2016 (6) TMI 1258 - AT - Income Tax

TPA - comparables selection - Held that - The assessee is into transactions pertaining to software development services, thus companies functionally dissimilar with that of assessee need to be deselected from final list.

Summary

Issues Involved:
1. Selection of comparables for determining Arm's Length Price (ALP).
2. Rate of depreciation applicable to computer and computer software.
3. Capacity utilization adjustment.

Detailed Analysis:

1. Selection of Comparables for Determining ALP:
Background:
The assessee company, incorporated on 10.07.1990, engaged in software development services, had international transactions with its Associated Enterprises (AEs). The Transfer Pricing Officer (TPO) and the assessee disagreed on the selection of comparables to determine the ALP.

Assessee's Approach:
The assessee identified 19 comparables with an average profit margin of 11.48% on cost, asserting that its operating margin of 15% was at arm's length. The TPO, however, selected 26 comparables, including only 4 from the assessee's list.

Dispute on Comparables:
The main dispute centered on the inclusion/exclusion of certain companies as comparables. The assessee sought the exclusion of:
- Accel Transmatic Ltd.
- Celestial Labs Ltd.
- Helios & Matheson Information Technology Ltd.
- Infosys Technologies Ltd.
- KALS Information Systems Ltd.
- Persistent Systems Ltd.
- Tata Elxsi Ltd.
- Wipro Ltd.

Tribunal's Analysis:
- Accel Transmatic Ltd.: The Tribunal restored the matter to the TPO to verify the assessee's claim that the company derived more than 45% of its total operating revenue from hardware products/services.
- Celestial Labs Ltd.: Excluded from the list of comparables as it was engaged in developing software tools with its intellectual property, unlike the assessee who provided software development services on a contract basis.
- Helios & Matheson Information Technology Ltd.: Excluded as it was engaged in various ITES BPO services and software sales, unlike the assessee.
- Infosys Technologies Ltd.: Excluded due to its giant scale, risk profile, and ownership of branded/proprietary products, making it incomparable to the assessee.
- KALS Information Systems Ltd.: Excluded as it was engaged in software development, training, and product sales, unlike the assessee.
- Persistent Systems Ltd.: Excluded due to the merger of another company into it, affecting its financial comparability.
- Tata Elxsi Ltd.: Excluded as it was involved in R&D activities and developing hardware/software for embedded products, unlike the assessee.
- Wipro Ltd.: Excluded due to its giant scale and different risk profile, similar to Infosys Technologies Ltd.

Other Comparables:
- Avani Cimcon Technologies Ltd.: Included as it was a pure software development service provider.
- E-Zest Solutions Ltd.: Not pressed for exclusion by the assessee.
- Ishir Infotech Ltd.: Included as it met the employee cost filter and was functionally comparable.

2. Rate of Depreciation Applicable to Computer and Computer Software:
Background:
The assessee claimed depreciation at 60% for mini power backup (UPS), treated by the Assessing Officer (AO) as plant and machinery, allowing only 15% depreciation.

Tribunal's Decision:
The Tribunal directed to allow depreciation at 60%, following the decision of the Delhi High Court in CIT Vs. Orient Ceramics & Industries Ltd., which held that UPS forms part of computer peripherals and accessories.

3. Capacity Utilization Adjustment:
Background:
The assessee claimed that capacity utilization adjustment was not allowed, impacting the comparability analysis.

Tribunal's Decision:
The Tribunal restored the matter to the CIT(A) to provide an opportunity for the assessee to present its case regarding capacity utilization adjustment and ensure comparables are on a level playing field with the assessee.

Conclusion:
The Tribunal partly allowed the appeals, directing the TPO/AO to re-evaluate the ALP determination and consider the specific adjustments and exclusions as discussed. The Tribunal also directed to allow the higher depreciation rate for UPS and to address the capacity utilization adjustment claim.