2019 (8) TMI 1888 - AT - Income Tax

TP Adjustment - CIT(A) accepting segmental profitability statement of the assessee - DR pointed out that the segmental profitability statement is not a part of the audited financial statement therefore it must be rejected - HELD THAT - It is pertinent to note that the dispute arising from this segment reporting issue has already been adjudicated by the Coordinate Bench of ITAT in assessee s own case 2019 (4) TMI 2103 - ITAT KOLKATA noted that it is an undisputed fact that the assessee company belongs to the category of Small and Medium Sized Companies . As a consequence the Accounting Standard(AS)-17 is not mandatory for the assessee company. That is why the assessee company has not disclosed segment reporting in the audited financial statements for the relevant financial year. However it is pertinent to note that the assessee company submitted segment reporting to the Ld TPO solely for the purpose of application of the TNMM.. Coordinate Bench Delhi Tribunal in the matter of GSR Technology (India) (P.) Ltd 2017 (12) TMI 809 - ITAT DELHI held that even if such segmental results were not shown in the audited financial accounts they had to be accepted. There was no legal requirement that the segment wise working submitted before the TPO should have been audited by the Assessee s Chartered Accountant. See Infotec Ltd. 2013 (5) TMI 834 - ITAT CHENNAI We note that in the instant case the assessee provided software development services to the AE generating revenue which constituted 99.24% of total AEsales. The assessee rendered a large variety of services to non-AEs such as drawing consultancy services (generating revenue which constituted 94.30% of the total non-AE sales) annual maintenance of website annual maintenance contract for hardware video editing and hiring of camera equipment CD sales digital media sales charges for gift online etc. among other services. Since the services rendered by the assessee to the AE are different from the services rendered by the assessee to non-AEs the assessee determined the arm s length nature of the international transaction under the TNMM based on segmental accounts duly certified and verified by the independent statutory auditor of the assessee dated 11th August 2010 (date of signature of annual financial statements). In the aforesaid segmental accounts one segment is Sales to AE and associated expenses and the other segment is Sales to Non-AEs and associated expenses . TPO rejected the segmental accounts and the arm s length analysis undertaken by the assessee based on the segmental accounts under the transaction-by-transaction approach primarily based on the allegation that the segmental accounts had not formed part of audit report and hence the same was not reliable - We note that that the Coordinate Benches of ITAT as explained above have accepted segmental accounts for the purpose of arm s length analysis of international transactions under the TNMM where the functions performed by the assessee under the AE-segment are different from the functions performed by the assessee under the non-AE segment though the segmental accounts do not form part of the audit report. Having regard to the nature of functions performed by the assessee under the AE segment and the non-AE segment respectively and the relevant decisions of the Coordinate Benches of ITAT in this regard (as mentioned hereinabove) we are inclined to accept the segmental accounts used by the assessee for determination of the arm s length price of the international transaction under consideration under the TNMM on transaction-by- transaction basis. That being so we decline to interfere with the order of Id. C.I T.(A) in accepting the segment report and hence the ground of appeal of the Revenue is dismissed. Rejection of comparables - Intec Software Pvt Ltd was not functionally comparable to the assessee company in the instant case. Cherrytec Intelisolve Ltd Cigniti Technologies Ltd and Secure Earth Technologies Ltd. - TPO cannot suo moto apply the filter companies who have less than 75% of the revenue as export sales were excluded in order to exclude Cherrytec Intelisolve Ltd Cigniti Technologies Ltd and Secure Earth Technologies Ltd. In this connection it is pertinent to note that the TPO has not disputed; otherwise functional or FAR (function-asset-risk) comparability between the assessee company and Cherrytec Intelisolve Ltd Cigniti Technologies Ltd and Secure Earth Technologies Ltd. That being so we decline to interfere in the order passed by the ld CIT(A) his order on this issue is hereby upheld and ground No.4 raised by the Revenue is dismissed. Kireeti Soft Technologies Ltd - We note that in the assessee s case under consideration the employee cost to sales ratio of Kireeti Soft Technologies Ltd is 24.31% whereas the TPO set the threshold at 25% and rejected the aforesaid company. The TPO has not disputed otherwise functional or FAR (function-asset-risk) comparability between the assessee company and Kireeti Soft Technologies Ltd. We reject the contention of the TPO and accept Kireeti Soft Technologies Ltd as comparable to the assessee company. That being so we decline to interfere in the order of ld CIT(A) and dismiss the ground No. 5 raised by Revenue. Akshay Software Technologies Ltd. be accepted as functionally comparable to the assessee as it is clearly evident from the annual report of the comparable company itself that it is engaged in rendering software development activity only. Avani Cimcon Technologies Ltd. - As total revenue of the said company stands at INR 3.05 crore out of which the operational revenue stands at INR 2.83 crore. The cost incurred by the company stands at INR 2.73 crore leading to profit before tax amounting to INR 0.33 crore. Thus the allegation made by the Revenue that the company has insignificant cost base has no leg to stand. It is also not true that in the case of the aforesaid company with a small variation in profit the impact in the profit margin will be very significant. We therefore accept Avani Cincom Technologies Ltd as comparable and for that we rely on the judgment of the Coordinate Bench of ITAT Hyderabad in the matter of CNO IT Services (India) (P.) Ltd. 2018 (1) TMI 1151 - ITAT HYDERABAD CAT Technologies Ltd is to be selected as comparable . Selecting cash profit over sales - We accept the cash profit margin ratio as an appropriate profit level indicator(PLI) under the TNMM which places the tested party and comparable companies on equal footing. In the aforesaid decisions nowhere it is stated that cash profit margin is an appropriate net profit indicator only for a company which operates in capital intensive industry. The cash profit margin ratio is also applicable to other companies as profit level indicator (PLI) and it is not only restricted to capital intensive industries; that is it is equally applicable to other industries also. We accept cash profit margin ratio as appropriate profit level indicator (PLI) in the assessee s case under consideration. That being so we decline to interfere in the order of ld CIT(A) and dismiss the ground raised by Revenue.

Summary

Issues Involved:
1. Acceptance of the segmental profitability statement by the CIT(A).
2. Rejection of comparables selected by the TPO.
3. Acceptance of certain comparables by the CIT(A) despite failing specific filters applied by the TPO.
4. Acceptance of comparables despite functional dissimilarities.
5. Acceptance of cash profit over sales as a profit level indicator (PLI).

Detailed Analysis:

1. Acceptance of the Segmental Profitability Statement:
The Revenue challenged the segmental profitability statement of the assessee, arguing it was not part of the audited financial statement, lacked supporting working notes, and had improper cost allocation keys. The Tribunal noted that the segmental report was duly verified and certified by the statutory auditor and was submitted during the TPO proceedings. The Tribunal referenced prior decisions, affirming that segmental results need not be audited and can be accepted if maintained in the ordinary course of business. The Tribunal upheld the CIT(A)'s acceptance of the segmental report, dismissing the Revenue's contention.

2. Rejection of Comparables Selected by the TPO:
The Tribunal examined the CIT(A)'s rejection of five comparables selected by the TPO:
- Spry Resources India Ltd: Rejected as it was engaged in software consultancy services, not comparable to the assessee's software services.
- E-Infochips Bangalore Ltd: Rejected due to engagement in both software development and IT-enabled services without segmental income break-up.
- Infinite Data Systems Pvt Ltd (Merged): Rejected as it derived revenue primarily from technical support and infrastructure management services.
- Thirdware Solutions Ltd: Rejected due to engagement in software product development and consulting, unlike the assessee's software services.
- Intech Software Pvt Ltd: Rejected as it was involved in production and sale of software, not comparable to the assessee's software services.

3. Acceptance of Certain Comparables Despite Failing Specific Filters:
The Tribunal upheld the CIT(A)'s acceptance of Cherrytec Intelisolve Ltd, Cigniti Technologies Ltd, and Secure Earth Technologies Ltd, despite failing the TPO's forex filter. The Tribunal noted that these companies had an export turnover to total turnover ratio above 50%, and the TPO's filter was arbitrary. The Tribunal emphasized consistency in the Revenue's approach, referencing prior acceptance of similar filters.

4. Acceptance of Comparables Despite Functional Dissimilarities:
- Kireeti Soft Technologies Ltd: The Tribunal upheld the CIT(A)'s acceptance despite failing the employee cost filter, noting the minuscule difference and functional comparability.
- Akshay Software Technologies Ltd: Accepted as comparable, with the Tribunal referencing prior acceptance for a similar assessment year and noting the company's predominant revenue from software services.
- Avani Cimcon Technologies Ltd: Accepted despite the Revenue's claim of an insignificant cost base, with the Tribunal finding sufficient cost and revenue details to support comparability.
- CAT Technologies Ltd: Accepted despite the lack of related party transaction details, with the Tribunal emphasizing consistency in the Revenue's approach and functional comparability.

5. Acceptance of Cash Profit Over Sales as a Profit Level Indicator (PLI):
The Tribunal upheld the CIT(A)'s acceptance of cash profit over sales as a PLI, noting prior acceptance for a similar assessment year and referencing judicial precedents supporting the use of cash profit margin in transfer pricing analysis. The Tribunal dismissed the Revenue's contention that cash profit margin is only applicable to capital-intensive industries.

Conclusion:
The Tribunal dismissed the Revenue's appeal, upholding the CIT(A)'s decisions on all grounds, including the acceptance of the segmental profitability statement, rejection and acceptance of specific comparables, and the use of cash profit over sales as a PLI.