TaxTMI 
TaxTMI 
2018 (7) TMI 1862
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.... convenience. 2. The brief facts relating to all these appeals are that the Assessee was set up as a subsidiary of Autodesk Inc., USA ('Autodesk US' for short), in October 1998 and is engaged in the business of providing software development (technical support) services and marketing support services to its overseas Associated Enterprises ('AE' for short). Being a captive service provider, the Assessee assumes less than normal risks and all significant business and entrepreneurial risks are borne by the AEs. It is not in dispute that the transaction of rendering of software development services by the Assessee to its AE was an international transaction and in view of the provisions of sec. 92 of the Income Tax Act, 1961 (Act), income arising from such international transaction has to be determined having regard to Arms Length Price (ALP). The issues to be decided in the cross appeals for both the AYs 2005-06 and 2008-09 is the determination of ALP of the international transaction of providing software development services by the Assessee to its AE. IT(TP)A Nos.540/B/13 and 616/B/13 (AY 2005-06) 3. During the previous year 2004-05 relevant to the assessment ....
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.... is <Rs.1 cr. - 3. Cexocmlupdaendie s whose software development services is <75% of the total operating revenue - excluded 4. Companies whose employee cost is <25% of sales - excluded 5. Companies whose export sales are <25% of sales - excluded 6. Companies whose related party transactions (sales as well as expenditure combined) are >25% of sales - 7. eCxocmlupdaendi es having persistent losses / diminishing revenues for the period under consideration- excluded 8. Companies having different financial year ending or data not available for 12 months - excluded 9. Companies whose onsite income is > 75% - excluded 10. Companies which are functionally dissimilar - rejected The TPO on his own selected 14 more companies as comparable companies and arrived at a final list of 17 comparable companies whose arithmetic mean of profit margin was 26.56% before working capital adjustment and 24.57% after working capital adjustment. The following table will show the final list of comparable companies and their profit margin and computation of arithmetic mean of profit margin of these 17 comparable companies. Comparables selected by the ....
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....mpanies finally chosen by the TPO stood excluded. * Flextronics Ltd. * L&T Infotech Ltd. * Infosys Technologies Ltd. * Satyam Computer Services Ltd. * iGate Global Solutions Ltd. It may be mentioned here that although the turnover of iGate Global Solutions Ltd. ('iGate' for short) for FY 2004-05 was Rs. 406 crores and would thus stand excluded on application of the turnover filter at Rs. 200 crores, as was directed to be applied by the CIT(A), the CIT(A) inadvertently did not specifically set out that iGate would be so excluded. However, as can be seen from the set of final comparables selected by the CIT(A) at page 45 of the order, iGate has been excluded therefrom. 7. It was further contended by the Assessee before CIT(A) that the following two companies, namely, Exensys Software Solutions Ltd. and Thirdware Solutions Ltd., should be excluded because their profits were very abnormal i.e., beyond 50%. This claim of the Assessee was accepted by the CIT(A) and these two companies were excluded for having abnormally high profits (beyond 50%). 8. The Assessee contended before CIT(A) that companies whose profits were diminis....
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...., inclusive of forex loss or gain, as the case may be, are as follows: SI. No. Name of the Company Mark-up on Total Costs (WC-unadj) (in%) Mark-up on Total Costs (WC- adj) (in %) 1 Four Soft Ltd. 21.06 20.24 2 Geometric Software Solutions Company Ltd. 21.43 19.58 3 LGS Global Ltd. 11.63 8.22 4 R S Software (India) Ltd. 7.96 7.29 5 Sankhya Infotech Ltd. 26.63 21.22 6 Sasken Communication Technologies Ltd. 16.47 16.01 7 Sasken Network Systems Ltd. 16.12 14.22 8 Visualsoft Technologies Ltd. 24.17 21.52 Arithmetical mean 18.18 16.04 14. The Assessee and the Revenue are aggrieved by some of the directions of the CIT(A) and have filed appeals before the Tribunal. As far as the Revenue's appeal is concerned, the grievance of the Revenue is as follows: (i) That the CIT(A) erred in rejecting four companies on application of the turnover filter (Ground No.2). (ii) That the CIT(A) erred in excluding Exensys Software Solutions Ltd. and Thirdware Solutions Ltd. on application of the abnormal profit filter (Ground No.3). (iii....
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....e submissions were reiteration of contentions that were put forth before the TPO/DRP and the order of the TPO and DRP in so far as the conclusions in the respective orders are in line with the stand taken by the respective parties in the grounds of appeal. We will deal with the contentions to the extent it is necessary, when we deal with the individual grounds of appeal. IT(TP)A No.616/Bang/2013: Revenue's appeal for AY 2005-06 17. The first issue to be decided in Revenue's appeal is the application of turnover filter for exclusion of companies that are otherwise found to be functionally comparable. The Grievance of the revenue in this regard is projected in Gr.No.2 of the Grounds of appeal raised by the revenue in its appeal. The basic facts to be noticed with regard application of turnover filter are that the Assessee's turnover for the relevant previous year was Rs. 10.65 crores. The TPO excluded from the list of comparable companies chosen by the Assessee in its TP study companies whose turnover was less than Rs. 1 Crore. The contention of the Assessee before the CIT(A) was that while the TPO excluded companies with low turnover, he failed to apply the same yardstick to e....
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.... Capgemini India Pvt. Ltd. Vs. ACIT ITA No.7861/Mum/2011 for AY 2007-08 order dated 28.2.2013 4.3 17.2. The learned DR also filed before us a note contending that in software industry, size has no influence on the margins earned by an entity. According to him economies of scale are relevant only in capital intensive companies which have substantial fixed assets in the form of plant and machinery. According to him, in software industry, size does not matter, what matters is the human capital. According to him application of the filter of turnover might be justified for excluding companies with low turnover of say Rs. 1 crore or less because the margin earned by these companies might widely fluctuate due to narrow capital base and lack of competitive strength, lack of operational efficiencies and also lack of human resources. They also escape the eyes of regulators. He drew our attention to the turnover and profit margins of company Infosys Technologies Ltd. For FY 1997 to 2010 and submitted that in FY 1997 the company had turnover of Rs. 139 Crores and its profit margin was 34.95% whereas in FY 2010 its turnover was Rs. 21140 crores but its profit margin was only ....
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....rgin should be seen. The Tribunal in the case of Dell International (supra) also took note of the decision of the ITAT Bangalore Bench in the case of Sysarris Software Pvt.Ltd. Vs. DCIT (2016) 67 Taxmann.com 243 (Bangalore-Trib) wherein the Tribunal after noticing the decision of the Hon'ble Delhi High Court in the case of Chryscapital (supra) and the decision to the contrary in the case of CIT Vs. Pentair Water India Pvt.Ltd., Tax Appeal No.18 of 2015 dated 16.9.2015 wherein it was held that high turnover is a ground to exclude a company from the list of comparable companies in determining ALP, held that there were contrary views on the issue and hence the view favourable to the Assessee laid down in the case of Pentair Water (supra) should be adopted. The following were the conclusions of the Tribunal in the case of Dell International (supra): "41. We have given a very careful consideration to the rival submissions. ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010, relying on Dun and Bradstreet's analysis, held grouping of companies having turnover of Rs. 1 crore to Rs. 200 crores as comparable with each oth....
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....refore following the said view, the action of the CIT(A) excluding companies with turnover of above Rs. 200 crores from the list of comparable companies is held to correct and such action does not call for any interference." 17.4. His submission was that the decision rendered by the Hon'ble Delhi High Court in the case of Chriscapital (supra) was not on the application of turnover filter. He brought to our notice that the relevant substantial question of law in the case of Christcapital decided by the Hon'ble Delhi High Court was (i) whether comparables can be rejected on the ground that they have exceptionally high profit margins as compared to the Assessee in Transfer Pricing Analysis.(ii) Whether factors like differential functional and risk profile coupled with high degree of volatility in operating profit margins is sufficient ground to reject comparables for transfer pricing analysis. In answering the above question, the Hon'ble Court however at page 218 of the report (the said decision is reported as 376 ITR 183 (del)) observed that the mere circumstance that a company-otherwise confirming to the stipulations in rule 10B(2) of the Rules in all details, presenting a peculi....
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....rt rendered in the case of Pentair (supra) and held that Infosys BPO was rightly excluded as not being a comparable company. Our attention was also drawn by him to a decision of the Hon'ble Punjab & Haryana High Court in the case of CIT Vs. Mercer Consulting (I) (P) Ltd. (2016) 76 Taxmann.com 153 (Punjab & Haryana) wherein the Hon'ble Court held that a giant company cannot be compared with a company which was a captive service provided assuming limited risks. 17.6. As far as the decisions of the Tribunal rendered on the application of turnover filter that are contrary to the decision rendered in the case of M/s. Genisys Integrating Systems (supra), the first submission of the learned counsel for the Assessee was that those decisions were rendered at a later point of time and were to be regarded as per incurium since these decisions were also rendered by a bench of equal strength and either the subsequent decisions refused to follow or were rendered in ignorance of an earlier binding precedent. He submitted that if a bench of equal strength differs with a view taken earlier, the proper course for them is to make a reference to larger bench. They cannot refuse to follow a binding ....
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.... of the Supreme Court are cited at the Bar. We think that the inviolable recourse is to apply the earliest view as the succeeding ones would fall in the category of per incuriam." It was therefore submitted by him that the earliest view rendered by the ITAT Bangalore Bench in the case of Genisys Integrating (supra) should be followed. 17.7. We have considered the rival submissions. The substantial question of law (Question No.1 to 3) which was framed by the Hon'ble Delhi High Court in the case of Chryscapital Investment Advisors (India) Pvt.Ltd., (supra) was as to whether comparable can be rejected on the ground that they have exceptionally high profit margins or fluctuation profit margins, as compared to the Assessee in transfer pricing analysis. Therefore as rightly submitted by the learned counsel for the Assessee the observations of the Hon'ble High Court, in so far as it refers to turnover, were in the nature of obiter dictum. Judicial discipline requires that the Tribunal should follow the decision of a non-jurisdiction High Court, even though the said decision is of a non-jurisdictional High Court. We however find that the Hon'ble Bombay High Court in the c....
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.... have already held that the decision rendered in the case of Chriscapital Investment (supra) is obiter dicta and that the ratio decidendi laid down by the Hon'ble Bombay High Court in the case of Pentair (supra) which is favourable to the Assessee has to be followed. Therefore, the decisions cited by the learned DR before us cannot be the basis to hold that high turnover is not relevant criteria for deciding on comparability of companies in determination of ALP under the Transfer Pricing regulations under the Act. For the reasons given above, we uphold the order of the CIT(A) on the issue of application of turnover filter and his action in excluding companies by following the ratio laid down in the case of Genisys Integrating (supra). 18. As far as Ground No.3 raised by the Revenue in its appeal is concerned, the Revenue is challenging the CIT(A)'s action in excluding Exensys Software Solutions Ltd. ('Exensys' for short) and Thirdware Solutions Ltd. ('Thirdware' for short) on the basis of their abnormal profit margins in FY 2004-05. The submission of the learned DR was that abnormally high profits cannot be a ground per se to reject a company as comparable co....
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.... in line with the trend of growth witnessed in the software industry. The TPO on the other hand has maintained that the profits of only the relevant previous year (current year data) should be considered for the purpose of comparability. The CIT(A) has rightly observed that revenue may not always be a true indicator of a company's performance as it may also depend on its own business cycle. Thus, the CIT(A) rightly held that a company with increasing revenues over a period of time does not necessarily reflect better performance as increase in expenses in the corresponding period can be higher than that in revenues and, consequently, the company may still incur losses. The CIT(A), has rightly held that, conversely, a company with diminishing revenues over a period of time may not necessarily be performing badly if it still has a good profit margin achieved through cost efficiency. In the light of the above, we are of the view that the action of the CIT(A) in rejecting the application of this filter is right in law and on facts. Therefore, this ground is rejected. The learned counsel for the Assessee brought to our notice that by applying this filter a comparable company Melstar ....
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....identical facts and circumstances of the present case, we dismiss Gr.No.8 & 9 raised by the Revenue. 22. As far as Gr.No.9 raised by the Revenue in its appeal is concerned, the issue is with regard to correctness of the decision of the CIT(A) in holding that margins of the remaining comparables after giving effect to the directions of the CIT(A) should be computed by the TPO/AO after including foreign exchange loss / gain for the relevant year, as the case may be, since such gains or losses are operating in nature. On this aspect, we find that the CIT(A) has followed decisions of the jurisdictional Bench of this Hon'ble Tribunal in the cases of SAP Labs India (Pvt.) Ltd. [6 ITR (Trib) 81] and Trilogy E-Business Software India (Pvt.) Ltd. vs. DCIT [(2011) 12 taxmann.com 464], which decisions have subsequently been consistently followed by this Hon'ble Tribunal. We therefore hold that there is no error in the order of the CIT(A) and therefore, ground No.9 in the Revenue's appeal is rejected. 23. As far as Ground No.10 raised by the Revenue is concerned, the revenue has contended that the CIT(A) has erred in directing the AO to provide necessary working capital adjus....
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....focuses on the development of niche products for the transport and aviation industry and that no proper segmental details are available in relation to the said diverse activities. The Assessee has placed reliance on the decision of ITAT Bangalore in the case of ITO v. Net Devices India Pvt. Ltd. [TS-354-ITAT-2016(Bang)-TP at paras 18.1.1-18.1.3 at pages 33 to 35] wherein it was held that this company is functionally dissimilar to a company providing SWD services in similar circumstances. In view of the precedent on the issue rendered on identical facts and circumstances of the case for the same AY 2005-06, we are of the view that the CIT(A) ought to have excluded this company from the list of comparable companies. 26. In Ground No.4(a) the Assessee has sought exclusion of Exensys Software Solutions Ltd. and Thirdware Solutions Ltd. on the ground that apart from the fact that the profit margins of these companies were abnormally high owing to extraordinary events that happened during the relevant previous year, these two companies have to be excluded on the ground that these two companies are functionally dissimilar to that of the Assessee which is SWD service provider. As far as....
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....Ltd. [TS-354-ITAT- 2016(Bang)-TP at paras 11.1-11.2, 17.1-17.3 and 18.5.1-18.5.3 at pages 22-24, 31-33 and 40-41 respectively] in support of its submission that Infosys Ltd., Flextronics Ltd. and Satyam Computer Services Ltd. ought to remain excluded for the above reasons. We are of the view that even on the grounds as stated above, these three companies ought to be excluded from the list of comparable companies in view of the decision referred to by the learned counsel for the Assessee rendered on identical facts for the very same AY 2005-06. We hold and direct accordingly. 28. In Ground No.4 (e) of the grounds of appeal, the Assessee seeks exclusion of Geometric Software Solutions Co. Ltd. and Foursoft Ltd. from the list of comparable companies as these companies have Related Party Transaction (RPT) of more than 15%. The learned DR drew our attention to the decision of the Hon'ble ITAT Bangalore "B" Bench in the case of Robert Bosch Engineering and Business Solutions Ltd. Vs. DCIT IT (TP) A.No.1519/Bang/2013 and 1687/Bang/2013 order dated 13.9.2017 wherein the Tribunal in paragraph 8 has observed 25% to 15% RPT filter has to be applied depending on availability of comparab....
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....nture Others Holding Company Sales 1047,33,059 21,67,458 Software Development Charges 47,46,093 Marketing Expenses 501,50,314 Rent Paid towards Leased Premises 118,04,364 Reimbursement of Expenses 399,73,123 13,96,553 Total 1996,02,589 153,68,375 Total RPTs 2149,70,964 Sales 9554,47,057 RPT/Sales 22.52% We are of the view that it would be just and appropriate to direct the TPO/AO to examine the claim of the Assessee in this regard and if it is found that RPT is more than 15% of the revenues, then this company should be excluded from the list of comparable companies. 30. As regards Foursoft, the Assessee has placed reliance on the decision of ITAT Bangalore in the case of ITO v. Net Devices India Ltd. [TS-354-ITAT-2016(Bang)-TP at para 18.2 at page 36] wherein Foursoft was ex....
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....has filed the above appeal before this Tribunal. So also, to the extent the CIT(A) allowed the Assessee's appeal, the Revenue has filed the above appeal before this Tribunal. 35. As regards the international transaction of provision of software development (SWD) services to its AEs, the Assessee received consideration of Rs. 4,48,08,288/- for rendering Software Development Services from its AE. In support of its claim that the price charged by it in the international transaction the Assessee filed a Transfer Pricing study (TP Study) in which the Assessee adopted Transaction Net Margin Method (TNMM) as the Most Appropriate Method (MAM) for determination of ALP. The profit level indicator (PLI) chosen for the purpose of comparison of profit margin of comparable companies was operating profit to operating cost (OP/OC). The price charged in the international transaction by the Assessee from its AE was Rs. 4,48,08,288. The Operating cost of the Assessee was Rs. 4,07,34,807/-. The operating profit was thus Rs. 40,73,481 (Rs.4,48,08,288 - Rs. 4,07,34,807). OP/OC was 10%. The Assessee in its TP Study had chosen 17 companies as comparable companies, after applying the following filte....
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....he following companies as comparable companies and determined ALP as follows: Comparables selected by TPO and their arithmetic mean: SI. No. Name of the Company Mark-up on Total Costs (WC - unadj) (%) Mark-up on Total Costs (WC - adj) (%) 1 Avani Cimcon Technologies 25.62 23.65 2 Bodhtree Consulting Ltd. 18.72 18.23 3 Celestial Biolabs 87.94 81.13 4 e-zest Solutions Ltd. 29.81 28.56 5 Flextronics (Aricent) 7.86 5.51 6 iGate Global Solution Ltd. 13.99 11.05 7 Infosys Technologies Ltd. 40.37 37.91 8 KaIs Information Systems Ltd. (Seg) 31.29 27.87 9 LGS Global Ltd. 27.52 25.17 10 Mindtree Ltd. (Seg) 16.41 13.84 11 Persistent Systems Ltd. 20.31 19.07 12 Quintegra Solution Ltd. 21.74 17.59 13 R Systems (India) Ltd. 15.30 12.03 14 R S Software (India) Ltd. 7.41 7.18 15 Sasken Communication Technologies Ltd. (Seg) 7.58 5.39 16 Tata Elxsi (Seg) 18.97 17.56 17 Thirdware Solutions Ltd. 19.35 16.17 18 Wipro Ltd. (Seg) 28.45 26.65 19 Softsol India Ltd. 17.89 ....
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....(v) Working capital adjustment: The CIT(A) directed the AO to provide for an adjustment to the margins of the remaining companies on account of working capital differences between that of the Assessee and the companies, as had been done by the TPO. 39. The following list will show the list of comparable companies that remain after the order of the CIT(A) and their profit margins after inclusion of foreign exchange loss or gain, as the case may be: SI. No. Name of the Company Mark-up on Total Costs (WC - unadj) (%) Mark-up on Total Costs (WC - adj) (%) 1 Bodhtree Consulting Ltd. 19.14 18.31 2 e-Zest Solutions Ltd. 28.95 27.53 3 LGS Global Ltd. 27.52 23.75 4 Lucid Software Ltd 14.80 14.47 5 Quintegra Solutions Ltd 22.12 17.36 6 R Systems International Ltd. 15.30 11.80 7 R S Software (India) Ltd. 7.79 7.51 8 Thirdware Solutions Ltd. 18.01 14.01 9 Softsol India Ltd. 15.00 11.09 Arithmetical mean 18.74 16.20 40. Briefly, the grounds of appeal in the Revenue's appeal are: (i) That the CIT(A) erred in rejecting eig....
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..... (2008-TIOL-282-ITAT-Pune) and Deloitte Consulting India P. Ltd v. DCIT (ITA No.1082/Hyd/2010). For the reasons stated therein, we find no grounds to interfere with the order of the CIT(A) and consequently dismiss Gr.No.2 raised by the Revenue. It was the submission of the learned counsel for the Assessee that out of the companies excluded by applying the filter of turnover, four companies whose turnover is above Rs. 200 crores viz., Infosys Ltd., Persistent Systems Ltd., Tata Elxsi Limited, and Wipro Limited have been held by this Hon'ble Tribunal to be functionally dissimilar to captive software development service providers such as the Assessee for the very same assessment year. This aspect will be considered while deciding the relevant ground of appeal of the Assessee. 43. As far as Gr.No.3 in the appeal by the revenue is concerned, the Revenue is challenging the CIT(A)'s action in excluding Celestial Biolabs Ltd. ('Celestial' for short) on account of its abnormal profit margin in FY 2007-08. At the outset, we notice that Celestial has been excluded on the grounds of functional comparability by the Tribunal Bangalore Bench for AY 2008-09 in the case of Telel....
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....ppeal is rejected. 46. As far as Gr.No.10 raised by the Revenue is concerned, the revenue has contended that the CIT(A) has erred in directing the AO to provide necessary working capital adjustments to the final eight comparable companies. In fact we find that there is no such grievance projected by the Assessee in the grounds of appeal raised before CIT(A), because the AO/TPO had given working capital adjustment in arriving at the profit margins of comparable companies for the purpose of arriving at the arithmetic mean of profit margins of comparable companies. We are therefore of the view that Gr.No.10 raised by the Revenue does not arise out of the order of the CIT(A). Even otherwise, Rule 10B(3) of the Incometax Rules, 1962, supports the said action of the TPO in granting a working capital adjustment. In the following decisions rendered by the Bangalore Bench of ITAT, viz., TNT India (P.) Ltd. vs. ACIT [(2011)10 taxmann.com 161 (Bang.)] (para 13), Bearing Point Business Consulting (P.) Ltd. vs. DCIT [(2013) 33 taxmann.com 92] (para 5.4) and Apigee Technologies (India) Pvt. Ltd. vs. JCIT [IT(TP)A No. 870/Bang/2013] (paras 17 to 19) it has been held that adjustment towards wor....