Income Tax Appellate Tribunal - Cochin
M/S.Xm Software Solutions P. Ltd, ... vs The Acit, Cochin on 7 February, 2018
IN THE INCOME TAX APPELLATE TRIBUNAL
COCHIN BENCH, COCHIN
BEFORE S/SHRI CHANDRA POOJARI, AM & GEORGE GEORGE K., JM
I.T.A. No.524/Coch/2016
Assessment Year : 2012-13
M/s. XM Software Solution Vs. The Assistant Commissioner of
Private Limited, Income-tax, Corporate Circle-2(1),
Ward No. 40, Door No. 952, Kochi.
Krishna Hospital Building,
M.G. Road,
Kochi-682 011
[PAN: AAACX 0503G]
(Assessee-Appellant) (Revenue-Respondent)
Assessee by Shri Swapnil Bafna & Shri
Rajendra Agiwal (CAs)
Revenue by Shri A. Dhanaraj, Sr. DR
Date of hearing 16/01/2018
Date of pronouncement 07/02/2018
ORDER
Per CHANDRA POOJARI, ACCOUNTANT MEMBER:
This appeal filed by the assessee is directed against the order of the ACIT, Corp. Circle-2(1), Kochi passed u/s. 143(3) r.w.s 144C(1) of the I.T. Act dated 26/10/2016 relating to the assessment year 2012-13 which was passed consequent to the direction of the TPO dated 01/09/2016.
2. The assessee has raised the following grounds:
A. Grounds pertaining to transfer pricing adjustment
1. General ground challenging the transfer pricing adjustment of Rs.
2,32,01,127.
I.T.A. No.524/C/2016 Erred in making transfer pricing adjustment to the international transaction pertaining to provision of Information Technology enabled services ('ITeS') to its Associated Enterprises ('AEs').
2. Inappropriate acceptance of certain companies as comparable companies to the Appellant for AY 2012-13 Erred by concluding that certain companies are comparable to the ITeS rendered by the Appellant and hence, should be considered while computing the operating margins of comparable companies for arriving at arm's length price in relation to international transaction pertaining to ITeS.
3. Inappropriate rejection of certain companies as non-comparable to the appellant for AY 2012-13.
Erred by concluding that Accentia Technologies Limited and Informed Technologies Limited are not comparable to the ITeS Tendered by the Appellant and hence, should not be considered while computing the operating margins of comparable companies for arriving at the arm's length price in relation to international transaction pertaining to provision of ITeS to its AEs.
4. Incorrect computation of working capital adjusted operating margins of companies for AY 2012-13 Erred in incorrectly computing the working capital adjusted operating margin of comparable for AY 2012-13 and thereby arriving at incorrect arm's length price and consequently incorrect transfer pricing adjustment to the international transactions of the Appellant.
5. Erred by not applying upper limit to turnover filter Erred by rejecting the upper limit to turnover filter as applied by the Appellant in its transfer pricing documentation for identifying comparable companies.
6. Inappropriate reclassification of business operations of the Appellant Erred in reclassifying the business operations of the Appellant as high-end IT enabled service provider as against the correct classification of low-end back office support service provider without proving an opportunity of being heard to the Appellant.
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7. Erred by not sharing the search strategy and results Erred in not sharing the search strategy and the results of the search carried out with the Appellant so as to provide the Appellant an opportunity of verifying the same and proposing any company as comparable to the business operations of the Appellant post analysis of the said company.
8. Inappropriate addition or modification of filters applied in the transfer pricing report by the Appellant Erred in adding and/or modifying filters applied in the transfer pricing report by the Appellant.
9. Inappropriate use of single year data and non-contemporaneous data by the learned AO Erred in considering the operating margins earned by the comparable companies based on the financial data pertaining only to financial year ended 31 March 2012 and rejecting the financial data of comparable companies for prior two years (31 March 2011 and 31 March 2010) and using the financial information of comparable companies available at the time of assessment proceedings, although such information was not available at the time when the Appellant complied with the transfer pricing documentation regulations, while computing the arm's length operating margin.
10. Erroneous comparison of full-fledged risk bearing entities with the Appellant's captive operations without making any risk adjustment Erred in comparing full-fledged risk bearing entities with the Appellant's captive operations without making any risk adjustment on account of differences between the functional and risk profile of comparable companies vis-a-vis the risk profile of the Appellant.
B. Other grounds
11. Erroneous levy of penalty under section 271(l)(c) of the Act Erred in proposing to levy penalty under section 271(l)(c) of the Act, without considering the fact that adjustment to returned income is just on account of difference of opinion and consequently resulted in an adjustment to income.
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12. Erred in levying interest under section 234B and section 234C of the Act Erred in levying interest under section 234B, and 234C of the Act, without considering the fact that the adjustment to returned income is due to difference of opinion.
3. The facts of the case are that the assessee is a company incorporated in India and is engaged in providing business support services and IT-enabled services to its associate enterprises (AEs). The case was referred to the Transfer Pricing Officer (TPO) by the Assessing Officer for determining the arm's length price (ALP) in relation to the international transactions entered into by the assessee with its AEs during the financial year 2011-12. The assessee is one of the associate concerns of the UAE Exchange Centre LLC Abu Dhabi. The assessee carried out international transactions with its AEs to the tune of Rs.11,45,24,493/-. The assessee categorized the services rendered to its AEs into business support services and IT-enabled Services. The assessee has selected Cost Plus Method (CPM) as the Most Appropriate Method (MAM) to benchmark its international transactions. The TPO rejected the CPM method applied by the assessee and applied Transaction Net Margin Method (TNMM) as the most appropriate method to benchmark the assessee's international transactions which was accepted by the assessee. The search criteria and the acceptance/rejection matrix applied by the assessee for arriving at financial comparable are as follows:
* Companies having data for any one of the previous 3 financial years were included 4 I.T.A. No.524/C/2016 * Companies with sales between 1 crores and 50 crores * Companies having more than 25% related party sates were excluded * Companies with manufacturing sales greater than 25% of total sales excluded * Companies which had negative profits in any of the previous 3 years were excluded * Companies having functional similarity Finally, 7 companies were identified by the assesse as being comparables to the assesses; 4 in business support and 3 in IT support services which are as follows:
Axis Integrated System Ltd.
ICRA Management Consulting Services Ltd. NIIT Smartserve Ltd.
CTIL Ltd.
Canbank Computer Services Ltd.
Saksoft Ltd.
Trigent Software Ltd.
Based on the analysis of the above companies, the assesses concluded that the transactions are at arms length price.
4. The TPO while determining the ALP used only the current year data to the exclusion of the earlier data. The TPO also excluded comparable companies whose service income was less than Rs. 1 crore and companies whose ITeS income was less than 75% of the total operating revenues were excluded. The TPO also excluded companies which have more than 25% comparative partners of the sales and also companies with employees cost less than 20% of the turnover were excluded. The TPO also excluded companies whose export 5 I.T.A. No.524/C/2016 service income was less than 75% of the sales. Finally, the TPO selected the following comparables which were confirmed by the DRP:
1) Accentia Technologies Limited
2) Informed Technologies Limited
3) Excel Infoways Ltd. (Segment)
4) Microgenetics Systems Limited
5) Universal Print Systems Ltd. (Segment)
6) Jindal Intellicom Private Limited
7) Infosys BPO Limited
8) BNR Udyog Limited (Segmental)
9) TCS E-Serve Limited
10)e4e Healthcare Business Services Private Limited 4.1 Thus the TPO has made TP adjustment at Rs.1,77,48,707/-. Consequently, the draft assessment order was passed.
4.2 Aggrieved by the draft order, the assessee filed objections before the DRP. The DRP vide its direction dated 01/09/2016 enhanced the TP adjustment to Rs.2,32,01,127/-.
5. Aggrieved by the action of the Assessing Officer, TPO and the DRP, the assessee is in appeal before us. The first ground is too general and does not require adjudication. In the second ground, the main grievance is with regard to the following comparables:
i) Universal Print Systems Limited
ii) Infosys BPO Limited
iii) TCS E-Serve Limited 6 I.T.A. No.524/C/2016
6. Regarding Universal Print Systems Limited, the Ld. AR submitted that this comparable does not satisfy one of the comparables compared by the TPO and hence it should be excluded from the list of comparables while determining the ALP of IT enabled services rendered by the assessee to its AEs. While conducting fresh search, the TPO applied employee cost filter of 25% i.e. companies having employee cost to sales less than 25% were rejected as comparable. It was further stated that the DRP also upheld the application of this comparable by the TPO. In this regard, the Ld. AR submitted that Universal Prints fails the employee cost to sales comparable applied by the TPO and upheld by the DRP. The Ld. AR computed the employee cost to sales comparable of Universal for F.Y. 2011-12 as follows:
Sr. Particulars as per Profit and Loss account for FY 2011-12 Amount in No. INR
1. Employee benefit expenses 5,27,11,884
2. Revenue/sales from operations 28,40,79,094 Employee costs as a percentage of Revenue/sales 18.56% 6.1 The Ld. AR submitted that it is clearly evident that the employee cost to sales ratio of Universal is only 18.56% as against minimum threshold applied by the TPO of 25% and hence, Universal ought to be rejected. The Ld. AR submitted that the full copy of Annual Report of Universal for FY 2011-12 was available in public domain and was available on the records of the TPO and the DRP.
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I.T.A. No.524/C/2016 6.1.1 The Ld. DR submitted that M/s. Universal Print Systems Ltd. is engaged in providing pre-press services, which are the processes and procedures that occur between the creation of a print layout and final printing. The company provides offshore business process outsourcing services such as scanning, layouts, trapping, hand-outlined clipping path and image masking, and magazine and catalogue publishing. The Ld. DR submitted that in view of the above description, the company is to be considered as a comparable. It was further submitted that the nature of work in the pre-press segment of UPSL is comparable to the assessee-company. Hence, it is to be considered as a comparable to determine the ALP of the assessee's international transactions. 6.1.2 We have heard the rival submissions and perused the material on record. The TPO has selected the comparables by excluding the companies who have employee cost less than 25% of the turnover. As rightly pointed out by the Ld. AR, the employee cost to sales ratio of M/s. Universal Print Systems Ltd. is only 18.56% of the sales and the annual report for the financial year 2011-12 is available in public domain. Hence, in our opinion, it is appropriate to remit this issue to the file of the Assessing Officer. The Assessing Officer shall examine whether the employee cost of M/s. Universal Print Systems Ltd. is less than 25% of its sales turnover, and if it is so, then this company cannot be considered as a comparable and it is to be excluded from the list of comparables. With this observation, we remit this issue to the file of the Assessing Officer for his fresh 8 I.T.A. No.524/C/2016 consideration in accordance with law after affording reasonable opportunity of hearing to the assessee. Hence this ground of appeal is allowed for statistical purposes.
6.2 Regarding Infosys BPO Limited, the Ld. AR submitted that this comparable is not comparable to the business operations of the assessee on account of the following:
(a) Infosys BPO has significantly high turnover. It was submitted that the turnover of Infosys BPO is INR 1,312 Crores which is significantly higher than the turnover of the assessee for FY 2011-12 from ITeS i.e. INR 11.47 crores.
The Ld. AR submitted that such giant company and scale of operations of Infosys BPO cannot be compared with the small and captive business of the assessee.
(b) Infosys BPO has significant brand value and selling and marketing expenses. It was submitted that during FY 2011-12, Infosys BPO had incurred brand building and advertisement expenses amounting to INR 5.53 crores as against the assessee who had not carried out any brand building and advertisement activity since it was a captive service provider providing services only to its AEs. Further, it was submitted that Infosys BPO being a subsidiary of Infosys Technologies Limited, had an element of brand value associated 9 I.T.A. No.524/C/2016 with it which is further evident from the brand building expenses incurre by Infosys BPO. The Ld. AR submitted that brand value has significant influence over the pricing policy which ultimately impacts margins. It was submitted that presence of brand commands premium price and the customers would be willing to pay any price for the services offered by such companies. According to the Ld. AR, Infosys BPO was one of the established player and a leading company in the field of ITeS and it is enjoying dominating presence in market in terms of economies of scale and diversity and geographical dispersion of customers. Hence it was submitted that Infosys BPO cannot be considered as comparable to the assessee who is a captive service provider engaged in providing ITeS only to its AEs.
(c) Infosys BPO is engaged in rendering high-end services. It was submitted that Infosys BPO is engaged in rendering high-end business process management services to organizations that outsource their business processes. The Ld. AR submitted that it helps its clients to improve their competitive positioning by managing their business processes in addition to providing increased value and these services of Infosys BPO cannot be considered as comparable to the captive low end services rendered by the assessee to its AEs.
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(d) Infosys BPO has acquired a company during the year under consideration. It was submitted that during FY 2011-12, Infosys BPO acquired Portland Group Pty. Limited and it was not possible to identify impact of such acquisition on the financials of Infosys BPO and this acquisition made FY 2011- 12 as an exceptional year of operation. It was submitted that various Tribunals had taken a view that a company cannot be considered as comparable in case of events such as acquisitions, mergers, amalgamations etc. Hence, the Ld. AR submitted that Infosys BPO cannot be considered as comparable to the assessee on account of FY 2011-12 being an exceptional year of operation. The Ld. AR submitted that full copy of Annual Report of Infosys for FY 2011-12 was available in public domain and was available on the records of the TPO and the DRP.
(e) Reliance on judicial precedents which upheld rejection of Infosys BPO The Ld. AR relied on the following key judicial precedents of Hon'ble High Courts and Hon'ble Tribunals wherein Infosys BPQ has been rejected as comparable to the IT enabled service providers on account of being a giant company, scale of operations, brand value associated with the company, high- end nature of services and exceptional year of operations on account of acquisition of a company:
1) CIT Vs Pentair Water India Pvt. Ltd. (ITA 18/2015 dated 16/09/2015) -
(Bombay High Court) 11 I.T.A. No.524/C/2016
2) CIT vs. New River Software Services Private Limited (ITA No. 924/2016 dated 22/08/2017) (Delhi High Court).
3) Capital IQ Information Systems (India) Pvt. Ltd Vs DCIT (ITA No.l961/Hyd/2011 dated 23/11/2012)) - ITAT, Hyderabad Benches
4) Swiss Re Global Business Solutions India Private Limited Vs DCIT (IT(TP)A No. 2315/Bang/2016 dated 13/04/2017) - ITAT. Bangalore The Ld. AR submitted that in view of the above analysis, the AO/TPO be directed to exclude Infosys BPO from set of comparable companies. 6.2.1 The Ld. DR submitted that the assessee was engaged in remittance, money transfer, foreign exchange, bill payment etc. It was submitted that the assessee-company provided software development of real time systems, complex solutions including e-governance to its parent company. Besides, it was submitted that the assessee provided anti-money laundering support services to counter terrorist financing department of UAE Exchange for complying with global and country specific anti-money laundering regulations. According to the Ld. DR, these are jobs requiring highest levels of skills. Accordingly, the Ld. DR submitted that the functions of the assessee are very complex and need very high degree of skill sets. Therefore, the Ld. DR considered Infosys BPO as a valid comparable and the assessee's objection is to be rejected. 12
I.T.A. No.524/C/2016 6.2.2 We have heard the rival submissions and perused the material on record. Infosys BPO is a company having turnover of Rs.1312 crores as against the assessee's turnover of Rs.11.47 crores. In such a situation, we are unable to understand how the TPO included this giant company as a comparable to the assessee-company so as to determine the ALP. Hence, in our opinion, it is appropriate to exclude this company from the list of comparables and thereafter, the Assessing Officer shall determine the ALP of the assessee's international transactions. Accordingly, we agree with the argument of the Ld. AR and direct the Assessing Officer to exclude Infosys BPO from the list of comparables. Hence, this ground of appeal is allowed.
6.3 Regarding TCS E-Serve Limited ('TCS'), the Ld. AR submitted that based on the fresh search conducted, the TPO included TCS as a comparable company to the IT enabled services rendered to AEs The DRP upheld the TPO's action to include TCS as comparable. The Ld. AR submitted as follows:
(a) TCS has significantly high turnover: Based on the annual report for FY 2011 -12, the turnover of TCS is INR 1,578 Crores which is significantly higher than the turnover of the Appellant for FY 2011-12 from IT enabled services i.e. INR 11.47 crores. Such giant company and scale of operations of TCS cannot be compared with the small and captive business of the 13 I.T.A. No.524/C/2016 assessee. Hence, the Ld. AR submitted that a giant company like TCS cannot be considered as comparable to the Appellant.
(b) TCS has significant brand value: The Ld AR submitted that being part of the Tata Group, TCS has access to best industry practices such as talent management, customer relationship management, etc and also access to a broader customer base to sell its high end services. According to the Ld. , the company is also paying significant brand equity contribution expenses of FNR 3.67 crores to TATA Sons Ltd and TCS Ltd for using the brand name 'TATA' and leveraging the same to secure business orders. Further, it was submitted that TCS, being a part of Tata Consulting Services Limited, has an element of brand value associated with it and the presence of brand commands premium price and the customers would be willing to pay any price for the services offered by such companies. According to the Ld. AR TCS is an established player and a leading company in the field of IT enabled services and TCS is enjoying dominating presence in market in term of economies of scale and diversity and geographical dispersion of customers. Hence it was submitted that TCS cannot be considered as comparable to the asst who is a captive service provider engaged in providing IT enabled services only to its AEs. 14
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(c) TCS is engaged in rendering high-end services:
The Ld. AR submitted that TCS is engaged in rendering core business processing services, analytics/ insights and support services to the companies. According to the Ld. AR, these services are high-end knowledge process outsourcing services and these services of TCS cannot be considered as comparable to the captive low end services rendered by the assessee to its AEs. Hence, the Ld. AR submitted that TCS cannot be considered as functionally comparable to the assessee. The Ld. AR submitted that full copy of Annual report of TCS for FY 2011-12 is available in public domain and was available on the records of the TPO as well the DRP.
(d) Reliance on judicial precedents which upheld rejections of TCS:
The Ld. AR relied on the following judicial precedents of Hon'ble High Courts and Tribunals wherein TCS has been rejected as comparable to the IT enabled service providers on account of being a giant company, scale of operations, brand value associated with the company and high-end nature of services:
1) Principal CIT Vs BC Management Services Pvt Ltd (ITA 1064/2017 & CM No. 177/2017) - Hon'ble Delhi High Court
2) Principal CIT Vs Actis Global Service Pvt Ltd (ITA 94/2017) -
Hon'ble Delhi High Court
3) Swiss Re Global Business Solutions India Private Limited Vs DCIT (IT(TP)A No. 2315/Bang/2016) - ITAT, Bangalore Benches 15 I.T.A. No.524/C/2016 6.3.1 The Ld. DR submitted that as in the case of Infosys BPO Ltd., the functions of the assessee are involving real time systems, very complex software and need high skills. Therefore, the Ld. DR considered TCS e-Serve Limited as a valid comparable and the assessee's objection is to be rejected. 6.3.2 We have heard the rival submissions and perused the material on record. As discussed in 6.2.2, the turnover of TCS E-Serve Limited is at Rs. 1578 crores for the F.Y. 2011-12 as compared to the assessee's turnover at Rs.11.47 crores. In our opinion, this huge turnover company cannot be considered as a comparable to the assessee-company to determine the ALP of the assessee's international transactions. Hence, in our opinion, it is appropriate to exclude this company from the list of comparables and thereafter, the Assessing Officer shall determine the ALP. Accordingly, we find force in the argument of the Ld. AR and direct the Assessing Officer to exclude TCS E-Serve Limited from the list of comparables. Hence, this ground of appeal is allowed.
7. In Ground No. 3, the assessee has not pressed the rejection of M/s. Accentia Technologies as comparable. The only argument is with regard to the rejection of M/s. Informed Technologies India Ltd. as comparable. 7.1 The Ld. AR submitted that based on the fresh search conducted, the TPO included Informed Technologies India Ltd. as a comparable company to the IT enabled services rendered to AEs. The DRP rejected the assessee-company as a 16 I.T.A. No.524/C/2016 comparable on account of 'other revenue' being 46% of the total revenue. Even after giving due regard to the assessee's submissions, the Ld. AR submitted that the DRP proceeded to reject Informed Technologies India Limited on account of remarks by the Auditor:
"Terms and conditions at which loan is granted by Informed to other company is prejudicial to the interest of the company as Informed has granted the loan interest free Informed does not have internal audit system in place".
In this regard, the Ld. AR submitted that interest free loan granted by the company cannot be considered as prejudicial to the interest of the company since the same could be due to business and commercial expediency. It was submitted that without prejudice to the same, it is pertinent to note that even though the company would have charged any interest on loan advanced to the company, it would have been treated as 'non-operating income' while computing the operating margins of Informed. According to the Ld. AR, it cannot have bearing on PLI to be considered for margin determination to calculate Arithmetic Mean. The Ld. AR submitted that the DRP has failed to demonstrate as to how the action of management of Informed Technologies India Limited of not charging interest on loan was prejudicial to the interest of the company and thereby rendering it as functionally non-comparable. It was further that merely because a company was not having internal audit in place, cannot render an otherwise functionally comparable company as non-comparable. On the other hand, the Ld. AR submitted that the Auditor in his report has acknowledged that 17 I.T.A. No.524/C/2016 the company has adequate internal control procedures in place commensurate with size of its business. Further, it was submitted that the Auditor's report mentioned that they have not observed any failures/ weakness in the internal controls. In view of this, Informed Technologies India Limited was not considered as non-comparable by the DRP. Additionally, the Ld. AR submitted that the Auditor of Informed has not qualified its report for FY 2011-12 but merely mentioned the above two points as ' remarks' and in case, the actions of the management of Informed Technologies India Limited would have been prejudicial to the interest of the company and would have impacted the annual financials, the Auditor would have proceeded to issue a qualified audit report forming part of Annual report of Informed Technologies India Limited for FY 2011-12. Hence, the Ld. AR submitted that the reasons given by the DRP should be rejected. The Ld. DR relied on the orders of the lower authorities. 7.3 We have heard the rival submissions and perused the material on record. As pointed out by the DRP, Informed Technologies India Limited had granted interest free loan to the related party to the tune of Rs.74.56 lakhs and the loan is irrecoverable. According to the Ld. AR, the granting of the said loan by Informed Technologies India Limited does not affect the profitability of the assessee-company. In our opinion it is not so. Admittedly, granting of loan to the related party directly affects that assessee's profitability. Granting of the said loan to the related party is definitely prejudicial to the interest of the assessee- 18
I.T.A. No.524/C/2016 company . Accordingly, we find no infirmity in the order of the DRP in rejecting Informed Technologies India Limited as a comparable to determine the ALP of the assessee's international transactions. Hence, this ground of appeal of the assessee is rejected.
8. Ground No. 4 is with regard to working capital adjustment. We have heard the rival submissions and perused the material on record. We find that the DRP has given clear direction on this issue to grant working capital adjustment on the basis of OECD guidelines. Being so, the Assessing Officer is directed to compute the same accordingly. Hence this ground of appeal of the assessee is allowed.
9. Ground No. 5 is with regard to non-application of upper limit to turnover filter which was not pressed. Accordingly, this ground of appeal of the assessee is dismissed.
10. Ground Nos. 6, 7, 8 & 9 are only academic in nature. In view of the earlier findings in Ground Nos. 2 & 3, these grounds do not require any separate adjudication and accordingly dismissed.
11. Ground No. 10 is with regard to risk adjustment. The Ld. AR was not able to show the exact nature of the risk undertaken by the assessee and its effect on the profitability of the assessee. Accordingly, this ground of appeal is rejected. 19
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12. Ground No. 11 is with regard to proposition to levy penalty u/s. 271(1)(c) of the Act which is preposterous. Hence, this ground of appeal is rejected.
13. Ground No. 12 is with regard to levy of interest u/s. 234B and 234C which is consequential and mandatory in nature and does not require any adjudication. Hence, this ground of appeal is dismissed.
14. In the result, the appeal of the assessee is partly allowed for statistical purposes.
Pronounced in the open court on 7th February, 2018.
sd/- sd/-
(GEORGE GEORGE K.) (CHANDRA POOJARI)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Place: Kochi
Dated: 7th February, 2018
GJ
Copy to:
1. M/s. XM Software Solution Private Limited, Ward No. 40, Door No. 952, Krishna Hospital Building, M.G. Road, Kochi-682 011.
2. The Assistant Commissioner of Income-tax, Corporate Circle-2(1), Kochi.
3. The Commissioner of Income-tax, Kochi
4. D.R., I.T.A.T., Cochin Bench, Cochin.
5. Guard File.
By Order (ASSISTANT REGISTRAR) I.T.A.T., Cochin 20 I.T.A. No.524/C/2016 21