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TMI Blog2017 (5) TMI 1093X X X X Extracts X X X X X X X X Extracts X X X X ..... ing Officer/TPO. Excluding foreign exchange loss on cancellation of forward contracts while working out operating margin of the assessee - whether forex loss suffered by the assessee on account of cancellation of its forward forex contracts could be considered as operative or non operative in nature? - Held that:- There is a clear observation that entering into forward contract for covering the risks of exchange rate fall, was a normal business transaction. Of course there indeed is an observation that extraordinary fluctuations could warrant an adjustment if it could be demonstrated that such a phenomena was absent for comparable cases. Nothing of this sort was demonstrated by the assessee here. In such circumstances we are of the opinion that ld. DRP fell in error in directing the ld. TPO to exclude foreign exchange loss/gain, considering it to be non operating in nature, while computing operating margin of the assessee as well as that of comparables. Directions given by the ld. DRP in this regard are set aside. - I.T.A.No.985/Mds/2014, I.T.A. No. 1400/Mds/2014, And C.O. No.79/Mds/2014 - - - Dated:- 5-4-2017 - SHRI N.R.S. GANESAN, JUDICIAL MEMBER, AND SHRI ABRAHAM P. GEORGE ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and reimbursement of expenses, assessee had adopted TNM method as the most appropriate one. Assessee had selected a set of four comparables, and their average operating profit to operating cost margin or Profit Level Indicator (PLI) came to 13.5%. Assessee worked out its own operating profit to operating margin at 37.5%. This PLI of 37.5% was arrived, after excluding certain expenditure claimed by the assessee as extraordinary and after making adjustment for idle capacity. Claim of the assessee was that it had an idle time cost F21,42,52,588/- for its Chennai center. Assessee also claimed deduction of extra ordinary costs in the nature of exchange loss of F2,66,47,200/- from forward cover contracts while calculating its PLI. Former claim of the assessee was on a premise that it could only utilize 7,76,120 man hours out of total billable man hours of 11,67,011 which translated to a capacity utilization of 66.50 percent. 7. The ld. TPO however did not accept the claim for idle time adjustment or exclusion of foreign exchange loss while working out the operating profit. Observation of the ld. TPO with regard to the claim for idle time adjustment were as under:- Service indust ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2,80,54,016/- Assessee had banked its claim based on a reasoning that forward contracts were cancelled, when expected orders did not materialize. According to it, loss arising therefrom was operational in nature. Ld. TPO after verifying the submissions of the assessee took a view that assessee had eleven contracts of which eight were entered on 28.12.2007 and balance three on 09.01.2009. As per ld. TPO contract commitments were honoured by the assessee to the extent of 2/3rd even in those contracts where there were forward exchange loss. Further, as per ld. TPO assessee s earning from Associated Enterprises came to 88% of its total earning and its receivables from Associated Enterprise had gone up from F9,44,78,840/- to F33,92,88,509/-. Again as per ld. TPO, when forward contracts were cancelled due to non realization of the receivables from the Associated Enterprise, loss arising therefrom was operational in nature. Though the assessee stated that increase in receivables was due to sales of F22.76 crores recorded in the month of March, 2009, ld. TPO was of the opinion that such claim was not capable of verification. Thus, claim of the assessee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ₹ 124,84,19,512/- ALP Sales = 124,84,19,512 Less : Sales reported = 102,43,36,314 Difference = 22,40,83,168/- 10. When the ld. Assessing Officer made a proposal on the lines recommended by the ld. TPO, assessee chose to move ld. DRP. Before ld. DRP assessee pressed for idle capacity adjustment for working out its operating cost and exclusion of forex loss as non operating in nature while computing its operating margin. Assessee also sought exclusion of TCE Consulting Engineers Ltd from the five comparables selected by the ld. TPO. The ld. DRP in its direction dated 20.12.2013 held that idle time capacity adjustment sought by the assessee could not be allowed and was rightly denied by the ld. TPO. As per ld. DRP service industry players recruited/ hired employees only based on needs and fired them when they were not required. According to ld. DRP a presumption could not be taken that comparables selected by the assessee worked at 100% of the capacity and assessee alone worked at 65% of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unutilized capacity in this business. But such details are not, available. This Panel also finds that capacity utilization concept is vague and entity specific. As discussed above in the Cost Plus Method all the costs are taken in to consideration while deciding the contract amount and hence there is nothing as underutilization of capacity, whereas as per Assessee's admission capacity utilization concept comes into vogue in hourly basis' of charge. Therefore, in absence of reasonably accurate details of capacity utilization this Panel upholds the decision of the TPO . 11. However, ld. DRP was one with the assessee viz-a-viz its claim for exclusion of foreign exchange loss as non-operating, while working out the PLI of the assessee as well the comparables. 12. Viz-a-viz assessee s pleading for exclusion of M/s. TCE Consulting Engineers Ltd from the list of comparables, opinion of the ld. DRP was that the said company was rightly taken as a comparable. As per ld. DRP assessee could not establish that M/s. TCE Consulting Engineers Ltd was undertaking any turn key projects. 13. Now before us, ld. Authorised Representative submitted that idle capacity adjustment had ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (a) 58.65% Idle capacity adjustment Total rental cost pertaining to NDPC 45,225,561 Idle capacity component of the rental cost (as mentioned in annexure 6 of TP Documentation) (45225561* 58.65%) 26,522,907 Contention of the ld. Authorised Representative was that capacity was worked out, considering the numbers of employees at the start of the year, number of employees recruited during the year and number of employees who left during the year. Ld. Authorised Representative submitted that monthly man hours which were billed and which could not be billed were given in detail by the assessee as under:- Month Capacity (hrs) Billable (hrs) Non-billable (hrs) April 2008 98,094 60,881 37,213 May 2008 93,616 65,648 27,968 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the impugned assessment year. 14. With regard to his grounds seeking exclusion of M/s. TCE Consulting Engineers Ltd, ld. Authorised Representative submitted that the said company was functionally different. According to him, the said company undertook turn key projects whereas assessee was only providing engineering consultancy services. According to him, this objection of the assessee was brushed aside by the ld. DRP as well as ld. TPO without giving any reasons. 15. On the additional grounds raised by the assessee, ld. Authorised Representative submitted that assessee was seeking exclusion of M/s. Mahindra Consulting Engineers Limited. As per ld. Authorised Representative, it was true that assessee had not sought exclusion of the company from the list of comparables before the lower authorities. However, according to him by virtue of decision of Special Bench of the Tribunal in the case of Quark Systems (P) Ltd vs. DCIT, 38 SOT 37, such additional ground had to be admitted. As per the ld. Authorised Representative the Transfer pricing provisions being comparatively new, assessee could take a ground for exclusion of a comparable selected by itself in TP study, if it could s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ork out based on number of persons. However, detailed monthly man hour capacity utilization given by the assessee at paper book page no. 166, which has been reproduced by us para 13 above show that the total capacity 11,67,011 hours has been spent on group and non group project. Thus at one place assessee states that it had large quantum of total net capacity hours of 1167011 which was not utilized, whereas at another place it say these man hours were spent on group and non group projects. Thus assessee was not able to place before lower authorities data showing total billable hours in a manner which could be objectively analyzed. For NDPC office it went by number of persons; whereas for Chennai region it went by number of hours. Standard followed by the assessee itself differed. To work out a capacity limit in a service industry where billing is done on man hour basis, would not always be a fruitful exercise unless clear empirical data is available. Contention of the assessee that idle capacity cost was an extra ordinary one justifying an adjustment for working out its PLI, in our opinion, is not acceptable. No doubt, ld.AR has placed considerable reliance on Mumbai Bench decision ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed by us, assessee itself had followed different yardsticks for working out its capacity levels at Chennai and NDPC centers. We are therefore of the opinion that lower authorities were justified in not allowing the assessee any idle capacity adjustment while working out its own PLI. 21. Coming to the ground taken by the assessee for exclusion of M/s. TCE Consulting Engineers Ltd, assessee had before the ld. TPO as well as ld. DRP argued that said company was functionally different since it was doing turn key projects. In its letter dated 17.01.2013 addressed to the TPO, assessee had sought exclusion of the said company. But ld. TPO in its order had not dealt with such objection. Before ld. DRP also assessee had specifically raised the following contention. TCE provides consultancy services undertake turnkey projects, they cannot be compared with engineering services rendered by Assessee due to differences in marketing strategies, competitive edge, operational efficiency, cash flow trends, cash flow trends, financial flexibility, government policies etc. In addition Companies operating on a large scale benefit from economies of scale, higher risk taking capabilities, robus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . Ld. Departmental Representative submitted that a number forward contracts were cancelled by the assessee due to its inability to collect receivables from its Associated Enterprise abroad. As per ld. Departmental Representative, debtors of the assessee had went up by 260% over the year. Such forward contracts were entered by the assessee to cover the loss that could arise, if payments were delayed. According to ld. Departmental Representative it was clearly operational in nature. As per ld. Departmental Representative 88% of the assessee s revenue were from Associated Enterprises and the debtors were only Associated Enterprises. Thus, according to him, the directions given by the ld. Departmental Representative in this regard was incorrect. 6. Per contra, ld. Authorised Representative in support of the order of the ld. DRP submitted that the increase in debtors was not the reason for the forex loss. As per ld. Authorised Representative, increase in receivables were due to the sales during the month of March, 2009 was came to F22.76 crores. As per ld. Authorised Representative, increase in debtors from F9,44,78,840/- to F33,92,88,509/- was because of the sale to Associated Enter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 9/29/2008 1,700,000 October 2008 0736206420383 12/28/2007 10/31/2008 1,800,000 November 2008 0736206420384 12/28/2007 11/28/2008 1,800,000 December 2008 January, 2009 IND 2613346 1/9/2009 1/30/2009 2,000,000 February, 2009 IND 2613348 1/9/2009 2/327/2009 2,000,000 March, 2009 IND 2613350 1/9/2009 3/31/2009 3,200,000 Total 20,700,00 Month Delivered (USD) Not delivered Forward Rate spot rate Charges (INR) April 2008 1,466,918 33,0 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s on closure of forward contract was not on account of any hedging abnormality. In the case of Pangea3 Legal Database Systems Pvt. Ltd (supra) decided by Mumbai Bench of this Tribunal strongly relied by the ld. Authorised Representative, what was held at page 32 33 of the order is reproduced hereunder:- So far as entering into forward contracts to minimize such risks is absolutely no abnormal conduct on part of the assessee, because if the trade receivables or payables are in foreign currency, the parties generally resort to entering into forward contract and hence, it is to be reckoned as normal business transaction and any gain or loss in the normal course of business is to be accounted for in the accounts. However, if there is some hedging abnormality or any extraordinary event has occurred qua the tested party (assessee) which materially affects the cost or profit in the relevant financial year, which is not across the industry or is either absent or is of less magnitude in the case of comparable independent parties, then definitely such an abnormality or extraordinary event has to be factored in while computing the cost base or PLI. Before us, the assessee has demonstr ..... 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