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TMI Blog2018 (11) TMI 1120X X X X Extracts X X X X X X X X Extracts X X X X ..... e consideration received by the assessee for rendering software development services to its AE was a sum of Rs. 47,91,29,509. Since the transaction between the assessee and its AE was an international transaction within the meaning of section 92 of the Income-Tax Act, 1961 ["the Act"], the consideration received by the assessee in the said international transaction has to pass the arm's length test. To justify the price received in the international transaction as at arm's length, the assessee filed a transfer pricing study in which it adopted TNMM as the most appropriate method for determination of ALP. The Profit Level Indicator (PLI) chosen for the purpose of comparison was OP to OC. The OP to OC in the software development segment was as follows:- Description Software Development (Rs.) Operating Revenue (OR) 479579514 Operating Cost (OC)_ 456566084 Operating Profit (OP) 23013430 OP / OC 5% 3. The assessee chose 16 comparable companies whose arithmetic mean of profit margin was 12%. The AO made a reference to the Transfer Pricing Officer (TPO) for determination of ALP in accordance with the provisions of section 92CA of the Act. The TPO rejected the TP study filed b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee filed appeal before the CIT(Appeals). The CIT(Appeals) excluded 9 out of 20 comparable companies, chosen by the TPO, the details of which are as follows:- Sl. No. Name of the company Turnover (Rs.Crore) OP/TC (%) 1 Celestial Biolabs Ltd. 20.21 87.94 2 Flextronics Ltd. 954.42 7.86 3 iGate Global Solutions Ltd. 781.56 13.99 4 Infosys Technologies Ltd. 15,672.00 40.37 5 Mindtree Consulting Ltd. (segment) 572.97 16.41 6 Persistent Systems Ltd. 383.41 20.31 7 Tata Elxsi Ltd. 342.86 18.97 8 Wipro Limited (segment) 1,955.56 28.45 9 Sasken Communication Tech. Ltd. (segment) 335.80 7.58 6. Out of the aforesaid 9 companies, Celestial Biolabs Ltd. was excluded for the reason that it had abnormal profits. The remaining 8 companies were excluded for the reason that they had turnover of about 200 crores and in view of their size, they were not comparable with the assessee. The CIT(Appeals) in coming to the aforesaid conclusion on the application of high turnover of comparable company being a reason for excluding companies with high turnover of over Rs. 200 crores compared to turnover of the Assessee which was only Rs. 48 Crores, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be excluded, as these losses or profits could be due to other factors. 8. The CIT(Appeals) also excluded M/s. Indus Networks Ltd. as a comparable company. This company was chosen as comparable company by the assessee in its TP study, but was rejected by the TPO as a comparable company for the reason that it fails the filter of employee cost being greater than 25% of the revenue of the assessee. The CIT(Appeals) held that when the ALP is determined using TNMM, cost is not a relevant factor and only the net margin of the tested party has to be considered without looking to the new element of cost. The CIT(A) gave the following reasons for not accepting the aforesaid filter, (i) Employee cost may vary from year to year depending on a variety of factors like competition in the labour and services markets, supply of skilled manpower in the industry as a whole and to the appellant's company in particular, demand for the company's services, the geographic location of the company's clients, the nature of projects undertaken, etc. Thus no particular level of employee cost can be held as a standard or a normal level and companies which are functionally similar may have differin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oresaid companies were software services company as well as software products company and the segmental details of software services and software products was not available. 10. The CIT(Appeals) also excluded Bodhtree Consulting Ltd. as a comparable company for the reason that this company was functionally different and was in Information Technology Enable Services (ITeS). He held that this company was engaged in product development, as evidenced by the disclosures available on its website www.bodbtree.com and that the website mentions that the company offers product solutions in the areas of Data Quality, Business Intelligence, and Life sciences to a reputed customer base worldwide and its products include Spend Data Management Solution (SDMS), Multi Industry Data Anomaly Solution (MIDAS), data cleansing and integration software, Patent Asset Management (PAM), and Patent Search and Patent Analysis Tool (PSPAT). He also relied on the reply of this company in response to the notice under section 133(6) issued by the TPO that its services can be categorized as software development and information technology enabled services (ITES), as it provides data cleansing services to its clien ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the facts and in the circumstances of the case. erred in holding that M/s. Bodhtree Consulting Ltd being functionally different. cannot be taken as comparables." 12. As far as the assessee's CO is concerned, grounds No. 1 to 8 raised in the CO are general and no arguments were raised by the ld. counsel for the assessee at the time of hearing and therefore these grounds do not require any adjudication. 13. In ground Nos. 9 to 13, the assessee has challenged the action of the CIT(Appeals) in accepting the following companies as comparable companies by the CIT(Appeals). Viz., Lucid Software Ltd., Quintegra Solutions Ltd., Thirdware Solutions Ltd. and e-Zest Solutions Ltd. The assessee has also challenged the non-inclusion of Computech International Ltd. as a comparable company. Ground Nos. 9 to 13 raised by the assessee in its CO reads as follows:- "9. That the decision of the learned CIT(A) is bad in law and on facts while upholding the action of the learned TPO of accepting certain companies (Lucid Software Limited, Quintegra Solution Limited and Thirdware Solutions Limited) that fail the test of comparability, as comparable to the Respondent in respect of its software developm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he TPO excluded from the list of comparable companies chosen by the Assessee in its TP study companies whose turnover was less than Rs. 1 Crore. The contention of the Assessee before the CIT(A) was that while the TPO excluded companies with low turnover, he failed to apply the same yardstick to exclude companies with high turnover compared to the Assessee. The reason for excluding companies with low turnover was that such companies do not reflect the industry trend as their low cost to sales ratio made their results less reliable. The contention of the Assessee was that there would be effect on profitability wherever there is high or low turnover and therefore companies with high turnover should also be excluded from the list of comparable companies. The CIT(A) agreed with the submission of the Assessee and he excluded the following 5 companies whose turnover was above Rs. 200 Crores from the list of comparable companies, viz., (i) Flextronics Ltd., (ii) L & T Infotech Ltd., (iii) M/s. Infosys Technologies Ltd., (iv) Satyam Computer Services Ltd., (v) iGate Global Solutions Ltd. The CIT(A) in coming to the above conclusion placed reliance on the decision of the ITAT Bangalore in th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d profit margins of company Infosys Technologies Ltd. For FY 1997 to 2010 and submitted that in FY 1997 the company had turnover of Rs. 139 Crores and its profit margin was 34.95% whereas in FY 2010 its turnover was Rs. 21140 crores but its profit margin was only 44.91%. According to him therefore the profit margins hover between 35% and 40% over the period of 15 years and therefore high turnover does not necessarily mean high profit margins. He also gave a chart showing turnover and margin of 20 companies in the IT-BPO industry for three years. According to him the chart would show that for the same range of turnover companies earned different profit margins. Therefore according to him there is no relation between the margins earned and the turnover of a company. According to him software industries operate on the basis of cost plus margin of profits and therefore turnover would be irrelevant and have no impact of the profit margins. His further submission was that under Rule 10B(3) of the Income Tax Rules, 1962 (Rules) it is only functions performed, assets employed and the risks assumed that are relevant criteria for comparison and turnover is not a prescribed criterion for the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... TAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010, relying on Dun and Bradstreet's analysis, held grouping of companies having turnover of Rs. 1 crore to Rs. 200 crores as comparable with each other was held to be proper. The following relevant observations were brought to our notice:- "9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (sic) making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rt however at page 218 of the report (the said decision is reported as 376 ITR 183 (del)) observed that the mere circumstance that a company-otherwise confirming to the stipulations in rule 10B(2) of the Rules in all details, presenting a peculiar feature- such as a huge profit or a huge turnover, ipso facto does not lead to its exclusion. The Court further observed that the Transfer Pricing officer, first, has to be satisfied that such differences do not "materially affect the price ................ or cost". Secondly, an attempt to make reasonable adjustment to eliminate the material effect of such differences has to be made. According to him therefore the observations of the Hon'ble Delhi High Court in so far as it relates to application of turnover filter are obiter dictum. Obiter dictum though is entitled to a weight cannot be equated with ratio decidendi of a case. In support of his contention as above, he relied on the decision of the Hon'ble Supreme Court in the case of Director of Settlements A.P. and others Vs. M.R. Apparao and another (2002) 4 SCC 638. Countering the submission of the learned DR that the decision of the Hon'ble Bombay High Court rendered in the case of P ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or were rendered in ignorance of an earlier binding precedent. He submitted that if a bench of equal strength differs with a view taken earlier, the proper course for them is to make a reference to larger bench. They cannot refuse to follow a binding decision. If they do so, the decisions so rendered have to be regarded as per incurium. Even if they are rendered in ignorance of the earlier binding precedent, they have to be regarded as per incurium. In this regard the learned counsel for the Assessee placed reliance on the decisions of Hon'ble Supreme Court in the case of Union of India Vs. Raghubir Singh AIR 1989 SC 1933, Union of India Vs. S.K. Kapoor (2011) 4 SCC 589 and Sundeep Kumar Bafna Vs. State of Maharashtra and another (2014) 16 SCC 623. In the aforesaid decisions the Hon'ble Supreme Court held that in a situation where there are conflicting decisions of High Court on an issue which are irreconcileable and pronounced by judges of co-equal strength, then the earlier view has to be followed as the later decision has to be regarded as per incuriam. The Hon'ble Supreme Court in the case of Sundeep Kumar Bafna Vs. State of Maharashtra & another (2014) 16 SCC 623 (at page-642 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tum. Judicial discipline requires that the Tribunal should follow the decision of a non-jurisdiction High Court, even though the said decision is of a non-jurisdictional High Court. We however find that the Hon'ble Bombay High Court in the case of CIT Vs. Pentair Water India Pvt.Ltd. Tax Appeal No.18 of 2015 judgment dated 16.9.2015 has taken the view that turnover is a relevant criterion for choosing companies as comparable companies in determination of ALP in transfer pricing cases. There is no decision of the jurisdictional High Court on this issue. In the circumstances, following the principle that where two views are available on an issue, the view favourable to the Assessee has to be adopted, we respectfully follow the view of the Hon'ble Bombay High Court on the issue. Respectfully following the aforesaid decision, we uphold the order of the DRP excluding 5 companies from the list of comparable companies chosen by the TPO on the basis that the 5 companies turnover was much higher compared to that the Assessee. 17.8. In view of the above conclusion, there may not be any necessity to examine as to whether the decision rendered in the case of Genisys Integrating (sup ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... filter of excluding companies with turnover of less than Rs. 1 Crore and in such circumstances, there is no reason as to why he should not apply the higher turnover limit. For the reasons given above, we uphold the order of the CIT(A). 17. The next issue to be considered is exclusion of Celestial Biolabs Ltd. The only reason given by the CIT(Appeals) for excluding this company is that the profit margins are very abnormal. This by itself cannot be a ground to exclude a company which is otherwise functionally comparable, unless there are extra-ordinary events that has taken place during the relevant accounting period which has resulted in the abnormal profits. On exclusion of this company, in the CO the assessee has in ground No.12 submitted that comparability of this company fails on other parameters also. Since this aspect has not been considered by the CIT(Appeals) though submissions were made by the assessee in this regard before CIT(A), we deem it fit and appropriate to remand the issue to the CIT(Appeals) to consider the comparability of this company on other parameters. 18. As far as inclusion of Indus Networks Ltd. is concerned, the ld. DR has filed before us a decision of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s: which are required to be reduced from the export turnover as per clause (iv) of the Explanation to section 10A, to be reduced from the total turnover also. 12. The Ld. CIT(A) erred in not appreciating the fact that the jurisdictional High Court decision relied upon by him has not been accepted by the department and a SLP has been filed before Hon'ble Supreme Court." 23. The issue raised in the aforesaid grounds of appeal is with regard to telecommunication expenses and foreign currency expenses reduced from the total turnover without reducing the same from the export turnover. The decision of the Hon'ble High Court of Karnataka in the case of Tata Elxsi Ltd. 249 ITR 50 (Karn.) on this issue holding that whatever is excluded from the total turnover while computing deduction u/s. 10A of the Act has since been confirmed by the Hon'ble Supreme Court in the case of CIT v. HCL Technologies Ltd. in Civil Appeal No.8489-98490 of 2013 & Ors. dated 24.04.2018. In view of the above, there is no merit in ground Nos. 9 to 12 raised by the revenue. 24. Thus, the appeal by the revenue is dismissed. 25. As far as CO by the assessee is concerned, we have already held that ground Nos.1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onale for either the filter or the 3% threshold the appellant has adopted. Moreover, a 5.95% expenditure on sales, marketing, and distribution, does not mean that the company is incomparable to the appellant and it is not the TPO's case that it was a captive service provider like the appellant. In these facts and circumstances, I uphold the selection of this company by the TPO as a comparable." (ii) M/s. Quintegra Solution Ltd. The Plea of the Assessee for exclusion of this company was that this company undertook research and development activity, as reflected in its Annual Report for the year ended 31.03.2008. The annual report showed that R&D expenditure was 3.80% of sales and the company failed the R&D filter applied by the appellant. Another argument advanced was that this company was into a niche area of Information Technology as against the appellant, which provided only routine software development services involving low level coding, testing and documentation. These arguments were rebutted by the CIT(A) by holding that this company in response to the notice by the TPO under section 133(6) replied that it was into software development services. The CIT(A) also held ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lly different from the assessee in the case on hand. In this context, the learned Authorised Representative submitted that the co-ordinate bench of this Tribunal in the case of 3DPLM Software Solutions Pvt. Ltd. (supra) for assessment year 2008-0-9 has omitted this company from the list of comparables on the ground that it is into development of software products and therefore is functionally different from provider of software development services. 11.3 Per contra, the learned Departmental Representative supported the orders of the authorities below in including this company as a comparable. 11.4.1 We have heard the rival submissions and perused and carefully considered the material on record; including the decision relied on by the assessee. We find that the co-ordinate Bench in the case of 3DPLM Software Solutions Pvt. Ltd. (supra) for assessment year 2008-09 excluded this company from the list of comparables observing that this company, being into development of a software products, is functionally different from a provider of software development services, as is the assessee's in the case on hand and therefore ought to be excluded from the list of comparables. At para 16 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eted this company from the list of comparables by applying turnover filter of range of Rs. 200 crores to Rs. 2000 crores. Being aggrieved by this revenue was in appeal before us in IT(TP)A No.1070/Bang/2013 wherein we held that turnover is not an appropriate filter. 43.2 Hence, the assessee-company is challenging the inclusion of this company on the ground that this company on the ground that the company provides a full range of custom high end IT solutions such as development, testing, maintenance, SAP, product engineering and infrastructure management services), proprietary software products and consultancy services in IT on various platforms and technologies. During the year under consideration, the company has developed certain proprietary products portfolio and acquired copy rights for the same in Flexible Home Building (HBfx), Hospital Management and Information System (HMIS) in healthcare and EduCampus in Education verticals as products. During the year, the company made a key strategic acquisition of PA Corporation Inc. ('PAC'), a US-based information technology corporation providing a broad range of services. PAC has core competencies in high-end IT consulting a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... vt. Ltd. (supra) for Assessment Year 2008-09 has held that this company, being engaged in product engineering services, having substantial R&D activity resulting in the creation of proprietary software products and IPR's, is functionally different from a mere provider of software development services is to be omitted from the set of comparables; observing as under at paras 18.3.1 to 18.3.3 of the order:- '18.3.1 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the details brought on record that this company i.e. Quintegra Solutions Ltd. is engaged in product engineering services and is not purely a software development service provider as is the assessee in the case on hand. It is also seen that this company is also engaged in proprietary software products and has substantial R&D activity which has resulted in creation of its IPRs. Having applied for trade mark registration of its products, it evidences the fact that this company owns intangible assets. The co-ordinate bench of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. (ITA No.227/Bang/2010 dt.9.11.2012) has held that if a company possesses or owns ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eloped and traded software. There are no segmentals for software development services and product development services and the financials indicate that the production and sale of developed and traded software cannot be expressed in any generic unit and therefore, segmental data is not available. Reliance in this regard was placed on the decision of the co-ordinate bench of Tribunal in the case of M/s.Hewlett-Packard (India) Software Operation P.Ltd. vs. Asst.CIT in IT(TP)A No.1682/Bang/2012 dated 26/08/2015. 45.3 We heard rival submissions and perused the material on record. The comparability of Thirdware Solutions Ltd. had come up for consideration before co-ordinate bench of this Tribunal in the case of M/s.Hewlett-Packard (India) Software Operation P.Ltd (supra). The relevant portion is extracted hereunder: "28. Vis-a-vis M/s. Thirdware Solutions Ltd, findings of this coordinate bench in the case of M/s. Broadcom Communications Technologies P. Ltd (supra), appears at para 16 which is reproduced hereunder : 16. Thirdware Solutions Ltd. 16.1 This company was included in the list of comparables despite the objections of the assessee to its inclusion in the list of compa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s Tribunal in the case of 3DPLM Software Solutions Pvt. Ltd. (supra) for Assessment Year 2008-09, we direct the Assessing Officer/TPO to omit this company from the list of comparables in the case on hand." Respectfully following the ratio of the decision of the co-ordinate bench in the case of M/s.Hewlett-Packard (India) Software Operation P.Ltd (supra) we direct the AO/TPO to exclude Thirdware Solutions Ltd., from the list of comparables." 28. Following the decisions of the Tribunal referred to above, we hold that the above said 3 companies should be excluded from the list of comparable companies. 29. As far as ground No.10 raised by the assessee in the CO is concerned, the same relates to exclusion of e-Zest Solutions Ltd. Again in the case of SAP Labs. (I) P. Ltd. (supra), this Tribunal has held that this company has to be excluded form the list of comparable companies with the following observations:- "E-Zest Solutions Ltd.: 38. This company was selected by the TPO, but contested by the assessee-company before the TPO on the ground that it functionally different. 38.1 On appeal, the Id.CIT(A) deleted this company from the list of comparables by applying turnover f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... velopment services and high and technical services which come under the category of KPO services. 8.3 Per contra, the learned Departmental Representative supported the order of the TPO including this company in the list of comparables. 8.4.1 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial decisions cited. We find that a co¬ordinate bench of this Tribunal in the case of 3DPLM Software Solutions Ltd. (supra) for Assessment Year 2008-09 has held that this company is to be omitted from the list of comparables to a provider of software development services as it is into product development services and high end technical services which come under the category of KPO Services; holding as under at para 14.4 thereof:- 14.4 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the record that the TPO has included this company in the list of comparables only on the basis of the statement made by the company in its reply to 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 f ..... X X X X Extracts X X X X X X X X Extracts X X X X
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