Income Tax Appellate Tribunal - Delhi
Avaya India (P) Ltd., Gurgaon vs Assessee on 18 September, 2015
IN THE INCOME TAX APPELLATE TRIBUNAL
(DELHI BENCH 'I-1' : NEW DELHI)
BEFORE SHRI J.S. REDDY, ACCOUNTANT MEMBER
and
SHRI A.T. VARKEY, JUDICIAL MEMBER
ITA No.5528/Del./2011
(ASSESSMENT YEAR : 2007-08)
Avaya India (P) Ltd., vs. Addl.CIT, Range 2,
Tower B, First Floor, New Delhi.
Global Business Park,
M.G. Road,
Gurgaon - 122 002.
(PAN : AAECA3592N)
(APPELLANT) (RESPONDENT)
ASSESSEE BY : Shri Pawan Kumar, Advocate, Shri Rohit Tiwari, CA
and Ms. Shruti Khimta, Advocate
REVENUE BY : Shri Bhaskar Goswami, Senior DR
Date of Hearing : 23.06.2015
Date of Pronouncement : 18.09.2015
ORDER
PER A.T. VARKEY, JUDICIAL MEMBER :
This appeal, at the instance of the assessee, is directed against the assessment order dated 07.09.2011 passed under section 143 (3) read with section 144C (5) of the Income-tax Act, 1961 (hereinafter referred to 'the Act') in pursuance to the direction of the DRP-I, New Delhi for the assessment year 2007-08.
2ITA No.5258/Del/2011
2. The assessee, Avaya India Private Limited is a subsidiary in India of Avaya International LLC. During the financial year ('FY') 2006-07, the assessee has provided software development and back office support services to the Associated Enterprises (AEs) under the cost plus model. The assessee has also provided marketing support services to Avaya International Sales Ltd. The assessee's marketing activities include providing information about Avaya Products, customer awareness, etc.
3. The assessee had conducted an economic analysis, as a part of its Transfer Pricing (TP) Documentation for FY 2006-07, to establish the arm's length nature of international transactions with its AEs. During the relevant FY, the assessee undertook the following international transactions with its AEs :-
Particulars Transaction
Value
Rendering Software Services 79,63,36,195
Payment towards back office support 2,52,31,537
services
Rendering Marketing Support Services 1,51,40,548
Purchase of assets 2,68,39,539
Reimbursement of expenses 3,07,02,640
3
ITA No.5258/Del/2011
However, it was pointed out by the ld AR, that TPO has accepted the transaction in respect to rendering market support services, purchase of assets and reimbursement of expenses. The dispute is only in regard to rendering software services and payment towards back office support services.
4. For the purpose of comparability analysis, the assessee has analyzed the Software services and Back Office Support services segments by using Transactional Net Margin Method (TNMM) as the most appropriate method. The summary of the economic analysis as per TP study is provided below:
Particulars Operating Profit margin (OP/TC) Software Back Office Services support services No. of companies 55 22 Mean 14.64% 12.51% Assessee's margin 12.68% 9.71%
5. The TPO rejected the filters adopted by the assessee in the TP documentation and imposed additional filters for the selection of comparables. The TPO took 26 companies as comparables for 4 ITA No.5258/Del/2011 software development service and 25 comparables for IT enabled services (ITES).
6. The TPO arrived at the following arm's length operating profit margin for software and back office support services segments :-
Particulars Software Back Office support
Services services
No. of companies 26 25
Operating Profit margin 25% 30.14%
Adjustment 8,70,79,955 46,98,948
7. Accordingly, the TPO in the impugned order, proposed a total transfer pricing adjustment of Rs.9,17,78,903/- (Rs. 8,70,79,955 + Rs.46,98,948).
8. The DRP excluded Bodh Tree from the comparables and asked TPO to recompute the margin of R Systems.
9. Pursuant to the DRP directions, the AO passed the final assessment order dated 07.09.2011, making a transfer pricing adjustment amounting to Rs.8,70,79,955/- to software services segment and Rs.44,11,464/- to back office support services segment. Thus, the total transfer pricing adjustment made in the assessee's case 5 ITA No.5258/Del/2011 was Rs.9,14,91,419/- thereby assessing the total income at Rs.20,03,30,080/- as against Rs.10,88,38,664/- disclosed by the assessee in the return of income filed on 18.10.2007.
10. The final set of comparables in both IT segment and ITES segment is as follows :-
IT SEGMENT Sr.No. Comparable OP / TC
1. Accel Transmatic Ltd. (Seg.) 21.11
2. Avani Cimcon Technologies Ltd. 52.59
3. Celestial Labs Ltd. 58.35
4. Datamatics Ltd. 1.13
5. E-Zest Solutions Ltd. 36.12
6. Flextronics Software Systems Ltd. 25.31 (Seg.)
7. Geomatric Ltd. (Seg.) 10.71
8. Helios & Matheson Information 36.63 Technology Ltd.
9. IGate Global Solutions Ltd. 7.49
10. Infosys Technologies Ltd. 40.3
11. Ishir Infotech Ltd. 30.12
12. KALS Information Systems Ltd. (Seg.) 30.55
13. LGS Global Ltd. (Lanco Global 15.75 Solutions Ltd.)
14. Lucid Software Ltd. 19.37
15. Mediasoft Solutions Ltd. 3.66
16. Megasoft Ltd. (Seg.) 60.23
17. Mindtree Ltd. 16.9
18. Persistent Systems Ltd. 24.52
19. Quintegra Solutions Ltd. 12.56
20. R S Software (India) Ltd. 13.47
21. R Systems International Ltd(Seg) 15.07
22. Sasken Communication Technologies 22.16 6 ITA No.5258/Del/2011 Ltd. (Seg.)
23. SIP Technologies & Exports Ltd. 13.9
24. Tata Elexi Ltd. (Seg.) 26.51
25. Thirdware Solutions Ltd. (Seg.) 25.12
26. Wipro Ltd. (Seg.) 33.65 ITES SEGMENT Sr.No. Comparable OP / TC
1. Accentia Technologies Ltd. (Seg) 30.61
2. Aditya Birla Minacs Worldwide Limited 11.98 (earlier known as Transworks Information Services Ltd.)
3. Allsec Technologies Ltd. 27.31
4. Apex Knowledge Solutions Pvt. Ltd. 12.83
5. Appollo Healthstreet Ltd. -13.55
6. Asit C Mehta Financial Services Ltd. 24.21 (earlier known as Nucleus Netsoft & GIS Ltd.)
7. Caliber Point Business Solutions Ltd. 21.26
8. Cosmic Global Ltd. 12.4
9. Datamatics Financial Services Ltd. 5.07 (Seg.)
10. Eclerx Services Ltd. 89.33
11. Flextronics Ltd. (Seg.) 8.62
12. Genesys International Corporation Ltd. 13.35
13. HCL Comnet Systems & Services Ltd. 44.99 (Seg.)
14. ICRA Techno Analytics Ltd. (seg) 12.24
15. Informed Technologies India Ltd. 34.32
16. Infosys BPO Ltd. 28.78
17. IServices India Pvt. Ltd. 49.47
18. Maple eSolutions Ltd. 34.05
19. Mold - Tek Technologies Ltd. (Seg.) 113.49
20. R Systems International Ltd (Seg) 20.18
21. Spanco Ltd. (Seg.) (earlier known as 25.81 Spanco Telesystems & Solution Ltd.)
22. Triton Corp Ltd. 34.93
23. Vishal Information Technologies Ltd. 51.19
24. Wipro Ltd. (Seg.) 29.3 7 ITA No.5258/Del/2011
11. Aggrieved by the assessment order passed by the AO, the assessee filed an appeal before the Tribunal.
12. The ld. AR is aggrieved by the inclusion of certain comparables. So we will deal with each of the comparables.
I. SOFTWARE SERVICES SEGMENT (i) Accel Transmatic Ltd.
Ld. AR submitted that Accel Transmatic Ltd. was considered in the case of Toluna India Private Limited in ITA No.5645/Del/2011 for AY 2007-08 order dated 26.08.2014 (hereinafter referred to as 'Toluna') wherein the TPO selected Accel Transmatic Ltd. as a comparable to the said company (Toluna). In that case, the co- ordinate Bench appreciated the fact that the said company (Toluna) was also into software service segment and repelled the contention of Toluna against making it a comparable and the coordinate Bench of this Tribunal directed the inclusion of the software service segment of Accel Transmatic Ltd. in the list of comparables. However, in this case, the assessee does not have any objection in making this 8 ITA No.5258/Del/2011 company i.e, software segment of Accel Transmatic Ltd. as a comparable to that of the assessee.
(ii) Avani Cimcon Technologies Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and engaged in the IT and related services and own products; and that segmental data are unavailable, however, was candid enough in stating that this comparable was confirmed in Toluna (supra). We find that in Toluna (supra), the co-ordinate bench while repelling similar objections, held as under :-
"17.1. The TPO found this company to be engaged in software development. Notice u/s 133(6) was issued to the company to get complete information. According to the TPO, this company qualified all the filters. The assessee argued before the TPO that this company was into software products and the segmental results were not available. The TPO rejected such contention by relying on the specific information collected from the company u/s 133(6) which divulged that this company was a purely software development company engaged in providing software development and consulting IT services to its clients. This company was concentrating on internet enabled business information systems in a wide range of industries. Resultantly, this company was included in the list of comparables.
17.2. After considering the rival submissions and perusing the relevant material on record, we find from the description of 9 ITA No.5258/Del/2011 business activity of this company as reproduced on internal page 90 of the TPO's order, that it is a pure software development service provider. In the absence of any other specific objection against this company, we are of the considered opinion that this company has been rightly included by the TPO in the list of comparables. The assessee fails."
We, in the light of the aforesaid order of the co-ordinate Bench, are also of the opinion that TPO has rightly included the said comparable in the list of comparables. Therefore, the objection of the assessee is rejected.
(iii) Celestial Labs Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and engaged in the development of software tools and some of these tools are utilized for provision of pure bioinformatics/biotechnology services. According to him, the company also owns IPRs and products are protected by patents. He submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the ld. AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- 10 ITA No.5258/Del/2011
"18.1. The TPO included this company in the list of comparables by observing that it was rendering mainly software development services.
18.2. After considering the rival submissions and perusing the relevant material on record, we find from the annual accounts of this company, a copy of which is available on page 41 of the paper book, that it is engaged mainly in the developing the software products in the shape of tools etc., which are protected using the patent. This company developed a tool, "CELSUITE" to drug discovery in finding the lead molecules for drug discovery. As this company is engaged in developing software tools after enough research and development activity and the tools so produced by it are its intellectual property, it cannot be considered as comparable to the assessee which is, also albeit in software development, but is doing it on contract basis without having any I.P. rights in the software developed by it. It is further relevant to note that this company has been held to be not comparable by the Dispute Resolution Panel (DRP) in its Directions for a subsequent year, a copy of which is available on record. Thus this company can't be considered as functionally similar to that of the assessee. We, therefore, direct to exclude this company from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(iv) Datamatics Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
11ITA No.5258/Del/2011
(v) E-Zest Solutions Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and provides diversified services, such as, Design and Development, Feature Enhancement, Product Modernization, Offshore Software Development, Custom Software Development etc. and that segmental data are unavailable. However, the assessee was candid enough in stating that this comparable was confirmed in Toluna (supra). We find that in Toluna (supra), the co-ordinate bench while repelling similar objections, held as under :-
"20.1. The annual report of this company was available, but, the functionality was not clear. Notice u/s 133(6) was issued by the TPO. On receipt of reply from the company, it was noticed that it was engaged in software development services and, hence, qualified all the filters applied by the TPO. After considering the objections of the assessee, the TPO held it to be includible in the list of comparables. The DRP upheld the draft order on this count.
20.2. After considering the rival submissions and perusing the relevant material on record, we find this company to be comparable to that of the assessee company, because it is also engaged in rendering software development services to outsiders. The ld. AR needlessly tried to distinguish this company by contending that the services rendered by it were different from that of the assessee. We do not find any force in this submission. The comparability of a company is tested on various parameters and a view is taken as to its comparability or otherwise by considering the entirety of the facts and circumstances. Simply because the 12 ITA No.5258/Del/2011 nature of software development services provided by a company is different from those provided by the assessee, the same does not become incomparable. Here is a case in which this company is also providing software development services as is done by the assessee on contract basis for others without having any intellectual property rights in them. A small variation in the nature of services does not make a company incomparable. It is not a case that the TPO has considered a company rendering managerial or engineering services and treated it as comparable to the assessee rendering software development services. Merely because the nature of service rendered by this company within the overall software development services, is not identical, will not make it incomparable, when it is otherwise similar to that of the assessee on all other scores. As such, we hold that this company was rightly included by the TPO in the list of comparables. The assessee fails."
We, in the light of the aforesaid order of the co-ordinate Bench, are also of the opinion that TPO has rightly included the said comparable in the list of comparables. Therefore, the objection of the assessee is rejected.
(vi) Flextronics Software Systems Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and engaged into significant R&D activities which resulted in creation of Intellectual Property Rights. According to him, it also fails R&D filter as R&D is 4.6% of the sales. He submitted that this company develops products and provides software consulting services and 13 ITA No.5258/Del/2011 segmental data disclosure provides data for 'products and services' as a composite segment and therefore, no bifurcation is available between the two activities. He also submitted that this company has high turnover of approx Rs.848 crores which is 10 times to the assessee's turnover. He submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"21.1. This company was finding place in the accept/reject matrix of the assessee, but was rejected in the TP study report because it failed R&D spend filter. The TPO noticed that the "Products and service segment" of this company was comparable to that of the assessee. As the product revenue was Rs. 92.1 crore out of the total product and service segment revenue of Rs.847.2 crore, the TPO held this company to be comparable. The assessee's objection that this company had incurred huge R & D expenses and, hence, should be ignored, did not find favour with the TPO. The DRP approved the view taken by the authorities below on the comparability of this case.
21.2. After considering the rival submissions and perusing the relevant material on record, we find this company to be not comparable to that of the assessee. The reason for our this decision is that the TPO has taken segmental data of `Product and service segment' of this company which has Product revenue of Rs.92.1 crore. In contrast to it, the instant assessee is not selling any software products, but, is doing the job assigned to it on cost plus basis. The contention of the ld. DR that since the majority of the revenue from `Product and services segment' was from the services segment and, hence, this company should be considered as comparable, is bereft of any force. When figures of Products and services are combined, it cannot be ascertained as to how much 14 ITA No.5258/Del/2011 contribution was made by the product division or the service division to the overall revenue of the Product and services segment. As the assessee is admittedly not engaged in selling its software products, such a company cannot be considered as comparable. It can be seen from the annual report of this company, a copy of which is available on page 88 of the paper book, that it consolidated its existing product portfolio and took steps to expand into further technologies by increasing the momentum in key initiatives in WIMAX, IMS, SIP & ISS/ESS domains. This company has its own products such as ASN, WIMAX, Gateway Product with ASN Light. It is further relevant to note that the year ending of this company is not coinciding with that of the assessee and it is not known as to how the TPO has adopted the relevant figures for comparison. In view of the foregoing discussion, we hold this company to be not comparable and direct its exclusion from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(vii) Geometric Limited (Seg.) The assessee has no objection to the inclusion of this company in the list of comparables.
(viii) Helios & Matheson Information Technology Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because it is functionally dissimilar and engaged into diversified businesses and provides various diversified services like Business and technology consulting, application 15 ITA No.5258/Del/2011 outsourcing, BPO / ITES services, Project Management services, Public Sector services, Maritime Practice services, Enterprise Security & Privacy Practice services etc. He submitted that this company also fails on employee cost/sales filter applied by the TPO and it has high A&M ratio of 3.52%. He submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"23.1. The TPO noticed from the annual accounts of this company that it was engaged in the software development services and also qualified employee cost filter. The assessee objected to its inclusion by, inter alia, contending that the PLI of this company was incorrectly worked out by the TPO. Correcting this mistake in calculation part, the TPO held this company to be comparable and determined its revised PLI at 36.63%. The DRP upheld the inclusion of this company in the list of comparables.
23.2. After considering the rival submissions and perusing the relevant material on record, we find from the annual accounts of his company that it is engaged in rendering ITES BPO services, Application management services, Offshore delivery, Project management services, Public sector services, Maritime practice and Executive education information systems, etc. From the above narration of the nature of services rendered by this company, it can be seen that the same is not at all comparable to that of the assessee. It can further be noticed that the TPO has taken the figures of this company which represent `Income from software sales and services'. Obviously, the assessee is not engaged in software sales. In view of our above discussion while dealing with the comparability of Flextronics Software Systems Limited, we are satisfied that this company cannot be considered as comparable 16 ITA No.5258/Del/2011 and is, hence, directed to be excluded from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(ix) IGate Global Solutions Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(x) Infosys Technologies Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because the company owns significant software products and is engaged into various diversified business operations. Its high turnover of Rs.13,149 crores which is 157 times the size of the assessee. He also submitted that this company has substantial intangible assets valued at Rs.89,069 crores which includes brand value of Rs.31,617 crores. It also involves in significant R&D and has ownership of intangibles. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions 17 ITA No.5258/Del/2011 of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"25. From the nature of services rendered by the assessee to its AE on a cost plus basis without having any intangible assets or retaining any intellectual property in the work done by it, we find that Infosys Technologies Ltd., which is a giant company in terms of risk profile, scale, nature of services, revenue ownership of branded/proprietary products, onsite and offshore services, etc., cannot be compared with the assessee. Our view is fortified by the judgment of the Hon'ble jurisdictional High Court in the case of CIT vs. Agnity India Technologies Pvt. Ltd. [(2013) 219 Taxman 26 (Del)] in which Infosys Ltd. has been held to be not comparable to a company that was engaged in the business of development of software for parent company. We, therefore, direct the exclusion of this case from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xi) Ishir Infotech Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because the company has an A&M / sales ratio of approx. 10% which clearly indicates that it also enjoys a return on account of marketing intangibles and hence, is not comparable to the assessee. Ld. AR submitted that this comparable was excluded in 18 ITA No.5258/Del/2011 Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"26.1. The AO included this company in the list of comparables by observing that it qualified 25% employee cost filter and all other filters on the basis of information received u/s 133(6). The assessee objected to the inclusion of this company by contending that its related party transactions were more than 15% and employees cost was only 4%. The TPO rejected both the contentions by noticing that the employees cost was, in fact, more than 25% as was apparent from the information received u/s 133(6) and, further, the RPTs also did not exceed 25%.
26.2. Having heard both the sides and perused the relevant material on record, we find this company to be comparable to that of the assessee. The assessee's objection that employee cost of this company was 4% only, is not correct because of the exercise carried out by the TPO indicating that the employees cost was more than 25%. The ld. DR has taken us through the Annual accounts of this company which show that some part of the employees cost was also included in 'Administrative expenses' apart from direct Establishment expenses. It can be seen that the company has included Professional fees of Rs.3.41 crore along with Director's salary, etc., under the head 'Administrative expenses'. When this objection was taken by the assessee before the TPO that the employee cost was only 4% viewing only the 'Establishment expenses' in isolation without considering the employee cost included under the head 'Administrative expenses', the TPO corrected the position by observing that the employee cost was more than 25% by impliedly including the personnel cost included under the head 'Administrative expenses'. The assessee did not challenge the TPO's calculation before the DRP on this issue. As such, it becomes apparent that there is no merit in this objection again taken up before us which has already been successfully dealt with by the TPO. Insofar as the assessee's objection about the related party transactions is concerned, we have discussed this issue thoroughly while dealing with the comparable case of Accel Transmatics Ltd. (supra) in which it has 19 ITA No.5258/Del/2011 been held that filter of 25% of RPT is good enough to make a controlled transaction and thus expunging it from the list of comparables, which can only be uncontrolled transactions. The ld. AR failed to point out any functional difference of this company vis-a-vis the assessee. As such, we approve the view taken by the TPO in including this case in the list of comparables. The assessee fails."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xii) KALS Information Systems Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company fails on software service revenue filter and has significant revenue from product. This company has no segmental details available. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"27.1. The TPO observed that this company was engaged in Software development and training. As the software products constituted only 3% of its revenue and training revenue constituted 8.56%, the TPO held that this segment of KALS Information Systems Limited was rightly includible.20 ITA No.5258/Del/2011
27.2. After considering the rival submissions and perusing the relevant material on record, it is an admitted position that the TPO adopted Software development segment of this company by noticing that this segment also included revenues from software products and training. In view of the fact that the assessee is not engaged in imparting any training on commercial basis or selling its software products, we hold that the financials of this company under this segment cannot be compared with the assessee. The contribution by the sale of software products or training to the overall revenue of this segment cannot be precisely ascertained to determine the question of its comparability. As such, this case is directed to be excluded. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xiii) LGS Global Ltd. (Lanco Global Solutions Ltd.) The assessee has no objection to the inclusion of this company in the list of comparables.
(xiv) Lucid Software Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar to the assessee company and this company is a product company focusing on Advanced Non-Destructive Testing Technologies and also has developed proprietary software named 'Muulam'. Ld. AR 21 ITA No.5258/Del/2011 submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co- ordinate bench while accepting the contentions of the AR, held as under :-
"29.1. The TPO noticed that this company was a pure software development services company and did not have any related party transactions. On being called upon to explain as to why this company be not treated as comparable, the assessee replied that Lucid Software Limited has developed `Muulam' software, the details of which were collected from the website of Lucid Software itself. In view of such details, it was contended that this company was a software product company having intellectual property rights. Rejecting the assessee's objections, the TPO included this company in the list of comparables.
29.2. After considering the rival submissions and perusing the relevant material on record, it can be seen that the assessee categorically objected before the TPO to the effect that this company was mainly into software product business having license f such products. The TPO ignored the assessee's submissions despite the fact that sufficient material taken from the website of this company was placed before him in support of the contention. It can be seen from page 192 of the paper book, being Notes to the balance sheet of Lucid Software Ltd., that this company developed software products in-house. The expenditure so incurred on product development has been duly capitalized by Lucid Software Ltd. These facts amply bring out that Lucid Software Ltd. cannot be considered as comparable. We, therefore, direct the exclusion of this case from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
22ITA No.5258/Del/2011
(xv) Mediasoft Solutions Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(xvi) Megasoft Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company has undergone significant restructuring during the relevant FY and owns intangibles. It also failed on different financial year end filter as applied by the TPO. He submitted that the JTPO should not have considered the company wide margin of assessee since that also factors into itself the return from the sale of software products (forming a part of the Product Division). He submitted that instead the TPO should have considered only the Consulting segment of the company which also clears all the search filters applied by the TPO. He submitted that without prejudice to the above arguments, the margin of 60.23% used by the TPO is abnormally high and in view of the detailed arguments already submitted, such a comparable cannot be compared with a cost plus captive unit like the assessee. Ld. AR submitted that this comparable 23 ITA No.5258/Del/2011 was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"31.1. The TPO, on perusal of data of this company available in the Prowess and also on consideration of information received u/s 133(6) observed that this company was engaged in software development services under its Consulting division. The assessee objected to its inclusion before the TPO on the ground that there was restructuring inasmuch as there was acquisition of some other companies during the year. Not convinced with the assessee's objection, the TPO included this company in the list of comparables.
31.2. Having heard the rival submissions and perused the relevant material on record, we find from the Director's report of this company, a copy of which is available on page 193 of the paper book, that the financial results for the year include the business performance of Visual Soft Technologies Ltd. w.e.f. 1st October, 2006 consequent to the amalgamation. The Mumbai Bench of the Tribunal in Petro Araldite (P) Ltd. vs. DCIT [(2013) 154 TTJ (Mum) 176] has held that a company cannot be considered as comparable because of exceptional financial results due to mergers/demergers etc. Since the financial results of Megasoft Ltd.
have the impact of the merger of Visual Software Technologies Ltd., w.e.f. 1st October, 2006, obviously, this company cannot be considered as comparable. Accordingly, this company is directed to be excluded. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
24ITA No.5258/Del/2011 (xvii) Mindtree Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(xviii) Persistent Systems Ltd.
Ld. AR contended that this company cannot be compared with the assessee company because the company has undergone significant restructuring during the relevant FY and the company also derives its income from the sale of software services as well as products. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co- ordinate bench while accepting the contentions of the AR, held as under :-
"33. After considering the rival submissions and perusing the relevant material on record, we hold that this company also cannot be considered as comparable because of merger of another company into it, which fact is evident from page 196 of the paper book. It can be seen that a subsidiary company was merged into this company pursuant to judgment of Hon'ble Bombay High Court w.e.f. 1.4.06. Because of the merger of subsidiary into this company, we hold that the financial position of this company cannot be construed as normal capable of a good comparison. Following the Mumbai Bench decision in Petro Araldite (P) Ltd. (supra), we direct the exclusion of this company from the list of comparables. The assessee succeeds"25 ITA No.5258/Del/2011
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xix) Quintegra Solutions Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(xx) R S Software (India) Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(xxi) R Systems International Ltd. (Seg.) The assessee has no objection to the inclusion of this company in the list of comparables.
(xxii) Sasken Communication Technologies Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company has undergone significant restructuring during the relevant FY and the company also failed on 26 ITA No.5258/Del/2011 R&D filter and also owns of intangibles. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"37. After considering the rival submissions and perusing the relevant material on record, we find that this company acquired Botnia Hitec Oyoy, Finland and its two wholly owned subsidiary companies during the year, which fact is apparent from the Director's report of this company available at page 202 of the paper book. Following the Mumbai Bench decision in Petro Araldite (P) Ltd.(supra), we order for the exclusion of this company from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xxiii)_SIP Technologies & Exports Ltd.
The assessee has no objection to the inclusion of this company in the list of comparables.
(xxiv) Tata Elexi Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar and engaged in the provision of specialized embedded software 27 ITA No.5258/Del/2011 development services to the customers. Further, he submitted that the company has termed the services provided by it as unique and non- repetitive in nature involving development of embedded software for use by the customers. He submitted that this company also fails R&D filter. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"39.1. The TPO included this company in the list of comparables by noticing that its 'Software development and services segment' matched with the assessee. On being called upon to explain as to why this company be not included in the list of comparables, the assessee stated that the nature of activity done by this company was different inasmuch as it was engaged in R&D activities also which resulted in creation of intellectual property. Not convinced with the assessee's submissions, the TPO included this segment of the company in the list of comparables.
39.2. After considering the rival submissions and perusing the material on record, we find from page No.206 of the paper book, which is Annexure to the Director's report of this company, that the nature of its activity is quite distinct from that of the assessee. It can be seen that this company is into development of hardware and software for embedded products such as multi-media and some other electronics, etc. Apart from that, this company is also engaged in making some programmes developing technology intellectual property. As the nature of activity carried out by the assessee in question is nowhere close to that of Tata Elxsi Ltd., we hold that this company cannot be included in the list of comparables. Accordingly, this company is directed to be excluded. The assessee succeeds."28 ITA No.5258/Del/2011
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
(xxv)_Thirdware Solutions Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar and derives revenue from various sources such as sale of license, software services, export from SEZ unit, revenue from subscription etc. Further, ld. AR submitted that this company is engaged in diversified business including software products and no standalone financial data is available for FY 2006-07. Therefore, the ld. AR submitted that this comparable may be excluded.
On the other hand, the ld. DR could not controvert the fact that the said comparable is not engaged in sale of license of software products as pointed out by the ld. AR.
We have heard both the parties and perused the material available on record. A perusal of the annual report of Thirdware Solutions Ltd. reveals that the said company has made income from 29 ITA No.5258/Del/2011 sale of licence to the tune of more than Rs.1 crore, which means the company is into production of software products which apparently cannot be a comparable to assessee dealing with contract software development and not into sale of any product. Therefore, we direct TPO/AO to exclude this company from the list of comparables.
(xxvi) Wipro Ltd. (Seg.) Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar and a perusal of the segmental details for FY 2006-07 indicates that Wipro had incurred expenses to the extent of Rs.63,13,70,75,351 towards the cost of goods sold. He further submitted that during the FY 2006-07, this company had earned a markup of 33.43% on the cost incurred in the IT services and as such, on an approximation, the revenue earned by the company from the sale of products would be Rs.84,24,37,99,640. He submitted that this company fails on R&D filter and substantial turnover and also there is no standalone financial data for FY 2006-07. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of 30 ITA No.5258/Del/2011 the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :-
"41. After considering the rival submissions and perusing the relevant material on record, we have absolutely no doubt in our mind that this company cannot be considered as comparable to the assessee inasmuch as it is a giant company in terms of parameters discussed above while dealing with the case of Infosys Ltd. The Hon'ble Delhi High Court in the case of Agnity India Technologies Pvt. Ltd. (supra) has upheld the exclusion of this company also from the list of comparables on the basis of certain parameters, which are fully applicable to the instant assessee as well. It is, therefore, directed to exclude this company from the list of comparables. The assessee succeeds."
In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
II. ITES SEGMENT
(i) Accentia Technologies Ltd.
The TPO repelled the objections of the assessee and placed reliance on the response received to the notice issued under Section 133(6) to hold that Accentia is comparable, despite the fact that the company admitting in writing that it is into medical transcription service. According to ld. AR, the TPO erred in comparing the medical transcription segment of Accentia to ITES segment of 31 ITA No.5258/Del/2011 assessee. The Ld. AR submitted that Accentia provides high end functions such as Knowledge Process Outsourcing, Legal Process Outsourcing, Data Process Outsourcing, high end software services delivery besides offering Software As A Service ("SaaS") Model in the healthcare outsourcing area. He further submitted that it also developed software products such as Business Process Outsourcing Management ('BPOM') solutions and HealthDox (HRCM Solution), apart from IT enabled services. Our attention was also brought to the pertinent fact that TPO has himself admitted that Annual Report of this company is not available so assumption is that segmental information for Accentia was unavailable before the TPO.
We have considered the rival submission and have gone through the material available on record and the case-laws cited by both the parties. We find that a perusal of page 279 of appeal set of TPO order dealing with Accentia, the TPO has stated that annual report of this Financial Year is not available. However, in order to make this company a comparable, the TPO has relied on the reply of this company u/s 133(6) of the Act. Pursuant to the notice of TPO, 32 ITA No.5258/Del/2011 Accentia had replied that it is into medical transcription and the TPO has held it to be comparable by stating as below :
"The company was not part of the companies considered by the taxpayer in the accept/reject matrix given by the taxpayer as Appendix D to the TP report. However, the company's data is available in the Capitaline database. The Annual Report is not available for the FY 2006-07. 133(6) notice was issued. As per the reply received form the company it has ITES segment which is into medical transcription services and qualifies all the filters applied by the TPO."
We find that the TPO has treated the medical transcription segment comparable to that of the ITES back office support of the assessee, which is not correct in view of the Hon'ble jurisdictional High Court decision in Rampgreen Solutions Pvt. Ltd. vs. CIT (ITA 102/2015 order dated 10.08.2015) wherein the Hon'ble High Court has held as under :
"33. The Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra) struck a different cord. The Special Bench of the Tribunal held that even though there appears to be a difference between BPO and KPO Services, the line of difference is very thin. The Tribunal was of the view that there could be a significant overlap in their activities and it may be difficult to classify services strictly as falling under the category of either a BPO or a KPO. The Tribunal also observed that one of the key success factors of the BPO Industry is its ability to move up the value chain through KPO service offering. For the aforesaid reasons, the Special Bench of the Tribunal held that ITeS Services could not be bifurcated as BPO and KPO 33 ITA No.5258/Del/2011 Services for the purpose of comparability analysis in the first instance. The Tribunal proceeded to hold that a relatively equal degree of comparability can be achieved by selecting potential comparables on a broad functional analysis at ITeS level and that the comparables so selected could be put to further test by comparing specific functions performed in the international transactions with uncontrolled transactions to attain relatively equal degree of comparability.
34. We have reservations as to the Tribunal's aforesaid view in Maersk Global Centers (India) Pvt. Ltd. (supra). As indicated above, the expression 'BPO' and 'KPO' are, plainly, understood in the sense that whereas, BPO does not necessarily involve advanced skills and knowledge; KPO, on the other hand, would involve employment of advanced skills and knowledge for providing services. Thus, the expression 'KPO' in common parlance is used to indicate an ITeS provider providing a completely different nature of service than any other BPO service provider. A KPO service provider would also be functionally different from other BPO service providers, inasmuch as the responsibilities undertaken, the activities performed, the quality of resources employed would be materially different. In the circumstances, we are unable to agree that broadly ITeS sector can be used for selecting comparables without making a conscious selection as to the quality and nature of the content of services. Rule 10B(2)(a) of the Income Tax Rules, 1962 mandates that the comparability of controlled and uncontrolled transactions be judged with reference to service/product characteristics. This factor cannot be undermined by using a broad classification of ITeS which takes within its fold various types of services with completely different content and value. Thus, where the tested party is not a KPO service provider, an entity rendering KPO services cannot be considered as a comparable for the purposes of Transfer Pricing analysis. The perception that a BPO service provider may have the ability to move up the value chain by offering KPO services cannot be a ground for assessing the transactions relating to services rendered by the BPO service provider by benchmarking it with the transactions of KPO services providers. The object is to ascertain the ALP of the service rendered and not of a service (higher in value chain) that may possibly be rendered subsequently.34 ITA No.5258/Del/2011
35. As pointed out by the Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra), there may be cases where an entity may be rendering a mix of services some of which may be functionally comparable to a KPO while other services may not. In such cases a classification of BPO and KPO may not be feasible. Clearly, no straitjacket formula can be applied. In cases where the categorization of services rendered cannot be defined with certainty, it would be apposite to employ the broad functionality test and then exclude uncontrolled entities, which are found to be materially dissimilar in aspects and features that have a bearing on the profitability of those entities. However, where the controlled transactions are clearly in the nature of lower-end ITeS such as Call Centers etc. for rendering data processing not involving domain knowledge, inclusion of any KPO service provider as a comparable would not be warranted and the transfer pricing study must take that into account at the threshold.
36. As pointed out earlier, the transfer pricing analysis must serve the broad object of benchmarking an international transaction for determining an ALP. The methodology necessitates that the comparables must be similar in material aspects. The comparability must be judged on factors such as product/service characteristics, functions undertaken, assets used, risks assumed. This is essential to ensure the efficacy of the exercise. There is sufficient flexibility available within the statutory framework to ensure a fair ALP."
In the light of the above, we find that Accentia is into high end service (KPO), which cannot be compared with the assessee. So, we direct its exclusion from the list of comparables.
35ITA No.5258/Del/2011
(ii) Allsec Technologies Ltd.
The TPO repelled the objections of the assessee and held that since Allsec passes all the filters applied by the TPO, it shall be included in the final set.
The Ld. AR submitted that Allsec is a full fledged entrepreneur that operates in the open market under competitive conditions and a high risk environment. The ld. AR directed our attention to the risk profile of Allsec on Page 406 of SPB. The Ld. AR further contended that Allsec undertook significant amount of advertising expenditure in relevant FY and such investment may result in development of non- routine marketing intangibles. Therefore, ld. AR submitted that a return for such intangibles will also be factored into the overall return achieved by the company. This is in complete contrast with the Appellant which incurs NIL advertising expense. The ld. AR also submitted that Allsec had transaction with its related parties to the extent of 12% of the total revenue which is in excess of the 10% RPT filter applied by the Appellant. Ld. AR placed reliance on para 56 of the decision of Motorola Solutions India Private Limited vs DCIT (ITA No. 5637/Del/2011 order dated 14.08.2014). 36 ITA No.5258/Del/2011
We have considered the rival submission and have gone through the material available on record and the case-laws cited by both the parties. We have gone through the annual report of the said company and we find that the said company is functionally similar to that of the assessee. Therefore, we find that the contentions raised before us cannot be a valid ground for rejecting the said comparable. So, we uphold the decision of TPO to include this comparable in the list of comparables. The assessee's objection is rejected.
(iii) Asit C Mehta Financial Services Ltd. (earlier known as Nucleus Netsoft & GIS Ltd.
(iv) Caliber Point Business Solutions Ltd.
(v) HCL Comnet Systems & Services Ltd.
(vi) Informed Technologies India Ltd.
As regards the aforesaid four comparables [mentioned at sl.no.(iii) to (vi)], the ld. AR at the outset had objection in the filter used by the TPO of 25% related party transactions. According to him, the ideal situation is that there should be zero related party transactions, however, the related party transactions should be taken 37 ITA No.5258/Del/2011 the least when there are reasonable comparables available before the TPO. In order to buttress his arguments, he cited the order of the coordinate Bench in the case of Motorola Solutions India Private Limited (supra) wherein the Tribunal had accepted the said contention of the assessee and held as under :-
"56. We are in agreement with TPO in principle that this filter is appropriate to eliminate the companies which have controlled transactions and thereby have a significant influence on the margins earned. The TPO in his order has observed that in principle the tax payer has no objection for applying this filter. However, its two main contentions are-one-availability of RPT information and second the threshold limit of 15% in place of 25%. At the same time we also find considerable force in the submission of ld. Counsel for the assessee that ideally if sufficient number of 100% uncontrolled comparables are found, then no comparable having related party transactions should be considered. We are in agreement with ld. Counsel that only when sufficient comparables are not found, the related party threshold should be relaxed and ITA No. 5637/D/2011 99 only gradually to the extent that sufficient comparables are found, the limit should be relaxed. Therefore, we accept the assessee's plea that no sacrosanct threshold limit should be fixed for this filter. Ld. DRP has also noted that neither there is any judicial consensus on the numerical limit nor the section so prescribes. However, there is consensus on the effect of RPT i.e. it should not materially affect the international transaction. Therefore, considering the submissions of both the sides, we are of the opinion that if by applying the threshold limit of 15% of related party transaction, sufficient comparables are available then there is no reason to further extend the limit to 25%. Therefore, we direct the TPO to take into consideration only those comparables where related party transactions are to the extent of 15% because it is not the case of revenue that by applying the threshold limit of 15%, it will not get sufficient number of comparables."38 ITA No.5258/Del/2011
It was pointed out by the ld. AR that the aforesaid companies related party transactions are more than 15%. We find force in the said contention of the ld. AR and we find that in this list of comparables considered by the TPO, the assessee itself had accepted eleven (11) comparables as comparable with that of the assessee. In such a scenario, we are of the opinion that the TPO may take into consideration only those comparables where related party transactions are to the extent of 15% because it is not a case of the revenue that by applying threshold limit of 15%, it will not get sufficient number of comparables. Since we are not entering into any other grounds raised by the assessee against these companies, the other grounds are left open.
(vii) Eclerx Services Ltd.
(viii) Vishal Information Technologies Ltd.
As regards the aforesaid two comparables [mentioned at sl.nos.(vii) & (viii)], The ld. AR at the outset itself pointed out that Eclerx and Vishal are into KPO services. According to him, although KPO services were ITES but the nature of these services were 39 ITA No.5258/Del/2011 materially different than the services rendered by the assessee. It was asserted that eClerx is engaged in financial services in the nature of account reconciliation, trade order management services and has been rated as a leading KPO by Nelso Hall. It was contended that similarly Vishal was engaged in the services of data analytics and providing data processing solutions to some of the largest brands in the world. Vishal too had been rated as a leading KPO by Nelso Hall. In addition, it was pointed out that whilst the employee costs incurred by Vishal was relatively low and constituted only 2.30% of its total cost during the relevant year, the hire charges, vendor payments constituted almost 87% of the total costs. According to the AR, this evidenced that Vishal's business model was different and Vishal had outsourced significant part of its operations.
We have heard both the sides and perused the material available on record. The Hon'ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd. (supra) has held as under :-
"36. As pointed out earlier, the transfer pricing analysis must serve the broad object of benchmarking an international transaction for determining an ALP. The methodology necessitates that the comparables must be similar in material aspects. The comparability must be judged on factors such as product/service 40 ITA No.5258/Del/2011 characteristics, functions undertaken, assets used, risks assumed. This is essential to ensure the efficacy of the exercise. There is sufficient flexibility available within the statutory framework to ensure a fair ALP.
37. Applying the aforesaid principles to the facts of the present case, it is once again clear that both Vishal and eClerx could not be taken as comparables for determining the ALP. Vishal and eClerx, both are into KPO Services. In Maersk Global Centers (India) Pvt. Ltd. (supra), the Special Bench of the Tribunal had noted that eClerx is engaged in data analytics, data processing services, pricing analytics, bundling optimization, content operation, sales and marketing support, product data management, revenue management. In addition, eClerx also offered financial services such as real-time capital markets, middle and back-office support, portfolio risk management services and various critical data management services. Clearly, the aforesaid services are not comparable with the services rendered by the Assessee. Further, the functions undertaken (i.e. the activities performed) are also not comparable with the Assessee. In our view, the Tribunal erred in holding that the functions performed by the Assessee were broadly similar to that of eClerx or Vishal. The operating margin of eClerx, thus, could not be included to arrive at an ALP of controlled transactions, which were materially different in its content and value. In Maersk Global Centers (India) Pvt. Ltd. (supra), the Special Bench of the Tribunal had noted the same and had, thus, excluded eClerx as a comparable. It is further observed that the comparability of eClerx had also been examined by the Hyderabad Bench of the Tribunal in M/s Capital Iq Information Systems(India) (P.) Ltd. v. Additional Commissioner of Income-
tax (supra), wherein, the Tribunal directed the exclusion of eClerx as a comparable for the reason that it was engaged in providing KPO Services and further that it had also returned supernormal profits.
38. In our view, even Vishal could not be considered as a comparable, as admittedly, its business model was completely different. Admittedly, Vishal's expenditure on employment cost during the relevant period was a small fraction of the proportionate cost incurred by the Assessee, apparently, for the reason that most of its work was outsourced to other vendors/service providers. The DRP and the Tribunal erred in brushing aside this vital difference by observing that outsourcing was common in ITeS industry and 41 ITA No.5258/Del/2011 the same would not have a bearing on profitability. Plainly, a business model where services are rendered by employing own employees and using one's own infrastructure would have a different cost structure as compared to a business model where services are outsourced. There was no material for the Tribunal to conclude that the outsourcing of services by Vishal would have no bearing on the profitability of the said entity." In the light of the aforesaid decision of the Honorable jurisdictional High Court in the case of Rampgreen (Supra) wherein the it was held that both these companies cannot be compared with the low end service provider like the appellant in this case.
(ix) Infosys BPO Ltd.
The DRP repelled the objections of the assessee and concurred with the findings of the TPO and observed that the BPO segment of Infosys has been considered which passes all the applied filters.
The ld. AR contended that Infosys is functionally dissimilar as it provides high-end integrated services by assisting its clients in improving their competitive positioning by managing their business processes in addition to providing increased value. It was further contended that Infosys BPO has extremely turnover of approx. 42 ITA No.5258/Del/2011 Rs.649.51 Crores which renders it incomparable to the Appellant. It was also submitted that Infosys has a high AMP spend of 6% which results in marketing intangibles and is indicative of the fact that the comparable has incurred substantial expenses on marketing. The ld. AR in order to buttress his argument brought to our notice the following chart to show that the Infosys BPO is a giant company which cannot be compared to that of the assessee who is providing low end service :-
Basic Infosys BPO Avaya India
Particulars
Risk Profile Operates as a full fledged Operate at minimal risks as
risk taking entrepreneurs the 100% services are
provided to AEs
Name of the Infosys is engaged in Operates as a low-end
services providing high-end service provider
business process
management services to
the finance, manufacturing
and telecom industry
Revenue 649.56 crores (TPO Order : 2.52 crores
Page no 5 of Annexure B
to the TP Order)
Ownership of Incurred substantial Nil
branded expenditure on brand
property building and advertisement
expenses to the tune of Rs.
55,93,402
Onsite v Infosys BPO provides both The appellant provides
Offshore onsite and offsite services. only offshore services
(i.e.,remotely from India)
Assets Rs.115 crores Rs.45 crores
43
ITA No.5258/Del/2011
The ld. AR pointed out to us that the Hon'ble jurisdictional High Court in the case of Agnity India (supra) had taken notice of the comparable chart as given above to uphold the Tribunal decision wherein the Tribunal has held that Infosys was a giant company.
We have considered the rival submission and perused the material on record and the case-laws cited by both the parties. We find that the Hon'ble jurisdictional High Court in the case of Chrys Capital has repelled the exclusion of companies based on turnover provided the comparable is functionally similar. In this case, the submission of the AR that the Infosys BPO is into high end service to financial industries, manufacture and telecom, so on that account it should be excluded cannot be countenanced because we are not able to find any functional dissimilarity with that of the assessee in this case. So, we uphold the action of the TPO to include this company as a comparable. The assessee fails.
44ITA No.5258/Del/2011
(x) Maple eSolutions Ltd.
(xi) Triton Corp Ltd.
Maple eSolutions & Triton Corporation, it is mentioned in the report of the TPO that the first named company is carrying on the business of rendering data process services and BPO services. Objection has been raised that the directors of the company were involved in a fraud. This company is a wholly owned subsidiary of Haryana Fibres Ltd., whose promoters were involved in fraud as per newspaper report and the CBI report. The TPO mentioned that according to CBI bulletin of December, 2008, it was reported that the Rastogi family cheated Government of India to the tune of Rs.54.00 crore in late 1980s and mid 1990s. Rastogi brothers had floated 14 firms for the purpose of export of bicycle parts to Russia and Hong Kong. They were arrested by the FBI and U.K. authorities and sentenced to imprisonment for more than 9 years. However, the report nowhere contains the name of this company. According to the data available at Prowess Data Base, it is engaged in the business of call centre activities; it had set up 100% EOU and it holds registration 45 ITA No.5258/Del/2011 under section 10B. In regard to the second mentioned company, it was submitted that it is engaged in two activities i.e., telecom sector and BPO sector. It is also a company of Rastogi group and, therefore, other objections are the same as in the case of first mentioned company. The TPO mentioned that the company is deriving revenue from ITES activities which are comparable to the business of the assessee. Thus, both the companies were included as comparables. The Ld. AR also contended that Maple eSolutions has become a subsidiary of Triton Corp Ltd as Triton Corp Ltd acquired 100% shares from Haryana Fibres Ltd w.e.f from 1st January, 2007. Our attention was drawn to Page no 552 of the Special Paper Book to the extract of the annual Report which is also reproduced below :-
"Pursuant to acquisition of 100% equity shares form Haryana Fibres Ltd. By Triton Corp Ltd., the company has become a subsidiary of Triton Corp Ltd. W.e.f. 01.01.2007."
We have heard both the sides and gone through the records. The main contention of the ld. AR is that both these companies are tainted because of involvement in financial and economic irregularities which has forced the law enforcement agencies to initiate criminal 46 ITA No.5258/Del/2011 proceedings against them. The Tribunal has been consistently on the same ground have been discarding M/s. Satyam Computers from being a comparable. Likewise, in the case of ITO vs. CRM India (P) Ltd. (ITA No.4068/Del/2009 order dated 30.06.2011),the coordinate Bench of this Tribunal has excluded these two comparables by reasoning that, "it would be unsafe to take their results for comparison of the profitability of the assessee." We concur with the said opinion of the coordinate Bench and we direct to exclude these two companies from the list of comparables.
Moreover, we find that in the case of Maple, there has been mergers and acquisitions. In the light of the aforesaid facts regarding acquisition made by this company, we find where there is amalgamation and demerger, then the accounts do not portray the correct picture in the profits due to the merging of accounts. So the financial results cannot be relied upon for the computation of PLI of this comparable. Since the terms of amalgamation is decided on the scheme of amalgamation, which is approved by the High Court, so not necessarily all the items of expenses and income are merging. So, true and correct picture of profitability cannot be ascertained. 47 ITA No.5258/Del/2011 Therefore, due to extra ordinary events taking place in the instant financial year of this company, we are of the opinion that this company should be excluded from the list of comparables. In view of the above, both the aforesaid companies are directed to be excluded.
(xii) Mold - Tex Technologies Ltd.
The DRP repelled the objections of the assessee and observed that the company has two divisions viz plastic and IT (KPO division) and held that the IT segment is performing the same functions as that of the Appellant i.e. ITES. It was observed that the companies were performing broadly similar functions as that of the assessee.
The ld. AR contended that Moldtek is engaged in the business of rendering engineering services in the nature of producing design, drawings, detailed structural engineering drawings using 3D and 2D software. These services are high - end in nature and cannot be compared with the low-end services provided by the assessee such as accounting services, transaction processing, customer contact services 48 ITA No.5258/Del/2011 etc. Our attention was drawn to the Annual Report extract on Page no 557 of the SPB where the comparable describes itself a KPO. The ld. AR took our attention to the Special Bench decision of the Tribunal in the case of Maersk Global Centres (India) Private Limited (ITA No.7466/Mum/2012 order dated 07.03.2014) for FY 2007-08 wherein the Special Bench has ordered exclusion of this company on the ground that the said company was pioneer in structural engineering KPO services and its entire business comprised of providing only structural engineering services to various clients and is a leading provider of engineering and design services with specialization in civil, structural and mechanical engineering services and has a strong team of skilled resources with world class resources and skill sets. The Special Bench took into consideration that the said company is involved in providing high end services to its client involving higher knowledge and domain expertise in the field of graphic design representation. The ld. AR contended that as per the decision of Hon'ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd. (supra), the said company cannot be taken as a comparable 49 ITA No.5258/Del/2011 to the assessee's company which is mainly involved in providing low end services.
We have heard both the sides and have gone through the records. We find that the assessee is engaged in low end BPO services whereas the Moldtek is involved in high skilled KPO services which cannot be compared with that of the assessee's company as laid down by Hon'ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd. (Supra) Therefore, we direct exclusion of this company from the list of comparables.
(xiii) Wipro Ltd.
The DRP repelled the objections of the Appellant and observed that only the ITES segment of the comparable was selected for benchmarking purposes and there appears to be no infirmity in the order of the TPO.
The Ld. AR submitted that Wipro undertook several acquisitions during the relevant year. To support the contentions, the Ld. AR directed our attention to Annual Report Page 22 and Page 50 ITA No.5258/Del/2011 nos.61, 62 and 62 of the SPB where the details of these acquisitions have been given in the Annual Report: The relevant extracts of the Annual Report have been reproduced below:
"Acquisition and Joint Ventures We have continued to pursue the strategy of acquiring businesses which complement our service offerings, provide access to niche skill sets and expand our presence in select geographies. We have a dedicated team of professionals who identify businesses which meet our strategic requirements and are cultural fit to Wipro. The following businesses have joined the Wipro family during the year :
1. US based Quantech Global Services LLC and the India based Quantech Global Services Ltd. for a cash consideration, which includes upfront payment of approximately USD 2 million.
2. CMango - Transactions consummated in April 2006 - US based CMango Inc and India based CMango India Private Limited for cash consideration which includes upfront payment of USD 20 Mn.
3. Europe based Retail Solutions Provider, Enabler. The consideration included upfront cash payment of approximately Euros 41 million.
4. Finland based Saraware Oy. For a cash consideration of approximately Euro 25 million.
5. Middle East and SAARC operations of 3D Networks and Planet PSG for a cash consideration of approximately USD 23 million.
6. In our Consumer Care and Lighting business we acquired North-West Switches business from North-West Switchgear Ltd., a company in the business of switches, sockets, MCBs etc. for an upfront cash consideration of Rs.1,022 million.51 ITA No.5258/Del/2011
7. In our Infrastructure Engineering business, we acquired Hydrauto Group AB ("Hydrauto") for a cash consideration of USD 31 million.
We partnered with Motorola, a global leader in Wireless Communication, to form a joint venture namely WMNETSERV Limited to deliver world class Managed Services to telecom operators in the area of network operations."
We have considered the rival submissions and have gone through the paper book and records before us and the case laws cited by both the parties. We find at page 43 of the Annual Report which is regarding the functional profit of the acquired companies are as under:-
Sr. Acquired entity Acquired Nature of business No. during Global IT Services & Products 1 Quantech Global Services LLC Jul 06 Engaged in Computer Aided and Quantech Global Services Design and Engineering (Quantech) services 2 Saraware Oy Jun 06 Engaged in providing design and engineering services to telecom companies 3 RetailBox BV and subsidiaries Jun 06 Leading specialist in the (Enabler) development, implementation and support of IS systems for retail industry 4 cMango Inc and subsidiaries Apr 06 Engaged in providing (cMango) business management service solutions 5 mPower Software Services Dec. 05 Engaged in providing IT Inc.and its subsidiaries services in payments service sector 6 BVPENTE Dec 05 Engaged in semiconductor Beteiligungsverwaltung Intellectual Property (IP) GmbHand its subsidiaries (New cores and complete system 52 ITA No.5258/Del/2011 Logic) on chip solutions with digital, analog mixed signal and Radio Frequency (RF) design services India & AsiaPac IT Services and Products 7 India, Middle East and SAARC Nov 06 Engaged in the business of operations of 3D Networks and communication solutions Planet PSG that include consulting voice, data and converged solutions and managed services Consumer Care & Lighting 8 Trademark/brand "North- West' May 06 The Company acquired a and assets of North- West substantial portion of the Switchgear Limited business and brand of North West Switchgear Limited, a manufacturer and distributor of switches, sockets and miniature circuit breakers Others 9 Hydrauto Group AB (Hydrauto) Nov 06 Engaged in production, marketing and development of customised hydraulic cylinders solution for mobile applications.
In the light of the aforesaid facts regarding acquisition made by this company, we find where there is amalgamation, then the accounts do not portray the correct picture in the profits due to the merging of accounts. So the financial results cannot be relied upon for the computation of PLI of this comparable. Since the terms of amalgamation is decided on the scheme of amalgamation, which is approved by the High Court, so not necessarily all the items of expenses and income are merging. So, true and correct picture of profitability cannot be ascertained. Therefore, due to this extra 53 ITA No.5258/Del/2011 ordinary events taking place in the instant financial year of this company, we are of the opinion that this company should be excluded from the list of comparables. It is ordered accordingly.
(xiv) Aditya Birla Minacs Worldwide Limited (earlier known as Transworks Information Services Ltd.)
(xv) Apex Knowledge Solutions Pvt. Ltd.
(xvi) Appollo Healthstreet Ltd.
(xvii) Cosmic Global Ltd.
(xviii) Datamatics Financial Services Ltd. (Seg.) (xix) Flextronics Ltd. (Seg.) (xx) Genesys International Corporation Ltd.
(xxi) ICRA Techno Analytics Ltd. (seg) (xxii) IServices India Pvt. Ltd.
(xxiii) R Systems International Ltd (Seg) (xxiv) Spanco Ltd. (Seg.) (earlier known as Spanco Telesystems & Solution Ltd.) As regards the aforesaid eleven (11) comparables [mentioned at sl. Nos.(xiv) to (xxiv)] are concerned, the ld. AR submitted that the 54 ITA No.5258/Del/2011 assessee has no objection in including the same in the list of comparables.
This disposes off the objections in respect to comparables. RISK ADJUSTMENT
13. Now the only ground remaining to be decided is the risk adjustment. The TPO repelled the objections of the assessee and observes "no risk adjustment shall be provided as the single customer risk and country/political risk of the taxpayer combined with arithmetic mean price considered in the case of comparable companies nullifies the risk differential, if any, between the taxpayer and the comparable independent enterprises."
14. The DRP gave no directions in respect of the risk adjustment and held that the Appellant's objections were general in nature.
15. The Ld. AR placed reliance on para 116 - 121 of the decision of Motorola Solutions India Private Limited (supra) where the issue was discussed in details. The relevant extracts are reproduced below: 55 ITA No.5258/Del/2011
"Para 116.1 Ld. TPO, after detailed discussion, in respect of various risks claimed by assessee, rejected the assessee's claim for following reasons:
1. The tax payer has not given any details regarding the authority of the above method describing CAPM model for adjustment towards risk. It is not clear whether this type of calculation is acceptable in any tax jurisdiction for the purpose of risk premium adjustments. Its acceptability by any renowned and recognized research institution across the world has also not been shown. The manner in which the risk adjustment is computed by the taxpayer is not followed by any country or organization of international repute like OECD. In fact, even the OECD is reluctant to take the risk adjustment as part of the guidelines as there are divergent views on this issue among the member countries of OECD and many countries feel that there is no straight jacket formula for risk adjustment as it depends entirely on the facts and circumstances of the case. Thus risk adjustment is case specific, function specific and also depends on the nature of functions (including risks) carried out by the comparable companies.
2. The tax payer had not given any evidence or argument regarding how the assumptions of CAPM model are true in the case of the AE when it is doing business with the taxpayer.
3. The CAPM model has some weakness, the main being that the model does not recognize the presence of human capital, which is the main driving source for revenues in the software service industry.
4. The taxpayer considered only listed companies. But, there is a method of computation of similar nature in the index. There is a manner in which unlisted companies beta would be calculated.
5. Wherever market data was not available, the beta is computed based on guideline companies from the small cap and madcap indices of BSE and NSE. But, the risk adjustment should always be based on the comparables selected by the taxpayer or the TPO and not on the other companies, which are not examined and otherwise, not comparable functionally. Thus, the beta of unlisted companies or companies where data was not available should be the average of the beta of the remaining comparable companies.
6. The taxpayer ignored negative risk adjustment in some of the comparable companies. This looks absurd as any risk 56 ITA No.5258/Del/2011 undertaking enterprise may get a negative return for the risk undertaken and is possible due to the actual realization of risk bringing down the profitability below the risk free rate of return.
Thus, its profitability would have been more but for the risk undertaken. Thus, negative risk adjustment has to be considered and cannot be ignored. For example, when the Indian stock markets tumbled in 2007 and 2008, the equity investments given a negative return even though the risk free return is decent. So, it is to ignore negative risk adjustment.
7. The risk adjustment has to be computed based on the risk differential if any, between the taxpayer and the comparable companies. However, the taxpayer ignored weighted cost of capital in the case of taxpayer and risk of the taxpayer in terms of beta. Effectively, the risk free return would be nullified as there is no difference between the taxpayer and the comparable companies and also the tax payer assumed that its beta is zero, whereas when the return is guaranteed on sales or cost, the beta is not zero as the return on capital fluctuates with revenue.
8. The taxpayer did not consider the differential risk adjustment i.e. it did not considered the weighted cost of capital of comparables to bring it in line with the taxpayer.
9. The beta of a captive software service provider is not zero as the return on capital fluctuates with revenues as the taxpayer is following cost plus method on expenses.
10. As discussed above, the taxpayer bears significant single customer risk and political/country risk, which may not be compensated adequately by passing on other risks like marketing risks etc. to the parent. Further these risks are not considered in the case of taxpayer while computing the risk adjustment.
11. The taxpayer considered total assets including current assets and current liabilities, but the CAPM hinges upon return on equity or capital employed. The operating assets are the major indictor of capital employed rather than total assets. Operating assets includes fixed assets, trade receivables net of trade payables.
12. The tax payer has assumed that operating expenses of the comparables would not change after risk adjustment. But, after giving effect to risk adjustment, the financial statements of the comparables should look like that of the tax payer i.e., stripping the risk component. So, the expenses pertaining to the risk like sales 57 ITA No.5258/Del/2011 and marketing expenses, bad debts etc. should be removed from operating expenses and corresponding risk premium adjusted amount has to be reduced from the operating revenues. Hence, as per the above detailed discussion, the computation of risk adjustment by the taxpayer is not acceptable. There is no scientific basis for working out the taxpayer company's beta or beta of the unlisted comparable companies. The taxpayer altogether forgotten that the risk adjustment, if at all to be computed, is to be computed based on the difference between the actual weighted cost of capital of the comparables and weighted cost of capital of the comparable companies assuming same level of equity in the total finances and risk level as evidenced by beta of the taxpayer. This differential is altogether is ignored making the entire exercise redundant. ................
118.1 We have considered the submissions of both the parties and have perused the record of the case. We have perused the record of the case. We have also gone through the detailed written submissions filed by assessee from pages 92 to 104 of the written submissions The main contention of assessee is in regard to adjustment on account of market risk by applying CAPM Model. In this regard ld. TPO has observed that the services rendered by the assessee forms a component within the products developed by the assessee. Thus, the associated enterprise incurs marketing for its products and not on the services rendered by the assessee as they are considered in the product sold by the associated enterprise. The relationship between the tax payer and its parent company is exactly the same as that of the independent company and its client in the case of software design and development services. Ld. TPO has observed that it is a fact that the independent enterprises have to bear the vagaries of market conditions. But since the software sector is growing at more than 30% CAGR (Compounded Annual Growth Rate) for the last 10 years, it is not showing or affected by any adverse market conditions. In the absence of adverse market conditions, the assessee has not shown how these market risks borne by the independent enterprises had an effect on the price and, 58 ITA No.5258/Del/2011 thus, on the profits during the F.Y. 2005-06. From these findings of ld. TPO, it is evident that he himself is agreeable that market conditions do influence the independent enterprises. Ld. TPO has denied this adjustment mainly on the ground that associated enterprise and other independent comparables are operating on a similar model i.e. one by establishing its subsidiary in low employee cost zone viz. India and the others by outsourcing their activities to other entities operating in India. Ld. TPO has drawn parity between independent comparables and the assessee on this basis. In our opinion, this reasoning cannot be fully accepted particularly because it is not that all the independent comparables are doing only the work outsourced to them by various AEs. This is only a conjecture on the part of ld. TPO. We, therefore, are of the opinion that market risk, if quantifiable, has to be adjusted in view of Rule 10B(1)(e)(iii)......"
16. We find force in the contention of the ld. AR that risk adjustment sought by the assessee has not been dealt with as per Rule 10B(1)(e)(iii). The ld. AR pointed out to the order of the coordinate Bench in Motorola Solutions India Private Limited (supra) wherein in an identical matter, the Tribunal has given direction as afore-stated when the TPO repelled similar contention of the assessee. Since the risk adjustment sought by the assessee has also been turned down by the TPO on similar reasons, it has to be set aside and a computation exercise as envisaged under Rule 10B(1)(e)(iii) need to be done. Therefore, we restore this matter back to the file of the TPO/AO to 59 ITA No.5258/Del/2011 consider the computation of risk adjustment as per CAPM model by availing the services of technical experts.
17. In the result, the appeal of the assessee is partly allowed for statistical purposes.
Order pronounced in the Open Court on this 18th day of September , 2015.
Sd/- sd/-
(J.S. REDDY) (A. T. VARKEY)
ACCOUNTANT MEMBER JUDICIAL MEMBER
Dated: the 18th day of September, 2015
TS
Copy forwarded to
1. Applicant
2. Respondent
3. CIT
4. CIT (A)
5. DR:ITAT
ASSISTANT REGISTRAR
ITAT, New Delhi