TaxTMI 
TaxTMI 
2026 (6) TMI 1378
X X X X Extracts X X X X
X X X X Extracts X X X X
....e Hon'ble DRP) erred on facts and in law, in making an addition of RS. 26,10,04,914 to the Appellant's taxable income by incorrectly determining the arm's length price for payment of royalty and service fees under subscription segment 1.2 Ld. AO/The TPO erred on facts and in law in adopting an arbitrary and ad hoc approach and modifying the economic analysis carried out by the Appellant in the Transfer Pricing Documentation ('TP Documentation'), and introducing new filters, without providing any cogent reasons 1.3 Ld. AO/The TPO erred on facts and in law in arbitrarily rejecting various comparable companies selected by the Appellant in the TP Documentation basis the provisions of Rule 10B (2) of the Rules. 1.4 Ld. AO/The TPO erred on facts and in law in introducing new comparable companies without appreciating that such companies are functionally dissimilar to the Appellant and violated the provisions of Rule 10B (2) of the Rules. 1.5 Ld. AO/The TPO erred in computing the arm's length price based on incorrect computation of net operating profit margin of comparable. 18 Ld. AO/The TPO erred in law in not allowing working ca....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ons. 3.3 14. AO/The TPO erred on facts and in law in arbitrarily rejecting various comparable companies selected by the Appellant in the TP Documentation basis the provisions of Rule 108(2) of the Rules. 3.4 L4. AO/The TPO erred on facts and in law in introducing new comparable companies without appreciating that such companies are functionally dissimilar to the Appellant and violated the provisions of Rule 10B(2) of the Rules. 3.5 14. AO/ 14. TPO erred in computing the arm's length price based on incorrect computation of net operating cost plus margin of comparables. 3.6 Ld. AO/The TPO erred in law in not allowing working capital adjustment and other relevant adjustments as necessitated per the provisions of Rule 10B(1) and Rule 10B(3). 4. Adjustment relating to international transactions pertaining to provision of IT enabled services-RS. 4.46.15.215 4.1 The Lid. AO and the L.d. TPO (under the directions of Hon'ble DILP) erred on facts and in law, in making an adjustment of RS. 4,46,15,215 to the Appellant's taxable income by incorrectly determining the arm's length price for provision of IT enabled services. ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....nies has affected its profit margin; • Rejecting all the judicial precedents submitted by the Appellant in the above matter; • Rejecting grant of working capital adjustment on an ad- hoc basis citing reasons such as lack of information regarding daily balances of working capital, difference in cost of capital of companies and such similar reasons; and • Not appreciating that it was beyond the power of Appellant to obtain the information which is not available in public domain. If at all the said information was critical for grant of working capital adjustment, the Ld. TPO ought to have exercised its power u/s. 133(6) of the Act to obtain such details from comparable companies. 4. Facts of the case in brief, are that the assessee is a part of the Red Hat group and was held by Red Hat USA. Assessee is engaged in the business of providing "open source" software to customers worldwide. The software being "open source", Red Hat group does not specifically charge its customers for the same. Major revenue earned by the group was from its subscriptions with Red Hat Enterprise Linux as the primary source of the companies' worldwide growth plan. ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....rades, updates and bug fixes) and enables the customers to modify and customize the software to suit their requirements. Red Hat USA provides Red Hat Enterprise Linux, JBoss Enterprise Middleware & other software programs. Once an open source software is downloaded, software users may require access to modifications, additions or further enhancements and ongoing support services. The sale of 'Red Hat Subscriptions' enable the customers to avail and access the above- mentioned features and support services. The assessee Red Hat India distributes open source 'Red hat Subscriptions' to customers in India and also provides training related services to its customers. These business activities of the assessee have been classified by it into two segments i.e. 'Subscription Segment' and 'Services Segment'. A. Subscription Segment -Red Hat India identifies customers and enters into contracts with them for sale of the subscriptions. Generally, the contracts with customers are for 1-3 years. However, in case of Government contracts, the period of the contract ranges from 7-9 years. With respect to Government contracts, even though customer identificati....
X X X X Extracts X X X X
X X X X Extracts X X X X
....sed set of following 4 companies with unadjusted margin of 14.38%. Sr. No. Name of the company Weighted average operating margin on operating revenue (OP/OR) (%) 1 Sonata Information Technology Limited 3.28% 2 K7 Computing Private Limited 9.10% 3 Virtual Galaxy Infotech Private Limited 14.14% 4 Innovana Thinklabs Limited 30.99% Mean 14.38% The TPO also rejected the working capital and, thus, proposed an adjustment of Rs. 26,10,04,914/-, being the shortfall in the revenue. Payment of royalty and service fees (Service segment) 9. The TPO at page 4 of the order has narrated the functions of the assessee under service segment as under: "B. Services Segment -Under the Services Segment, the assessee distributes training content to customers which primarily include Red Hat Global Learning Services (GLS) and provision of consultancy service. GLS refers to training courses designed to educate customers about Red hat Linux, including the Red hat Certified Engineer (RHCE) programme. The training and examination courseware is provided by the AE Red Hat USA. For this service, the AE charges the assessee service fe....
X X X X Extracts X X X X
X X X X Extracts X X X X
....6 Great Software Laboratory Private Limited 16.19% 7 Expleo Solutions Ltd. 17.18% 8 Daffodil Software Pvt. Ltd. 21.25% 9 Comviva Technologies Ltd. 23.34% 10 R Systems International Limited (Segmental) 23.92% 11 CG-VAK Software and Exports Limited 24.36% 12 Virinchi Limited (Segmental) 24.71% 13 Nihilent Ltd. 25.31% 14 Interglobe Technology Quotient Pvt. Ltd. 45.17% 15 Cybage Software Pvt. Ltd. 46.66% 16 Consilient Technologies Pvt. Ltd. 55.05% 35th Percentile 16.19% Median 22.30% 65th Percentile 24.36% 12. The TPO noted that the assessee computed its margin at 15% of the cost in the software development segment, by using TNMM as the most appropriate method. It selected 18 comparables having median of unadjusted range at 12.90% and median of adjusted range at 11.65%. The assessee, thus, considered its transaction with AE to be at arm's length. The TPO rejected 8 comparables due to various reasons. Further, he introduced 6 new companies and accordingly set of following 16 companies with unadjusted margin of 22.30%. The TPO also rejecte....
X X X X Extracts X X X X
X X X X Extracts X X X X
....pect to some specific activities e.g. pre on-boarding procedures related to collation of documents and personal information of the employees. The team also supports employees across Red Hat entities to organize documentation needed for Visa applications. d) Procurement: The procurement function is carried out by a small team who operate under the guidance of the Red Hat's Global Procurement team. Each team member specializes in a particular type of product procurement and interacts with certain identified vendors for procurement purposes. These interactions are governed by the delegation of authority guidelines/ limits set and the guidelines issued by the Global Procurement team. (iv) IT Helpdesk Team: This team provides IT infrastructure helpdesk support to employees of Group companies. These services include Infrastructure support, Application Development, Local IT Infrastructure etc. For the provision of the above mentioned services, during FY 2019-20, Red Hat India has charged its AEs a service fee which recovers the costs incurred in the provision of the above services along with a mark-up of 15% on costs." 14. The TPO noted that the assessee computed ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....uting Pvt. Ltd., (ii) Innovana Thinkables Ltd. and (iii) Virtual Galaxy Infotech Pvt. Ltd. 16.1 The assessee is also seeking inclusion of following comparables: (i) Compuage Infocom Limited, (ii) Dimension Data India Limited, (iii) Savex Technologies Pvt. Ltd., (iv) Informatics Technologies Private Limited, (v) Galaxy Office Automation Private Limited, (vi) Iris Computers Limited and (vii) Datasoft Network Solutions Private Limited. Based on the above, we shall undertake the compatibility of the companies sought for inclusion/exclusion by the assessee. 17. K7 Computing Pvt. Ltd., Virtual Galaxy Infotech Private Limited and Innovana Thinklabs Limited At the outset, the Ld.AR submitted that K7 Computing Pvt. Ltd., Virtual Galaxy Infotech Private Limited and Innovana Thinklabs Limited have been excluded by coordinate bench of this Tribunal in assessee's own case for AY 2016- 17 in ITA No. 1379/Mum/2021, for AY 2017-18 in ITA No. 801/Mum/2022 and for AY 2018-19 in ITA No. 2442/Mum/2022, by observing as under: AY 2016-17 (ITA No. 1379/Mum/2021) "K7 Computing Pvt. Ltd. (K7) 27. The assessee challenged the inclusion of this comparable on the grounds inter....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ne. 8.1 The Ld.AR submitted that, this comparable deals in software products, solutions and specialised software services which indicates that company provides highly technical proprietary product comprising of core banking solution, ERP solutions etc. this also submitted that the company is involved in Services in the field of application development, big cartel, artificial intelligence, mobile computing etc. 8.2 The Ld.AR submitted that, the assessee on the contrary is only a reseller of subscription assuming limited risk. 8.3 On the contrary the Ld.DR relied on the orders passed by the authorities below. We have perused the submissions advanced by both sides in the light of the records placed before us. 8.4 It is noted that this comparable deals in software products, solutions. From the disclosure of general information about the company and page B17, it is noted that, this company belongs to commercial industry. At page B18, it shows that this company is into automatic data processing machine weighing less than 10 KG in the product services relates to personal computer laptop other digital automatic data processing machine etc. ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....at this company is functionally dissimilar, as it is engaged primarily in the manufacturing and development of software products, whereas the assessee's business model is confined to being a limited-risk reseller of subscription-based software, without any activity of product development or ownership of intellectual property. From the extracts of the annual report, it emerges that Innovana Thinklabs has developed numerous products, which have established a market presence under its brand. Its product portfolio includes a suite of applications and software such as Ad-blocker, Disk Cleanup, Space Reviver, File Opener, and Privacy Protector. These are products innovated, developed, and maintained by the company itself. The disclosure in its management report further testifies to the fact that the company is in the constant pursuit of technological innovation, investing resources in developing new products which are thereafter registered in the market. Such a business model is wholly distinct from that of the assessee, who does not engage in any product innovation, but only distributes subscriptions of pre-developed Red Hat software on a limited-risk basis. The financial d....
X X X X Extracts X X X X
X X X X Extracts X X X X
....view that Innovana Thinklabs Limited cannot be considered as a valid comparable for benchmarking the international transactions of the assessee. Its functional profile as a full-fledged product development and innovation-driven company is entirely at variance with that of the assessee, who is merely a limited-risk reseller. Accordingly, we direct the Ld. AO/TPO to exclude Innovana Thinklabs Limited from the final set of comparables." 18. We have heard both the parties and perused the materials on record. The Ld. AR has submitted the compilation of the annual reports together with a detailed comparative chart, which clearly demonstrates that its functional profile has remained unchanged over the years. There is no variation in the functions performed, assets employed or risks assumed (FAR) by the assessee during the year under consideration, when compared with the AYs 2016-17, 2017-18 and 2018-19. This Tribunal, in assessee's own case for the said years, examined the very same profile and comparables in depth and has given categorical findings. The Ld. DR has not brought on record any new facts, materials or distinguishing features to deviate from the earlier finding....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ing capital adjustment, as the same goes to the root of the sole surviving transfer pricing adjustment 11. It is an admitted and undisputed position that in the first round of litigation, the coordinate bench of this Tribunal unequivocally held that the assessee is entitled to working capital adjustment. The Tribunal directed the learned TPO to verify the computation furnished by the assessee in its transfer pricing study and the detailed working capital adjusted margin computation, and thereafter grant such adjustment in accordance with law. The relevant extract from the Tribunal's order, which is binding on the lower authorities, is reproduced hereunder. "64 ..... So we are of the considered view that the assessee is entitled for working capital adjustment. The TPO is directed to verify the computation furnished in transfer pricing study and detailed working capital adjusted margin computation furnished by the assessee and accordingly provide the working capital adjustment to the assessee in view of the settled principle laid down by the Tribunal, in order to provide level playing field for assessee as well as comparable company. 12. Despite such cl....
X X X X Extracts X X X X
X X X X Extracts X X X X
....18-19 had also permitted WCA to the assessee. Hence, following the above precedents and in the absence of any distinguishing feature brought on record by the Revenue, we hold that the assessee is entitled to working capital adjustment, wherever the differences in working capital materially impact the margin computation of the comparables. The assessee shall furnish the requisite details before the AO/TPO, who shall compute and grant such adjustments in accordance with law. Accordingly, grounds 1.6 and additional ground 10 raised by the assessee are allowed for statistical purpose. SERVICE SEGMENT 23. Grounds 2.1 to 2.4: The Ld. AR filed his arguments in the form of detailed chart. The assessee is seeking exclusion of following companies: (i) Career Mosaic Pvt. Ltd., (ii) People Combine Educational Initiatives Pvt. Ltd., (iii) Sarla Holdings Pvt. Ltd., (iv) Knowledgehouse Ltd., (v) Eduspark International Pvt. Ltd. and (vi) Akash Educational Services Ltd. On the other hand, it is seeking inclusion of following companies: (i) Compucom Software Ltd (segmental), (ii) LCC Infotech Limited and (iii) Attest Testing Services Ltd. 24. The Ld. AR submitted that (i) Career Mosaic Pvt.....
X X X X Extracts X X X X
X X X X Extracts X X X X
..... 2442/Mum/2022) "29. We have carefully considered the submissions of the Ld. AR and perused the material placed on record. It is an admitted position that the functional profile of the assessee has remained unchanged vis-à-vis the earlier AYs, and the assessee has also furnished before us a compilation of annual reports along with a detailed functional analysis chart of the comparables. On perusal thereof, we find that companies such as Career Mosaic Pvt. Ltd., People Combine Educational Initiatives Pvt. Ltd., Sarla Holdings Pvt. Ltd., and G.D. Goenka Pvt. Ltd. are primarily engaged in the field of education, training, and allied activities. Their business model revolves around rendering of educational and coaching services, which is entirely distinct from the business model of the assessee, who is engaged in the business of software subscription resale. The earlier coordinate benches of this Tribunal in assessee's own case have already examined these very comparables and come to the categorical conclusion that entities engaged in education and training cannot be equated with a limited-risk software distributor, given the significant differences in fun....
X X X X Extracts X X X X
X X X X Extracts X X X X
....o submitted that, this company is engaged in the field of education activities through schools unlike the services rendered by the assessee. It is submitted that the business model of Knowledgehouse Ltd. revolves around rendering of educational services, which is entirely distinct from the business model of the assessee. 26.1 We have carefully considered the submission of Ld. AR and examined the materials placed on record in relation to exclusion of Knowledgehouse Ltd. The TPO has himself applied the filter of turnover and hence, he cannot go against it. It is clear from the facts on record that this comparable does not satisfy the turnover filter. Moreover, it is also seen that the company is engaged in the field of education activities through schools and hence, not a suitable comparable vis- à-vis assessee. We, accordingly, direct to exclude Knowledgehouse Ltd from the final list of comparable companies. 27. Eduspark International Pvt. Ltd. The assessee has challenged inclusion of Eduspark International Pvt. Ltd. as a comparable on the ground that it fails the Related Party Transaction (RPT) filter of 25% of total sales. The Ld. AR submitted that company has sign....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ssee. On the other hand, the Ld. CIT-DR relied on the orders passed by authorities below. 28.1 We have heard both sides and perused the materials placed before us. We find that Akash Educational Service Ltd. is primarily engaged in the field of coaching education and Franchisee and sale of products. Their business model revolves around rendering of educational and coaching services, which is separate from the business model of the assessee. This Tribunal in assessee's own case had earlier examined similar comparables and come to the conclusion that entities engaged in education services cannot be equated with a limited-risk distributor, given the significant differences in functions performed, assets employed and risks assumed. The activities of such education-based companies are not only different in nature, but also involve ownership of intangible assets, which make their margins incomparable to the assessee's business model. In light of the foregoing analysis, we are of the considered view that Akash Educational Services Ltd. is not a suitable comparable vis-à-vis assessee, hence it is ordered to be excluded. 29. Compucom Software Ltd. The authorities bel....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... PROVISION OF SOFTWARE DEVELOPMENT SERVICES 34. Ground No. 3.1-3.4 The Ld. AR has submitted his arguments in the form of the detailed chart and requested exclusion of following companies: (i) Nihilent Ltd., (ii) Consilient Technologies Pvt. Ltd., (iii) Interglobe Technology Quotient Pvt. Ltd., (iv) Comviva Technologies Ltd., (v) Cybage Software Pvt. Ltd., (vi) Daffodil Software Pvt. Ltd. The Ld. AR is also, seeking inclusion of following comparables: (i) Maveric Systems Limited and (ii) Batchmaster Software Pvt. Ltd. Based on the above, We shall have consider the compatibility of the companies sought for inclusion/exclusion by the assessee. 35. Nihilent Ltd. At the outset, the Ld.AR submitted that, Nihilent Ltd has been excluded by coordinate of this Tribunal in assessee's own case for in ITA No. 1379/Mum/2021 (AY 2016-17), in ITA No. 801/Mum/2022 (2017-18) and in ITA No. 2442/Mum/2022 (AY 2018-19) by observing as under: AY 2016-17 (ITA No. 1379/Mum/2021) "Nihilent Ltd. 46. The assessee sought exclusion of Nihilent Ltd. as a comparable on the ground that it is functionally dissimilar vis-à-vis assessee. This objection was also raised befor....
X X X X Extracts X X X X
X X X X Extracts X X X X
....their exclusion on account of functional differences and failure to satisfy the requisite filters, including the export revenue filter in the case of Kellton Tech Solutions Ltd. The assessee has placed on record the annual reports and functional charts to show that its FAR profile continues unchanged during the present year. On the other hand, the Revenue has not produced any fresh material or distinguishing fact to justify a departure from the settled position. In these circumstances, we see no reason to take a different view for the year under appeal. Accordingly, following the consistent approach adopted in assessee's own case, we direct that (i) Nihilent Ltd., (ii) Infobeans Technologies Ltd., and (iii) Kellton Tech Solutions Ltd. stand excluded from the final set of comparables." 35.1 It is clear from the above that for AYs 2016-17, 2017-18 and 2018-19, the Tribunal had already examined the comparability of Nihilent Ltd. and directed its exclusion on account of functional differences. The assessee has placed on record the annual reports and functional charts to show that its FAR profile continues unchanged during the present year. On the other hand, the Ld. DR ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....to be excluded. 37. Comviva Technologies Ltd. At the outset, Ld. AR submitted that this company is functionally not similar, since it earns revenue from diversified activities such as license fees with implementation and other services (60% of total turnover), revenue sharing arrangements (11% of total turnover), annual maintenance contract services (27% of total turnover) and sale of equipment and software licenses (16% of total turnover). He also submitted that separate segment for purely software development service is not available in the annual report. On basis of annual report, it was also submitted that the company undertakes significant research and development expenditure and owns intangible assets and, therefore, ought to be rejected from the final set of comparable. On the contrary, the Ld. DR relied on the orders passed by authorities below. 37.1 We have heard the rival submissions and perused the materials placed on record. The company is engaged in diversified activities such as license fees with implementation & other services (60% of total turnover), revenue sharing arrangements (11% of total turnover), annual maintenance contract services (27% of total tur....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ch & development and AMP related expenses unlike the Assessee. Therefore, Cybage cannot be treated as a valid comparable to the Assessee. Hence, the TPO/AO is directed to exclude said company for the list of comparables. 39. Daffodil Software Pvt. Ltd. In respect of Daffodil Software Pvt. Ltd., the Ld. AR submitted that the company is engaged in design and development of software applications including customized and packaged software products . It also earns revenue from sale of third-party products and licenses. However, no segmental data for product and service is available in the annual report of the company hence it is not a comparable to the assessee. On the contrary, the Ld. DR relied on the orders passed by authorities below. 39.1 We have heard the rival submission and perused the materials placed on record. On perusal of annual report at page Nos. B1425 & B1431, it is seen that the company earns revenue from both products and services but does not have segmental bifurcation of revenue. Since, no segmental data of Revenue is available for Daffodil it cannot be treated as comparable. Hence, the TPO/AO is directed to exclude said company from the list of comparables.....
X X X X Extracts X X X X
X X X X Extracts X X X X
....s allowed for statistical purpose. 42. Batchmaster Software Pvt. Ltd. The Assessee is seeking inclusion of Batchmaster Software Pvt. Ltd. as a comparable on the ground that it earns RS. 22,52,40,967 out of total income of RS. 25,06,23,283 constituting 90% revenue from export of services as given on page B1530 of the paper-book. Hence, it passes the export filter of 75% applied by the TPO. 42.1 We are of the considered view that when the TPO has himself applied the filter of export, he cannot go against it. From the records, it is clear that this comparable satisfies the export filter. Admittedly, there is no functional dissimilarities observed by the lower authorities in respect of this comparable. The authorities below rejected this comparable only on the basis that it fails export filter. In view of the above facts discussed, we hold that Batchmaster Software Pvt. Ltd. qualifies as a valid comparable and direct the AO/TPO to include it in the final list. 42.2 Accordingly, ground Nos. 3.1 to 3.4 stand partly allowed for statistical purposes as indicated herein above. 43. Ground No. 3.5 is raised by the assessee seeking correction of errors computation in margin of c....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the case of Credence Resource Management (P.) Ltd. v. Asstt. CIT [IT Appeal No. 133 (PUN) of 2021, dated 18-6-2021] held that the activities of MPS are akin to a IT service provider and not an ITES service provider. So we direct to exclude MPS from the final set of comparables." AY 2017-18 (ITA No. 801/Mum/2022) "24.4 Admittedly, there are no factual differences in FAR of the assessee for the year under consideration vis-à-vis AY 2016-17. The Ld.DR has not brought anything on record to distinguish the above observations of the coordinate bench of this Tribunal in assessee's own case. We therefore do not find any reason to uphold this comparable. Respectfully following the view taken by this Tribunal in assessee's own case for AY 2016-17, we direct this comparable to be excluded from the final list." 46.1 Admittedly, there are no factual differences in FAR of the assessee for the year under consideration vis-à-vis AY 2016-17 and 2017-18. The Ld. DR has not brought anything on record to distinguish the above observations of the Tribunal in assessee's own case. Hence, following the above view, we direct M P S Limited to be excluded from final l....