Income Tax Appellate Tribunal - Jaipur
Inteegrated Decisions And Systems , ... vs Assessee on 12 June, 2015
1
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012
Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
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IN THE INCOME TAX APPELLATE TRIBUNAL, JAIPUR BENCHES, JAIPUR
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BEFORE: SHRI R.P. TOLANI, JM & SHRI T.R. MEENA, AM
vk;dj vihy la-@ITA No. 1121/JP/2011
fu/kZkj.k o"kZ@Assessment Year : 2007-08
Integrated Decisions and Systems cuke Income Tax Officer
(India) Private Limited, Vs. Ward 6(3), Jaipur.
Current Address:- 2nd and 3rd Floor,
Tower 5, Cyber City, Magarpatta,
Hadapsar, Pune- 411013.
Previous Address:- E-16, Gokhle
Marg, C-Scheme, Jaipur.
LFkk;h ys[kk la-@thvkbZvkj la-@PAN/GIR No.: AAACI 7132 C
vihykFkhZ@Appellant izR;FkhZ@Respondent
vk;dj vihy la-@IT(TP)A No. 01/JP/2012
fu/kZkj.k o"kZ@Assessment Year : 2008-09
Integrated Decisions and Systems cuke Assistant Commissioner
nd rd
(India) Private Limited, 2 and 3 Vs. of Income Tax,
Floor, Tower 5, Cyber City, Circle-6, Jaipur.
Magarpatta, Hadapsar, Pune-
411013.
LFkk;h ys[kk la-@thvkbZvkj la-@PAN/GIR No.: AAACI 7132 C
vihykFkhZ@Appellant izR;FkhZ@Respondent
fu/kZkfjrh dh vksj ls@ Assessee by : Shri M.P. Lohia &
Shri Pajesh Parikh (CA)
jktLo dh vksj ls@ Revenue by : Mrs. Rolee Agarwal (CIT)
2
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012
Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
lquokbZ dh rkjh[k@ Date of Hearing : 15/04/2015
?kks"k.kk dh rkjh[k@ Date of Pronouncement : 12/06/2015
vkns'k@ ORDER
PER: T.R. MEENA, A.M. These are the appeals filed by the assessee arise against the order of the Assessing Officer dated 28/10/2011 and DRP direction dated 08/08/2011 for A.Y. 2007-08 and Assessing Officer order dated 29/10/2012 and DRP direction dated 18/07/2012 for A.Y. 2008-09. The effective grounds of both the appeals are as under:-
Grounds of assessee's appeal ITA 1121/JP/2011 "1. Erred in assessing total income at Rs. 91,36,830/- as against Rs. 5,61,900/- computed by the appellant.
2. Erred in making transfer pricing adjustment by rejecting the analysis undertaken by the Appellant to determine arm's length price for its international transactions pertaining to provision of software development services to the AE.
3. erred in rejection of the economic analysis conducted by the appellant and considering the unjustified fresh search conducted by the learned TPO.
4. Erred in considering the non contemporaneous data and single year data while determining the arm's length price.
5. Erred in inappropriate use of information obtained which was not available in public domain by 3 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO exercising the powers under section 133(6) of the Act without adopting consistent and transparent approach.
6. Erred by applying turnover Rs. 1 crore as a comparability criterion without applying any range of turnover on upper side and consequently, selecting inappropriate companies as comparable to the appellant.
7. Erred by rejecting certain comparable companies identified by the appellant by applying inappropriate criteria of companies having diminishing revenue trend.
8. Erred in rejecting certain comparables considered by the appellant on the ground that the comparables were having different accounting year (other than March 31 or companies whose financial statements were for a period other than 12 months).
9. Erred in modifying the criteria used by appellant i.e. salary and wages cost ratio of 50% and applying 25% criteria for the same.
10. Erred in rejecting certain comparables considered by the appellant in the comparability analysis using onsite revenues greater than 75 percent of the export revenues' as a comparability criterion.
11. Erred in ignoring, without prejudice to above grounds, the fact that 3 companies (submitted by the appellant and also considered comparable companies by the learned TPO) can also be considered as final set of comparables for determining the arm's length price of the international transaction.
12. Erred in considering dissimilar companies as comparable companies to the appellant for determining the arm's length price of the international transaction.4
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
13. Erred in selecting the companies having super normal profits as comparables to the appellant.
14. Without prejudice to other grounds, erred in considering the incorrect margins of companies selected by the learned TPO/A.O. as comparable to the appellant.
15. Erred in comparing full-fledged risk bearing entities with the appellant's captive operations without making any risk adjustment for differences between the functional and risk profile of comparable companies considered as comparable vis a vis the risk profile of the appellant.
16. Erred in computing the arm's length price of software development services as the mean arm's length price determined, without taking into account the lower 5% variation from the mean arm's length price determined.
17. Erred in ignoring the fact that since appellant is availing tax holiday under section 10B of the Act, there is no intention to shift the profit base out of India, which is one of the basic intentions of the introduction of transfer pricing provisions.
18. Erred in initiating penalty proceeding under sections 271(1)(c), 271AA and 271G of the Act and levying interest under section 234B and 234D of the Act. The appellant craves leave to add, alter, vary, omit, substitute or amend the above grounds of appeal, at any time before or at the time of hearing of appeal, so as to enable the Hon'ble Income Tax Appellate Tribunal to decide this appeal according to law." Grounds of assessee's appeal IT (TP)A No. 01/JP/2012 "1. Erred in making transfer pricing adjustment by rejecting the analysis undertaken by the appellant to determine arm's length price for its international 5 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO transactions pertaining to provision of software development services to the AE.
2. Erred in rejection of the economic analysis undertaken by the appellant and conducting unjustified fresh search conducted by the learned TPO.
3. Erred in considering the non contemporaneous data and single year data while determining the arm's length price.
4. Erred in inappropriate use of information obtained which was not available in public domain by exercising the powers under section 133(6) of the Act without adopting consistent and transparent approach.
5. Erred by applying inappropriate rejection criteria of diminishing revenue trend.
6. Erred by applying the rejection criteria of different accounting year (other than March 31 or companies whose financial statements were for a period other than 12 months).
7. Erred by rejecting the criteria or research and development (R&D) cost to sales ratio less than 10% applied by the appellant.
8. Erred in modifying the criteria used by appellant i.e. salary and wages cost ratio of 50% and applying 25% criteria for the same.
9. Erred in rejecting certain comparables considered by the appellant in the comparability analysis using 'onsite revenues greater than 75 percent of the export revenues' as a comparability criterion.
10. Erred in considering dissimilar companies as comparable companies to the appellant for 6 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO determining the arm's length price of the international transaction.
11. Erred in identifying certain dissimilar companies as comparable companies to the appellant on ad-hoc basis (Cherry picking).
12. Erred in selecting the companies having super normal profits as comparables to the appellant.
13. Without prejudice to other grounds, erred in considering the incorrect margins of companies selected by the learned TPO/A.O. as comparable to the appellant.
14. Erred in considering the incorrect computation methodology of the working capital adjustment of the comparables selected by the learned TPO/A.O. as comparable to the appellant.
15. Erred in comparing full-fledged risk bearing entities with the appellant's captive operations without making any risk adjustment for differences between the functional and risk profile of comparable companies considered as comparable vis a vis the risk profile of the appellant.
16. Erred in computing the arm's length price of software development services as the mean arm's length price determined, without taking into account the lower 5% variation from the mean arm's length price determined.
17. Erred in ignoring the fact that since appellant is availing tax holiday under section 10B of the Act, there is no intention to shift the profit base out of India, which is one of the basic intentions of the introduction of transfer pricing provisions.
18. Erred in initiating penalty proceeding under sections 271(1)(c) of the Act and levying interest under section 234B and 234C of the Act.
7ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO The appellant craves leave to add, alter, vary, omit, substitute or amend the above grounds of appeal, at any time before or at the time of hearing of appeal, so as to enable the Hon'ble Income Tax Appellate Tribunal to decide this appeal according to law."
2. Ground No. 1 of both the years are general in nature, the same are not pressed. Therefore, we dismiss the ground No. 1 of both the years as not pressed.
3. Grounds No. 2 to 8, 10,11,14,16 and 17 for A.Y. 2007-08 and grounds No. 2 to 7,9,11,13,14,16 and 17 for A.Y. 2008-09 have not been pressed, therefore, the same are dismissed as not pressed.
4. Ground No. 18 in both the years is consequential to the finding given by this Bench.
5. Ground No. 9 in A.Y. 2007-08 is against modifying the criteria used by appellant i.e. salary and wages cost ratio of 50% and applying 25% criteria for the same. Ground No. 12 of the assessee's appeal for A.Y. 2007-08 is against considering dissimilar companies as comparable companies to the appellant for determining the arm's length price.
6. Ground No. 13 in A.Y. 2007-08 is against selecting the companies having super normal profits as comparables to the appellant and ground No. 15 in A.Y. 2007-08 is against comparing full fledged risk bearing 8 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO entities with the appellant's captive operations without making any risk adjustment for differences between the functional and risk profile of comparable companies considered as comparable vis a vis the risk profile of the appellant.
7. Similar grounds of appeal have also been raised by the appellant in A.Y. 2008-09. The ld A.O. observed that the assessee company filed its e-return of income on 29/10/2007 for A.Y. 2007-08 declaring total income of Rs. 5,61,900/- and on 31/08/2008 for A.Y. 2008-09 at Rs.
3,49,140/-. The cases were scrutinized U/s 143(3) of the Income Tax Act, 1961 (hereinafter referred as the Act). The assessee company is engaged in the business of development of online support software. The service provided relate to software development, product customization and online 24X7 product technical support. The major clients are global hotel chains, such as, Hilton, Hyatt, Shangri-La etc. The software used by the hotels to help optimizing room pricing. During the A.Y. 2007-08, the assessee had shown net profit of Rs. 85,41,157/- yielding N.P. rate of 10.73% against gross turnover of Rs. 7,95,98,205/- and N.P. disclosed in A.Y. 2008-09 at Rs. 1,32,66,234/- on gross turnover of Rs.
11,12,66,664/- yielding N.P. rate of 11.91%. On perusal of P&L account, it revealed that the assessee, Integrated Decision & Systems (India) Pvt.
9ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Ltd. had entered into an international transaction with Integrated Decisions and Systems Inc. 1650, West Bloomington USA for the development of software and support of software. The Indian Company was providing services and charging the same from the associated enterprise. These international transactions with the Associate Enterprise were referred to the Transfer Pricing Officer (TPO) U/s 92CA of the Act. The order of the TPO was received by the Assessing Officer and forwarded to the assessee for its comment. In A.Y. 2007-08, the TPO has observed as under:-
"Computation of arm's length price:
The arithmetic mean of the Profit Level indicators is taken as the arms length margin. (Please refer Annexure-B enclosed with the Order of the Transfer Pricing Officer dt. 29.10.2010 for details of computation of PLI of the comparable). Based on this, the arms length price of the software development services rendered by the taxpayers to its AE(s) is computed as under:
Arithmetic Mean PLI : 25.00%
Less: Working capital adjustment (Annexure) : 1.31%
Adj. Arithmetic Mean PLI : 23.69%
Arm/s Length Price:-
Operating Cost Rs. 7,12,85,578/-
Arms Length Margin 23.69% of the Operating Cost
Arms Length Price (ALP) @ Rs. 8,81,73,131/-
123.69% of operating cost
10
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Price Received vis a vis the Arms Length Price:
The price charged by the tax payers to its Associated Enterprises is compared to the Arms Length Price as under:-
Arms Length Price @ 123.69% of Rs. 8,81,73,131/- operating cost Price charged in the international Rs. 7,95,98,205/- transactions Shortfall being adjustment U/s Rs. 85,74,926/- 92CA The above shortfall of Rs. 85,74,926/- is treated as transfer pricing adjustment u/s 92CA. If any filter or criteria applied by the taxpayer for search of comparables is accepted or any filter or criteria applied by the TPO is relaxed, the entire accept/reject matrix changes resulting in a new comparable set including those companies which are not taken either by the taxpayer or by the TPO in its final comparable set and which may not be finding place in this order. In essence, any disturbance in any one of the criteria of the taxpayer or the TPO results in fresh comparability analysis and the TPO should be given an opportunity if such situation arises.
Based on the above detailed discussion, the arm's length price of the international transactions pertaining to providing software development services and support activities is determined at Rs. 8,81,73,131/-, instead of Rs. 7,95,98,205/- charged in its international transactions, resulting in an adjustment to the extent of Rs. 85,74,926/-."11
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Summary of Transfer pricing adjustments Segment Arm's length Price Shown Adjustment Software Rs. 8,81,73,131/- Rs. 7,95,98,205/- 85,74,926/- Development Services Thus, the above amount of Rs. 85,74,926/- is treated as transfer pricing adjustment for the F.Y. 2006-07. No deduction u/s 10B shall be allowed to the taxpayer in respect of this enhancement to its income, as per proviso to Section 92C(4)."
In A.Y. 2008-09, the TPO has observed as under:-
Most Appropriate Method:
TNMM, as selected by the taxpayer, is considered as the most appropriate method in the facts and circumstances of the case. Profit Appropriate Method:
The taxpayer considered the operating cost to operating revenue as the Profit Level Indicator.
The TPO has also considered the same PLI. The Profit before interest and tax is considered for computing the operating margins. But, the incomes and expenses related to the operations of the relevant financial year alone is considered for the computation of operating margins of the comparables. For example, the following incomes which are non-operating in nature and nothing to do with the operations of the company are excluded from operating revenues.12
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO i. Interest ii. Dividends iii. Provision no longer written back iv. Gain on sale of assets/investment v. Income from investments vi. Gain on revaluation of assets vii. Other incomes not pertaining to the operations Similarly, the following expenses which are non-operating and provisions are excluded from operating expenses.
i. Provisions other than provisions for bad debts. ii. Loss on sale of assets/investments iii. Loss on revaluation of assets iv. Other expenses not pertaining to the operations. Similarly extra ordinary expenses or income which do not recur every year like donations, preliminary expenses written off, public issue expenses written off are not considered as operating expenses as the comparison of the profits should be at same level for the comparable and that of the tax payer. Further, foreign exchange gain/loss has been taken as operating income/loss. The ld TPO also commented on provision for doubtful debt and provisions for return back to decide the arm's length price (ALP). The ld TPO considered the objection raised by the assessee on comparable proposed by him and modified the margin of profit. He used the data for 13 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO F.Y. 2007-08 as per Rule 10B4 of the Income tax Rules, 1962 (in short the Rules). He further calculated the arm's length price as under:-
The arithmetic mean of the Profit Level indicators is taken as the arm's length margin. (Please see Annexure B for details of computation of PLI of the comparables). Based on this, the arm's length price of the software development and support services segment rendered by the taxpayer to its AE(s) is computed as under:
Arithmetic mean PLI : 26.20%
Less: Working capital adjustment : (-) 0.18%
Arm's length Margin : 26.38%
Arm's length price:
Operating Cost Rs. 9,83,18,995/-
Arm's Length Margin 26.38% of the Operating Cost
Arm's Length Price (ALP) 126.38% Rs. 12,42,55,545/- of operating cost Price received vis a vis the Arms Length price: The price charged by the payer to its Associated Enterprises is compared to the Arms Length price as under:
Arm's length price (ALP) @ Rs. 12,42,55,545/- 126.38% of operating cost Price received in the international Rs. 11,19,31,568/-
transactions Shortfall being adjustment u/s Rs. 1,23,23,977/-. 92CA The ld TPO also observed that any disturbance of any one of the credit of the tax payer or the TPO result in comparability analysis and the TPO 14 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO should be given an opportunity if such situation arises. In A.Y. 2007-08, the TPO directed to make adjustment U/s 92CA at Rs. 85,74,926/- and in A.Y. 2008-09 at Rs. 1,23,23,977/- and no deduction U/s 10B would be allowed to the tax payer as per provisions of Section 92C(4) of the Act.
The draft order in both the years was served on the assessee thereafter the assessee filed its objection before the Dispute Resolution Panel-1, New Delhi (DRP) U/s 144C(2)(b) of the Act on different dates. The DRP passed its order U/s 144C(5) on 08/08/2011 in A.Y. 2007-08 and on 18/07/2012 in A.Y. 2008-09 by considering the assessee's submissions.
The DRP considered the assessee's total objection-22 in A.Y. 2007-08 and gave the detailed order on objection wise and confirmed the order of the TPO on objection No. 1 by observing that the panel has come to a conclusion that there were flow in the search process carried out by the assessee and the TPO has carried out rerun of the search process. The assessee's objection on considering the three companies identified by the assessee in T.P. documentation and calculated their average mean @ 15.16% and assessed operating margin @ 11.66% was within +/-5% range of arithmetic mean on the basis of three comparables. The assessee submitted that the transaction was within the arm's length price. The DRP rejected the assessee's submission by considering the 15 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Hon'ble Delhi ITAT's decision in the case of Vedaris Technologies Ltd.
i.e. comparable can be one or more than one.
8. The ld DRP held that the assessee has not demonstrated how the earlier years circumstances have affected the margin in the current year.
As per Rule 10B(4) of the Rules for benchmarking an international transaction/data for comparables used should be of the year in which the transaction took place. The DRP held that the TPO has correctly used single year data for T.P. analysis. A fresh search conducted at the time of TP audit enabled in obtaining missing or incomplete data, which improving comparability analysis. The ld. DRP further considered the remaining objections point wise and directed the Assessing Officer to complete the assessment. The TPO vide order dated 15/10/2010 had recomputed the ALP on the basis of direction issued by the DRP. The Assessing Officer calculated the ALP at Rs. 8,83,79,859/-. The assessee charged Rs. 7,95,98,205/- and exchanged dues amounting to Rs.
4,55,795/-. The difference being adjusted U/s 92CA had been computed at Rs. 83,25,858/-. The same was added in the income of the assessee.
Similarly in A.Y. 2008-09, this ALP was calculated by the Assessing Officer after considering the direction of DRP and TPO at Rs.
12,00,08,165/- whereas the appellant had charged from AE for the 16 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO international transaction at Rs. 11,19,31,568/-, therefore, the difference of Rs. 80,76,597/- was added in the income of the assessee.
9. Now the assessee before us in both the years. The ld AR for the assessee for ground No. 9 has submitted as under:-
The ld TPO and consequently the ld A.O. have modified the selection criteria used by appellant i.e. salary and wages cost ratio of 50% and applied salary and wage cost criteria of 25% to reject companies having employee cost ratio of less than 25%. In this regard, the appellant, submits the following before your Honors:
The appellant had applied similar filter for earlier A.Y. i.e. 2006-
07. The ld TPO during the assessment proceedings calculated the +/- 15% range from the employee cost ratio of the assessee (74.15% for A.Y. 2006-07) and accordingly selected comparable companies having employee cost to total cost ratio in the range of 59.15% to 89.15%.
In case of appellant, the ratio of employee cost ratio for current year is 63.91%. Applying the basis applied by the TPO for A.Y. 2006-07, the +/- 15% range comes to 48.91% to 78.91% which is approximately close to the salary and wage cost ratio of 50% applied by the appellant. This also gives a clear indication that it is into software development and not into software products. Therefore, to identify appropriate comparable companies engaged into software development activities, a closer filter i.e. 50% should be used in order to arrive at close comparables.
17ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO He relied on the decision in the case of Avaya India (P) Limited Vs. ACIT (ITA No. 5150/Del/2010). He further submitted that the following additional companies selected by the TPO as comparable to the appellant should be rejected on the salaries and wages cost ratio criteria i.e. rejecting companies having employee cost ratio less than 50% for F.Y. 2006-07.
Sr. No. Name of the company % of Salary Cost to sales on page 261 of the Appeal Memo (Page 193 of the TP Order)
1. Accel Transmatic Limited (seg) 37.90%
2. Avani Cimcon technologies Ltd. 41.78%
3. Celestial Labs Ltd. 25.69%
4. Flextronics Software Systems ltd. 46.31% (Seg.)
5. Helios & Matheson Information 35.67% Technology Ltd.
6. Infosys Technologies Limited 45.84%
7. Ishir Infotech Limited 48.25%
8. KALS Information Systems Ltd. (Seg) 36.62%
9. Lucid Software Ltd. 41.17%
10. Megasoft Ltd. 37.87%
11. SIP technologies & Exports Ltd. 39.92%
12. Wipro Limited (Segmental) 42.13%
10. The ld Sr. DR vehemently relied on the order of the TPO as well as DRP. She drawn our attention on page No. 14 & 15 of DRP and argued that this filter had been used a starting point to carry out more thorough functional analysis. Since wages constitute a main cost 18 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO components so this comparison would given close comparables.
Therefore, she prayed to confirm the order of the Assessing Officer.
11. We have heard the rival contentions of both the parties and perused the material available on the record. The TPO has applied comparable case where salary and wages cost ratio was less than 50% whereas in assessee's case this ratio was 63.91%. In preceding year also, the TPO had applied the salary and wages ratio on the basis of +/-
15% range from the employees cost ratio of the assessee, which was maximum 74.15% in A.Y. 2006-07 and accordingly selected comparables companies having employee cost to total cost ratio in the range of 59.15% to 89.15%, therefore, we allow the assessee's appeal on this ground.
12. For grounds No. 12 and 13 for A.Y. 2007-08, the ld AR for the assessee has submitted that the ld TPO and consequently the ld Assessing Officer had additionally considered the dissimilar companies as comparable to the appellant. The appellant had analysed these companies in detail and provided the detailed reasons for rejection of these companies.
19ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Sr. Company Margin Employee Reason for Relevant pages Submissions by Ideas India No Name as per cost/Sales inclusion by of TPO/DRP . TP percentage TPO order in the Order Appeal memo A-TPO's comparables rejected by IDeaS India 1 Accel 20.59% 37.90% The company Page 36 I. The company fails Transmatic derives its (Ground no. employee cost filter Limited entire 15) and Page -Fails to satisfy the Employee ('Accel') software 180 to 183 (TP Cost Filter applied by the services order. Para Appellant. Ratio of segment 13.1) of the employees cost filter to sales revenue from Appeal Memo is 37.90% (Refer page 484 of software the paper book 1) development activities II. The company fails related party filter
- Related Party Transactions as a percentage of service income-60.45% (standalone basis). Therefore, it is apparent that the company fails the RPT filter applied by the Appellant and as applied by the TPO. Therefore, the company should be rejected as comparable. (Refer page 1 to 5 of the additional compilation I) III. The company does not have break up of software services revenue
- The company has following four segments: (Refer page 509 to 510 of the paper book I0
(a) hardware products,
(b) Software services- Two application software products i.e. prodigy and Healthspace marketed under this segment,
(c) Education and training;
and
(d) corporate unallocated.
- However break up of
revenue from software
services and software
products under software
services segment has not
been separately provided in
the financial statement
(Refer page 719 to 721 of
the paper book I)
2 Avani 49.70% 41.78% Based on the Page 36 I. The company fails to
Cimcon information (Ground No. satisfy employee cost filter
technologies received from 15) and Page - Fails to satisfy the
Ltd. ('Avani') the company 183 (TP order; Employee Cost Filter applied
20
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO u/s 133(6) of Para 13.2) of by the Appellant. Ratio of the Act, the the Appeal employee cost filter to sales company is Memo is 41.78% (Refer page 484 of considered as the paper book I).
comparable II. The company is functionally different
- The website of Avani makes it clear that it is engaged in providing software products (based on the following contents mentioned in websites of the company) (Refer page 6 to 7 of the additional compilation I)-
"DX change is an innovative product of the company. It is an XML web services based, fully scalable, easily configurable Data Exchange Middleware Server."
- The company is not covered in the search process carried out by the Appellant using contemporaneous data.
- Considering the fact that the business profile of the company is the same as previous year the company should be rejected as functionally different.
- Further, the Appellant would like to bring you Honour's kind attention to the fact that the learned TPO has considered this company as comparable in Appellant's own case for A.Y. 2006-07.
However, the Hon'ble Jaipur Tribunal in Appellant's case for A.Y. 2006-07 has rejected his company from the final set of comparable companies on the basis of Appellant's contention that the company is into sale of software products.
- Refer page 510 of the paper book I.
3. Calestial 55.10% 25.69% . As per Page 36 & 37 I. The company fails to Labs Limited information )Ground no. satisfy the employee cost ('Celestial') received u/s 15) and Page filter.
133(6) of the 183 to 202 (TP - Fails to satisfy the Act, this order :Para Employee Cost Filter applied 21 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO company was 13.4) of the by the Appellant. Ratio of engaged in Appeal Memo. employees cost filter to sales software is 25.69%. (Refer page 484 development of the paper book I) services.
II. The company is cherry 96.4% of the picked revenue is - Cherry picking of this from the company (not covered is software search process carried out by development. the Appellant as well as learned TPO also).
III. The company is functionally different
- Functionally different (Refer page 629 to 638 of the paper book I for relevant extracts reproduced from the annual report evidencing the functional profile of the company and page No. 639 to 644 of paper book I for extracts reproduced from draft and herring prospectus filed by Celestial Labs Limited.
- The assessee would like to bring yout Honours kins attention to the fact that the learned TPO had considered this company as comparable in Appellant's case for A.Y. 2008-09. However, the DRP in Appellant's case for A.Y. 2008-09 has rejected this company as comparable to the Appellant on the basis of following observation- "......
Besides that the company is constantly receiving loans from the Department of science and Industrial research and hence the company's economic circumstances are at absolute divergence from the Appellant and therefore the company is not a suitable comparable for analysis."
- It is apparent from Page 23 of the annual report the company for F.Y. 2006-07 (Refer page 8 to 9 of the additional compilation I) as that the company has received loans from DSIR.
Thus, based on the DRP 22 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO directions for A.Y. 2008-09, the company should be rejected as non-comparable.
- Refer page 510 to 517 of the paper book I.
4. E-Zest 36.30% 61.50% As per Page 37, 38 & I. The company is Solutions information 39 (Ground No. functionally different Limited ('E- provided by 15) and Page - Based on the website of the Zest') the company 203 (TP order: company, the company u/s 133(6), it Para 13.6) of provides Product is into the Appeal Engineering, Outsourced software Memo Product Development development services alongwith Software services and Development services. (Refer qualifies all page 518 and 647 of the the filters paper book I) applied by the learned TPO for serving as comparable companies
5. Helios & 35.17% 35.67% As per Page 39 & 40 I. The company fails to Matheson information (Ground No. satisfy the employee cost Information provided in 15) and Page filter Technology the annual 208 and 209) - Fails to satisfy the Limited report, it is (TP order : Employee Cost Filter applied ('Helios') into software Para 13.9) of by the Appellant. Ratio of development the Appeal employee cost filter to sales services and Memo is 35.67% (Refer page 484 of qualifies all the paper book I) the filters applied by II. The company is the learned functionally different TPO for - For F.Y. 2006-07, the serving as company has primarily comparable earned revenues from companies "software sales and services". (Refer page 519 of the paper book I). Further, as per the P&L a/c for F.Y. 2006-07 more than 95% of the operating revenues are from "software sales and services". However, no break up of revenue from software services and software sales has been provided in the financial statements and therefore this company should not be accepted as functionally comparable.
(Refer page 658 of the paper
book I)
- Very high turnover
compared to Appellant's
turnover- 183.51 crores.
23
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO (Refer page 658 of the paper book I).
6. Infosys 39.73% 45.84% The learned Page 40, 41 & I. The company fails to Technologie TPO has 42 (Ground No. satisfy the employee cost s Limited stated in the 15) and Page filter ('Infosys') TP order that 210 (TP order: - Fails to satisfy the "this Para 13.11) of Employees Cost Filter applied company is the Appeal by the Appellant. Ratio of comparable Memo employee cost filter to sales selected by is 45.84%. (Refer page 484 the tax payer of the paper book I) in its TP document II. The company is and was functionally different (Refer already page 10 to 15 of the discussed additional compilation I) under the - The company offers head software products for the "Analysis of banking industry, business comparables consulting and business chosen by process management the taxpayer services. Finacle TM, its in its TP universal banking solution, report" as partners with banks across above. The the global to power their annual report innovation agenda enabling is available them to differentiate their for F.Y. 2006- products and services
07. As per thereby enhancing customer the AR, it is experience and achieving into software greater operational development efficiency.
and services and qualifies - Moreover, the company has all the filters a substantial investment in applied by R&D (about Rs. 167 crores).
the TPO. Also, it derives substantial
Thus, it is portion of its revenue from
considered as sale of its proprietory
a products (including its
comparable". flagship banking product
suite 'Finacle') whereas the
Appellant does not own any
intangible.
- Infosys provides services in
the nature of custom
application development,
maintenance and production
support, package enabled
consulting and
implementation, technology
consulting and other
solutions, including business process management and solutions, product engineering solutions, infrastructure maintenance services, operations and business process consulting, 24 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO testing solutions, and systems integration services. These offerings are provided to clients across multiple industry verticals inclouding banking and capital markets, communications, energy, manufacturing and retail.
The company also provides a core banking software solution, Finacle®, and provides customization and implementation services around this solution. The company also derives revenue from sale of products. Segmental details of only software services are not available in financials.
- It operates as a full fledged risk taking entrepreneur where as the Appellant operates at minimal risk as it is captive unit providing services only to the AE and is remunerated on cost plus basis.
III. Owns intangibles (Refer page 10 to 15 of the additional compilation I)
- As per the information given in annual report for F.Y. 2006-07, the company filed 15 patent applications in US and 66 patent application in India. The company also owns proprietory product-
Finacle, which addresses
core banking, treasury,
wealth management,
consumer and corporate e-
banking, mobile banking and
web-based cash
management requirements.
The appellant does not own
any intangibles/proprietory
products.
IV. Significantly high
turnover
- Very high turnover
compared to Appellant
turnover- 13,893 crores.
(Refer page 665 of the paper
book I)
- Refer page 520 to 521 of
the paper book I)
25
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
7. Ishir 31.12% 48.25% The learned Page 42 I. The company fails to Infotech TPO has (Ground no. satisfy the employee cost Limited relied upon 15) and Page filter ('Ishir') the 210 & 213 (TP - Fails to satisfy the information order: Para Employee Cost Filter applied received from 13.12) of the by the Appellant. Ratio of the reply to Appeal Memo. employee cost filter to sales notice u/s is 48.25%.
133(6) of the Act and II. The company is computed the functionally different employee - As per the financial cost ratio statements and response to the notice u/s 133(6), the company fails the employee cost filter (Rs. 2,935,065/-
Rs. 7,42,09,887 = 3.96%).
As per Schedule 15 of the Profit and Loss a/c for the year ended 31 March 2007, it is clearly evident that "Establishment expenses (Rs.
2,935,065) grouping contains all the employee related salary and expenses.
However, we understand that the learned TPO has relied on response obtained u/s 133(6) and has also considered "Professional Fee paid" amounting to Rs.
34,109,398 while computing the employee cost ratio of the Company. (Refer page 521 & 661 to 663 of the paper book I).
- It is to be noted that the professional fee paid is typically towards payments made to external third parties for the performance of their services on a company's behalf and not salary paid to the employees of the organization. As the professional fees are paid to third parties, it implies that the company is not undertaking software development activity services by itself, rather outsourcing the same to others.
- There is contradiction in the information presented in the Annual report (where 'professional fees' appears under Schedule 16- Administrative expenses and 26 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO not under Schedule 15 consisting of the employee costs) and the company's reply to the notice issued u/s 133(6) of the Act wherein the same has been disclosed as part of employee costs.
- Further, the company is into development of software for casino gaming industry and website development and maintenance. Also, the main functional and service lines of the company also includes Web development services and Consulting services which is different from the functional profile of the Appellant.
8. KALS info 24.10% 36.62% . As per the Page 42 I The company fails to Systems information (Ground No. satisfy the employee cost Limited received u/s 15) and Page filter ('KALS') 133(6) of the 213 to 217 (TP - Fails to satisfy the Act, the Order: Para Employee Cost Filter applied company 13.13) of the by the Appellant. Ratio of qualifies the Appeal memo. employees cost filter to sales filter of more is 36.62% (Refer page 484 of than 75% the paper book I) revenue from software II. The company is development functionally different services. - The 'Annexure' (ie Companies (Auditor's Report) . The learned Order, 2003) appearing on TPO has page 11 (Refer page 16 to 18 stated in the of the additional compilation TP order that I) of the annual report Infosys, provides that- "..... (ii)(a) The being a inventory has been physically software verified during the year by development the management. In our service opinion, the frequency of provider, also verification is reasonable. (b) has unbilled The procedures of physical revenues verifications of inventories which is followed by the management similar to are reasonable and adequate inventory. in relation to the size of the company and the nature of its business. (c) The company is maintaining proper (records of inventory). The discrepancies noticed on verification between the physical stocks and the book records were not material. However, the same have been properly dealt within the books of 27 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO accounts."
- Also, "Inventories" under the Schedules to the financial statements on page 15 of the annual report (Refer page 668 of the paper book I) discloses "Software development" as inventory and work-in-progress. It is to be noted that a pure software services provider would not be able to disclose such details as it does not carry any such inventory or work-in-progress.
- "Background" under the Schedules to the financial statements on page 18 of the annual report (Refer page 669 of the paper book I) clearly states:
"The company is engaged in development of Software and Software products since its inception. The company consisting of STPI unit engaged in Development of Software and Software Products and a Training Centre engaged in training of Software professionals on online projects." (emphasis supplied)
- "Revenue recognition"
under the Notes to the financial statements on page 18 (Refer page 669 of the paper book I) of the annual report clearly states:"The company derives its revenues primarily from software services and software products."
- "Fixed assets" under the schedules to the financial statements shows "Software LA Vision" as a fixed asset.
- Further, according to the website of Kals (http://www.kalsinfo.com/pr oducts.htm), the company has developed two products:
Virtual Insure; and La Vision (Refer page 522 of the paper book I). This reiterates the 28 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO fact that Kals earns revenues from the development of software products.
- the segmental information provided under Notes on accounts on page 19 of the annual report (Refer page 670 of the paper book I) provides the breakup of revenues from two segments: Application Software (bifurcation of revenue from software development and software product is not available); and Training. However, there is no bifurcation available between sale of software services and software products in the application software segment of the company.
- Unbilled revenues cannot be equated to inventories.
9. Megasoft 52.14% 37.87% As per Page 44 I. The company fails to Limited information (Ground No. satisfy the employee cost ('Megasoft') provided by 15) and Page filter the company 221 to 231 (TP - Fails to satisfy the u/s 133(6), it order: Para Employee Cost Filter applied is into 13.17) of the by the Appellant. Ratio of software Appeal Memo employee cost filter to sales development is 37.87% (Refer page 484 of services and the paper book I).
qualifies all the filters II. The company is applied by functionally different if the learned considered on company wide TPO for basis serving as - The company has two comparable divisions, namely: a) companies. products division (XIUS-BCGI division); and b) consulting division (Blue Ally division) (Refer page 524 to 525 of the paper book I). The XIUS-
BCGI division does not engage in comparable activities.
- The TPO has relied on information received under section 133(6) and concluded that major revenue (65%) in the products division (XIUS-
BCGI division) is from customization which is in the nature of software 29 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO development services.
Relying on the above the TPO has used company-wide margins mentioning that service revenues constitute more than 75% of the company-wide revenues.
In this regard, following is an extract of the company's reply to notice u/s 133(6) dated 14th June, 2010:
"The billing for sale of products is done on number of licenses being sold to the client..........The company does not charge the customer's separately for customization. The cost of customization is included in the cost of sale for licenses."
Therefore, considering the company-wide margins on the ground that significant revenues from the XIUS-
BCGI division are from customization services is not appropriate. Further, if the XIUS-BCGI division )Products division) was actually similar to the Blue Ally Division (Consulting division) (as is being alleged by the learned TPO), the company would not have disclosed the two divisions as separate lines of businesses reporting is sufficient proof that these two divisions are functionally different.
Considering the above, the company is functionally non-
comparable on a company-
wide basis. If at all, the company is to be considered as comparable, the consulting division (Blue Ally division) needs to be considered for the purpose of comparability. Further, the margin computation of the aforesaid company after considering the comparable segment (consulting division) is provided on page 606 of the paper book I. 30 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
10. Persistent 23.77% 54.95% The company Page 44 and I. The company is Systems qualifies all 45 (Ground No. functionally different (Refer Limited the filter 15) and Page page 19 to 25 of the ('Persistent') applied by 232 (TP order: additional compilation I).
the TPO Para 13,19) of - The company is engaged in the Appeal providing outsourced Product Memo Development which is different from IT outsourcing. The company on page 11 to 13 of the annual report (Refer page 20 to 22 of the additional compilation I) has explained in detail the difference between the two and hence the functional profile of the company is different from that of the assessee.
- The company has also mentioned in the annual report that out of its employee base there are 17 PhD, 25% post graduates, 85% computer science graduates. This evidences the fact that the company is into high end product development services which is different from the profile of the assessee where it is engaged in software development services. (Refer page 23 of the additional compilation I).
11. Tata Elxsi 26.87% 54.35% Relied upon Page 46 & 47 I. The company is Limited the reply to (Ground no. functionally different ('Tata') notice u/s 15) and Page - The company operates in 133(6) of the 241 to 246 (TP two segments: 1) Systems Act, where order: Para integration & support the company 13.25) of the services- it caters to the has clearly Appeal Memo domestic market and offers stated that it integrated hardware & is embedded packaged software solutions, into software sourced from principles and development 2) Software development & services services.
- As per the Director's report and the Management Discussion and Analysis, the software development & services segment comprises of three sub-services namely
(a) Embedded product design services i.e. design and development of hardware and software, (b) Industrial design and engineering services (i.e. 31 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Mechanical design with a focus on industrial design) and (c) Visual computing labs (i.e. animation and special effects for movies and TV).
(Refer page 709 to 714 of the paper book I)
- There is no sub-services break up/information provided in the annual report or the databases based on which the Appellant could compute the margin from software services activity and therefore the company is functionally different.
II. Relied on replies for notice under section 133©
- Relied on replies for notice under section 133(6) of the Act. The appellant submits that as per the company's response, the company is engaged in ITeS.
- There is no sub-services break up/information provided in the annual report or the databases based on which the Appellant could compute the margin from software services activity.
- Without prejudice to Appellant's contention that information obtained u/s 133(6) of the Act should not be used. Appellant submits that Tata, in its reply u/s 133(6), has itself requested the learned TPO not to use the company's data for comparison since the activities performed by the company are unique. (Refer page 528 to 530 of the paper book I).
12. Wipro 35.01% 42.13% As per Page 47 & 48 I. The company fails to Limited information (Ground no. satisfy the employee cost ('Wipro') available u/s 15) and Page filter 133(6) of the 248 to 255 (TP - Fails to satisfy the Act, order: Para Employee Cost Filter applied segmental 13.27) of the by the Appellant. Ratio of details were Appeal Memo employee cost filter to sales called for and is 42.13% (Refer page 484 of as segmental the paper book I).
details were II. The company is available for functionally different 32 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO software - The company during the development year has acquired Quantec segment, the Global Services LLC, Quantec same is Global Services Limited, considered as Cmango Inc, Cmango India comparable Private Limited, Europe based Retail Solutions Provider Enabler, Finland based Saraware Oy, Middle East and SAARC operations of 3D Networks and Planet PSG. The financials were prepared after giving effect to the amalgamations and hence the financial information of the company is not comparable on account of extra-ordinary event of amalgamation (Refer page 26 to 31 of the additional compilation I).
- As per the company's response to the notice u/s 133(6) of the Act, "The Company is engaged in all activities that are stated in the notice and they fall within the segment of "Global IT Services and Products". The books are not maintained to give the break up for each of the streams of revenue specified in the notice." Accordingly, it is clearly evident that no break up of revenues between IT Services and products is available.
- Further, as per page 42 of the Annual report of Wipro for the year ended 31 March 2007 (Refer page 717 of the paper book I), it is clearly evident that the consolidated services portfolio comprises of only 70% from comparables services which are :1. Application Development Maintenance (ADM) Services; 2. Testing Services; 3. Consulting services.
- As per page 125 of the annual report of Wipro Limited for the financial year ended 31 March 2007 (Refer page 718 of the paper book), 33 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO the company owns significant intangibles like Customer related intangibles, Marketing related intangibles and Technology related intangibles.
- Segmental information at standalone level for F.Y. 2006-07 was not available in public domain and the learned TPO has obtained the same by exercising powers u/s 133(6) of the Act.
- In addition to the above, it is observed that the segmental information provided is an extract of the transfer documentation report maintained by Wipro for F.Y. 2006-07. The mere fact that the segmental information is derived from the transfer pricing report itself raises concerns on the acceptability of Wipro as a comparable as its transactions itself are subject to demonstration of arm's length standard.
III. Owns Intangibles
- The company has applied for 11 patents during the year in the fields of product engineering, enterprises business and quality. Further, the company also owns technical know how to INR 10 lacs as on 31 March 2007.
Therefore, it is apparent that the company is into product and technology development which is different from the functions of the Appellant.
- The company has also employed 550 people in R&D activities. The R&D efforts have contributed to 8.5% of the revenues.
IV. Significantly high
turnover
- Very Huge turnover of Rs.
961`6.09 crores as compared
to the Appellant.
- Refer page 531 of the
paper book I.
34
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO The ld AR for exclusion of 12 comparables as referred above has relied upon recent decision of the Hon'ble Delhi High Court in the case of CIT Vs. Agnity India Technologies Pvt. Ltd. in ITA No. 1204/2011 order dated 11th July, 2013 wherein large and bigger company in the area of development of software held cannot be a benchmark or equated with the small company.
13. On the other hand, the ld Sr. DR drew our attention to findings recorded by the ld TPO and also drawn our attention on ld DRP's order on page No. 21 to 33 wherein the Hon'ble DRP has considered the assessee's objection para wise and rejected the same. Therefore, she prayed to confirm the order of the Assessing Officer.
14. We have heard the rival contentions of both the parties and perused the material available on the record. It is a fact that the TPO accepted the TNMM method as the most appropriate method for benchmarking the international transaction of appellant using OP/OC as a PLI. The objection of the assessee had not allowing use of multiple year of data for the purpose of determining of ALP has already been considered by the Coordinate Bench in ITA No. 27/JP/2011 for A.Y. 2006-07 and held by considering the case of Mentor Graphics Noida (P) Ltd. 109 ITD 101, Aztec Software, 294 ITR 322 and the recent decision 35 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO of ITAT Delhi Bench in the case of ST Microelectroncis (P) Ltd. vide order dated 3-06-2011 in ITA No.1806,1807/Del/2008. The Coordinate Bench has held as under:-
"The expression "shall'' used in the Rule makes it clear that it is mandatory to use current year data first and if any circumstances reveal an influence on the determination of ALP in relation to the transaction being compared than other data for period not more than two years prior to such financial year may be used. Hence, the TPO was justified in directing the assessee company to conduct first search of the comparables during the transfer pricing proceedings as the Rule 10B(4) of the IT Rules require used of current year data for the purpose of comparability analysis."
The assessee has given reasons for not considering 12 comparables considered by the TPO at page No. 261 to 264 of TPO order. Finally 26 comparables which were given by the appellant is as under:-
Sr. Name of the company TPO's TPO's Employee EC/Sales No. unadjusted adjusted cost/sales 50% margins margin (As per TPO)
1. LGS global limited 15.75% 15.80% 64.00% 15.80% (Lanco global solutions limited)
2. Quintegra solutions 12.56% 9.83% 66.68% 9.83% limited*
3. SIP technologies and 13.90% 11.32% 39.92% NC exports limited** 36 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
4. Accel transmatic 20.91% 20.59% 37.90% NC Limited (segmental)
5. Avani Cimcon 50.28% 49.70% 41.78% NC technologies limited
6. Celestial labs limited 58.35% 55.10% 25.69% NC
7. Datamatics limited 1.38% -0.06% 61.59% -0.06%
8. E-zest solutions ltd. 35.63% 36.30% 61.50% 36.30%
9. Flextronics Software 25.31% 25.73% 46.31% NC Systems limited (segmental)
10. Geometric limited 10.71% 10.22% 60.86% 10.22% (Earlier 'Geometric Software Solutions Co.
Limited')
11. Helios and Matheson 36.63% 35.17% 35.67% NC information technologies limited
12. Igate global solutions 7.49% 6.20% 69.74% 6.20% limited
13. Infosys Technologies 40.30% 39.73% 45.84% NC limited
14. Ishir Infotech Limited 30.12% 31.12% 48.25% NC
15. KALS information 30.55% 24.10% 36.62% NC systems limited (segmental)
16. Lucid software limited 19.37% 17.69% 41.17% NC
17. Mediasoft solutions 3.66% 2.14% 69.19% 2.14% limited
18. Megasoft limited 60.23% 52.14% 37.87% NC (segmental)****
19. Mindtree limited 16.90% 16.00% 55.27% 16.00%
20. Persistent systems 24.18% 23.77% 54.95% 23.77% limited
21. R S software (India) 13.47% 13.76% 64.62% 13.76% limited
22. R systems 15.07% 13.87% 56.32% 13.87% international limited (segmental)
23. Sasken 22.17% 21.75% 57.03% 21.75% communication technologies limited 37 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO (segmental)
24. Tata Elxsi limited 26.51% 26.87% 54.35% 26.87% (segmental)
25. Thirdware solutions 25.12% 22.19% 62.64% 22.19% Limited
26. Wipro Limited 33.43% 35.01% 42.13% NC (segmental) Arithmetic 25.00% 23.69% 15.62% The ld AR's arguments for not considering these 12 comparables referred in Annexure-A in its submission has found logical as margin of these companies were found much more than the assessee has disclosed. The assessee also argued that these companies are dissimilar to the company of the assessee either employees cost, nature of business, functional differences etc., which was submitted before the TPO for not considering these comparables as comparable with the assessee. The TPO/DRP had not given any specific finding for not considering the assessee's explanation submitted during the course of assessment proceedings on dissimilar companies. Finally, the comparables out of 26 comparables considered by the TPO and after considering the assessee's objection for non comparable cases in case of 12 comparables, the average meaning was worked out by the AR at 15.62%. The assessee has shown margin @ 11.66%. The assessee's argument is found convincing that these margins are within +\- of 5% 38 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO of range. Therefore, the Coordinate Bench in A.Y. 2006-07 has considered the variation of ALP +\- 5% and held that no adjustment could be made to ALP by relying on ITAT Jaipur Bench decision in the case of Shankar Exports Vs. Addl.CIT, 132 TTJ 107 and Ravi Kumar Rawat Vs ITO 134 TTJ 634. Therefore, we allow grounds No. 12 and 13 of the appeal in favour of the assessee. The result no adjustment is to be made in ALP.
15. Ground No. 15 of the appeal for A.Y. 2007-08 is against comparing full-fledged risk bearing entities with the appellant's captive operations without making any risk adjustment for difference between the functional and risk profile of comparable companies. The assessee claimed various risk adjustments before the TPO such as market risk, service liability risk, credit and collection risk, man power risk, price risk, foreign exchange risk, Idle capacity risk, political risk, single customer risk and country risk, which has been considered by the TPO in her order and finally considered this issue from page No. 199 to 217 and finally concluded as under:-
* The taxpayer is totally dependent on the AE for business.
Thus the taxpayer takes the risks associated with heavy 39 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO dependence on a single customer. In common business parlance it is known as 'single customer risk'. * The cost plus agreement with the AE does not guarantee sufficient volume of business nor period as the agreement is for a period of one year and renewed one year at a time unless terminated otherwise. The agreement can be terminated by any party at any time after giving a stipulated period notice. Thus the taxpayer is not free from the risk of losing business entirely or losing volume of business.
* the taxpayer is not compensated any amount for termination of agreement even if it is terminated without any cause. No independent enterprise would like to agree for a termination clause without compensation if it is terminated without any cause.
* The AE is exposed to the market risk and any fluctuation in the business conditions of the AE affect the contractual terms between the AE and the taxpayer. Thus even if independent comparables undertake some risk, the taxpayer also had to undertake risks like single customer risk, political risk, etc. which are not incurred by the comparable companies and hence the risks are evened out. * There are many captive service providers operating in the same environment as the taxpayer and still earning much better margins than independent risk bearings enterprises 40 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO and vice versa. Thus, there is no direct correlation between the margins earned and risks taken.
* Many business studies have shown that the MNCs are actually distributing their risks by opening captive offshore centers.
* The independent entrepreneur has to incur expenditure on marketing, etc. which is debited to the profit and loss account. But, it is always not necessary that these risks reflected in the marketing, sales promotion expenses will automatically be compensated by increase in sales or higher margins. For example, increased marketing efforts in some segments of export market may not yield results for a software development company and thereby there may be a loss on this marketing effort which may bring down the overall profitability rather than increase the profitability. Thus, if undertaking the market risk etc. helps in earning any extra margin, the benefit is more than set off by the corresponding expenditure. The same applies to credit risk undertaken.
* There are many studies conducted on the risk reduction strategies followed by MNCs by shifting their production facilities to other countries based mainly on cost factors. By outsourcing to India, the overall cost of production of goods or services by the AE gets reduced which in turn increased the competitiveness of the AE in the market. Thus the taxpayer is not compensated for the reduction of 41 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO risk attributable to the operations carried on by the taxpayer in India.
* The risk profile of the comparables selected by the taxpayer, acceptable to the taxpayer and those selected by the TPO but not acceptable to the taxpayer is similar. * It is incorrect to say that higher the risk, the higher is the margin though it is true that higher risk expects a higher margin. Thus realization of risk is different from expected return based on risk undertaken. Finally selected comparables had almost similar risks but margins varied from 1.38% to 60.23% on cost.
* The taxpayer did not furnish any computation of the risk adjustment in the TP study. However, during the course of TP proceedings, the taxpayer submitted some method for computation of the risk, which is discussed above and rejected.
* The taxpayer's single customer risk and political/country risk more than offsets any other risk differential between the taxpayer and the comparable companies. * Different comparables can have different risk profiles and different profit margins. The proviso to Sec. 92C(2) of the Act provides for adopting arithmetical mean to the different prices. This provision neutralizes the effect of difference in the risk profile, if any between the tax payer and the comparables as realized risk may pull down the profitability below the risk free return.42
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO * It is not sufficient to merely spell out risks. But, it has to be shown which risk was actually undertaken by the comparables and to what extent it affected the profitability. The taxpayer has not done so.
Finally she rejected the assessee's claim of risk adjustment and held that no risk adjustment is given as the single customer risk and country/political risk of the taxpayer combined with the arithmetic mean price considered in the case of comparable companies nullifies the risk differential, if any, between the tax payer and comparable independent enterprises.
16. The ld AR of the assessee reiterated the same argument raised before the ld TPO as well as before the ld DRP. At the outset, the ld Sr. DR. has supported the order of the TPO/DRP and argued that these risk adjustments are only theoretically which cannot be quantified in terms of any calculation to conclude the exact adjustment in ALP. The TPO had applied the arithmetic mean of comparables of companies which qualifies these risk adjustments.
17. We have heard the rival contentions of both the parties and perused the material available on the record. The ld AR had not able to quantify these adjustments in terms of statistical calculation and has not 43 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO been able to demonstrate the effect of these risks on adjustment of ALP.
The ld TPO was right by accepting the arithmetic mean of comparable of comparable companies if any risk as claimed by the appellant was concerned, it will be resulted in the arithmetic mean of all the companies as these risks adjustments also applicable on them. These additions have been confirmed by the ITAT in the cases of Vedaris Technology (2010-TII-10-ITAT-Del-TP), M/s Marubeni India Private Ltd.
(2011-TII-36-ITAT-Del-TP), M/s ADP Private Limited (201TII-44-ITAT-
Hyd-TP), M/s Symantec Software Solutions Pvt. Ltd. (2011-TII-60-ITAT-
Mum-TP), M/s ST Micro Electronics (2011-TII--63-ITAT-Del-TP), M/s Exxon Mobil company India Pvt. Ltd. (2011-TII-68-ITAT-Mum-TP) and M/s Deloitte Consulting India P Ltd. ITA No. 1082/Hyd/2010 and held that the assessee could not show how such difference in risk and functions affected result of comparables. The assessee for comparing the case with Infosys and Wipro had claimed that the appellant had negligible risk as it is a captive unit providing service to its AE and is remunerated on cost which marked up basis. Accordingly we dismiss this ground of appeal.
44ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO IT(TP)01/JP/2012 A.Y. 2008-09
18. The ground No. 8 of the appeal for A.Y. 2008-09 is against modifying the criteria used by appellant i.e. salary and wages cost ratio.
The ld AR for the assessee in this regard has submitted as under:-
The approach followed by the appellant in the TP report for A.Y. 2008-09 vis a vis the approach of learned TPO in the TP order are summarized below for your Honours ready reference:
Sr. Approach adopted by the Appellant Approach modified/applied by No. the learned TPO
1. Characterization based on FAR analysis Captive service provider operating Misinterpreted the FAR analysis in a risk mitigated environment undertaken by the Appellant and contended that Appellant bears risk (as mentioned in the TP order)
2. Search for comparable companies Conducted search using Prowess Conducted unjustified fresh th database updated as on 12 July search using non-
2008 and Capitaline database contemporaneous data for updated as on 6th June 2008 for identifying additional comparable identifying comparable companies companies
3. Type of companies identified as comparable Indian companies engaged in Inappropriately exercising the providing similar services as that of powers under section 133(6) of the Appellant the Act and relying on the data received from the companies in response to notice u/s 133(6) of the Act for identifying companies as comparable to the Appellant.
4. Filters
i) Use of Contemporaneous and Use of non-Contemporaneous Multiple year data and single year data for F.Y. 2007-08
ii) Companies having turnover less Companies whose software 45 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO than 2 crores and more than 50 development income is less than crores are to be excluded 1 crore are to be excluded (without specifying any upper turnover limit)
iii) Companies whose salaries and Companies whose salaries and wages cost ratio is less than 50% wages cost ratio is less than to be excluded 25% to be excluded
iv) Companies having R&D to cost ratio Filter rejected by the learned more than 10% are to be excluded TPO
5. Operating Margins of comparable companies Comparing the risk bearing entities Comparing full-fledged risk by claiming adjustment to account bearing entities with the for the difference in risk assumed Appellant's captive operations by the full-fledged bearing entities without accepting adjustment for and the risk assumed by the the risk differences appellant.
The learned TPO also inserted certain additional filters as under:
Sr. No. Additional filter applied by the TPO
1. Companies having different accounting year end and then the Appellant to be rejected.
2. Companies having diminishing revenue trend to be rejected.
3. Companies having onsite revenue greater than 75% of export revenue Based on the above approach, the final set of comparables selected by the learned TPO is as follows:
Sr. No. Name of the company OP/OC as per the TP order
1. Avani Cimcon Technologies Limited 21.65%
2. Bodhtree Consulting Limited 19.14%
3. Celestial Biolabs Limited 87.94%
4. E-zest Solutions Limited 28.95%
5. Flextronics Software Systems Limited 8.07%
6. I gate global Solutions Limited 13.90%
7. Infosys technologies Limited 40.41%
8. KALS Information Systems Limited 41.94%
9. Lanco global systems limited 26.64% 46 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
10. Mindtree Limited 17.51%
11. Persistent Systems Limited 27.23%
12. Quintegra Solutions Limited 21.74%
13. R Systems International Limited 15.30%
14. R S Software (India) Limited 6.46%
15. Sasken Communication technologies Limited 13.44%
16. Softsol India Limited 25.59%
17. Tata Elxi Limited 18.97% 18 Thirdware Solutions Limited 18.01%
19. Wipro Limited 28.38% Arithmetic Mean 21.85% Less: Working Capital Adjustment -0.21% Arm's Length Margin 22.06% The ld AR further submitted that this issue is identical to A.Y. 2006-07, which has been decided by the Hon'ble Bench in favour of the assessee and no adjustment in ALP was allowed to be made. The ld AR again submitted that salary and wage cost ratio applied by the appellant is 50%, which was taken by the TPO @ 25% in this regard, the appellant submitted as under:
The appellant had applied similar filter for earlier A.Y. i.e. 2006-
07. The learned TPO during the assessment proceedings calculated the +/- 15% range from the salaries and wages cost ratio of the assessee (74.15% for A.Y. 2006-07) and accordingly selected comparable companies having salaries and wages cost ratio in the range of 59.15% to 89.15%.
In case of appellant, the salaries and wages cost ratio for current year is 63.88%. Applying the basis applied by the TPO for A.Y. 2006-07, the +/- 15% range comes to 48.88% to 78.88% which is 47 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO approximately close to the salary and wage cost ratio of 50% applied by the appellant. This also gives a clear indication that it is into software development and not into software products. Therefore, to identify appropriate comparable companies engaged into software development activities, a closer filter i.e. 50% should be used in order to arrive at close comparables or filter of 48.88% to 78.88% to be considered (as applied by the learned TPO and considered by the Hon'ble ITAT in the Appellant's own case for A.Y. 2006-07).
In respect of the above, the appellant wishes to place reliance on the following judicial precedents:
Avaya India (P) Limited Vs. ACIT (ITA No. 5150/Del/2010) In view of the above, the following additional companies selected by the TPO as comparable to the appellant should be rejected on the salaries and wages cost ratio criteria i.e. rejecting companies having salaries and wages cost ratio of less than 50% for F.Y. 2007-08.
Sr. Name of the company Salary Cost Total % of Salary
No. Revenue Cost to Total
Revenue
IDeaS India 7.10 11.12 63.88%
1. Infosys Technologies 7,299 15,648 46.64%
Limited
2. Wipro Limited 7,408 17,493 42.35%
3. KALS Information 0.80 2.05 38.72%
Systems Limited
The appellant had analysed these companies in detail and provided the detailed reasons for rejection of these companies.48
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO 18.1 Grounds No. 10 & 12 of the appeal for A.Y. 2008-09 are against considering dissimilar companies as comparable companies to the appellant for determining the ALP of the international transaction and selecting the companies having super normal profits as comparables to the appellant. In this regard, the ld AR further submitted that the ld TPO had considered the following dissimilar companies as comparables.
Sr. Company Margins (as per final Reason for Relevant Submissions by the Appellant No. Name assessment order) inclusion by Pages of the the learned learned TPO/Hon'ble TPO/Hon'ble Unadjusted Adjusted DRP DRP Order A-Additional comparables identified by the TPO/DRP 1 Avani 21.65% 22.28% *Based on TP order: I. Relied on replies for notice Cimcon the Para 12.1 on under section 133(6) Technoligie information Page 58 of s Ltd. received from TP order DRP Relied on replies for notice ('Avani') the company Order: Para under section 133(6) wherein u/s 133(6) of 4.13 on Page the company has provided only the Act, the 14 of the the Balance Sheet and profit company is DRP and Loss Account. It considered as directions substantiates the contravention comparable in the TPO's own stand that no company has been selected as comparable if the Annual report is not available (refer page no.116 of the TPO order wherein the TPO has claimed that. "In fact information/data contained in the Annual Report and the database was the deciding factor wherever information was not received.
II. Company is functionally different Operating in software products and not software development services.
In respect of comparing functional profile of Avani, since the Annual Report of Avani for F.Y. 2007-08 was not available in any of the publicity available 49 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO sources, the Appellant has inferred guidance from the website of the company. The website of Avani makes it clear that it is engaged in providing software products (based on the contents mentioned in website of the company and stated as below) (Refer page 1to 3 of the additional compilation I).
"DXchange is an innovative product of the company. It is an XML web services based, fully scalable, easily configurable Data Exchange Middleware Server."
It clearly shows that the company is engaged in development and sale of software products. Moreover, for FY 2007-08 no segmental information is available for the company providing segmental profitability under software development and sale of software product.
Further, the Appellant would like to bring your Honors' kind attention to the fact that the Hon'ble Jaipur Tribunal in Appellant's case for AY 2006-07 has rejected this company from the final set of comparable companies on the basis of Appellant's contention that the company is into sale of software products. [refer page_to_of the legal submission enclosed.] III. For detailed contentions of the Appellant refer pages 254 and 255 of paperbook I. 2 E Zest 28.95% 30.35% As per TP order: I. Relied on replies for notice Solutions information Para 12.4 on under section 133(6) Limited ("E provided by Page 60 and Relied on replies for notice Zest") the company 61 of TP under section 133(6)wherein u/s 133(6), it order the company has stated that is into DRP order: the company is engaged in software Para 4.13 on software development specially development Page 13 and customer oriented requirement services and 14 of the and also reengineering and qualifies all DRP upgradation of the software. the filters directions However the information applied by provided is not sufficient to the learned precisely determine the nature 50 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO TPO for of operation undertaken by the serving as company.
comparable companies II. Company is functionally different.
Based on the website of the company, the company is a Product Engineering and Outsourced Product Development service Provider. (Refer page 3 of the additional compilation I).
III. For detailed contentions of the Appellant refer pages 259 of paperbook I. 3 Infosys 40.41% 39.72% There is no TP order: I. Company is functionally Technologi link between Para 12.11 different es Limited the turnover on Page 61 ("Infosys) of the to 64 of TP Infosys offers software company and Order. products for the banking the operating DRP Order: industry, business consulting margins Para 4.13 on and business process earned. Page 15 of management services. Finacle, Similarly, the DRP its universal banking solution, branding has directions. partners with banks across the also no globe to power their innovation impact on the agenda enabling them to operating differentiate their products and margins services thereby enhancing earned by customer experience and the company. achieving greater operational Revenue efficiency. (Refer page 4 to 15 from of the additional compilation I) software products is Infosys has substantial only 3.82% investment in R&D (about of total Rs.201 crores). Also, it derives revenue and substantial portion of its the company revenue from sale of its is engaged in proprietary products (including rendering its flagship banking product software suite "Finacle") whereas the development Appellant does not own any services only. intangible.
Infosys provides services in the nature of custom application development, maintenance and production support, package enabled consulting and implementation, technology consulting and other solutions, including business process management and solutions, product engineering solutions, infrastructure maintenance services, operations and business process consulting, 51 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO testing solutions, and systems integration services. These offerings are provided to clients across multiple industry verticals including banking and capital markets, communications, energy, manufacturing and retail. The company also providces a core banking software solution, Finacle and provides customization and implementation services around this solution. The company also derives revenue from sale of products. Segmental details of only software services are not available in financials.
It operates as a full fledged risk taking entrepreneur where as the Appellant operates at Minimal risk as it is captive unit providing services only to the AE and is remunerated on cost plus basis.
II Owns Intangibles As per the information given in annual report for 2007-08, the company filed 10 patent applications in India and in US.
To date, the company had filed aggregate of 119 patent applications in both the countries (India and US) and 2 patents had been granted by the US Patent and Trademark Office.[refer page 8 and 9 of the Compilation for relevant extracts of the Annual report].
The company also owns proprietary product-Finacle, which addresses core banking, treasury, wealth management consumer and corporate e-
banking. Mobile banking and web-based cash management requirements. The Appellant does not own any intangibles/proprietary products.
III. Significantly High Turnover Very high turnover compared to Appellant turnover-15,648 crores.
IV Employee Cost Fitter Fails to satisfy the Employee 52 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Cost Filter applied by the Appellant. Ration of employee cost filter to sales is 46.64% [refer page 356 of the Paper Book for the working of employee cost filter ratio and relevant extract of the annual report].
V. For detailed contentions of the Appellant refer pages 259 and 260 of paperbook I. 4 KALS 41.94% 40.86% As per the TP Order: I. Company is functionally Infosystem information Para 12.12 different (Refer page 12 to 16 s Limited received u/s on Page 64 of the additional compilation I) 133(6) of the to 69 of TP The company is engaged in Act, the order software services as well as company DRP Order: sale of software products and in qualifies the Para 4.13 on the absence of segmental data, filter of more Page 13 and cannot be considered than 75% 14 of the comparable. The following revenue from DRP disclosures clearly indicate that software directions. the company is engaged in development both software development and services. trading of software products. The learned TPO has As per "Inventories" under the stated that Schedules to the financial the revenue statements on page 16 of the from sale of Annual Report discloses software "Software development" as product is inventory and work-in-progress. only 4.24% It is to be noted that a pure of the total software services provider revenue and would not be able to disclose the rest is such details as it does not carry from sale of any such inventory or work-in- software progress. (Refer page 12 of the development additional compilation I) services only.
As per "Background" under the Schedule 16 to the financial statements on page 18 of the annual report clearly states:
"The company is engaged in development of Software and Software products since its inception. The company consisting of STP unit engaged in Development of Software and Software Products and a Training Centre engaged in training of Software professionals on online projects." (Refer page 13 of the Compilation) As per "Revenue Recognition"
under notes to the financial statements of the Annual report 53 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO clearly states: "The Company derives its revenues primarily from software services and software products."
As per company website the company is marketing specialized packages such as 'Shine-ERP Software' (http://www.kaisinfo.com/shine .php) as the best ERP software package for Metal Based manufacturing organizations. (Refer page 17 of the additional compilation I). This re-iterates the fact that KALS Information systems Limited earns revenues from the development and licensing of software products. Accordingly, It cannot be said that the said company only makes customized software for client and does not market branded software products.
Given the same, the said company cannot be considered to be functionally comparable to a software service provider like the Appellant.
The segmental information provided under Notes on Accounts of the annual report (Refer page 15 to 16 of the additional compilation) provides the breakup of revenues from two segments a) Application Software, and b) Training.
However, there is no bifurcation available between sale of software services and software products in the application software segment of the company.
According to the website of KALS http://www.kalsinfo.com/produ cts.htm), the company has developed two products:-
Virtual Insure; and 'LA-Vision.
This shows that KALS earns revenue from development of Software product (Refer page 16 to 28 of the additional Compilation I).
II. Employee Cost Filter Fails to satisfy the Employee Cost Filter applied by the 54 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO Appellant. Ratio of employee cost filter to sales is 38.72% [refer page 363 of the Paper Book I for the working of employee cost filter ratio and relevant extract of the annual report].
III. Owns Intangibles As per the Fixed Assets Schedule in the Balance Sheet, the company owns significant intangible in the nature of software, which amounts to almost 16 percent of the total assets. Thus this company which owns such substantial IP cannot be considered to be comparable to the Assessee which does not own any IP.
Thus, the company should be regarded as functionally different (Refer page 14 of the additional compilation I) IV. For detailed contentions of the Appellant refer pages 260 and 261 of paperbook I. 5 Persistent 27.23% 28.54% The company TP order: I. The company is functionally Systems qualifies all Para 12.8 on different Limited the filter Page 61 of The company mentions in the ('Persistent applied by TP Order annual report (Refer page 29 to ') the TPO 32 of the additional compilation I) that it is predominantly engaged in Outsourced Software Product Development (OPD) services for Independent Software Vendors and Enterprises. The company offers complete product life cycle services from end to end.
This is different from the Appellant who renders software development services to its AE.
Persistent is engaged in product development and product design services while the Appellant is engaged in provision of software development services.
Moreover the segmental details are not given separately.
[Relevant extract of Annual Report is enclosed at page 20 of the Compilation] II. For detailed contentions of the Appellant refer pages 263 of paperbook I. 55 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO 6 Tata Elxsi 18.97% 20.89% Relied upon TP order: I. Relied on replies for notice Limited the reply to Para 12.16 under section 133(6) ('Tata') notice u/s on Page 74 133(6) of the to 76 of TP Appellant wishes to state the Act. order company's response to the The TPO has DRP Order: 133(6) notice. "the company also stated Para 4.13 on has clearly stated that they are that the Page 17 of in a unique business and they unique the DRP undertake work which few nature of the directions other do.' business II The company is functionally does not hold different good when The company operates in two TNMM has segments:1) Systems been used as integration & support services-it the most caters to the domestic market appropriate and offers integrated hardware method. & packaged software solutions, sourced from principles and 2) Software development & services.
As per the Director's report and the Management Discussion and Analysis, the software development & services segment comprises of three sub-services namely (a) Embedded product design services i.e. design and development of hardware and software, (b) Industrial design and engineering services (i.e. Mechanical design with a focus on industrial design) and (c) Visual computing labs (i.e. animation and special effects for movies and TV). (Refer page 42 to 49 of the additional compilation I) There is no sub-services break up/ information provided in the annual report of the databases based on which the Appellant could compute the margin from software services activity.
III. For detailed contentions of the Appellant refer pages 263 of paperbook I. 7 Wipro 28.39% 30.73% As per TP order: I. Exceptional Year of Limited information Para 12, 19 operations ('Wipro') available u/s on Page 78 The company has been granted 133(6) of the to 81 of TP 7 patents during the year and Act, order alongwith 33 patents acquired segmental DRP order: during the year, it has 40 details were Para 4.13 on patents in its name. Further, called for and Page 17 of the company also owns as segmental the DRP technical know how of INR 1.4 details were directions crore as on 31. March, 2008.
56ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO available for Therefore, it is apparent that software the company is into product development and technology development segment, the which is different from the same is functions of the Appellant. considered as (Refer page 33 to 41 of the comparable additional compilation I).
II. Relied on replies for notice under section 133(6) Segmental information at standalone level for FY 2007-08 was not available in public domain and the learned TPO has obtained the same by exercising powers u/s 133(6) of the Act. Further, the company in the reply to the notice issued under section 133(6) has mentioned the segment as IT services and products without bifurcation of the revenue between the two. Therefore, the segmental data cannot be used for comparison with the functions performed by the Appellant.
III. Significantly high turnover Very Huge turnover of Rs.11,955.60 crores as compared to the Appellant.
IV. Employee Cost Filter Fails to satisfy the Employee Cost Filter applied by the Appellant. Ration of employee cost filter to sales is 42.35% [refer page 374 of the Paper Book I for the working of employee cost filter ratio and relevant extract of the annual report].
V. for detailed contentions of the Appellant refer pages 265 of paperbook I. The ld AR for exclusion of 7 comparables as referred above has relied upon recent decision of the Hon'ble Delhi High Court in the case of CIT Vs. Agnity India Technologies Pvt. Ltd. (supra) wherein large and bigger 57 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO company in the area of development of software are held to be a proper benchmark to equate with the small company.
19. At the outset, the ld Sr. DR has vehemently supported the order of the TPO and drawn our attention on page No. 38 to 40 of TP order and prayed to confirm the order of the ld Assessing Officer.
20. We have heard the rival contentions of both the parties and perused the material available on the record. It is a fact that the TPO accepted the TNMM method as the most appropriate method for benchmarking the international transaction of appellant using OP/OC as a PLI. The objection of the assessee had not allowing use of multiple year of data for the purpose of determining of ALP has already been considered by the Coordinate Bench in ITA No. 27/JP/2011 for A.Y. 2006-07 and held by considering the case of Mentor Graphics Noida (P) Ltd. 109 ITD 101, Aztec Software, 294 ITR 322 and the recent decision of ITAT Delhi Bench in the case of ST Microelectroncis (P) Ltd. vide order dated 3-06-2011 in ITA No.1806,1807/Del/2008. The finding of the Coordinate bench has already been reproduced in earlier para. The assessee has given reasons for not considering 7 comparables considered by the TPO. The ld AR's arguments for not considering these 7 comparables referred in Annexure-A in its submission has found logical 58 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO as margin of these companies were found much more than the assessee has disclosed. The assessee also argued that these companies are dissimilar to the company of the assessee either employees cost, nature of business, functional differences etc., which was submitted before the TPO for not considering these comparables as comparable with the assessee. The TPO/DRP had not given any specific finding for not considering the assessee's explanation submitted during the course of assessment proceedings on dissimilar companies. Finally, the comparables out of 18 comparables considered by the TPO and after considering the assessee's objection for non comparable cases in case of 7 comparables, the average mean as worked out by the AR comes to 16.71%. The assessee has shown operating margin @ 13.17% resulting in difference of 3.54% which is within safe harbour rules. Since we have already held that these 7 comparables should be excluded the consequent difference i.e. 3.54% is lesser than the +\- 5% prescribed under safe harbour guidelines.
The Jaipur Coordinate Bench in A.Y. 2006-07 has rightly held that the variation of ALP less than +\- 5% requires no ALP adjustment in the case of Shankar Exports Vs. Addl.CIT, 132 TTJ 107 and Ravi Kumar Rawat Vs ITO 134 TTJ 634. Therefore, we allow grounds No. 12 and 13 59 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO of the appeal in favour of the assessee. In result no adjustment is made in ALP.
21. For ground Nos. 10 & 12, the ld AR of the assessee further submitted that the ld TPO/A.O. considered the dissimilar companies to the appellant. It is further argued that these companies have supernormal profit as discussed in the order of A.Y. 2007-08. The Hon'ble Delhi High Court in the case of CIT Vs. Agnity India Technologies Pvt. Ltd. (supra) had rejected the comparables with super normal profit to the assessee. He further argued that after reducing these 7 parties from the comparables proposed by the TPO, the arithmetic mean of profit is worked out @ 16.71%. The assessee had shown operating margin @ 13.17%, which is +/- 5% of the arithmetic mean of comparables. Therefore, he prayed that no adjustment is required on the basis of this computation.
22. At the outset, the ld Sr. DR has vehemently supported the order of the Assessing Officer and drawn our attention on TPO order page Nos. 48 to 81 and page No. 11 to 14 of the DRP order and for super normal profit, she drawn our attention on page No. 81 to 87 of the TPO order.
60ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO
23. We have heard the rival contentions of both the parties and perused the material available on the record. The assessee raised objection before the TPO for considering the super normal profit company as comparable, which has been turndown by the TPO without assigning specific reason. The Hon'ble Delhi High Court held in the case of CIT Vs. Agnity India Technologies Pvt. Ltd. (supra) that comparison where super normal profit is shown by the company, it cannot be applied for ALP adjustment. The assessee had shown operating margin @ 13.17%, which is within +/- 5% variation of arithmetic mean i.e. 16.71% calculated on the basis of proper comparables. Therefore, we allow the assessee's appeal and no adjustment is required to be made in ALP during the year under consideration.
24. Ground No. 15 of the appeal for A.Y. 2008-09 is against comparing full-fledged risk bearing entities with the appellant's captive operations without making any risk adjustment for difference between the functional and risk profile of comparable companies. The assessee claimed various risk adjustments before the TPO such as market risk, service liability risk, credit and collection risk, man power risk, price risk, foreign exchange risk, Idle capacity risk, political risk, single customer risk and country risk, which has been considered by the TPO in her 61 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO order and finally considered this issue from page No. 90 to 99 and finally concluded as under:-
* As discussed above, the taxpayer has also undertaken several risks. Therefore, it is not correct to say that it is a risk mitigated entity.
* The taxpayer is totally dependent on the AE for business.
Thus, the taxpayer takes the risks associated with heavy dependence on a single customer. In common business parlance it is known as 'single customer risk'. * The compensation model with the AE does not guarantee volume of business nor the period. The agreement can be terminated by any party at any time after giving a stipulated period notice. Thus the taxpayer is not free from the risk of losing business entirely or losing volume of business.
* The taxpayer is not compensated any amount for termination of agreement even if it is terminated without any cause. No independent enterprise would like to agree for a termination clause without compensation if it is terminated without any cause.
* The AE is exposed to the market risk and any fluctuation in the business conditions of the AE affect the contractual terms between the AE and the taxpayer. Thus even if independent comparables undertake some risk, the taxpayer also had to undertake risks.62
ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO * The independent entrepreneur has to incur expenditure on marketing, etc. which is debited to the profit and loss account. But, it is always not necessary that these risks reflected in the marketing, sales promotion expenses will automatically be compensated by increase in sales or higher margins. For example, increased marketing efforts in some segments of export market may not yield results for a software development company and thereby there may be a loss on this marketing effort which may bring down the overall profitability rather than increase the profitability. Thus, if undertaking the market risk etc. helps in earning any extra margin, the benefit is more than set off by the corresponding expenditure. The same applies to credit risk undertaken.
* It is incorrect to say that higher the risk, the higher is the margin though it is true that higher risk expects a higher margin. Thus realization of risk is different from expected return based on risk undertaken. Finally selected comparables had almost similar risks but margins varied from 6.46% to 87.94% on cost.
* The taxpayer's single customer risk more than offsets any other risk differential between the taxpayer and the comparable companies.
* Different comparables can have different risk profiles and different profit margins. The proviso to Sec. 92C(2) of the Act provides for adopting arithmetical mean to the different 63 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO prices. This provision neutralizes the effect of difference in the risk profile, if any between the tax payer and the comparables as realized risk may pull down the profitability below the risk free return.
* It is not sufficient to merely spell out risks. But, it has to be shown which risk was actually undertaken by the comparables and to what extent it affected the profitability. The taxpayer has not done so.
Finally she held that no risk adjustment is to be given to the taxpayer.
25. The ld AR of the assessee reiterated the same argument raised before the ld TPO as well as before the ld DRP.
26. We have heard the rival contentions of both the parties and perused the material available on the record. The ld AR had not able to quantify these adjustments in terms of statistical calculation and has not been able to demonstrate the effect of these risks on adjustment of ALP.
The ld TPO was right by accepting the arithmetic mean of comparable of comparable companies if any risk as claimed by the appellant was concerned, it will be resulted in the arithmetic mean of all the companies as these risks adjustments also applicable for them. These additions have been confirmed by the ITAT in the cases of Vedaris Technology (2010-TII-10-ITAT-Del-TP), M/s Marubeni India Private Ltd.
64ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO (2011-TII-36-ITAT-Del-TP), M/s ADP Private Limited (201TII-44-ITAT-
Hyd-TP), M/s Symantec Software Solutions Pvt. Ltd. (2011-TII-60-ITAT-
Mum-TP), M/s ST Micro Electronics (2011-TII--63-ITAT-Del-TP), M/s Exxon Mobil company India Pvt. Ltd. (2011-TII-68-ITAT-Mum-TP) and M/s Deloitte Consulting India P Ltd. ITA No. 1082/Hyd/2010 and held that the assessee could not show how such difference in risk and functions affected result of comparables. The assessee in comparing the case with Infosys and Wipro had claimed that the appellant had negligible risk as it is a captive unit providing service to its AE and is remunerated on cost which marked up basis. Accordingly we dismiss this ground of appeal. However, it is inconsequential as we have allowed the assessee's ALP results on safe harbour rules and other grounds.
27. In the result, both the appeals of the assessee are partly allowed.
Order pronounced in the open court on 12/06/2015.
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(R.P.Tolani) (T.R. Meena)
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Tk;iqj@Jaipur
fnukad@Dated:- 12th June, 2015 *Ranjan 65 ITA 1121/JP/2011 & IT(TP)A 01/JP/2012 Integrated Decisions & Systems (I) P. Ltd. Vs. ITO vkns'k dh izfrfyfi vxzsf'kr@Copy of the order forwarded to:
1. vihykFkhZ@The Appellant- Integrated Decisions and Systems (India) Private Limited, Pune/
2. izR;FkhZ@ The Respondent- ITO, Ward 6(3)/ACIT, Circle-6, Jaipur.
3. vk;dj vk;qDr@ CIT
4. vk;dj vk;qDr¼vihy½@The CIT(A)
5. foHkkxh; izfrfuf/k] vk;dj vihyh; vf/kdj.k] t;iqj@DR, ITAT, Jaipur
6. xkMZ QkbZy@ Guard File (ITA No. 1121/JP/2011 & IT(TP)A 01/JP/2012) vkns'kkuqlkj@ By order, lgk;d iathdkj@Asst. Registrar