Outsources the work, fails employee cost ˃ 25% filter As per the reply received u/s 133(6), it qualifies all filters applied by the AO 10 Lucid Software Ltd Functionally different. Company deals with software products ....
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..... "39. As far as this company is concerned, the plea of the Assessee has been that this company is functionally different from the assessee. Based on the information available in the company's website, which reveals that this company has developed a software product by name "DXchange", it was submitted that this company would have revenue from software product sales apart from rendering of software services and therefore is functionally different from the assessee. It was further submitted that the Mumbai Bench of the Tribunal to the decision in the case of Telcordia Technologies Pvt. Ltd. v. ACIT - ITA No.7821/Mum/2011 wherein the Tribunal accepted the assessee's contention that this company has revenue from software product and observed that in the absence of segmental details, Avani Cincom cannot be considered as comparable to the assessee who was IT(TP)A.1102/Bang/2011 Page - 12 rendering software development services only and it was held as follows:- "7.8 Avani Cincom Technologies Ltd. ('Avani Cincom'): Here in this case also the segmental details of operating income of IT services and sale of software products have not been provided ....
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....oncession for in-house R&D centre expenditure at Hyderabad under section 35(2AB) of the Income Tax Act." * As per the Notes to Accounts - Schedule 15, under "Deferred Revenue Expenditure" (page 31 of PB-II), it is mentioned that, "Expenditure incurred on research and development of new products has been treated as deferred revenue expenditure and the same has been written off in 10 years equally yearly installments from the year in which it is incurred." An amount of Rs. 11,692,020/- has been debited to the Profit and Loss Account as "Deferred Revenue Expenditure" (page 30 of PB-II). This amounts to nearly 8.28 percent of the sales of this company. It was therefore submitted that the acceptance of this company as a comparable for the reason that it is into pure software development activities and is not engaged in R&D activities is bad in law. 43. Further reference was also made to the decision of the Mumbai Bench of the Tribunal in the case of Teva Pharma Private Ltd. v. Addl. CIT - ITA No.6623/Mum/2011 (for AY 2007-08) in which the comparability of this company for clinical trial research segment. The relevant extract of discussion regarding th....
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....of making adjustment, the TPO has rendered this company as not qualifying for comparability. We therefore accept the plea of the Assessee in this regard." 44. It was submitted that the learned DR in the above case vehemently argued that this company is into research in pharmaceutical products. The ITAT concluded that this company is owner of IPR, it has software for discovery of new drugs and has developed molecule to treat cancer. In the ultimate analysis, the ITAT did not consider this company as a comparable in clinical trial segment, for the reason that this company has diverse business. It was submitted that, however, from the above extracts it is clear that this company is not into software development activities, accordingly, this company should be rejected as a comparable being functionally different. 45. From the material available on record, it transpires that the TPO has accepted that up to AY 06-07 this company was classified as a Research and Development company. According to the TPO in AY 07- 08 this company has been classified as software development service provider in the Capitaline/Prowess database as well as in the annual report of this company.....
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....ces. We therefore accept the plea of the Assessee that this company ought not to have been considered as comparable." 3. KALS Information Systems Ltd. "46. As far as this company is concerned, the contention of the assessee is that the aforesaid company has revenues from both software development and software products. Besides the above, it was also pointed out that this company is engaged in providing training. It was also submitted that as per the annual repot, the salary cost debited under the software development expenditure was Q 45,93,351. The same was less than 25% of the software services revenue and therefore the salary cost filter test fails in this case. Reference was made to the Pune Bench Tribunal's decision of the ITAT in the case of Bindview India Private Limited Vs. DCI, ITA No. ITA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. The relevant extract are as follows: "16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. The assessee has objected to its inclusion on the basis that....
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.... the wireless and convergent telecom industry. These products are sold as packaged products to customers. While implementing these standardized products, customers may request the company to customize products or reconfigure products to fit into their business environment. Thereupon the company takes up the job of customizing the packaged software. The company also explained that 30 to 40% of the product software would constitute packaged product and around 50% to 60% would constitute customized capabilities and expenses related to travelling, boarding and lodging expense. Based on the above reply, the TPO proceeded to hold that the comparable company was mainly into customization of software products developed (which was akin to product software) internally and that the portion of the revenue from development of software sold and used for customization was less than 25% of the overall revenues. The TPO therefore held that less than 25% of the revenues of the comparable are from software products and therefore the comparable satisfied TPO's filter of more than 75% of revenues from software development services. The basis on which the TPO arrived at the PLI of 60.23% is given at....
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....TPO as a comparable. Before the TPO, the assessee had objected to the inclusion of this company as a comparable on the ground that it was functionally different from the assessee. The TPO had rejected the objections raised by the assessee on the ground that as per the information received in response to notice under section 133(6) of the Act, this company is engaged in software development services and satisfies all the filters. 14.2 Before us, the learned Authorised Representative contended that this company ought to be excluded from the list of comparables on the ground that it is functionally different to the assessee. It is submitted by the learned Authorised Representative that this company is engaged in 'e-Business Consulting Services', consisting of Web Strategy Services, I T design services and in Technology Consulting Services including product development consulting services. These services, the learned Authorised Representative contends, are high end ITES normally categorised as knowledge process Outsourcing ('KPO') services. It is further submitted that this company has not provided segmental data in its Annual Report. The learned Authorised Rep....
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..... The next point made out by the assessee is with regard to the inclusion of items at (9) and (11) namely Helios & Matheson Information Technology Ltd., and KALS Information Solutions Ltd. (Seg). The primary plea raised by the assessee to assail the inclusion of the aforesaid two companies from the list of comparables is to be effect that they are functionally incomparable and therefore, are liable to be excluded. In sum and substance, the plea set up by the assessee is that both the aforesaid concerns are engaged in development and sale of software products which is functionally different from the services undertaken by the assessee in its IT-services segment. 17. As per the discussion in para 6.3.2. of the order of the TPO, the reason advanced for including KALS Information Systems Ltd., is to the effect that the said concern's application software segment is engaged in the development of software which can be considered as comparable to the assessee company. The said concern is engaged in two segments namely application software segment and Training. As per the TPO, the application software segment is functionally IT(TP)A.1102/Bang/2011 Page - 20 comparable to the a....
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....quite evident that the said concern has not been found to be functionally comparable with the assessee in the immediately preceding assessment year and in the present year also, on the basis of the Annual Report, referred to in the written submissions addressed to the lower authorities, the assessee has correctly asserted out that the said concern was inter alia engaged in sale of software products, which was quite distinct from the activity undertaken by the assessee in the IT Services segment. At the time of hearing, neither is there any argument put forth by the Revenue and IT(TP)A.1102/Bang/2011 Page - 21 nor is there any discussion emerging from the orders of the lower authorities as to in what manner the functional profile of the said concern has undergone a change from that in the immediately preceding year. Therefore, having regard to the factual aspects brought out by the assessee, it is correctly asserted that the application software segment of the said concern is not comparable to the assessee's segment of IT services. 20. With regard to the inclusion of Helios & Matheson Information Technology Ltd., the assessee has raised similar arguments as in the case ....
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....t of comparables. 15.3 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the material on record that the company is engaged in product development and earns revenue from sale of licenses and subscription. However, the segmental profit and loss accounts for software development services and product development are not given separately. Further, as pointed out by the learned Authorised Representative, the Pune Bench of the Tribunal in the case of E-Gain Communications Pvt. Ltd. (supra) has directed that since the income of this company includes income from sale of licenses, it ought to be rejected as a comparable for software development services. In the case on hand, the assessee is rendering software development services. In this factual view of the matter and following the afore cited decision of the Pune Tribunal (supra), we direct that this company be omitted from the list of comparables for the period under consideration in the case on hand." 8 & 9. M/S.Ishir Infotech Ltd. And Lucid Software Ltd : "20. As far as comparable companies listed at Sl.No.11 & 14 of the final list of com....
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....on of the Tribunal referred to above, we direct the AO/TPO to exclude the aforesaid companies from the final list of comparable companies for the purpose of determining ALP." 10. Flextronics Software Systems Ltd (seg) : "26. Now taking up the question of exclusion of Flextronics Software Systems Ltd (seg), it is true that the decision of Motorola Solutions (India) P. Ltd (supra) also was for the very same year and also on software development services sector. This Tribunal held as under : "97.2 For a company to be included in the list of comparables, it is necessary that credible information is available about the company. Unless this basic requirement is fulfilled, the company cannot be taken as a comparable. It is true that ld. TPO is entitled to obtain information IT(TP)A.1102/Bang/2011 Page - 24 us/ 133(6), the object of which is primarily only to supplement the information already available on record, but not, as rightly submitted by ld. Counsel for the assessee, to replace the information. If there is a complete contradiction between the information obtained u/s 133(6) and annual report then the said information cannot be substituted for the informa....
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....sessee and in this context has cited various portions of the Annual Report of this company to this effect which is as under :- (i) The company has an Intellectual Property (IP) Cell to guide its employees to leverage the power of IP for their growth. In 2008, this company generated over 102 invention disclosures and filed an aggregate 10 patents in India and the USA. Till date this company has filed an aggregate of 119 patent applications (pending) in India and USA out of which 2 have been granted in the US. (ii) This company has substantial revenues from software products and the break-up of the software product revenues is not available. (iii) This company has incurred huge research and development expenditure to the tune of approximately Rs. 200 Crores. (iv) This company has a revenue sharing agreement towards acquisition of IPR in AUTOLAY, a commercial software product used in designing high performance structural systems. (v) The assessee also placed reliance on the following judicial decisions :- (a) ITAT, Delhi Bench decision in the case of Agnity India Technologies India Pvt. Ltd. (ITA No.3856/Del/2010) and (b) ....
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....at there are several other factors on which this company cannot be taken as a comparable. In this regard, the learned Authorised Representative submitted that : (i) This company is engaged in software designing services and analytic services and therefore it is not purely a software development service provider as is the assessee in the case on hand. (ii) Page 60 of the Annual Report of the company for F.Y. 2007-08 indicates that this company, is predominantly engaged in 'Outsourced Software Product Development Services' for independent software vendors and enterprises. (iii) Website extracts indicate that this company is in the business of product design services. (iv) The ITAT, Mumbai Bench in the case of Telecordia Technologies India Pvt. Ltd.(supra) while discussing the comparability of another company, namely Lucid Software Ltd. had rendered a finding that in the absence of segmental information, a company be taken into account for comparability analysis. This principle is squarely applicable to the company presently under consideration, which is into product development and product design services and for which the segmental data is....
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.... Botnia Hightech IT(TP)A.1102/Bang/2011 Page - 28 F. and its two subsidiaries and thus, it had under gone significant restructuring. However, ld. TPO ignored these facts He relied on the following decisions: * IQ Information System (I) Pvt. Ltd., ITA No. 1961/Hyd./2012 (para no. 11 & 23, page 25); * Amerson Process Management India Pvt. Ltd., ITA No. 8118/Mum./2010 (para 16 page 15). 110. Ld. DR relied on the order of TPO and submitted that TPO considered the companies software services segment details only. We have considered the rival submissions and have perused the record of the case. 111. Ld. TPO has completely ignored the extraordinary business circumstances pointed out by assessee for which necessary adjustment was required to be made in accordance with Rule 10B(3) of Income Tax Rules. However, since this adjustment was not possible, therefore, this company should not have been included in the list of comparables. Further, we find that the company owns IPR and has branded products which also distinguishes it from the assessee and, therefore, keeping in view the decision of Hon'ble Delhi High Court in the case of Agnity India T....
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....lecordia Technologies India Pvt. Ltd. V ACIT (ITA No.7821/Mum/2011) has held that Tata Elxsi Ltd. is not a software development service provider and therefore it is not functionally comparable. In this context the relevant portion of this order is extracted and reproduced below :- " .... Tata Elxsi is engaged in development of niche product and development services which is entirely different from the assessee company. We agree with the contention of the learned Authorised Representative that the nature of product developed and services provided by this company are different from the assessee as have been narrated in para 6.6 above. Even the segmental details for revenue sales have not been provided by the TPO so as to consider it as a comparable party for comparing the profit ratio from product and services. Thus, on these facts, we are unable to treat this company as fit for comparability analysis for determining the arm's length price for the assessee, hence, should be excluded from the list of comparable portion." As can be seen from the extracts of the Annual Report of this company produced before us, the facts pertaining to Tata Elxsi have not changed fr....
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....h of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. (ITA No.227/Bang/2010) has held that a company owning intangibles cannot be compared to a low risk captive service provider who does not own any such intangible and hence does not have an additional advantage in the market. As the assessee in the case on hand does not own any intangibles, following the aforesaid decision of the co- ordinate bench of the Tribunal i.e. 24/7 Customer.Com Pvt. Ltd. (supra), we hold that this company cannot be considered as a comparable to the assessee. We, therefore, direct the Assessing Officer/TPO to omit this company from the set of comparable companies in the case on hand for the year under consideration." 10. Following the above order of the Tribunal in Meritor LVS (India) P. Ltd (supra), we direct exclusion of Celestial Labs Ltd, E-Zest Solutions Ltd, Infosys Technologies Ltd, Kals Information Systems Ltd (seg), Lucid Software Ltd, Wipro Ltd (seg), Accel Transmatic Ltd (seg), Avani Cimcon Technologies Ltd, Flextronics Software Systems Ltd (seg), Helios & Matheson Information Technology Ltd, Ishir Infotech Ltd, Persistent Systems Ltd, Sasken Communication Technologies Ltd (Seg), Tata....
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....d as under : " Leveraging its proven global model, Quintegra provides a full range of custom IT solutions (such as development, testing, maintenance, SAP, product engineering and infrastructure management services), proprietary software products and consultancy services in IT on various platforms and technologies." (iii) This company is also engaged in research and development activities which resulted in the creation of Intellectual Proprietary Rights (IPRs) as can be evidenced from the statements made in the Annual Report of the company for the period under consideration, which is as under : " Quintegra has taken various measures to preserve its intellectual property. Accordingly, some of the products developed by the company ............... have been covered by the patent rights. The company has also applied for trade mark registration for one of its products, viz. Investor Protection Index Fund (IPIF). These measures will help the company enhance its products value and also mitigate risks." (iv) The TPO has applied the filter of excluding companies having peculiar economic circumstances. Quintegra fails the TPO's own filter since there ha....
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....roducts and owns its own intangibles unlike the assessee in the case on hand who is a software service provider." 12. In respect of Lucid Software Ltd, the Tribunal's findings is similar to the findings as in Meritor LVS (India) P. Ltd (supra), and the same is extracted in the preceding paragraph in inner para.9 in page 22,supra. The assessee's Turn over is Rs. 19.36 crores .With reference to exclusion of comparables on the basis of Turnover filter, the Tribunal in M/s. Actiance India P. Ltd v. ITO in IT(TP)A.1056/Bang/2011, dt.12.06.2015, for the assessment year 2007-08 dealt as under: "19. Vis-a-vis Flextronics Software Systems Ltd (seg), iGate Global Solutions Ltd (seg), Infosys Technologies Ltd, Mindtree Consulting Ltd, Persistent Systems Ltd, Sasken Communication Technologies Ltd, Tata Elxsi Ltd (seg) and Wipro Ltd, Ld. AR submitted that these were having turnover in excess of Rs. 200 crores against the assessee's miniscule turnover of Rs. 13.11 crores. According to him, in the case of Triology E- Business Software India Ltd (supra), it was held clearly that companies having turnover in excess of Rs. 200 crores could not be considered with companies hav....
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....ibunal ie M/s. Actiance India P.Ltd v. ITO for the assessment year 2007-08, we direct exclusion of Quintegra Solutions Ltd on the basis of functional difference and exclusion of Infosys Technologies Ltd, Wipro Ltd (seg), Flextronics Software Systems Ltd (seg), Persistent Systems Ltd, Sasken Communication Technologies Ltd (Seg), Tata Elxsi Ltd (seg), iGate Global solutions Ltd (seg) and Mind tree Consulting Ltd on the basis of turnover filter . 15. The next issue is that the TPO erred in not making suitable adjustments on account of differences in the risk profile of the appellant vis-à-vis the comparables, while conducting comparability analysis: The assessee pleaded that functions under a limited risk environment with most of the risk being assumed by its AE. It bears lesser/ limited business risks than independent comparable companies due to the nature of its revenue model as it is guaranteed profits by way of a mark-up on costs incurred, in provision of the software development services. However, the independent companies have to bear the vagaries of the economic and business factors that are prevailing in the industry and thus could either incur losses or ear....
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....cal use by them. In such a case, the risk encountered by the assessee cannot be said to be the equivalent risks attached to the comparables. The risk attributed to the assessee by the TPO is an anticipated risk whereas the risk attributed by the assessee to the comparables is an existing risk. In such situation, the TPO ought to have given the risk adjustment to the net margin of the corn parables for bringing them on par with the assessee company. The assessee's contention that the risk adjustment should be at 5.5% or at the difference of prime lending rate of the RBI and the banks is not acceptable to us. Therefore, we direct the TPO to consider all the contentions of the assessee and after taking into account all the relevant material decide the percentage of risk adjustment to be made in accordance with law. This ground is accordingly, allowed for statistical purposes." Following the above decision , we direct the TPO to consider all the contentions of the assessee and after taking into account all the relevant material decide the percentage of risk adjustment to be made in accordance with law. This ground is, accordingly, allowed for statistical purposes." 16. ....