Income Tax Appellate Tribunal - Delhi
Global Logic India Ltd., New Delhi vs Dcit, Circle- 10(1), New Delhi on 1 May, 2020
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCH: 'I-1' NEW DELHI
BEFORE SHRI SUDHANSHU SRIVASTAVA, JUDICIAL MEMBER
AND
SHRI O.P. KANT, ACCOUNTANT MEMBER
ITA No.4740/Del./2018
Assessment Year: 2014-15
M/s Global Logic India Ltd., Vs. DCIT,
207, Gupta Arcade, Circle- Circle-10(1),
12(1), LSC Plot No. 5, Mayur New Delhi
Vihar Phase-1 Extension,
New Delhi
PAN :AABCI2526F
(Appellant) (Respondent)
Appellant by Shri Neeraj Jain, Adv.;
Shri Abhishek Aggarwal, Adv.; &
Ms. Ramit Katyal, CA
Respondent by Sh. Surender Pal, CIT(DR)
Date of hearing 06.02.2020
Date of pronouncement 01.05.2020
ORDER
PER O.P. KANT,A.M.:
This appeal by the assessee is directed against final assessment order dated 25/05/2018 passed by the Learned Deputy Commissioner of Income-Tax, Circle-10(1), New Delhi [in short 'the Learned Assessing Officer'] pursuant to the direction of the learned Dispute Resolution Panel ('DRP') for assessment year 2014-15. The grounds raised in the appeal are reproduced as under:
1. That the impugned order of assessment framed by the Assessing Officer in pursuance of the directions of the Dispute Resolution Panle (hereinafter referred to as 'DRP') under Section 143(3) read with 2 ITA No.4740/Del./2018 Section 144C of the Income-tax Act, 1961 ('Act'), is bad in law, violative of principles of natural justice and void ab-initio. 1.1 That the Assessing Officer erred on facts and in law in passing order under section 143(3) read with Section 144C of the Act at an income of Rs.57,96,95,314 as against returned income of Rs.35,04,84,700.
2. That the assessing officer erred on facts and in law in making an adjustment of Rs.18,16,82,680/- to the arm's length price of the 'international transactions' of provision of software development services undertaken with the associated enterprise on the basis of order passed by the Transfer Pricing Officer ('TPO')/Dispute Resolution Panel ('DRP').
2.1 That while giving effect to the direction of DRP, the AO/TPO erred on facts and in law in computing the operating profit to cost ratio of appellant at 9.61% as against 15.20% (13.17% in AE segment) computed by the appellant, by erroneously considering foreign exchange fluctuation income of Rs.10,51,15,282/- as non-operating item of income.
2.2 That the AO/TPO erred on facts and in law in passing order under Section 143(3) read with section 144C of the Act in gross violation of section 144C(10) of the Act, by not considering the specific direction of the DRP to consider foreign exchange fluctuation income as operating item of income.
2.3 That DRP/TPO erred on facts and in law in considering following companies in the final set of comparable companies allegedly holding them to be functionally comparable to the assessee:
(i) E-Zest Solutions
(ii) Infobeans Technologies Limited
(iii)Larsen &Tubro Infotech Limited
(iv)Mindtree Limited
(v) Persistent Systems Limited
(vi)Tata Elxsi Limited
(vii)Thirdware Solutions Limited 2.4 That the DRP/TPO erred on facts and in law in considering following companies in the final set of comparables companies merely for the reason that the said companies were considered by the assessee itself, at the time of preparation of transfer pricing document:
(i) Larsen &Tubro Infotech Limited
(ii) Mindtree Limited
(iii)Persistent Systems Limited.
2.5 That while giving effect to the direction of DRP, the AO/TPO erred on facts and in law in considering Thirdware Solutions Limited in the final set of comparable companies, without considering the specific direction of the DRP to retain the company only if segmental profitability of company with respect to software development services (IT segment ) is available.
2.6 Without prejudice, that the TPO while giving effect to the direction of DRP, erred on facts in considering incorrect operating profit margin of following companies:
(i) Persistent Systems Limited
(ii) Tata ELXSI Limited 3 ITA No.4740/Del./2018
(iii)Thirdware Solution Limited 2.7 That the assessing officer/TPO erred on facts and in law in not allowing appropriate risk adjustment to establish comparability on account of the assessee being a low-risk bearing captive service provider as opposed to the comparable companies who were independent software development service provider.
2.8 That on the facts and in the circumstances of the case and in law, the TPO erred in rejecting the contention of the assessee regarding risk adjustment, holding that in absence of robust and reliable date, both for the assessee and for the comparables, risk adjustment cannot be considered for enhancing comparability.
3. That the Assessing Officer erred on facts and in law in making an adjustment of Rs.4,75,27,934/- to the arm's length price of alleged 'international transactions' of delay in receipt of outstanding receivables, on the basis of order passed by the Transfer Pricing Officer ('TPO')/Dispute Resolution Panel ('DRP'). 3.1 That the DRP/TPO erred on facts and in law in re-characterizing the alleged transaction of delay in receipts of receivables as unsecured loans advanced to the associated enterprises. 3.2 That the DRP/TPO erred on facts and in law in not appreciating that delay in receipt of receivable is not an 'international transaction', per se, under section 92B of the Act but is a consequence of an 'international transaction' undertaken in the form of services rendered to the associated enterprise.
3.3 That the DRP erred on facts and in law in holding that the non- realization of invoice value beyond the stipulated period (as per contract) is a separate international transaction, whose arm's length price is required to be determined separately. 3.4 Without prejudice, that the DRP/TPO erred on facts and in law in not accepting that in any case the transaction of delay in respect of receivables was closely linked to the 'international transaction'of export and since the profit earned by the assessee as a percentage of cost is higher than the profit earned by comparable companies, no transfer pricing adjustment was even otherwise required to be made in this regard.
3.5 That the DRP erred on facts and in law in holding that working capital adjustment does not address the mispricing in the case of taxpayer where interest free receivables were outstanding beyond. 3.6 That the DRP/TPO erred on facts and in law in not appreciating that working capital adjustment is more appropriate measure to benchmark the realization of trade receivables of the appellant instead of application of an interest rate.
3.7 That the DRP/TPO erred on facts and in law in not appreciating that the Hon'ble Tribunal in the appellant's own case for assessment year 2010-11 and 2012-13 in ITA No. 1104/Del./2015 and 1115/Del./2017, respectively has deleted such adjustment made in relation to delay in receipt of receivables.
3.8 Without prejudice, that the DRP/TPO erred on facts and in law in not appreciating that the appellant has received receivables from unrelated parties with similar delay of period and accordingly the 4 ITA No.4740/Del./2018 delay in receipt of receivables from unrelated parties should be considered as a valid internal CUP for the purpose of benchmarking. 3.9 Without prejudice, that the DRP/TPO erred on facts and in law in adding an adhoc mark-up of 400 points on the Libor rate of interest, arbitrarily on account of credit rating risk, security risk, transaction cost etc. 3.10 Without prejudice, that on the facts and in the circumstances of the case and in law, the DRP/TPO erred on facts and in law in not appreciating that the in terms of Master Circular No. 10/2011-12, Reserve Bank of India allows a period of 12 months to all companies for receiving repatriation of export sales proceeds, and therefore, interest if any, ought to be imputed on the period of delay beyond 12 months.
4. That the assessing office erred on facts and in law in levying interest under section 234A and 234B of the Act.
2. Briefly stated facts of the case are that the assessee, a wholly-owned subsidiary of Global Logic Inc. USA, is engaged in the provision of software development services to 'Global Logic (GL) Group' and other unrelated customers. The company operates through export-oriented units registered with the Software Technology Parks of India scheme (STPI). For the year under consideration, the assessee filed its return of income on 27/11/2014 declaring total income of Rs.35,04,84,700/-. The return of income filed by the assessee was selected for scrutiny assessment and statutory notices under the Income-Tax Act, 1961 (in short the 'Act') were issued and complied with. In view of the international transaction carried out by the assessee with its Associated Enterprises (AEs), the learned Assessing Officer referred the matter of determination of arm's-length price of the said transaction to the learned Transfer Pricing Officer (TPO). The Learned TPO in his order dated 04/10/2017 proposed transfer pricing adjustment of Rs.26,82,48,663/-which consisted of adjustment for provision of software development services amounting to Rs.21,09,11,213/- and adjustment for interest on receivables amounting to Rs.5,73,37,450/-. The Assessing Officer 5 ITA No.4740/Del./2018 in his draft assessment order included the transfer pricing adjustment proposed by the learned TPO. On the objection filed by the assessee against the proposed transfer pricing adjustments, the learned DRP after considering submission of the assessee issued certain directions to the Assessing Officer/ TPO. The learned TPO re-computed the transfer pricing adjustment in compliance with the direction of the learned DRP, which was worked out to Rs.22,92,10,640/-. Pursuant to the direction of the learned DRP, the learned Assessing Officer issued the impugned final assessment order making addition of Rs.22,92,10,614/-to the income returned by the assessee. Aggrieved, the assessee is in appeal before the Tribunal raising the grounds as reproduced above.
3. The ground No. 1 to 1.1 of the appeal are general in nature and thus, we are not required to adjudicate upon those ground separately.
4. The ground No. 2 to 2.8 of the appeal relates to transfer pricing adjustment to the international transaction of provision of software development services. Before us, the assessee has sought exclusion of four companies from the final set of the comparables. Before coming to adjudication of exclusion/inclusion of those companies, it is relevant to take note of function, assets and risk analysis (FAR) of the International transaction of provision of software development services carried out by the assessee.
4.1 Before us, the assessee filed a Paper-book (PB) in two volumes containing pages 1-393 and 1-1022. The Learned Counsel of the assessee referred to pages 45 to 50 of the PB-I, wherein ownership structure of the assessee; Profile of GL group;
6ITA No.4740/Del./2018 profile of Global Logic Inc, USA; profile of GL Israel and profile of the assessee i.e. 'GL India' is reported. The learned TPO in his order dated 04/10/2017 has reproduced the same profiles of entities of the group including the assessee. According to the profile, the group is a worldwide leading provider of software research and development services to technology and software enabled companies through its offices, sales office and global delivery centers in USA, Argentina, Chile, United Kingdom, Israel, India and China etc. The Global Logic Inc. USA is a full life-cycle 'product development service' company in the field of digital media, electronics, healthcare infrastructure, finance, retail and telecom industries. It also provides consulting services and perform software research and allotment for its corporate clients. The 'Global Logic Israel' is engaged in the business of development of the computer software. The assessee company has claimed to have been engaged in the provision of the software development services which included product realization, product testing, migration and porting, product maintenance and support and product extensions. The profile of the assessee available on page 49 of PB-I is reproduced as under:
"2.6 PROFIT OF GL INDIA GL India is a company registered under the provisions of the Companies Act, 1956 and is a subsidiary of Global Logic Inc. GL India is engaged in the provision of software development services to its customers including Global Logic Group Companies. The departments of GL India include delivery, finance & legal, human resource (including employee services, recruitment, resourcing and learning & development and operations. During the year, there were approximately 1,575 employees on the payroll of GL India. The company has offices in Noida, Bangalore and Nagpur. The Company operates through certain EOU registered with the STPI and SEZ."
4.2 The assessee reported following international transactions in its transfer pricing study:
7ITA No.4740/Del./2018 Sl. Nature of transaction Method applied Value of No. transaction (in Rs.)
1. Amount Received for the 1,77,98,61,522 software services provided TNMM
2. Purchase of Equipments 1,19,862
3. Reimbursement of Expenses 28,26,31,589 by AEs Other Method
4. Amount Received on behalf of 21,24,490 AE 4.3 The learned TPO has proposed adjustment only to the transaction of provision of the software services. 4.4 The FAR analysis of the provision of the software development services has been provided in transfer pricing study, a copy of which is available on page 65 to 69 of the paper-book-I. According to the analysis, the assessee rendered offshore software development services to its AEs namely 'Global logic Inc, USA' (Rs.1,75,58,65,221/-) and 'Global logic Israel Ltd' Israel (Rs.2,39,96,301/-) and for its services the assessee has been remunerated for the cost incurred in rendering services along with 15% markup.
4.5 The functions performed include, strategic planning, marketing planning, customer relationship management and licensing, project management, provision of services as per the specification requirement provided by the AE, testing and quality control etc. The assessee has claimed it to be risk-free entity and entire risks related to market, utilization, rework, service liability, customer credit and foreign exchange have been claim to be borne by AEs.8
ITA No.4740/Del./2018 4.6 The Ld counsel referred to agreement with the GL Inc., USA, which is available on page 208 of the PB-I and agreement with the GL Israel, which is available on page 214 of the PB-I. The Ld. counsel submitted that the assessee in AY 2007-08 had been characterized as provider of 'Software development services'. 4.7 In relation to the software development services, the assessee has applied Transactional Net Margin Method (TNMM) as the most appropriate method and operating profit/operating cost (OP/OC) as the profit level indicator (PLI). The assessee has arrived at a set of 21 comparable companies with an average margin (PLI) of 14.32%. The assessee has used multiple year data. The assessee has calculated its own OP/OC at 13.17%. But according to the learned TPO, the OP/OC of the assessee was only 9.61%. The learned TPO also rejected the multiple year data of the comparables taken by the assessee. The learned TPO finally retained 15 comparables and using their current year data, arrived at average margin (OP/OC) of 22.60 percent. In view of the average margin of the comparables being more than the margin of the assessee , the learned TPO computed adjustment of Rs.21,09,11,213/-to the value of the international transaction reported by the assessee. On the direction of the learned DRP to exclude/include the comparables, finally 13 comparables are retained with their average margin at 20.80%. The adjustment has accordingly has been computed at Rs.18,16,82,680/-. 4.8 The comparable sought to be excluded before us by the assessee are adjudicated as under:
9ITA No.4740/Del./2018 Mindtree Ltd.
5. This company was initially selected by the assessee as comparable, however during the course of proceeding before the Ld. TPO, the assessee sought to exclude the company from the set of the comparables on the ground of functional dissimilarity. The learned TPO referred to the various pages of the Annual Report of the company ( i.e. P-77, P-92 , P-32 ) and profit and loss account and held that the company provided software development services, which is functionally similar to the assessee, who is also developing software for the associated enterprises.
5.1 Before the Learned DRP, the assessee taken following objections against inclusion of the company:
"1. It is functionally different as it is seen that the company has developed various products to offer to its customer's. The company developed a software product 'I GOT GARBATE' and also launched a produce, 'Gladius', a video management software.
2. The company also have SAP mobility applications which can be operated on mobile phones and tablets.
3. At page 76 of the annual report the company, the company in its notes to Accounts of the audited accounts has described that the company also provides services in the nature of Business Process management, Business technology consulting, Cloud, independent testing infrastructure management services, Mobility, Product engineering etc.
4. At page 64 of the annual report, the company claims itself to be a full risk bearing entity rendering high end IT services undertaking various risk, such as operational risk, economic environment risk, pricing risk, competition risk, manpower risk, client loss risk, foreign currency fluctuation risk etc."
5.2 The learned DRP, however, in view of the revenue recognition being primarily from the software services and intellectual property owned by the company being very insignificant, held the company as comparable to the software development services of the assessee.
10ITA No.4740/Del./2018 5.3 Before us, the Ld Counsel of assessee repeated submissions which were made before the learned DRP and also relied on the decision of the coordinate bench of the Tribunal in the case of Agilis Information Technologies India (P) Ltd. versus ACIT (ITA No. 555/del/2017) to support that the company is engaged in development and sale of the software products and also owns intangible assets, and thus not comparable to the assessee. 5.4 The learned DR, on the other hand, relied on the order of the lower authorities and submitted that the Associated Enterprises of the assessee deals in product and the assessee is developing software products as well as rendering software services and, the company who is having revenue from operations of software development and services, it is a valid comparable to the assessee.
5.5 We have heard rival submission of the parties on the issue in dispute. The Associated Enterprises , namely M/s Global Logic Inc, USA , to whom the assessee is providing services is a full life cycle product development service company which operates, design and engineering centers around the world in field of digital media, retail, finance, infrastructure, telecommunication, electronics and healthcare and also has ongoing partnership with product markets in these fields. The assessee company, during the year was having approximately 1575 employees on its payroll and was possessing skills in major technologies like Java, Microsoft, VoIP, mobile technologies, Web services, integration with back-office application such as SAP, Siebtel, MS exchange and databases (Oracle, SQL Server, DB2, Sybase, MS access) . The assessee claimed to have included services development delivery and integration of a specialized items, product testing.
11ITA No.4740/Del./2018 The assessee also uses a migration methodology provided by the GL group that covers all phases from impact analysis to deployment and testing. The assessee also was engaged in providing product extension services, append new features and functionality to existing products. Thus, the assessee is engaged in developing software products for the Associated Enterprises through skills possessed in various technologies and also in extension of functionality of existing products of the Associated Enterprises. The assessee is also engaged in providing services of maintenance and support, testing, migration and porting etc to its Associated Enterprises. The assessee can be categorized as provider of software development and services. 5.7 The learned Counsel has referred to page 141 and 135 of the paper-book to contest that the company has developed various products to offer to its customer. The Learned Counsel referred two products namely "I GOT GARBAGE" and "Galdius". The learned Counsel submitted that there is no separate segment for sale of the product and thus company should be excluded. 5.8 As far as contention of developing software product by the company is concerned, this fact is not disputed. The assessee is also ultimately developing software products for its associated enterprises and therefore, the assessee is not functionally different from the company. In the profit and loss account, we do not find any revenue from the sale of the products and only revenue is from the operations. The company is earning revenue from its operation which include revenue from operating the software like " I GOT GARBAGE". The learned Counsel has failed to indicate any reference in the Annual Report regarding sale of the product by the company. Thus, the contention of the assessee 12 ITA No.4740/Del./2018 that the company is engaged in sale of product cannot be accepted.
5.9 The next contention that company also apply SAP mobility applications which can be operated on mobile phones and tablets. On perusal of the profile of the assessee which we have already reproduced above , while extracting the profile of the assessee in earlier paragraphs, we find that the assessee also possess skills in various technologies including Mobile technologies ( pocket PC, CDPD, GSM, GPRS) and SAP etc, Thus, on this contention of the assessee, the company cannot be excluded.
5.10 Further, the learned Counsel referred to page 76 of the Annual Report of the company (page 216 of PB-I) and submitted that company in its notes to the account of the audited accounts has described the company also provides services in the nature of business process management, business technology consulting, cloud, independent testing infrastructure management services, mobility, product engineering etc. We find that the assessee also is engaged in providing services related to the software including product testing, maintenance and support. It is specifically mentioned in the profile that GL India has invested in creating extended support infrastructure for software companies in the product support team as a combination of the domain and technology experts providing quality supports. In view of the fact that assessee is also engaged in providing various kind of services associated to software product development in comparison to the company which is engaged in providing services related to software. Thus, we reject the contention of the assessee for excluding the company from the set of the comparable on the ground of functional dissimilarity.
13ITA No.4740/Del./2018 5.11 The next argument of the learned Counsel of the assessee that company possess intangible assets worth millions of rupees. This argument of the company has been rejected by the learned DRP. The learned DRP has noted that the company owns intangible of Rs.17.10 crores, which includes software of Rs.15.50 crores and intellectual property is only of Rs.1.50 crore as against the operating revenue of Rs.3081 crores and thus the intellectual property owned is very insignificant. We agree with this finding of the learned DRP, and accordingly reject the contention of the assessee of difference in the asset base of the company as compared to the assessee.
5.12 The learned Counsel has relied on the decision of the Agilis Information Technologies India Private Limited (supra), wherein the company was excluded by the Tribunal holding as under:
"4.13 We have heard both the parties and perused the records available before us. This company is engaged in development and sale of software product and also owns intangible assets (Patents). In assessee's case, the company is undertaking software development which is more of an evewnt constituting a new stage in a changing situation, than a complete product. Therefore, Mindtree Limited is functionally different from the assessee company and should have been excluded by the TPO. Thus, as held by the Hon'ble Delhi High Court & this Tribunal in various decisions companies which are functionally different has to be excluded. Therefore, we direct TPO to exclude this company from comparables."
5.13 We find that the Tribunal has rejected the company observing that it was engaged in sale of the software product, but in the year under consideration there is no sale of the products and therefore facts of the present year under consideration of the company being different, it cannot be excluded in view of the decision cited by the assessee.
14ITA No.4740/Del./2018 5.14 In view of the above discussion, we reject the contention of the assessee for excluding the company from the final set of the comparables.
Larson and Toubro Infotech Ltd:
6. This company was selected by the assessee as comparable in its transfer pricing study, however before the Ld TPO, the assessee sought to exclude it from set of the comparables on the ground of functional dissimilarity being engaged in diversified operations. The learned TPO referred to the Annual Report of the company and held that the company is not engaged in sale/license of software products or any other diversified activities, and thus it is a valid comparable. 6.1 Before the Learned DRP, the assessee sought exclusion of the company on the ground of extraordinary event, significant intangiblesand software packages purchased for resale (sale of product). The learned DRP held that company's revenue was not impacted by the intangibles held by the company as most of the intangibles were software. The Ld DRP also held that there is no revenue from the sale of the products.
6.2 Before us, the learnedCounsel has sought to excludethe company on the ground of significant intangibles, expenses on cost of the bought-out items for resale, multiple segments and extraordinary event.
6.3 The Learned DR, on the other hand, relied on the finding of the lower authorities.
6.4 We have heard rival submission of the parties on the issue in dispute. The learnedCounsel of the assessee submitted that the company owns significant intangibles (Rs.75,04,78,329/-) in the 15 ITA No.4740/Del./2018 form of the software and intangible assets under development. On perusal of fixed assets schedule, available on page S-1245 of the Annual Report ( page 116 of PB-2), we find that at the beginning of the year the assessee owned intangible assets of Rs.153,42,45,196/- which included software of Rs.143,61,95,196 ( 93 %), thus the intangible other then the software are insignificant. During the year, the company has sold/transferred the software and claimed depreciation, which resulted in net block of software at the end of the year to Rs.33,22,11,879/-. The assessee has also shown intangible assets under development of Rs.41,82,66,450/-, which makes the net intangibles owned by the company to Rs.75,04,78,329/- at the end of the year. But no depreciation has been claimed on the under developed intangibles, therefore there is no effect on the profitability of the company on account of the underdeveloped intangibles. Thus, the objection of the assessee of non-comparability of the assets is rejected.
6.5 Further, the learned Counsel submitted that operating expenses amounting to Rs.34,91,74,116/-and Rs.54,82,74,109/- on cost of the software packages for own use and cost of the bought-out items for resale during the year under consideration. Thus, according to the learned Counsel, the company was engaged in sale of the product and accordingly not comparable. On perusal of the profit and loss account of the company on page S-1237 of the Annual Report (Page 108 of PB-2), we find that company has shown two revenue streams. First, as revenue from the operations of Rs.46,439,403,178/-from overseas and Second as other income (loss of Rs.81,09,17,799/-). No revenue from sale of product has been shown. As regard to the objection of cost of 16 ITA No.4740/Del./2018 software packages for own use under operating expenses, is concerned in our opinion, for a company engaged in software development, incurring expenses on purchase of the software for own use cannot term the assessee as engaged in sale of the product. Regarding the cost of the items for resale is concerned, the cost of purchase of inventory for resale will not impact on the profit and loss account because when goods are not sold , then it will appear in closing stock and resultant effect on profit and loss account is nil.
6.6 The next objection of the assessee is regarding multiple segments. From segment reporting on page S-1258 of the Annual Report (page 129 of PB-2) , we find that the assessee has reported three business segments. The first segment is service cluster which includes banking, financial services, insurance, media and entertainment, travel and logistics and healthcare. The second segment industry cluster which includes Hi Tech and consumer electronics, consumer, retail and Pharma, energy and process, auto Mobile and aerospace, plant equipment and industrial machinery, utilities and E &C. The third segment, is telecom segment which refers to product engineering services (PES) which has been discontinued in this year. Regarding the PES, in Director's report, (available on page S-1225 of the Annual Report or page 96 of PB-2), it is reported as under:
"TRANSFER OF PRODUCT ENGINEERING SERVICES (PES) BUSINESS TO L&T TECHNOLOGY SERVICES LIMITED (LTTSL) AND WINDING UP OF GDA TECHNOLOGIES INC. (GDA INC.) As part of business restructuring undertaken within L&T Group, it was decided to consolidate the engineering services business under a separate subsidiary of L&T, L&T Technology Services Ltd. (LTTSL). Pursuant to this, the Company initiated and completed transfer of its Product Engineering Services (PES) Business Unit to LTTSL effective January 1, 2014, PES Business Unit was transferred by way of slump sale for total sales consideration of Rs.489.53 crs based on 17 ITA No.4740/Del./2018 fair valuation, GDA Technologies Inc., USA (GDA Inc.), a wholly owned subsidiary of the Company was part of PES business with synergy in terms of the end customers they serve, primarily the semiconductor companies. Over last few years, the performance of GDA Inc. was adversely affected resulting in falling revenues and operational losses. Consequent to the transfer of PES business, certain IPs (Intellectual Properties) owned by GDA Inc. were transferred to LTTSL, the Company was wound up during the year."
6.7 In view of the above reporting, it is clear that under the telecom segment, the assessee was engaged in providing engineering services, which is distinct from the services of the software development. Thus, at entity level, the company cannot be considered functionally similar to the assessee. The company cannot be considered comparable at the segment level also because of there are expenses of Rs.205,80,17,445/- ( page 129 of PB-2) , which has not been allocated into three segments, and thus the segmental result are distorted.
6.8 During the year, the extraordinary event of demerger of product engineering service business (PES) has occurred with effect from 01/01/2014, which has also impacted the profit of the company at the entity level. In the decision of the Tribunal in case of Xchanging Technology Service India Private Limited (ITA No.1897/Del./2004), which has been approved the Hon'ble High Court in ITA No. 813/2015 , the company is held to be not valid comparable on account of extraordinary events. Thus, In view of the extraordinary event in the year under consideration also, this company is liable to be excluded from the set of the comparable. 6.9 Accordingly, in view of the functional dissimilarity at entity level and extraordinary event during the year, this company is directed to be excluded from the final set of the comparables.
18ITA No.4740/Del./2018 Persistent Systems Ltd.
7. This company was initially selected by the assessee as comparable in its transfer pricing study, however before the learned TPO, the assessee sought to exclude the company on the ground of functional dissimilarity. According to the assessee the company derives income from the sale of software services as well as software products. The Learned TPO however referred to profit and loss account of the company where revenue has been shown from sale of software services. The learned TPO Also referred to the website of the company where it was claimed that the company specialize in software product development. The learned TPO held that company is equipped to carry out high-end technology driven software development services, which is also the function of the assessee, and therefore the company is comparable.
7.1 The Ld. DRP observed that there is no sale of the product in the revenue stream in the profit and loss account. The intangible assets held by the company were also not found to be significant by the learned DRP, and thus retained the company as comparable.
7.2 Before us, the learned Counsel of the assessee referred to page 257 of PB-2 and submitted that company specialize in software products, service and technology and it offers complete product life-cycle services. The Learned Counsel relied on the decision of the coordinate bench of the Tribunal in the case of Saxo India private limited Vs ACIT (ITA No. 6148/Del/2015) to support that the company is engaged in development and product design and analysis services, which is functionally different from a pure software service provider and therefore it ought to be 19 ITA No.4740/Del./2018 excluded. The learned Counsel submitted that the appeal filed by the Revenue against the decision was dismissed by the Hon'ble Delhi High Court in ITA No. 682/2016. The Learned Counsel also submitted that in assessee's own case for assessment at 2008-09 (ITA No, 122/Del/2013) the company has been excluded from set of comparables. Accordingly, he submitted that the company might be excluded in the year under consideration also. 7.3 The Learned DR, on the other hand, relied on the order of the lower authorities.
7.4 We have heard rival submission of the parties and perused relevant material on record. Regarding the contention of the learned Counsel of the assessee of the functional dissimilarity, we have perused the Annual Report of the company. On page 136 of the Annual Report (page 323 of PB-2), the revenue from operation of sale of the software services amounting to Rs. 16, 691.53 million has been reported. On page 27 of the Annual Report (page 265 of PB-2), in the director's report business over view of the company has been reported as specializes in building computer software products. The relevant part of the business our view is reproduced as under:
"Business overview Your Company spcializes in building computer software products. Your Company's business is organized with a focus on the following three areas. Products (IP Business), Platforms (Solutions Integration) and Services (Product Engineering). Your Company has decided to brand the product business separately from the Persistent branch and has named it 'Accelerite' (www.accelerite.com). Accelerite will be headquartered in the Silicon Valley and will help your Company provide clarity-persistent brand is for product development and the Accelerite branch is for products.
Your company has organized the development and engineering teams around three strategies: Account-Led, Platform-Led and Product-Led. Further, Account-Led teams are organized as Named Accounts and Growth Accounts."20
ITA No.4740/Del./2018 7.5 On page 105 of the Annual Report (page 292 of PB-2) management discussion and analysis of revenue from operation has been reported, which reads as under:
"Revenue from Operations The company provides product engineering services, platform based solution and IP-based software products to its global customers. The company derives a significant portion of its revenues from export of software services and products.
The revenues for the year in USD terms was up by 15.2% at USD 274.06 Million as against USD 237.82 Million in the previous year. In Rupees terms, the revenue was Rs.16,691.53 Millions as against Rs.12,945.12 Million representing a growth of 28.9% over the previous year. The rupees depreciated by 11.9% during the year. During the year, the growth in revenue was driven by growth in both, IP and software services which recorded a rise orf 34.7% and 27.7% respectively."
7.6 Further, on same pace of the Annual Report, a bar graph has been shown. According to the graph in the financial year 2013-14 i.e. corresponding to the assessment year under consideration, the share of revenue from software services was of 82.0% and IP led product was of 18%.
7.7 Further on page 97 of the Annual Report ( page 284 of PB-2) under management discussion and analysis, the product strategy has been reported as under:
"Product strategy Over the last three years, in consultation with our large customers, we have created a business that is based on IP revenues. In this business line, our revenues are not directly related to the number of employees on the project but depend on the outcome from product sales. There are three kinds of IP business that we are focusing on:
a) Business acquired from customers by taking over some of their non-strategic products
b) Developing products that fill white-spaces in our customer's products.
c) New products built by us Over the last three years, our IP portfolio has grown well and contributes to nearly 20% of our business and is growing.
To accentuate our focus on products and to ensure that we are seen as a credible product company, we have created a separate business unit branded as Accelerite based out of our Silicon Valley 21 ITA No.4740/Del./2018 offices. Accelerite will be our product brand for some of our infrastructure products - Radia Client Automation, rCloud Disaster Recovery, Location Based Services and Paxpro. As part of this strategy, we have set apart the team that is working on products under the new brand and are operating this team as a typical silicon-valley software early stage product company. The product group will operate independently with policies, hierarchies and processes appropriate for a product company. The formation of Accelerite is just a logical separation and we will continue to remain one company in spirit and will leverage the benefits of Persistent across the entire company. This strategy will provide clarity to our customers and help us brand Persistent as the brand for product development and Accelerite as the brand for products."
7.7 From the above, it is evident that 82 % of the revenue is from software services. The 18 % revenue from IP laid business, under which also the products are developed for customers but revenue have been charged not on the basis of the No. of the employees in the project but on the basis of the outcome from the product sales.
7.8 Though the company build software which drives the business of customers, enterprises and software product companies, in the year under consideration 18% of the revenue is from the IP led business product. In such a scenario, the company cannot be termed as exclusively engaged in software development services and thus cannot be functionally compared with the assessee who is engaged in software development services only. Therefore, at entity level, the company is functionality dissimilar to the assessee and no separate segment of software development is available, hence we direct the learned AO/TPO to exclude the company from the final set of the comparables.
22ITA No.4740/Del./2018 Tata Elexi Ltd.
8. Before the learned TPO, the assessee claimed this company as functionally dissimilar. The learned TPO, however, referred to page 35 of the Annual Report containing details of the activities under segment of software development and service and system integration and support and concluded that the company is functionally similar to the assessee. Before the learned DRP, the assessee again submitted that the company provides technology consulting, new product design development and testing services. The company also provide solutions and services for technologies such as Internet of things (IOT), big data analytics, cloud mobility, virtual reality and artificial intelligence. All these functions being different from the assessee, the company should be excluded. The learned DRP, however held that under TNMM, the broad functional similarity is to be seen and thus upheld the action of the learned TPO. Before us the Learned Counsel of the assessee repeated the submissions made before the learned DRP and submitted that revenue from the operations include revenue from product design, graphics animation and gaming and system integration and support. According to him all these activities are functionally different from that of the assessee. He also submitted that the in assessee's own case for assessment year 2007-08 and 2008-09, the Coordinate bench of the Tribunal in ITA No. 5809/Del/2011 and 122/De/2013 has directed to exclude the company from the set of the comparables.
8.1 The learned DR on the other and relied on the order of the lower authorities.
8.2 We have heard the rival submission of the parties on the issue in dispute and perused the relevant material including 23 ITA No.4740/Del./2018 annual report of the company. The details of revenue from operations available on page 51 of the Annual Report ( page 394 of PB-2) , reproduced as under:
18. Revenue From Operations Year ended 31 March, 2014 Sale of traded goods [Refer None(i) below] 4,700.51 Rendering on services [Refer None(ii) below] 72,509.25 Total 77,209.76
(i) Sale of traded goods include sales of computers, networking and storage systems.
(ii) Rendering of services comprises:
(a)Product Design 66,427.07
(b) Graphics Animation and Gaming 1,843.15
(c) System Integration and Support 4,239.03
72,509.25
8.3 Out of the above revenue streams, we find that major revenue has been earned from rendering of product design services. Under Product design, the assessee has carried major project of design and developing of a complete electronic control unit (ECU) including hardware and software for hybrid electric vehicle, designed the control hardware for India's Mars orbiter Mission, worked with GVK to design the experiential services for various consumer touch points at Mumbai International Airport's new integrated terminal-2. The relevant part of the Annual Report has been reproduced by the learned TPO in his order. From the various achievements of the company mentioned in the Annual Report, we are of the opinion that the company has earned revenue from designing using softwares rather than software development services and software maintenance services. The other services of graphic animation and gaming includes major project for animation and visual effects for two feature films, 24 ITA No.4740/Del./2018 which won the 59th Filmfare award and the star Guild Award 2014 for Best visual effects for it works in film " Dhoom 3". The company also carried out visual effects for the film "Bhag Milka Bhag". The services under the revenue from graphics animation and gaming are also different from services of software development.
8.4 In view of the activity from which revenue has been earned by the company, the company is functionally different from the assessee at entity level, thus, we direct the Learned AO/TPO to exclude the company from the set of the comparables.
Thirdware Solutions Ltd. :
9. Before the Ld. TPO, the assessee sought to exclude this company on the ground that it derives revenue from various sources such as sale of license, software services, export from SEZ, revenue from subscription etc. The learned TPO, however referred to pages 13 and 80 of the Annual Report to highlight that the company's operation comprises of software development, implementation and support services, which are various segment of the software development services only and required deployment of software engineers and therefore company is comparable to the assessee.
9.1 Before the learned DRP, the assessee claimed that during the year the assessee has earned revenue aggregating to Rs.20,675.74 lakhs from sale of the software products and in absence of segmental result of software development services and sale of the software products, the company cannot be treated as comparable. The learned DRP, held that company is engaged in two business segments namely information technology (IT) and 25 ITA No.4740/Del./2018 information technology enabled services (ITes) and held the company as functionally similar to the assessee. 9.2 Before us, the learned Counsel of the assessee repeated the argument that the company is engaged in sale of products. He supported this claim on three grounds. Firstly, in the profit and loss account revenue has been shown from sale of software products. Secondly, the following information on the website of the company also support sale of the products:
"Thirdware's manufacturing solutions and capabilities include-ERP & Supply Chain.
We have capabilities in multiple industry-leading ERP and SCM solutions to help our clients develop an enterprise system strategy, re-engineer business processes and implement large scale enterprise-wise programs. We also help integrate back-end enterprise systems with business applications such as warehouse management and transportation management systems. Our supply chain expertise covers traditional packages as well as niche ones like sales and operations palnning on the clound and cross-organization supply chain visibility. We have also developed automotive industry specific, solutions designed primarily to increase operational efficiency, reduce cost and mitigate risks."
9.3 Thirdly, he submitted that the fact of the sale of the product is also corroborated from the fact that the employee cost in the case of Thirdware Solutions Ltd. is only 41% of the revenue as against 69% in the case of the assessee. The computation of the ratio of the employee cost to the revenue computed by the assessee is reproduced as under:
Particulars Thirdware Appellant (Pg. 528
Solutions (Pg. of PB2)
528 to PB2)
Employee Cost 8549.31 141,95,69,028
Revenue 20675.74 205,28,98,016
Employee 41.35% 69.14%
cost/revenue
26
ITA No.4740/Del./2018
9.4 The Ld. Counsel submitted that the Coordinate bench of Tribunal in the case of Fisev India P ltd Vs ITO ( ITA No. 1822/Del/2014) has excluded the company on account of non- availability of segmental data. He further submitted that the Tribunal in the case of ION Trading India Private Limited vs ITO (ITA No.1035/Del/2015) has excluded the company on account of functional dissimilarity. Accordingly, submitted that company should be excluded in the case of the assessee also. 9.5 The learned DR on the other hand relied on finding of the lower authorities.
9.6 We have heard rival submission of the parties on the issue in dispute and perused the relevant material on record. As far as the profit and loss of account of company available on pages 528 and 529 of PB-2 ( Page-2 and 3 of profit and loss account part of the Annual Report) , we find that revenue of Rs. 20,675.74 lakhs has been shown from sale of products, but in footnotes to the sub classification and notes on income and expenses (note-300500), available on PB-530, we find that the revenue during the year under consideration consist of export of software services (Rs.20,194.37 Lakhs) , software services from local unit (Rs.414.07 Lakhs) , revenue from subscription and training (Rs. 59.32 lakhs) and sale of licence( Rs. 7.98 Lakhs). Similar composition of the revenue of preceding year has also been given in the footnote. Further, on perusal of part of management discussion and analysis , available on page 13 of Annual Report ( PB-445), we find that under the heading foreign exchange earning an outgoing and technology absorption, adaption and innovation, the activities of the company has been shown as 27 ITA No.4740/Del./2018 export of software services. The relevant part of the management discussion and analysis reproduced as under:
"FOREIGN EXCHANGE EARNING AND OUTGOING:
The Company's earnings are to a significant extent export oriented and the company is constantly reviewing and augmenting its efforts to increase export of software services and applications to existing and new markets and for this purpose has also drawn long-term strategy to strengthen its overseas marketing infrastructure.
The particulars regarding foreign exchange and outgoings are reflected in Notes to Accounts.
TECHNOLOGY ABSORPTION, ADAPTATION AND INNOVATION:
Your Company will focus on latest development in technology in software services in which it is carrying on business. The Company leverages its excellence in technology by adapting it to producing world-class technology solutions. The continual exposure to new and improved technologies has helped maintain high motivation levels in the employees and to generate higher level of productivity, efficiency and quality."
9.7 On page 16 of the Annual Report (PB-448) also the details of material changes occurred during period affecting company's business operation has been reported, which also support that company was engaged in the business of software development and other services reported in footnote to statement of income and expenses. The relevant part of the information on page 16 of the Annual Report is reproduced as under:
"Textual information (8) Details of material changes occurred during period affecting company's business operations
1. Corporate information Thirdware Solution Limited (the Company) is a public company domiciled in India and incorporated under the provisions of the Company At, 1956. The company is engaged in the business of Software Development and Consultancy Services. The company caters to both domestic and international markets."28
ITA No.4740/Del./2018 9.8 All these information available in the Annual Report clearly indicate that majority of the revenue is earned from software services and insignificant part is earned from subscription and training and sale of license. The Ld. Counsel in its submission in the synopsis has submitted that the Learned TPO has not considered the direction of the learned DRP of considering segment data. The Learned Counsel further mentioned that in rectification dated 25/07/2018 has concluded that segmental data of the company is available in public domain and that in terms of the information sought under section 133(6) of the Act the company has explained its revenue as from software development services.
9.9 In view of the information available in the Annual Report and further confirmed from the company under section 133(6) of the Act, we reject the arguments of the Learned Counsel the assessee that the company is engaged in sale of product. In our opinion, clearly the company is functionally similar to the assessee, and we direct the Learned AO/TPO to retain the company as a valid comparable.
Infobeans Technologies Ltd.
10. Before the learned TPO, the assessee sought exclusion of the company on the ground of insufficient data/segmental information and functional dissimilarity. The learned TPO, however, referred to website and Annual Report of the company to highlight that the company is mainly engaged in providing software development services.
10.1 Before the Ld. DRP, the assessee submitted that company is providing wide-ranging services including automation engineering, Service Now, UX and UI and customize software 29 ITA No.4740/Del./2018 services. Further it was submitted that company is doing business in three verticals i.e. Storage and visualization, publishing and SDO and e-commerce and no segmental bifurcations available in respect of the range of services. It was also submitted that this is exceptional year of operation in view of the increasing revenue of 52.0% and increase in profit before tax of 85.66%. The learned DRP however held that automation engineering is in context of providing automated testing services, which is part of software development services. Regarding exceptional year of operation, the learned DRP, held that the assessee has not demonstrated as to how high turnover/profit has affected the margins. Accordingly, the Ld. DRP, retained the company as comparable.
10.2 Before us, the learned Counsel repeated the submission which were made before the Learned DRP. Further, the Learned Counsel relied on the decision of the Pune bench of the Tribunal in the case of PubMatic India (p) ltd Vs ACIT (ITA No 655/Pun/2017), where the company has been excluded on account of functional dissimilarity with the assessee engaged in provision of software development services. 10.3 The Learned DR, on the other hand, relied on the finding of the lower authorities.
10.4 We have heard rival submission and perused relevant material on record. We find that main objection of the assessee for including the company is range of the services undertaken by the company. The range of the services mentioned by the assessee are not available in the Annual Report for the year under consideration and same are available on the website of the company.
30ITA No.4740/Del./2018 10.5 But in our opinion automation engineering, Service now, UX and UI and customize software services are all part of software development or software services. The Automation information technology is focused on service automation and quality assurance testing of automated process. Under the automation the goal is to eliminate defects, errors and problems with products Software Development and with business or customer service processes. Example of automation are automated 'chatbots' to help solve customer issues or to direct customer to the right person. Automation is also used to streamline IT help desk ticketing, service management and to deliver quality products and software faster, with fewer defects. Thus, automation engineering is part of the process of the software development services.
10.6 Further, the term 'service now' has been described on the website of the company as under:
"Service Now provides a framework that describes, organizes and automates the flow of work, and removes unnecessary emails and spreadsheets from the process to streamline the delivery of services. There is no denying the fact that Service Now has myriad benefits for an enterprise besides replacing manual transactions with consumerized and fast speed services".
10.7 In view of the above description, the 'service now' is a tool of automation process, which a software development service activity.
10.8 The term UX design refers to the term "user experience design", while UI stands for "user interface design". The user experience and user interface design are to be kept in mind while designing or developing the software, thus these range of services are part of software development services.
31ITA No.4740/Del./2018 10.9 The three verticals in which company is doing business ,is not making it functionally different. The prime function in all the three verticals remain the software development. 10.10 The assessee has placed reliance on the decision of the Tribunal in the case of Pubmatic Private Limited (supra), where the Tribunal has observed that company has shown foreign exchange from export of goods on FOB basis and thus in absence of segmental data, the company cannot be treated as comparable to a software development service company.
10.11 We find that the decision of the Tribunal is in relation to assessment year 2012-13, whereas the assessment year involved before us is 2014-15 and therefore result of that year being different, the decision relied upon by the assessee is distinguishable. We find that in the year under consideration in the Annexure to Auditors Report (page 76 of PB-2) in para 2 in respect of the inventory it is mentioned as under
"2. The company is Service Company, Primarily engaged in Software Development. Accordingly, it does not hold any physical inventory. Thus, the provisions of clauses 4(ii)(a), 4(iii)(b) and 4(iii)(c), of order is not applicable."
10.12 Thus, it is evident that in the year under consideration, the company is primarily in software development and there is no sale of the product.
10.13 Accordingly, we reject the contention of the assessee, and direct the Ld. AO/TPO to retain the company as valid comparable.
11. In view of our finding on the company's challenged by the assessee for inclusion/exclusion of the comparable, the learned AO/TPO is directed to compute the adjustment to the transaction 32 ITA No.4740/Del./2018 of the software development services. The grounds raised by the assessee in relation to adjustment to software development services are accordingly allowed partly for statistical purposes.
12. In the result, the appeal of the assessee is allowed partly for statistical purposes.
Order pronounced in the open court on 1st May, 2020.
Sd/- Sd/-
(SUDHANSHU SRIVASTAVA) (O.P. KANT)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Dated: 1st May, 2020.
RK/-(D.T.D.S)
Copy forwarded to:
1. Appellant
2. Respondent
3. CIT
4. CIT(A)
5. DR
Asst. Registrar, ITAT, New Delhi