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TMI Blog2015 (9) TMI 1630X X X X Extracts X X X X X X X X Extracts X X X X ..... UDEVAN, JUDICIAL MEMBER AND SHRIABRAHAM P.GEORGE, ACCOUNTANT MEMBER For The Appellant : Shri. Kanchan Kaushal, C.A. For The Respondent : Smt.Neera Malhotra, CIT(DR) ORDER Per N. V. Vasudevan, Judicial Member This appeal by the assessee is against the order dated 20.09.2011 of the Deputy Commissioner of Income-Tax, Range-11(2), Bangalore passed u/s. 143(3) r.w.s. 144C of the Income Tax Act, 1961 (Act) relating to AY 2007-08. 2. The only issue raised by the Assessee in Grounds of appeal 1 to 5 relate to the addition made by the AO of ₹ 3,75,68,967/- to the total income of the Assessee on account of adjustment in the arm's length price(ALP) of international transaction entered into by the Assessee with it's Associated Enterprise (AE) under the provisions of Sec.92 of the Income Tax Act, 1961 (Act). 3. The Assessee provided Software Development Services to its AE. The said transaction was an international transaction with an Associated Enterprise (AE) and have to pass the Arm's Length Price (ALP) test as provided u/s.92 of the Income Tax Act, 1961 (Act). In grounds No.1 to 5 the dispute is with regard to addition made consequent to determination of ALP and consequent upwa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re B For details of computation of PLI of the comparables). Based on this, the arms length price of the software development services rendered by you is computed as under: Arithmetic mean PLI 25.14% Less: Working capital Adjustment(Annexure-C) 3.43% Adj.Arithmetic mean PLI 21.71% Arm's Length Price: Operating Cost Rs.36,66,33,893 Arms Length Margin 21.71% of the operating cost Arms Length Price (ALP) At 121.71% of operating cost Rs.37,32,04,111 20.7. Price received vis-à-vis the Arms Length Price: The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length Price as under: Arms Length Price (ALP) At 121.71% of operating cost Rs.37,33,04,111/- Price charged in the international transactions Rs.33,56,35,144/- Shortfall being adjustment u/s.92CA Rs.3,75,68,967/- The above shortfall of ₹ 3,75,68,967/- is treated as transfer pricing adjustment u/s 92CA." 6. Against the said adjustment proposed by the TPO which was incorporated in the draft assessment order by the AO, the assessee filed objections before the DRP. The DRP rejected those objections and confirmed the transfer pricing adjustment suggested by the TPO. The ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t.Ltd., we find that these companies are- 1) Accel Transmatic 2) Avani Cimcon Technologies Ltd. 3) Celestial Labs Ltd. 4) KALS Information Systems Ltd. 19. The Tribunal in the case of Trilogy E-Business Software India Pvt.Ltd., while considering the issue of improper selection of comparables has held as under: (b) Avani Cimcon Technologies Ltd. 39. As far as this company is concerned, the plea of the Assessee has been that this company is functionally different from the assessee. Based on the information available in the company's website, which reveals that this company has developed a software product by name "DXchange", it was submitted that this company would have revenue from software product sales apart from rendering of software services and therefore is functionally different from the assessee. It was further submitted that the Mumbai Bench of the Tribunal to the decision in the case of Telcordia Technologies Pvt. Ltd. v. ACIT - ITA No.7821/Mum/2011 wherein the Tribunal accepted the assessee's contention that this company has revenue from software product and observed that in the absence of segmental details, Avani Cincom cannot be considered as comparable to the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... submissions were made:- • In the Director's Report (page 20 of PB-Il), it is stated that "the company has applied for Income Tax concession for in-house R&D centre expenditure at Hyderabad under section 35(2AB) of the Income Tax Act." • As per the Notes to Accounts - Schedule 15, under "Deferred Revenue Expenditure" (page 31 of PB-II), it is mentioned that, "Expenditure incurred on research and development of new products has been treated as deferred revenue expenditure and the same has been written off in 10 years equally yearly installments from the year in which it is incurred." An amount of ₹ 11,692,020/- has been debited to the Profit and Loss Account as "Deferred Revenue Expenditure" (page 30 of PB-II). This amounts to nearly 8.28 percent of the sales of this company. It was therefore submitted that the acceptance of this company as a comparable for the reason that it is into pure software development activities and is not engaged in R&D activities is bad in law. 43. Further reference was also made to the decision of the Mumbai Bench of the Tribunal in the case of Teva Pharma Private Ltd. v. Addl. CIT - ITA No.6623/Mum/2011 (for AY 2007-08) in which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... so that the difference in functional comparability can be eliminated. By not resorting to such a process of making adjustment, the TPO has rendered this company as not qualifying for comparability. We therefore accept the plea of the Assessee in this regard.' " 44. It was submitted that the learned DR in the above case vehemently argued that this company is into research in pharmaceutical products. The ITAT concluded that this company is owner of IPR, it has software for discovery of new drugs and has developed molecule to treat cancer. In the ultimate analysis, the ITAT did not consider this company as a comparable in clinical trial segment, for the reason that this company has diverse business. It was submitted that, however, from the above extracts it is clear that this company is not into software development activities, accordingly, this company should be rejected as a comparable being functionally different. 45.From the material available on record, it transpires that the TPO has accepted that up to AY 06-07 this company was classified as a Research and Development company. According to the TPO in AY 07-08 this company has been classified as software development service p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed that this company was mainly in the business of providing software development services. We therefore accept the plea of the Assessee that this company ought not to have been considered as comparable. (d) KALS Information Systems Ltd. 46. As far as this company is concerned, the contention of the assessee is that the aforesaid company has revenues from both software development and software products. Besides the above, it was also pointed out that this company is engaged in providing training. It was also submitted that as per the annual repot, the salary cost debited under the software development expenditure was Q 45,93,351. The same was less than 25% of the software services revenue and therefore the salary cost filter test fails in this case. Reference was made to the Pune Bench Tribunal's decision of the ITAT in the case of Bindview India Private Limited Vs. DCI, ITA No. ITA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. The relevant extract are as follows: "16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n, development and manufacture of multi function kiosks Queue management system, ticket vending system (ii) Ushus Technologies - offshore development centre for embedded software, net work system, imaging technologies, outsourced product development (iii) Accel IT Academy (the net stop for engineers)- training services in hardware and networking, enterprise system management, embedded system, VLSI designs, CAD/CAM/BPO (iv) Accel Animation Studies software services for 2D/3D animation, special effect, erection, game asset development. 4.3 On careful perusal of the business activities 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 per ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... herein at pages 17 and 22 of its order the distinctions as to why these companies should be excluded are brought out. He submitted that the facts of the case before us are similar and, therefore, the said decision is applicable to the assessee's case also. 23. The learned DR however objected to the exclusion of these two companies from the list of comparables. On a careful perusal of the material on record, we find that the Tribunal in the case of Mercedes Benz Research & Development India Pvt. Ltd. (cited supra) has taken a note of dissimilarities between the assessee therein and Lucid Software Ltd. As observed therein Lucid Software Ltd. company is also involved in the development of software as compared to the assessee, which is only into software services. Similarly, as regards Ishir Infotech Ltd., the Tribunal has considered the decision of the Tribunal in the case of 24/7 Co. Pvt. Ltd to hold that Ishir Infotech is also out-sourcing its work and, therefore, has not satisfied the 25% employee cost filter and thus has to be excluded from the list of comparables. As the facts of the case before us are similar, respectfully following the decision of the co-ordinate bench, we ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any 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 capabilities and expenses related to travelling, boarding and lodging expense. Based on the above reply, the TPO proceeded to hold that the comparable company was mainly into customization of software products developed (which was akin to product software) internally and that the portion of the revenue from development of software sold and used for customization was less than 25% of the overall revenues. The TPO therefore held that less than 25% of the revenues of the comparable are from software prod ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 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). 14. As far as comparable companies listed at Sl.No.10, 24 & 26 of the final list of comparable companies chosen by the TPO viz., M/S.Infosys Technologies Limited, Tata Elxsi Ltd. (Seg.) & Wipro Limited are concerned, this Tribunal in the case of M/S.Curam Software International Pvt.Ltd. Vs. ITO ITA No.1280/Bang/2012 for AY 08-09 order dated 31.7.2013 has held that the aforesaid companies are not comparable companies in the case of software development services provider. The following were the relevant observations in the case of M/S.Curam Software International Pvt.Ltd.(supra): "12. (4) Infosys Technologies Ltd. 12.1 This was a comparable selected by the TPO. Before the TPO, the assessee objected to the inclusion of the company in the set of comparables, on the grounds of turnover and brand attributable profit margin. The TPO, however, rejected these objections raised by the assessee on the grounds that turnover and brand aspects were not materi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oftware 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 from the set of comparable companies. It is ordered accordingly. 13.0 (5) Wipro Limited 13.1 This company was selected as a comparable by the TPO. Before the TPO, the assessee had objected to the inclusion of this company in the list of comparables or several grounds like functional dis-similarity, brand value, size, etc. The TPO, however, brushed aside the objections of the assessee and included this company in the set of comparables. 13.2 Before us, the assessee contended that this company is functionally not comparable to the assessee for several reasons, which are as under : (i) This company owns significant 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 consolid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ble to the assessee as it performs a variety of functions under the software development and services segment namely (a) Product design services (b) Innovation design engineering and (c ) visual computing labs. In the submissions made the assessee had quoted relevant portions from the Annual Report of the company to this effect. In view of this, the learned Authorised Representative pleaded that this company be excluded from the list of comparables. 14.3 Per contra, the learned Departmental Representative supported the stand o the TPO in including this company in the list of comparables. 14.4.1 We have heard both parties and carefully perused and considered the material on record. From the details on record, we find that this company is predominantly engaged in product designing services and not purely software development services. The details in the Annual Report show that the segment "software development services" relates to design services and are not similar to software development services performed by the assessee. 14.4.2 The Hon'ble Mumbai Tribunal in the case of Telecordia Technologies India Pvt. Ltd. V ACIT (ITA No.7821/Mum/2011) has held that Tata Elxsi Lt ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eason that apart from software development services, it is in the business of product development and trading in software and giving licenses for use of software. In this regard, the learned Authorised Representative submitted that :- (i) This company is engaged in product development and earns revenue from sale of licences and subscription. It has been pointed out from the Annual Report that the company has not provided any separate segmental profit and loss account for software development services and product development services. (ii) In the case of E-Gain communications Pvt. Ltd. (2008-TII- 04-ITAT-PUNE-TP), the Tribunal has directed that this company be omitted as a comparable for software service providers, as its income includes income from sale of licences which has increased the margins of the company. The learned A.R. prayed that in the light of the above facts and in view of the afore cited decision of the Tribunal (supra), this company ought to be omitted from the list of comparables. 15.2 Per contra, the learned Departmental Representative supported the action of the TPO in including this company in the list of comparables. 15.3 We have heard the rival submissi ..... X X X X Extracts X X X X X X X X Extracts X X X X
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