Income Tax Appellate Tribunal - Hyderabad
Hyundai Motor India Engineering ... vs Ito, Ward-2(3), Hyd, Hyderabad on 21 December, 2016
IN THE INCOME TAX APPELLATE TRIBUNAL
HYDERABAD BENCHES "A", HYDERABAD
BEFORE SHRI D. MANMOHAN, VICE PRESIDENT
AND
SHRI B. RAMAKOTAIAH, ACCOUNTANT MEMBER
ITA No. Asst. Year Appellant Respondent
128/Hyd/2016 2011-12 Hyundai Motor India The Income Tax
Engineering Private Officer,
Limited, Ward-2(3),
HYDERABAD HYDERABAD
[PAN: AABCH7867C]
216/Hyd/2016 2011-12 The Income Tax Hyundai Motor India
Officer, Engineering Private
Ward-2(3), Limited,
HYDERABAD HYDERABAD
[PAN: AABCH7867C]
For Assessee : Shri K. R. Vasudevan, AR
For Revenue : Shri S.V.S.S. Prasad, CIT-DR
Date of Hearing : 27-09-2016
Date of Pronouncement : 21-12-2016
ORDER
PER B. RAMAKOTAIAH, A.M. :
These are cross-appeals by Assessee and Revenue against the order(s) of the Assessing Officer (AO) u/s. 143(3) r.w.s. 92CA(4) r.w.s. 144C of the Income Tax Act [Act].
2. Briefly stated, assessee Hyundai Motor India Engineering Private Limited was incorporated in November, 2006 as a subsidiary of Hyundai Motor India Ltd., under the Companies Act, 1956. Assessee is a 100% Export Oriented Unit and is registered under the Software Technology Parks of India (STPI) :- 2 -: I.T.A. Nos.128 & 216 /Hyd/2016 Scheme of the Ministry of Information Technology, Government of India. Hyundai Motor India Ltd., itaelf is a subsidiary of Hyundai Motor Company, Korea [Associated Enterprise (AE)] 2.1. Assessee is involved in providing support services in connection with CAE/CAD modeling and iterative simulation. It receives the basic design from its group company with respect to CAD modeling and makes a 3D CAD modeling data of vehicle components using CAD software tools. Assessee is a routing support service provider and it assumes less than normal risk associated with carrying out such business. The International transactions reported by assessee are as under
S.No. Name of the Nature of the Amount Associated international transactions in Rs. Enterprise
1. Hyundai Motor Engineering/Consulting 43,57,37,674 Company, Korea Engineering Services/ IT
2. Kia Motor enabled Services (ITeS) Corporation, Korea 20,52,60,386 Purchase of computers 2,64,56,224
3. Hyundai Autoever Purchase of Security 64,667 Corporation, Korea equipment Annual License fee for 98,95,527 software Purchase of computer 23,07,715 Software Reimbursement of 11,08,347 expenses
4. Hyundai Motor Reimbursement of 2,72,10,590 Company, Korea expenses
3. Assessee has selected seven companies as comparables in its Transfer Pricing documentation whose arithmetic mean was arrived at 7.35% as against the margin of assessee at 9.02%. As assessee has international transactions with its Associated :- 3 -: I.T.A. Nos.128 & 216 /Hyd/2016 Enterprise [AE], a reference u/s. 92CA was made to the Transfer Pricing Officer [TPO] for determining Arm's Length Price [ALP]. The TPO vide his order dt. 30-09-2015 determined the adjustment in ALP at Rs. 11,92,51,438/-. In doing so, the TPO rejected assessee's TP study and has selected his own filters and after issuing show cause notice to assessee, has selected thirteen comparable companies whose arithmetic mean was determined at 25.73%. After providing the working capital adjustment, the adjusted arithmetic mean was determined at 24.32%. On the operating cost of Rs. 65.81 Crores, the said adjustment was proposed. The comparables selected by the TPO and the margins are as under:
S.No Company Name Unadjusted
Margins
AY. 2011-12 (%)
1. Accentia Technologies Ltd., 29.29
2. Acropetal Technologies Limited 15.57
3. Cosmic Global Limited 9.81
4. Crossdomain Solutions Pvt. Ltd., 25.04
5. e4e Healthcare 16.60
6. Eclerx Services Ltd., 69.78
7. Informed Technologies Ltd., 9.24
8. Infosys BPO 18.85
9. Jeevan Scientific Technologies Ltd., 28.93
10. Jindal Intellicome Ltd., 13.54
11. Mastiff Tech Pvt Ltd., 21.78
12. Microgentic Systems Ltd., -0.22%
13. TCS E-serve Ltd., 76.28
Arithmetic mean 25.73
4. Accordingly, a draft assessment order was made. Aggrieved by the draft assessment order, assessee approached the Dispute Resolution Panel [DRP]-1, Bangalore and DRP vide its order dt. 03-11-2015, directed to determine the ALP according to its directions. The DRP has excluded certain comparables like Infosys BPO, Acropetal Technologies Ltd., Jeevan Scientific :- 4 -: I.T.A. Nos.128 & 216 /Hyd/2016 Technologies Ltd., e4e Healthcare, TCS E-serve Ltd., and Mastiff Tech Pvt Ltd. It also gave certain other directions. Revised ALP addition was determined at Rs. 10,39,16,986/- and assessment order has been passed accordingly. Assessee is aggrieved on the above said TP adjustment and also on two other corporate issues, whereas Revenue is aggrieved on the directions of the DRP excluding certain comparables.
5. These issues were discussed in detail in this order, after considering the arguments of the Ld. Counsel for assessee and Ld. CIT-DR and also perusing the written submissions placed by assessee and Revenue. It is to be placed on record that on completion of hearing on 27-09-2016, Ld. CIT-DR wanted to file written submissions for which time was permitted up to 05-10- 2016. However, vide letter dt. 04-10-2016, the office of the CIT-DR sought further time of another two weeks to furnish, whereas the JCIT(TP) wanted time up to second week of November, 2016. Finally, the written submissions submitted by ITO, Ward-2(3) / DCIT, TPO-2 were placed on record with a covering letter dt. 11-11- 2016. In the written submissions, the officers have reiterated their submissions as considered by the TPO and the DRP only.
Assessee's Appeal in ITA No. 128/Hyd/2016:
6. Aggrieved on the orders of the DRP/TPO, assessee has raised various grounds running from 1 to 20 and an additional ground Ground No. 16A on working capital adjustment which has arisen consequent to the directions of the DRP in the final order.
:- 5 -: I.T.A. Nos.128 & 216 /Hyd/2016
7. Ld. Counsel at the time of arguments has submitted that Ground Nos. 1, 2, 3 & 20 are general in nature along with Ground Nos. 13 to 15. Ground No. 16 pertains to adjustment of (+/-) 5% as provided in second proviso to Section 92C(1) of the Act. Ground Nos. 17 to 19 pertains to corporate issues.
Transfer Pricing Issues:
8. The TP issues are covered from Ground No. 4 to 12 and additional ground No. 16A which are considered as under:
Ground No. 4. "That on the facts and circumstances of the case and in law, the AO/DRP erred in considering the upfront fee amounting to Rs. 6,31,227 paid for obtaining the loan for capital purpose as a part of operating cost, while computing the net margin of the Appellant under Transactional Net Margin Method ('TNMM')".
8.1. The facts leading to the above is that the TPO has considered other Finance charges of Rs. 6,31,227/- as 'operating cost'. It was contended that these charges are in the nature of up-
front fees for obtaining loan which was used for capital purposes hence, the same should not be considered as operating in nature. The DRP has directed the AO to verify from the computation of total income as to whether the above expenses have been disallowed treating the same as capital in nature and if so, directing the AO to reduce the same from the operating cost. The DRP also directed that if it is claimed and allowed as 'revenue expenditure', it has to be considered as part of operating cost.
8.2. After considering the submissions by assessee and Revenue, we are of the opinion that there is no need to interfere :- 6 -: I.T.A. Nos.128 & 216 /Hyd/2016 with the directions of the DRP on the issue. Whether the up-front fees paid is part of the operating cost or not is a factual matter to be verified and therefore, the ground does not deserve any merit at this end. Accordingly, the same is rejected.
Ground No.5. That on the facts and the circumstances of the case and in law, the AO/DRP erred in accepting the following comparable companies as selected by the TPO:
a) Accentia Technologies Limited;
b) Eclerx Services Limited; and
c) Crossdomain Solutions Private Limited.
Ground No. 6. That on the facts and the circumstances of the case and in law, the AO/DRP erred in not following the order of Hon'ble Income Tax Appellate Tribunal in Appellant's own case for AY 2008-09, AY 2009-10 and AY 2010-11.
9. Assessee is contesting the selection of the following three companies:
i) Accentia Technologies Limited;
ii) Eclerx Services Limited; and
iii) Cross domain Solutions Private Limited.
9.1. Assessee has objected to the above companies stating that they are functionally different but DRP has rejected them.
9.2. Ld. Counsel submitted that each of the company cannot be selected for the following reasons:
i) Accentia Technologies Limited;
9.3. It was submitted that Accentia Technologies Limited cannot be considered as a comparable based on the functional dissimilarity as the said company is into diversified outsourcing services. It has relied on annual report for AY. 2010-11 showing :- 7 -: I.T.A. Nos.128 & 216 /Hyd/2016 that assessee is having multi location, diversified knowledge process outsourcing company and also it has products such as instaKare and instaweb which makes the company a product based company as well. Not only that, it was also submitted that there was no segmental information provided by the Accentia Technologies Limited in its annual report and margin calculated was done at over all entity level, whereas it was involved in various activities like medical transcription, billing and collections and income from coding etc. It was also further submitted that there are extraordinary events during the year like acquiring companies in USA such as GSR Physicians Billing Services INC, GSR Systems INC and Denmed Inc. It was also submitted that the said company has shown abnormal growth pattern due to acquisition and is a super normal profit company. It also has Intellectual property rights and accordingly, functionally different from assessee- company.
9.4. It was submitted that in the case of Exevo India Pvt. Ltd., Vs. ITO in ITA No.907/Del/2016 (AY.2011-12) dt. 25-07- 2016, the above said company was excluded from the ITES category. Like-wise, it is also excluded in Orange Business Services for AY. 2011-12 on account of functional differences, good will and extraordinary events. It was further submitted that the above company was also rejected in assessee's own case for AY. 2008-09 to 2010-11.
9.5. Ld. DR, however, relied on the orders of the TPO and DRP to submit that company is a comparable one.
:- 8 -: I.T.A. Nos.128 & 216 /Hyd/2016 9.6. We have considered the rival contentions and perused the details placed on record. There is justification in assessee's contentions as the above said company is involved in multifarious activities including products and IPR rights. Consequently, it cannot be considered as functionally similar to assessee-company which is categorised as a KPO company, being in engineering business process services. The Co-ordinate Bench in the case of Exevo India Pvt. Ltd., Vs. ITO in ITA No.907/Del/2016 (AY.2011-
12) dt. 25-07-2016 (supra) has considered this comparable and excluded by stating as under:
"Accentia Technologies Ltd.
4.1. Ld.TPO considered this as a comparable. Assessee objects to the compatibility of this company is due to functional incompatibility. Ld.AR submitted that this company was having supernormal profit and is engaged in providing KPO services which is distinct from the nature of services provided by the assessee before us. He has placed reliance upon the decision of coordinate benches of this tribunal in the case of M/s.Capital IQ Information Systems (India) Pvt. Ltd. Vs. DCIT in ITA No. 1961/H/2011 and Symphony Marketing Solutions India Pvt. Ltd., in ITA No. 1316/BANG/2012, wherein the dissimilarities between KPO services and BPO service has been drawn up. He further contended similar view has been upheld by the Hon'ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd., vs. CIT in ITA 102/2015.
6.2. Ld. DR, however, referred to extracts from the ld.TPO's order to submit that Accentia Technologies Ltd. is comparable with assessee. The ld. DR relied upon order dated 27.04.2015 passed by Hon'ble Delhi High Court in the case of Chris Capital Investment versus DCIT reported in I.T.A.No. No.417/2014, wherein Hon'ble Delhi High Court has held that:
".... the mere fact that an entity makes high / extremely high profits / losses does not ipso facto, lead to its exclusion from the list of comparables for the purpose of determination of ALP. In such circumstances enquiry under Rule 10B(3) ought to be carried out, to determine as to whether the material differences between the assessee and the said entity can be eliminated. Unless such differences cannot be eliminated, the entity should be included as a comparable."
:- 9 -: I.T.A. Nos.128 & 216 /Hyd/2016 6.3. After considering the rival submissions and pursuing the relevant material on record, we find that functionally, this company is into development of software products for healthcare. It is submitted by the ld.AR that Accentia Technologies Ltd is engaged into diversified activities such as Knowledge Process outsourcing(KPO), Legal process outsourcing(LPO), Data process Outsourcing(DPO), high end software services. It is submitted by the ld.AR that segmental information in respect of this company is not available. We find that the Ld. TPO had adopted this company as a comparable as the Ld. TPO is of the view that the services rendered by this comparable are in the nature of BPO or back office services and that nothing he is earned from sale of products.
We have perused the annual reports of this company and have observed that Accentia owned a brand and goodwill on account of acquisition/amalgamation of a defendant in force. Further it is observed that this company is providing services in the field of medical transcription billing and collections income from coding etc for which complete segmental information are not available.
In our considered opinion this company is functionally dissimilar to that of the assessee. Accordingly we direct the Ld. TPO to exclude this company from the list of comparables".
Accordingly, respectfully following the above, we direct the AO/TPO to exclude the above company from the list of comparables.
ii) Eclerx Services Limited;
9.7. It was submitted that this company is a Knowledge Process Outsourcing Company and as per the annual report of the company, it is engaged in the provision of services in business units of financial services and sale and marketing support. It was also further submitted that there was an extraordinary events as a subsidiary company of Eclerx Services Limited was wound-up. It has super normal profits during the year and cannot be compared to assessee-company. It was further submitted that this company was rejected in assessee's own case for AY. 2008-09 to 2010-11 on :- 10 -: I.T.A. Nos.128 & 216 /Hyd/2016 functionally dissimilar and peculiar economic circumstances. Ld. Counsel relied on the orders in earlier year.
9.8. We have perused the rival contentions and the documents placed on record. Assessee raised the similar contentions before the DRP and DRP vide it order in pg. 12 has considered as under:
"Having considered the submission, we are of the view that the engineering design services provided by the assessee is comparable to the services provided by the above company. Further, in the safe harbor guidelines issued by the CBDT, engineering design services have been considered under KPO. Further, the objection in regard to the exclusion of the company due to high profit is not found acceptable due to the detailed reasons given in paragraph 2.6 of this order. There is no extraordinary event have been pointed out by the assessee similar to the earlier years in which the Hon'ble ITAT directed to exclude the company due to such event. Further, it appears to us that the high end function of the company were not brought to the notice of the Hon'ble ITAT, which resulted in exclusion of the above company. Accordingly, considering the function of the assessee, we are of the view that there is no infirmity in inclusion of the above company in comparables".
9.9. We notice that this company is categorised as KPO company and the services are similar being provided to the services being provided by the above company. Further, as seen from the so called extraordinary event, it is noticed that the said company has wound-up a subsidiary company w.e.f. 29-03-2011. Since it has not acquired the company whose turnover is included in assessee-company but only wound-up a dormant company, we are of the opinion that it does not have any bearing on assessee's operating results. Super normal profits cannot be a basis for exclusion of a company and since the DRP has considered the objections, we agree with the findings of DRP. Even though the company was excluded in earlier year, we are of the opinion that :- 11 -: I.T.A. Nos.128 & 216 /Hyd/2016 each year is to be considered separately on the basis of the facts and in TP matters the facts will vary from year to year. Accordingly, we are of the opinion that this company cannot be excluded. To that extent, the ground raised by assessee is rejected.
iii) Crossdomain Solutions Private Limited:
9.10. With reference to this company, it was submitted that the company is functionally dissimilar as it has a diversified Knowledge Process Outsourcing Company providing services in insurance, health care, HR and accounting domains. Company also offers business excellence market research and data analytics and IT services. It was also submitted that the company is engaged in software development activities. It was also submitted that in assessee's own case in AY. 2008-09, this company was rejected by the ITAT due to the fact that it has diversified activity and further, segmental information was not available. It was also contended that the margin calculated by the TPO is incorrect and furnished a revised computation. The issue was whether the bad debts were non-operating expenses and TPO has not followed the guidelines on the issue.
9.11. We have considered the rival contentions and perused the documents placed on record. Assessee has raised the same objections before DRP which gave a finding that the engineering design services being rendered by assessee are akin to KPO services of the above company. It further considered that functional comparability need to be decided on the basis of the information available in the annual report and not based on the :- 12 -: I.T.A. Nos.128 & 216 /Hyd/2016 website information which may vary and may not be reliable. It was further noted that in the case of M/s. Excellence Data Research Pvt. Ltd., in ITA No. 159/Hyd/2015, the ITAT rejected the objection of assessee for exclusion of above company noting that the annual report refers only service and is in the pay roll service activity. Thus, stating DRP rejected assessee's objections. We do not find any reason to interfere with the said objections as the very basis of the contentions are based on the website information but not on the annual report. However, the DRP has directed the TPO to verify the margin which assessee submits that has not been considered. Therefore, while retaining the company as a comparable one, we direct the AO/TPO to examine the contentions with reference to margin computation of the above said company after giving due opportunity to assessee to make submissions.
This issue is considered partly allowed.
9.12. In the result, grounds are considered partly allowed.
Ground No. 7. That on the facts and the circumstances of the case and in law, the AO/DRP erred in confirming the TPO's stand of treating the provision for bad and doubtful debts and bad debts written off as non- operating expenses for the purpose of margin computation of comparable companies as selected by TPO.
10. This ground pertains to the issue of provision for bad and doubtful debts and bad debts written off which should be considered as operating in nature while computing the margin of comparable companies. This is a general ground pertaining to computation of margin of the comparable companies. It was the submission that the provision for bad and doubtful debts and bad debts written off are part of its operating expenditure as an entity :- 13 -: I.T.A. Nos.128 & 216 /Hyd/2016 undertakes marketing and creates a customer base for itself. Some of them fail to make the payment due to which the provision is created in the books of account. Since this provision is in relation to the services rendered, this expenditure is an operational expenditure. It was submitted that this contention, even though was accepted by the DRP in its various findings, the TPO has not acted upon the same.
10.1. After considering assessee's objections and perusing the orders of the DRP, we are of the opinion that the DRP has correctly directed the TPO with reference to the above issue. The directions of the DRP are as under:
"Having considered the submissions, in our view provision for bad & doubtful debts is not made in all the cases and further, the provision is not an ascertained liability. Therefore, there is no debate here as to whether the provisions for bad debts is "operating in nature" or not? As per the Act, it is permitted to be debited to the expenses. The issue here is while considering comparative analysis for TP purpose, the provision of this sort, which has nexus to the performance of the assessee for the previous years, if allowed to remain debited to the books of the relevant FY, creates complications when considered for comparative analysis and creates distortions. This provision as the name suggests is a provision and allowed to be treated as bad by the assessee per its own assessment and it may be realizable subsequently and reversed. This relates to the sales accounted in the earlier years. Essentially, this provisions refers to the past performance of the company. Even otherwise, for the comparability analysis, if such provisions are excluded from the tested parties as well as the comparables, the error in the margins of the relevant year are taken care of. Therefore, we do not find any infirmity in the approach of the TPO.
However, it is noticed by us that in the case of Jindal Intellicom Ltd., on perusal of the Annual Report of the company, it is noticed that the TPO has not reduced the provision for bad & doubtful debts of Rs. 79,35,297/- from the operating cost. Considering the same, we direct the AO to rework the margin of the above company".
:- 14 -: I.T.A. Nos.128 & 216 /Hyd/2016 We do not find any reason to interfere with the directions of the DRP. However, TPO is directed to re-workout the margins considering that annual report of each of the companies which are being objected to by assessee. AO/TPO is directed accordingly. The ground is considered allowed.
Ground No. 8. That on the facts and circumstances of the case and in law, the AO/DRP erred in excluding the following companies, viz., a. e4e Healthcare Business Services Private Limited; b. Mastiff Tech Private Limited.
Ground No. 9. That the AO/DRP erred in excluding the companies without providing any show cause notice or a reasonable opportunity of being heard to the Appellant, completely disregarding the provisions of the Act and in utter disregard to the principles of natural justice.
Ground No. 10. That the AO/DRP erred in excluding the companies not objected, when the AO/TPO had already examined and decided the issues based on the facts and material available on record.
11. As can be seen from the grounds, the two companies are excluded by the DRP, even though these are not objected to by assessee and Revenue also has raised objections in their grounds. Considering that TPO has included them as comparable companies and assessee has not objected to them and also on the fact that Revenue is raising the ground on the issue before us, we are of the opinion that DRP has wrongly excluded the above two companies on the reason of inconsistency in accounting and huge variation in the margin due to uncertainty of the receivables. These cannot be considered as a valid reason for excluding the company when all other filters have been compared and accepted by the TPO. In view of this, we modify the order of the DRP and direct the AO/TPO to consider these companies as comparable companies. However, if :- 15 -: I.T.A. Nos.128 & 216 /Hyd/2016 there is any objection with reference to the margins as considered in Ground No. 7 with reference to inclusion of bad and doubtful debts/bad debts written off, the TPO is directed to work out the correct margin after giving due opportunity to assessee. Grounds of assessee are allowed.
Ground No. 11. That on the facts and circumstances of the case or in law, AO/DRP erred in confirming the rejection of following comparable companies, as rejected by the TPO:
a) Microland Limited;
b) R Systems International Limited;
c) Accuspeed engineering Limited; and
d) CSS Technology Limited.
12. This ground pertains to rejection of comparables selected/proposed by assessee. In this ground, assessee is requesting for inclusion of the following four companies selected by it.
i. Microland Limited;
ii. R Systems International Limited;
iii. Accuspeed engineering Limited; and
iv. CSS Technology Limited.
The detailed submissions are as under:
i. Microland Limited;
12.1. It was submitted that Microland Limited is functionally comparable to that of assessee. It qualifies quantitative filters applied by the TPO including different financial year ending filters. It was also submitted that TPO himself has chosen the company for AY. 2009-10. It proves that the company satisfied the persistent :- 16 -: I.T.A. Nos.128 & 216 /Hyd/2016 loss making filter applied by the TPO. Hence, ought to have accepted.
12.2. After considering the rival contentions, we are of the opinion that DRP has correctly gave a finding that this company is not comparable to assessee-company. The findings of the DRP are as under:
"Having considered the submission, on perusal of the annual report, it is noticed from segment reporting that the revenue from IT enabled service segment is Rs. 2,73,94,000/- as against the revenue from infrastructure management services of Rs. 26,12,95,000/- and therefore, the company fails the revenue earning filter applied by the TPO. Further, it is also noticed that the company is engaged in IT infrastructure management services and takes support services which are not comparable with the function of the assessee company and therefore, the above company in our view cannot be retained as a comparable".
Since the turnover is very small in the IT Enabled Services Agreement, we affirm the findings of the DRP and reject the assessee's contentions.
ii. R Systems International Limited;
12.3. It was submitted that this company was selected by the TPO in the earlier year and hence, this company should be selected as comparable. It was further submitted that TPO excluded the company on the basis of different financial year ending which was upheld by the DRP. It was contended that if the company is having financial year, data available in the public forum can be adjusted for the financial year ending 31-03-2011. Then, this company can be considered as a comparable. Assessee relied on the Co-ordinate Bench decision in the case of Techbooks International Private Limited (ITA No. 240/Del/2015) and also the :- 17 -: I.T.A. Nos.128 & 216 /Hyd/2016 decision of Hon'ble Delhi High Court in the case of CIT Vs. Mckinsey Knoweldge Centre India Pvt. Ltd., in ITA No. 217/2014 dt. 27-03-2015 for the proposition that if from the available data on record, the results for the financial year can reasonably be extrapolated then, the comparable cannot be excluded solely on the ground that comparables have different financial year endings.
12.4. Since the objection of assessee is valid, we direct the AO/TPO to examine afresh this comparable and to verify whether the comparables satisfy other filters, then select the company as comparable. AO/TPO is directed accordingly.
iii. Accuspeed engineering Limited;
12.5. It was submitted that Accuspeed engineering Limited is engaged in the provision of engineering consultancy services which were functionally comparable to the appellant. It was submitted that the company is engaged in design and detailed engineering for instrumentation for various projects and relied on the annual report for the year ending 2009-10. The DRP however, noticed that this company has only employee cost of 1.98 Crores which is less than 25% and thus fails the employee cost filter. It relied on the Co-ordinate Bench decision in the case of Navisita India Pvt. Ltd., in ITA No. 5329/Del/2012. The DRP also relied on the judgement of Delhi High Court in the case of Rampgreen Solutions Pvt Limited Vs. CIT in ITA No 102/2015 dt 10-08-2015 to come to a finding that assessee is not a comparable company. We also notice that the said company is functionally different. As seen from P & L account, revenues include sales and services. Consequently, in the abscne of any segmental information, it cannot be concluded :- 18 -: I.T.A. Nos.128 & 216 /Hyd/2016 that the said company is comparable company to assessee which is in ITES providing engineering services. We are of the opinion that the TPO/DRP has rightly excluded the company as functionally dissimilar. Assessee's contentions are rejected.
iv. CSS Technology Limited:
12.6. With reference to this company, it was submitted that CSS Technology Limited is engaged in provision of information technology enabled services which is functionally comparable to assessee. It was noticed from the order of the DRP that the said company fails export earning filter as the export turnover was 91.41 Lakhs as against domestic turnover of Rs. 13.33 Crores. We do not see any reason to differ from the findings of the DRP.
Accordingly, we are of the opinion that TPO/DRP has rightly excluded the above company. In the result, the ground is partly allowed.
13. Ground No. 12 pertains to the issue of adjustment which should be restricted to the international transactions. The ground is as under:
Ground No. 12. That on the facts and circumstances of the case or in law, AO/DRP has erred in making the adjustment by considering total revenue of the Company without appreciating that the transfer pricing adjustment should be restricted only to the value of international transactions with the AE.
13.1. It was submitted that the adjustment should be restricted to the International transaction and assessee has furnished the segmental report reporting to the TPO. Assessee relied on the following case law:
:- 19 -: I.T.A. Nos.128 & 216 /Hyd/2016
i. Saven Technologies Ltd. Vs. ACIT (ITA No. 1456/Hyd/2010);
ii. DCIT Vs. M/s. Firestone International (P) Ltd (ITA No
4520/Mum/2011); and
iii. DCIT Vs. M/s. Federal Mogul Bearing India Ltd (ITA No.
1255/Mum/2014;
13.2. In principle, we agree with assessee's contentions that the ALP adjustment should only be restricted to international transactions and not to the entire turnover of assessee. However, this requires verification by the AO/TPO. Therefore, we direct the AO/TPO to verify and restrict the adjustment only to the international transactions. Ground is considered allowed for statistical purposes.
Working capital adjustment Ground No. 16A : The Appellant submits that negative working capital adjustment, if any, resulting from the exclusion or inclusion of the companies mentioned in Grounds No 5, 6, 7, 8, 9, 10 and 11, should not be made while computing the arm's length margin under the provisions of the Income-tax Act, 1961.
14. This is an additional ground raised by assessee consequent to the orders of the DRP. Even though TPO has given positive working capital adjustment, consequent to DRP order excluding certain comparable selected, the adjustment resulted in negative working. This ground being legal in nature was admitted. It was submitted that negative working capital adjustment should not be made in its case, as assessee is fully funded by the AO and does not bear any working capital risk. Assessee submits that the negative working capital adjustment cannot be made in the case of captive services provider. Reliance was placed on the decision of the ITAT Hyderabad Bench in the case of Adaptec (India) P. Ltd., :- 20 -: I.T.A. Nos.128 & 216 /Hyd/2016 Vs. ACIT in ITA No. 206/Hyd/2014 (AY. 2009-10) dt. 25-03-2015 wherein it was held that negative working capital adjustment should not be made in the case of captive service provider.
14.1. After considering the rival contentions, we are of the opinion that assessee has a valid ground. In the case of Adaptec (India) P. Ltd., Vs. ACIT in ITA No. 206/Hyd/2014 (AY. 2009-10) dt. 25-03-2015 (supra), the Co-ordinate Bench has considered the issue of negative working capital and held as under:
"10. Ground No.8 pertains to the issue of negative working capital. As briefly stated above, after arriving at the arithmetic mean of all comparables at 22.03%, the A.O. worked out negative working capital adjustment of 3.22% thereby, making arms length price at 25.25%. Even though, DRP refused to interfere with the objections of the assessee in its order, we were informed that DRP has directed the TPO/A.O. not to make any negative working capital adjustment in some of the cases in the next assessment year, in the cases of Market Tools Research P. Ltd., and Mega Systems Worldwide India P. Ltd., assessee placed on record copies of orders of DRP. In that DRP considered the issue and directed the TPO as under :
"14. Ground No.11 : Negative Working Capital adjustment - Making a negative working capital adjustment without appreciating the fact that the company does not bear any working capital risks. On this issue, the assessee submitted as under :
"The learned TPO determined the ALP for the international transactions with A.Es by making a negative working capital adjustment for the differences in working capital between the assessee and the companies considered as comparables. The assessee does not agree with the learned TPO as :
• The company does not bear any working capital risk since it is been fully funded by it's A.E. from its inception and has no working capital contingencies.
• The company has never taken any loans till date from the date of incorporation nor has incurred any expense for meeting the working capital requirement."
:- 21 -: I.T.A. Nos.128 & 216 /Hyd/2016 We have gone through the submissions and the order of the TPO. The assessee pleaded that the DRP has acceded such a plea in some other case. On examination, we find that the DRP, Hyderabad in the case of Cordys Software India P. ltd., for A.Y. 2008-09 in its directions dated 03.08.2012 has given a finding as under :
"7.7. 4 Thus, working capital adjustment is made for the time value of money lost when credit time is provided to the customers. The applicant is not an entrepreneur but a captive service provider. Its entire funding needs are provided by the A.E. This being so, the applicant does not stand to lose anything as it is compensated on a total cost plus basis. The TPO probably was carried away by the large amount of receivables appearing in the books of the applicant. But the applicant is running its business without any working capital risk while comparable companies have such a risk for them. If at all any working capital adjustment is to be made to t his situation, only a positive adjustment has to be made to the comparables so that they are brought on par with the applicant. In view of the same, the Panel directs that negative working capital adjustment to the arithmetic mean margin of the comparables shall not be made."
In view of the above, the Panel directs that negative working capital adjustment to the arithmetic mean margin of the comparables shall not be made."
11. In view of the above, we are of the opinion that assessee's case being similar, there is no need for making any negative working capital adjustment when assessee does not carry any working capital risk. In fact, TPO should have done necessary working capital adjustment to the profits of the selected comparables so as to make them comparable to the assessee. In view of this, we direct the TPO not to make negative working capital adjustment".
Respectfully following the Co-ordinate Bench decision, we direct the AO/TPO not to make any negative working capital adjustment. Since some of the comparables are excluded and some are directed to be verified/ included, the TPO/ AO is directed to work out the adjustment afresh.
Corporate Issues:
15. Ground No. 17 pertains to the issue of non-setting off of unabsorbed depreciation. The ground is as under:
:- 22 -: I.T.A. Nos.128 & 216 /Hyd/2016 Ground No. 17. The AO erred by not setting off the unabsorved depreciation of AY 2008-09 and AY 2010-11 amounting to Rs. 83,16,472 available for set off under section 32 of the Act from the current year's taxable income under regular provisions of the Act as computed in the Assessment Order dated 28 December 2015.
15.1. It was submitted that even though the DRP has directed the AO to verify the record and allow the set-off of deprecation, the AO has not followed the directions. Ld. DR however, submitted that this is a matter of verification of record.
15.2. After considering the rival contentions, we are of the opinion that AO has not followed the directions of the DRP. DRP vide para 3 in page 26 has clearly directed the AO to verify the records and consider the submissions made in accordance with the provisions of the Act. AO in the order itself has stated that assessee filed revised return of income on 30-03-2013 revising the total income to Rs. 18,18,817/- after set-off of unabsorbed depreciation of earlier years. However, while computing the income, he has not started from the income returned, but has started from income from profits and gains of business and added income from other sources and the arm's length adjustment ignoring the set-off of unabsorbed depreciation. We direct the AO/TPO to follow the directions of the DRP and allow the unabsorbed depreciation as per the provisions of the Act. Ground is accordingly considered allowed.
16. Ground Nos. 18 & 19 pertaining to levy of interest u/s.
234A, 234B & 234D. The Grounds are as under:
:- 23 -: I.T.A. Nos.128 & 216 /Hyd/2016 Ground No. 18: The AO has erroneously levied interest under section 234A though the assessee has filed its return of income within due date specified in section 139(1) of the Act.
Ground No.19: That the consequential effect should be given to the liability of interest under section 234B and 234D.
16.1. This being consequential, we direct the AO to follow the provisions of the Act, principles of law on the basis of the total income computed after giving effect to this order. Grounds are accordingly considered allowed.
17. In the result, this appeal of assessee is partly allowed for statistical purposes.
Revenue's appeal in ITA No. 216/Hyd/2016:
18. This appeal is against the order of the DRP in which the following three grounds are raised:
"1. Whether on the facts and circumstances of the case, the Hon'ble DRP was justified in rejecting companies on the ground of functional difference when the taxpayer has not considered the verticals & horizontals (categorizing comparables. The TPO has also not gone into the verticals/horizontals of the comparables. The DRP failed to consider that the main search strategy of the taxpayer as well as the TPO has been to identify the companies which are engaged in the ITES.
2. Whether on the facts and circumstances of the case, the Hon'ble DRP was justified in rejecting Infosys BPO on ground of High turnover hence, it does not influence the net margins of the company.
3. Forward contracts are part and parcel of operations of the company and gain or loss arising out of the same is operations in nature hence, it does not influence profit origin. Thus the DRP erred in its decision of forward contracts influence the profit margin of the company".
:- 24 -: I.T.A. Nos.128 & 216 /Hyd/2016 18.1. As can be seen from the above grounds, they are not very clear on what comparables the issues are raised but the only comparable which was specifically mentioned in Ground No. 2 is with reference to the Infosys BPO Ltd.
18.2. We were informed by the Ld. DR that the Ground No. 3 pertains to the two comparables which are contested in the Ground Nos. 8, 9 and 10 (herein above in assessee's appeal) which were excluded by the DRP, when neither TPO nor assessee objected to their inclusion. Since the ground raised in assessee's appeal at Ground Nos. 8, 9 10 covers the ground No. 3 in Revenue's appeal and since those grounds were allowed, we treat this contention of Revenue also as allowed.
18.3. Coming to Ground No. 1, there is no specific objection with reference to companies which are rejected and accepted on the principles that TPO has not gone into the verticals & horizontals of the comparables. Even though the said conceptual contention may be correct generally, but as seen from the order of the DRP, they have very clearly specified why a particular company is not functionally comparable. We do not see any reason to interfere with such findings. Thus the issue does not arise from the order of DRP. Accordingly, Ground No. 1 is rejected.
18.4. Coming to Ground No. 2, we notice that DRP has excluded both Infosys BPO Ltd., as well as TCS E-serve Ltd. Revenue is objecting only one, Infosys BPO that it was wrongly excluded on the ground of high turnover as it does not influence the net margins of the company. However, there are other reasons :- 25 -: I.T.A. Nos.128 & 216 /Hyd/2016 also on which the DRP has excluded the above company. The DRP's order with reference to Infosys BPO Ltd., is as under:
"2.13 Ground of Objection 13 Infosys BPO Limited ("Infosys" or "the Company") has to be rejected based on the presence of the brand thereby warranting adjustments are required to eliminate the impact of brand on profits earned. Since it might not be possible, Infosys is to be rejected as a comparable.
Infosys BPO Limited ("Infosys" or "the Company") has to be rejected based on the fact that it is an oversized company as compared to the tested party.
The Learned TPO erred by not rejecting Infosys as comparable, as exclusion of Infosys as comparable is upheld by Jurisdictional ITAT in assessee own case (ITAT No.255/Hyd/2014 &ITA.No.1850/Hyd/2012) for AY 2009-10 and AY 2008-09.
It is submitted that the company should be excluded due to the following reasons :-
Functional dissimilarity - Niche Areas That Infosys SPO is backed by Infosys Technologies Limited which supports Infosys SPO to offer an integrated IT-BPO delivery model designed for 'one stop shop' solution model which helps managing the entire outsourcing operational chain of IT and process management services. Infosys BPO's Business Service Centre performs the back office functions for dispersed business units and locations. A pictorial presentation of back office functions is displayed below:
Presence of brand That while considering Infosys BPO as a comparable company, due consideration should be given to the fact that Infosys spa possesses brand value which will tend to influence the pricing policy and thereby directly impacting the margins earned by Infosys spa.
As seen from an extract of the Schedule 200200 (Selling and marketing expenses) to the Profit & Loss A/c of the Annual Report for the FY 2010-11 of Infosys spa, indicates that it is distinguished from the Assessee due to the presence of brand and its associated value.
It is also submitted that Infosys spa has identified the presence of brand in its services/ products and has goodwill as a part of its Fixed Assets -
:- 26 -: I.T.A. Nos.128 & 216 /Hyd/2016 Schedule 100600. Following is an extract which provides evidence to the fact stated above.
It is also submitted that :-
• Infosys BPO, being a subsidiary of lnfosys Limited, has an element of brand value associated with it. This can be further confirmed by the presence of brand related expenses incurred by Infosys BPO.
• Presence of a brand is likely to command premium prices that the customers are willing to pay for the branded services/products.
The Assessee wishes to humbly submit that the Assessee does not have any brand associated with it. Hence the Assessee submits that Infosys spa cannot be comparable to the Assessee.
Ratio of sum of advertising and marketing expenses to sales greater than 3% The Learned TPO has failed to appreciate the marketing expenses filter. Since Infosys BPO spends 8.40% of its sales in advertisement, this has generated significant revenue and creation of brand value for Infosys spa as there is a high degree of correlation between advertising and sales.
Size of the comparable The Learned TPO has failed to appreciate the fact that the ITES industry is clearly demarcated based on size and that Assessee cannot be compared to companies having sales disproportionate to the sales generated by the Assessee. If one were to look at the turnover/size of the 13 comparable companies selected by the Learned, TPO and plot it on a scattered diagram, then one could notice that both Infosys is a clear outlier. The scattered diagram of the 13 comparable companies is presented below:
The assessee relied on the decision of the Hon'ble I TAT, Hyderabad in assessee's own case for A.Y. 2009-10 in which the Hon'ble ITAT held that 'We are in agreement with the contentions of the comparability on turnover ratio of assessee with this company on the ground that assessee's turnover is about RS.15.79 crores, as against turnover of Rs.1016 crores of the Infosys. We are also of the view that other contentions with regard to the brand value and brand building exercise, having huge asset base, can be considered to arrive at the conclusion that Infosys BPO is functionally not similar to that of assessee. Infosys BPO stands on its own as an exclusive BPO of the Infosys Technologies and in earlier years, generally Infosys BPO is excluded in many of the cases. Considering these aspects, we are of the opinion that even though the profits of the Infosys BPO Ltd. is reasonable and no super profits are earned, because of its big :- 27 -: I.T.A. Nos.128 & 216 /Hyd/2016 brand value this company has to be excluded on the grounds of functional dissimilarity on FAR Analysis. Therefore, we direct the Assessing Officer/TPO to exclude this company." The Hon'ble ITAT has taken similar view in A.Y. 2008-09 also.
Having considered the submission, even though we are in agreement of the exclusion of the above company, due to turnover, however, respectfully following the decision of the Hon'ble ITAT on functional differences, including the influence of the brand value on the margins, we direct the A.O. to exclude the above company from the comparables".
18.5. In view of the detailed reasons given by the DRP in excluding the company, not only on the basis of the high turnover but also with reference to the brand value etc., we do not see any reason to interfere with the findings of the DRP. In fact the ground raised is not covering all the issues on which the DRP has rejected the above said company. In view of this, we do not find any merit in considering the Revenue's ground. Accordingly, ground 2 is rejected.
19. In the result, Revenue's appeal is partly allowed.
20. To sum-up, Assessee's appeal is partly allowed for statistical purposes and Revenue's appeal is partly allowed. If stay orders are pending if any, they are deemed to have been vacated.
Order pronounced in the open court on 21st December, 2016 Sd/- Sd/-
(D. MANMOHAN) (B. RAMAKOTAIAH)
VICE PRESIDENT ACCOUNTANT MEMBER
Hyderabad, Dated 21st December, 2016
TNMM
:- 28 -: I.T.A. Nos.128 & 216 /Hyd/2016
Copy to :
1. Hyundai Motor India Engineering Private Limited, Survey No. 5/2 & 5/3, Opposite Hitec City Railway Station (MMTS), Hyderabad.
2. The Income Tax Officer, Ward-2(3), Hyderabad.
3. Dispute Resolution Panel (DRP), Hyderabad.
4. The Director of Income Tax, International Taxation, Income Tax Towers, Hyderabad.
5. The Addl. Commissioner of Income Tax (Transfer Pricing), Hyderabad.
6. D.R. ITAT, Hyderabad.
7. Guard File.