2017 (3) TMI 1704 - AT - Income Tax

TPA - Comparable selection criteria - Held that - The assessee is a captive service provider and has been set up as a captive off shore software development centre for catering to the needs of the Lifesize group. Lifesize India is responsible for the research software development and support services for Lifesize Inc s products and services thus companies functionally dissimilar with that of assessee need to be deselected from final list.

Summary

Issues Involved:
1. Selection of comparables for benchmarking software development services.
2. Selection of comparables for benchmarking market support services.
3. Application of turnover filter and related party transactions (RPT) filter.
4. Working capital adjustment.

Detailed Analysis:

1. Selection of Comparables for Benchmarking Software Development Services:

The assessee, a captive service provider, benchmarked its software development services using the Transactional Net Margin Method (TNMM) and selected four comparables, arriving at an average Net Operating Margin of 13.01%. The TPO rejected three of these comparables and introduced ten new ones, determining an average margin of 22.71%, resulting in an adjustment of ?72,25,614. The DRP upheld the TPO's rejection of the assessee's comparables but retained only one of the TPO's comparables after applying various filters.

The Tribunal directed the exclusion of Kals Information System Ltd (seg) as it was functionally different, engaged in software development and sale of software products, and lacked segmental information for software development services. The Tribunal also directed the inclusion of RS Software (India) Ltd and Thinksoft Global Services Ltd, as their RPT was within the acceptable range of 15%.

2. Selection of Comparables for Benchmarking Market Support Services:

For market support services, the assessee used TNMM and selected four comparables, arriving at an average Return On Asset Employed (ROAE) of 20.79%. The TPO rejected these comparables, introduced four new ones, and determined an arm's length mean margin of 17.21%, resulting in an adjustment of ?72,25,514. The DRP upheld the TPO's rejection but retained two of the TPO's comparables.

The Tribunal directed the exclusion of Cyber Media Research Ltd and Killick Agencies due to functional differences. Cyber Media was engaged in market research and management consultancy, while Killick Agencies acted as an agent for foreign principals and did not meet the export revenue filter applied by the TPO.

3. Application of Turnover Filter and Related Party Transactions (RPT) Filter:

The Tribunal upheld the DRP's exclusion of several comparables based on their significantly higher turnovers compared to the assessee. These included Infosys Ltd, Larsen & Toubro Infotech Ltd, Mindtree Ltd (seg), Persistent Systems Ltd, Sasken Communication Technologies, and Tata Elxsi Ltd (seg). The Tribunal emphasized that the size, functions performed, and business cycle stages of these companies were not comparable to the assessee, a low-risk captive service provider.

The Tribunal also addressed the RPT filter, directing the inclusion of RS Software (India) Ltd and Thinksoft Global Services Ltd, as their RPT was 0.96% and 11.09%, respectively, within the acceptable range of 15%.

4. Working Capital Adjustment:

The Tribunal directed the TPO to allow actual adjustments towards differences in working capital positions between the assessee and the comparables, following the precedent set in Moong Controls India P Ltd.

Conclusion:

The Tribunal allowed the assessee's appeal, directing the exclusion of certain functionally dissimilar comparables and the inclusion of others within acceptable RPT ranges. It also upheld the DRP's application of the turnover filter and directed the TPO to allow working capital adjustments. The Revenue's appeal was dismissed.