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TMI Blog2015 (10) TMI 2645X X X X Extracts X X X X X X X X Extracts X X X X ..... sidering the claim of deduction u/s.10A of the Act, independently without setting off brought forward losses and unabsorbed depreciation of non-eligible unit. As per the Ld. AR the corporate tax grounds were covered by the judgments of Hon'ble jurisdictional High Court in the case of CIT v. Tata Elxsi Ltd [349 ITR 98] and CIT (LTU) v. Yokogawa India Ltd [341 ITR 385]. 03. In accordance with the submissions of the Ld. AR we are confining ourselves to grounds of transfer pricing which are related to risk adjustment and comparables selected by the TPO. Profile of the assessee, as it appears in the order of TPO, dt.28.10.2010, reads as under : "2. Taxpayer's profile M/s Mentor LVS India Pvt Ltd (MLIPL) herein aftercal led the company was incorporated in 1085 The company is a wholly owned subsidiary of M/s. Mentor LVS Australia Pty Ltd. The ultimate holding company is M/s. Arvin Mentor INC USA. The ultimate holding company M/s, Arvin Mentor Inc USA is engaged in the manufacture of auto motive components and systems. The said company is consistently ranked as a leading manufacturer of auto motive exhaust systems. M/s MLIPL is in the business of computer radiated designing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .90% 18 Persistent Systems Ltd 293.75 24.52% 19 Quintegra Solutions Ltd 62.72 12.56% 20 R S Software (India) Ltd 101.04 13.47% 21 R Systems International Ltd (seg) 112.01 15.07% 22 Sasken Communication Technologies Ltd (seg) 343.57 22.17% 23 SIP Technologies & Exports Ltd 3.80 13.90% 24 Tata Elxsi Ltd (seg) 262.58 26.51% 25 Thirdware Solutions Ltd 36.08 25.12% 26 Wipro Ltd (seg) 9616.09 33.65% Average PLI 25.14% 07. Though the assessee argued for a risk adjustment this was not accepted by the TPO. Nevertheless he made a negative working capital adjustment of -2.77% on the average PLI of 25.14 % of the comparables and arrived at an adjusted mean margin of 22.87 %. He thereafter worked out the short-fall on account of deficit in the international transactions relating to the software development services segment as under : Adjusted mean margin of the comparables 22.87 Operating Cost 216505758 Arms Length Margin 22.87 % of Operating Cost Arms Length Price (ALP) 122.87 % of Operating Cost 266020625 Price Received 237833871 Short fall being adjustment u/s.92CA 28186754 08. When a proposal on the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt field from that of the assessee and hence the decision of the Tribunal in the case of the said company could not be considered as a precedent. In so far as the risk adjustment was concerned, Ld. DR submitted that TPO had made a detailed analysis of the risk adjustment sought by the assessee and came to a conclusion that the market risk to which the assessee was exposed and the market risk to which the selected companies were exposed were more or less in the same bracket. According to him the risk element stood adjusted in the profits of the comparables. 12. We have perused the orders and heard the rival contentions. Assessee is seeking exclusion of 16 comparables out of 26 companies selected by the TPO. For this it has placed reliance on the decision of coordinate bench in the case of Hewlett- Packard (India) Globalsoft P. Ltd, (supra). We find that issues before this Tribunal in the case of Hewlett- Packard (India) Globalsoft P. Ltd, (supra) was also with regard to software development services segment, that too for the very same assessment year. Services rendered by both the assessee as well as HPIGPL fell within the software development services segment, and therefore in our ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... otected the IPR by filing the patent. The patent details have been discussed with Patent officials and the response is very favorable. The cloning and purification under wet lab procedures are under progress with our collaborative Institute, Department of Microbiology, Osmania University, Hyderabad. In the industrial biotechnology area, the company has signed the Technology transfer agreement with IMTECH CHANDIGARH (a very reputed CSIR organization) to manufacture and market initially two Enzymes, Alpha Amylase and Alkaline Protease in India and overseas. The company is planning to set up a biotechnology facility to manufacture industrial enzymes. This facility would also include the research laboratories for carrying out further R & D activities to develop new candidates' drug molecules and license them to Interested Pharma and Bio Companies across the GLOBE. The proposed Facility will be set up in Genome Valley at Hyderabad in Andhra Pradesh.' According to the learned D.R. celestial labs is also in the field of research in pharmaceutical products and should be considered as comparable. As rightly submitted by the learned counsel for the Assessee, the discovery is in relation to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... develops biotechnology products and provides related software development services. The TPO called for segmental data at the entity level from this company. The TPO also called for description of software development process. In response to the request of the TPO this company in its reply dated 29.3.2010 has given details of employees working in software development but it is not clear as to whether any segmental data was given or not. Besides the above there is no other detail in the TPO's order as to the nature of software development services performed by the Assessee. Celestial labs had come out with a public issue of shares and in that connection issued Draft Red Herring Prospectus (DRHP) in which the business of this company was explained as to clinical research. The TPO wanted to know as to whether the primary business of this company is software development services as indicated in the annual report for FY 06-07 or clinical research and manufacture of bio products and other products as stated in the DRHP. There is no reference to any reply by Celestial labs to the above clarification of the TPO. The TPO without any basis has however concluded that the business mentioned in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ices ought not to be considered as comparable to software development companies and relied on the decision of the co-ordinate bench in the case of Capital IQ Information Systems (India) (P) Ltd. in ITA No.1961(Hyd)/2011 dt.23.11.2012 and prayed that in view of the above reasons, this company i.e. e-Zest Solutions Ltd., ought to be omitted from the list of comparables. 14.3 Per contra, the learned Departmental Representative supported the inclusion of this company in the list of comparables by the TPO. 14.4 We have heard the rival submissions and perused and carefullyconsidered the material on record. It is seen from the record that the TPO has included this company in the list of comparbales only on the basis of the statement made by the company in its reply to the notice under section 133(6) of the Act. It appears that the TPO has not examined the services rendered by the company to give a finding whether the services performed by this company are similar to the software development services performed by the assessee. From the details on record, we find that while the assessee is into software development services, this company i.e. e-Zest Solutions Ltd., is rendering product ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e contentions of the assessee, the learned Departmental Representative submitted that comparability cannot be decided merely on the basis of scale of operations and the operating margins of this company have not been extraordinary. In view of this, the learned Departmental Representative supported the decision of the TPO to include this company in the list of comparable companies. 12.4 We have heard the rival submissions and perused and carefully considered the material on record. We find that the assessee has brought on record sufficient evidence to establish that this company is functionally dis-similar and different from the assessee and hence is not comparable and the finding rendered in the case of Trilogy E-Business Software India Pvt. Ltd. (supra) for Assessment Year 2007-08 is applicable to this year also. The argument put forth by assessee's is that Infosys Technologies Ltd is not functionally comparable since it owns significant intangible and has huge revenues from software products. It is also seen that the break up of revenue from software services and software products is not available. In this view of the matter, we hold that this company ought to be omitted fr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted 21.6.2010 to the TPO. We also find that in the decision referred to by the learned counsel for the Assessee, the Mumbai Bench of ITAT has held that this company was developing software products and not purely or mainly software development service provider. We therefore accept the plea of the Assessee that this company is not comparable." 5) & 6) M/S.Ishir Infotech Ltd. And Lucid Software Ltd : "20. As far as comparable companies listed at Sl.No.11 & 14 of the final list of comparable companies chosen by the TPO viz., M/S.Ishir Infotech Ltd. And Lucid Software Ltd., is concerned, this Tribunal in the case of First Advantage Offshore Services Pvt.Ltd. Vs. DCIT IT (TP) No.1086/Bang/2011 for AY 07-08 held that the aforesaid companies are not comparable companies in the case of software development services provider. The nature of services rendered by the Assessee in this appeal and the Assessee in the case of First Advantage Offshore Services Pvt.Ltd.(supra) are one and the same. This fact would be clear from the fact that the very same 26 companies were chosen as comparable in the case of the Assessee as well as in the case of First Advantage Offshore Services Pvt.Ltd.(supra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt intangibles in the nature of customer related intangibles and technology related intangibles and quoted extracts from the Annual Report of this company in the submissions made. (ii) The TPO had adopted the consolidated financial statements for comparability purposes and for computing the margins, which contradicts the TPO's own filter of rejecting companies with consolidated financial statements. 13.3. Per contra, the learned Departmental Representative supported the action of the TPO in including this company in the set of comparables. 13.4.1 We have heard both parties and carefully perused and considered the material on record. We find merit in the contentions of the assessee for exclusion of this company from the set of comparables. It is seen that this company is engaged both in software development and product development services. There is no information on the segmental bifurcation of revenue from sale of product and software services. The TPO appears to have adopted this company as a comparable without demonstrating how the company satisfies the software development sales 75% of the total revenue filter adopted by him. Another major flaw in the comparability analys ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ctivities of Accel Transmatic Ltd. DRP agreed with the assessee that the company was functionally different from the assessee company as it was engaged in the services in the form of ACCEL IT and ACCEL animation services for 2D and 3D animation and therefore assessee's claim that this company was functionally different was accepted. DRP therefore directed the Assessing Officer to exclude ACCEL Transmatic Ltd. from the final list of comparables for the purpose of determining TNMM margin." 49. Besides the above, it was pointed out that this company has related party transactions which is more than the permitted level and therefore should not be taken for comparability purposes. The submission of the ld. counsel for the assessee was that if the above company should not be considered as comparable. The ld. DR, on the other hand, relied on the order of the TPO. 50. We have considered the submissions and are of the view that the plea of the assessee that the aforesaid company should not be treated as comparables was considered by the Tribunal in Capgemini India Ltd (supra) where the assessee was software developer. The Tribunal, in the said decision referred to by the ld. counsel for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ating Profit 5343950 12227877 5983623 (3069098) Operating Margin 32.55% 52.59% 25.62% - 9.87% which represents abnormal circumstances and profits. The following figures were placed before us:- 40. It was submitted that this company has made unusually high profit during the financial year 06-07. The operating revenues increased 63.03% which indicates that it was an extraordinary year for this company. Even the growth of software industry for the previous year as per NASSCOM was 32%. The growth rate of this company was double the industry average. In view of the above, it was argued that this company ought to have been rejected as a comparable. 41. We have given a careful consideration to the submissions made on behalf of the Assessee and are of the view that the same deserves to be accepted. The reasons given by the Assessee for excluding this company as comparable are found to be acceptable. The decision of ITAT (Mumbai) in the case of Telcordia Technologies Pvt. Ltd. v. ACIT (supra) also supports the plea of the assessee. We therefore accept the plea of the Assessee to reject this company as a comparable." 10) Flextronics Software Systems Ltd (seg) : ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the following figures : But how this segmentation was done by the TPO and the reconciliation of the said segmentation with the annual report of the assessee was never attempted or done. In such a situation we are of the opinion that Flextronics Software Solutions Ltd (seg) could not be considered as a proper comparable. We direct exclusion thereof." 11) Helios & Matheson Information Technology Ltd : "16. The next point made out by the assessee is with regard to the inclusion of items at (9) and (11) namely Helios & Matheson Information Technology Ltd., and KALS Information Solutions Ltd. (Seg). The primary plea raised by the assessee to assail the inclusion of the aforesaid two companies from the list of comparables is to be effect that they are functionally incomparable and therefore, are liable to be excluded. In sum and substance, the plea set up by the assessee is that both the aforesaid concerns are engaged in development and sale of software products which is functionally different from the services undertaken by the assessee in its ITservices segment. 17. As per the discussion in para 6.3.2. of the order of the TPO, the reason advanced for including KALS Informa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he Ld. Counsel pointed out that the aforesaid position has been accepted by the TPO in the earlier A.Y. 2006-07 and therefore, there was no justification for the TPO to consider the said concern as functionally comparable in the instant assessment year. 19. In our considered opinion, the point raised by the assessee is potent in as much as it is quite evident that the said concern has not been found to be functionally comparable with the assessee in the immediately preceding assessment year and in the present year also, on the basis of the Annual Report, referred to in the written submissions addressed to the lower authorities, the assessee has correctly asserted out that the said concern was inter alia engaged in sale of software products, which was quite distinct from the activity undertaken by the assessee in the IT Services segment. At the time of hearing, neither is there any argument put forth by the Revenue and nor is there any discussion emerging from the orders of the lower authorities as to in what manner the functional profile of the said concern has undergone a change from that in the immediately preceding year. Therefore, having regard to the factual aspects brought ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t purely a software development service provider as is the assessee in the case on hand. (ii) Page 60 of the Annual Report of the company for F.Y. 2007-08 indicates that this company, is predominantly engaged in 'Outsourced Software Product Development Services' for independent software vendors and enterprises. (iii) Website extracts indicate that this company is in the business of product design services. (iv) The ITAT, Mumbai Bench in the case of Telecordia Technologies India Pvt. Ltd.(supra) while discussing the comparability of another company, namely Lucid Software Ltd. had rendered a finding that in the absence of segmental information, a company be taken into account for comparability analysis. This principle is squarely applicable to the company presently under consideration, which is into product development and product design services and for which the segmental data is not available. The learned Authorised Representative prays that in view of the above, this company i.e. Persistent Systems Ltd. be omitted from the list of comparables. 17.2 Per contra, the learned Departmental Representative support the action of the TPO in including this company in the list of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... page 15). 110. Ld. DR relied on the order of TPO and submitted that TPO considered the companies software services segment details only. We have considered the rival submissions and have perused the record of the case. 111. Ld. TPO has completely ignored the extraordinary business circumstances pointed out by assessee for which necessary adjustment was required to be made in accordance with Rule 10B(3) of Income Tax Rules. However, since this adjustment was not possible, therefore, this company should not have been included in the list of comparables. Further, we find that the company owns IPR and has branded products which also distinguishes it from the assessee and, therefore, keeping in view the decision of Hon'ble Delhi High Court in the case of Agnity India Technologies Pvt. Ltd.(supra), we direct the ld. TPO to exclude this comparable from the list of comparables. If we follow the coordinate bench decision in the case of Motorala Solution (India) P. Ltd, Sasken Communication Technologies Ltd needs to be excluded. However, as mentioned by us at para 24 above, where the contested comparable formed part of assessee's own study, then the AO / TPO has to be given a chance f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of product developed and services provided by this company are different from the assessee as have been narrated in para 6.6 above. Even the segmental details for revenue sales have not been provided by the TPO so as to consider it as a comparable party for comparing the profit ratio from product and services. Thus, on these facts, we are unable to treat this company as fit for comparability analysis for determining the arm's length price for the assessee, hence, should be excluded from the list of comparable portion." As can be seen from the extracts of the Annual Report of this company produced before us, the facts pertaining to Tata Elxsi have not changed from Assessment Year 2007-08 to Assessment Year 2008-09. We, therefore, hold that this company is not to be considered for inclusion in the set of comparables in the case on hand. It is ordered accordingly." 15) Thirdware Solutions Ltd. (Segment) : "15.1 This company was proposed for inclusion in the list of comparables by the TPO. Before the TPO, the assessee objected to the inclusion of this company in the list of comparables on the ground that its turnover was in excess of Rs. 500 Crores. Before us, the assessee has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... omparable by the TPO. The objection of the assessee is that there are two segments in this company viz., (i) software development segment, and (ii) software product segment. The Assessee is a pure software services provider and not a software product developer. According to the Assessee there is no break up of revenue between software products and software services business on a standalone basis of this comparable. The TPO relied on information which was given by this company in which this company had explained that it has two divisions viz., BLUEALLY DIVISION and XIUS-BCGI DIVISION. Xius-BCGI Division does the business of product software. This company develops packaged products for the wireless and convergent telecom industry. These products are sold as packaged products to customers. While implementing these standardized products, customers may request the company to customize products or reconfigure products to fit into their business environment. Thereupon the company takes up the job of customizing the packaged software. The company also explained that 30 to 40% of the product software would constitute packaged product and around 50% to 60% would constitute customized capabil ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... placed, had adopted the margins of only the software service segment for comparability purposes. Consistent with such stand, it was submitted that the margins of the software segment only should be adopted in the case of Megasoft also, in contrast to the entity level margins. 28. Computation of the net margin for Mega Soft Ltd. Is therefore remitted to the file of the TPO to compute the correct margin by following the direction of the Tribunal in the case of Trilogy EBusiness Software India Pvt.Ltd." 23. Respectfully following the decision of the Tribunal referred to above, we direct the AO/TPO to compute the correct margin of Mega Soft Ltd., as directed by the Tribunal in the case of First Advantage Offshore Services Pvt.Ltd. (supra). Accordingly we hold that Megasoft Ltd can be considered as a good comparable after segmentation as directed in the above order is done. 14. Accordingly, following the above order we direct exclusion of Celestial Labs Ltd, E-Zest Solutions Ltd, Infosys Technologies Ltd, Kals Information Systems Ltde (seg), Lucid Software Ltd, Wipro Ltd (seg), Accel Transmatic Ltd (seg), Avani Cimcon Technologies Ltd, Flextronics Software Systems Ltd (seg), Helios ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... segments of export market may not yield results for a software development company and thereby there may be a loss on this marketing effort which may bring down the overall profitability rather than increase the profitability. Thus if undertaking the market risk etc. helps in earning any extra margin, the benefit is more than set off by the corresponding expenditure. The same applies to credit risk undertaken. * There are many studies conducted on the risk reduction strategies followed by MNCs by shifting their production facilities to other countries based mainly on cost factors. By outsourcing to India, the overall cost of production of goods or services by the AE gets reduced which in turn increases the competitiveness of the AE in the market. Thus the taxpayer is not compensated for the reduction of risk attributable to the operations carried on by the taxpayer in India. * The risk profile of the comparables selected by the taxpayer, acceptable to the taxpayer and those selected by the TPO but not acceptable to the taxpayer is similar. * It is incorrect to say that higher the risk, the higher is the margin though it is true that higher risk expects a higher margin. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... urnover, we are unable to appreciate in view of the definition of 'export turnover' given in Explanation 2 (iv) to Section 10A does not warrant such an interpretation. However in respect of parity between the export turnover and total turnover, in view of the decision of the Hon'ble jurisdictional High Court in the case of CIT v. Tata Elxsi Ltd [349 ITR 98], assessee has to succeed. We direct the AO / TPO to exclude what has been excluded from the export turnover from the total turnover also while computing deduction u/s.10A of the Act. Grounds 6 and 7 are treated as partly allowed for statistical purpose. 19. In so far as ground 8 is concerned, Ld. AR submitted that in view of the decision of Hon'ble jurisdictional High Court in the case of CIT (LTU) v. Yokogawa India Ltd [(2013) 341 ITR 0385], unabsorbed loss of profitable units could not be set off with the profits of non-eligible units. We are of the opinion that in view of the judgment of Hon'ble jurisdictional High Court in the case of CIT (LTU) v. Yokogawa India Ltd (supra) supports the view canvassed by the Ld. AR. We therefore direct that assessee be given deduction u/s.10A of the Act without setting off brought forward l ..... X X X X Extracts X X X X X X X X Extracts X X X X
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