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TMI Blog2019 (10) TMI 1189X X X X Extracts X X X X X X X X Extracts X X X X ..... . Tata Elxsi Ltd . [ 2011 (8) TMI 782 - KARNATAKA HIGH COURT] we are of the view that expenditure incurred in foreign currency should be excluded both from export turnover and total turnover. We are of the view that as of today, law declared by the Hon'ble High Court of Karnataka which is the jurisdictional High Court is binding on us. Also upheld by HCL TECHNOLOGIES LTD. [ 2018 (5) TMI 357 - SUPREME COURT] - IT(TP)A Nos.1156/Bang/2011 & 1471/Bang/2012 - - - Dated:- 20-9-2019 - VIKRAM SINGH YADAV (ACCOUNTANT MEMBER) AND N.V. VASUDEVAN (VICE PRESIDENT) Appellant by : Shri K.R. Pradeep, Advocate Respondent by : Shri C.H. Sundar Rao, CIT-I(DR)(ITAT) Bangalore. ORDER N.V. Vasudevan IT(TP)A No.1156/Bang/2011 and IT(TP)A No.1471/Bang/2012 are appeals by the assessee against the final orders of assessment dated 21.09.2011 and 27.09.2012 passed by the Dy.CIT, Circle 11(3), Bangalore u/s. 143(3) r.w.s. 144C of the Income-Tax Act, 1961 [ the Act ] relating to assessment year 2007-08 and 2008-09 respectively. IT(TP)A No.1156/Bang/2011 2. At the time of hearing, the ld. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the Appellant has not shifted profits. 8. That Hon'ble DRP erred in concluding that the Appellant is exposed to single customer risk without evaluating the business arrangement of the Appellant. 9. That the learned AO/learned TPO/Hon'ble DRP erred in not allowing the benefits of market risk adjustment to the Appellant. 10. That the learned AO/learned TPO/Hon'ble DRP erred in not allowing the benefit of range of +/- 5% C. Engineering Services and ITES segments: The learned AO/ learned TPO/ Hon'ble DRP erred: 11. in determining the ALP of provision of engineering Services and IT enabled services [ITES] and in proposing a transfer pricing adjustment of ₹ 230,203,182/-. 12. in considering the engineering services segment as functionally similar to ITES segment and benchmarking the engineering services segment with ITES comparable companies. 13. in considering the Rule 10 A definition as the basis of functional characterisation of engineering services segment by ignoring the fact that in the earlier years they had accepted the ALP of engineering services segment by b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cation and the assessee is always at liberty to raise the issues sought to be raised in the additional grounds in the set aside proceedings before the AO/TPO. 4. The assessee is a company engaged in the business of manufacturing of medical diagnostic equipment parts. The assessee had international transactions with Associated Enterprise and therefore the payments/receipts from the AE in the international transaction has to satisfy the Arms Length Price (ALP) as laid down in the provisions of section 92 of the Act. There were basically 4 segments for which the arm s length price (ALP) had to be determined viz., (1) Contract Manufacturing Segment, (2) Software services (3) Information Technology Enabled Services [ITeS], and (4) Engineering Services. The break up of the details of international transactions and the operating profit on sales and operating profit on cost in each of the segment was as follows:- Segmental results : Description Manufacturing Software ITES Engineering services ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 070 Packaging expenses / consumables 3,20,20,503 Purchase of finished goods 0 Power, fuel water charges NA Compensation to employees 11,96,42,332 Indirect taxes NA Royalties, technical know-how fees, etc. 99,28,847 Lease rent other rent NA Repairs maintenance 4,03,94,544 Insurance premium paid 0 Outsourced mfg. jobs (incl. job works, etc.) 0 Depreciation 5,46,58,810 Cost of Production 296,39,87,106 Gross Margin 36,50,75,861 Gross Margin to Cost of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are of the view that no adjudication is required on this issue as raised in the concise grounds of appeal and recording the submissions of the assessee as above would be sufficient. Consequently, the grounds 1 to 3 are dismissed as academic and not requiring any adjudication. Software services segment 9. As far as software services segment is concerned, the TPO computed the ALP of the international transaction of rendering software development services to AE by choosing 26 comparable companies as per the chart given as Annexure-I to this order. 10. The TPO determined the ALP as follows:- 21.8 Computation of Arms Length Price: The arithmetic mean of the Profit Level indicators is taken as the arms length margin. (Please see Annexure B for details of computation of PLI of the comparables). Based on this, the arms length price of the software development services rendered by the taxpayer to its AE(s) is computed as under: Arithmetic mean PLI : 25.14% Less: Working capital adjustment (Annexure-C) : 1.94% Adj. Arithmetic mean PLI 23.20% Arm's Length Pri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... der of assessment by the AO, the assessee has raised concise grounds 4 to 10. The ld. counsel for the assessee submitted that similar addition made by the AO in the AY 2006- 07 was subject matter of appeal by the assessee before the Tribunal in IT(TP)A No.1414/Bang/2010 and the Tribunal by order dated 23.6.2017 set aside the order of DRP/AO and remanded the issue to TPO for fresh consideration. In the light of the decision of the Tribunal for AY 2006-07, the issue requires to be set aside to the AO. The ld. counsel for the assessee also prayed that the TPO should be directed to apply turnover filter on the higher side also in the light of decision of ITAT Bangalore Benches in the case of Cenduit India Services Ltd. in IT(TP)A No.59/Bang/2016 dated 24.04.2019. We direct the AO to consider the claim of assessee in this regard in accordance with the law. The TPO shall decide the issue afresh keeping in mind the directions of the Tribunal for AY 2006-07 and after affording opportunity of being heard to the assessee. Engineering Services ITeS 12. As far as the dispute in the Engineering Services ITeS segment is concerned, the concise grounds of appeal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an average arithmetic mean profit margin of 30.21% and after allowing a reduction of 1.91% determined the shortfall being adjustment u/s.92CA at ₹ 23,02,03,182/- in the combined ITES and Engineering services segment. The calculations of the TPO in this regard are found at Paragraph 39.5 39.6 of his order. The DRP confirmed the action of the TPO. 16. The learned counsel for the Assessee submitted that the services provided by Assessee in the Engineering services segment were in the nature of engineering drawing/designs (both 2D and 3D models) like CAD, CAM etc. The engineering segment has been analyzed independently in the TP report and in the prior years by the Learned TPO, Hon'ble DRP and CIT (Appeals). The TPO until AY 2006-07 has not disputed the separate analysis of engineering segment and has also accepted the comparable companies provided in the TP report of the Assessee. The Assessee submitted that knowledge services do not constitute CAD /CAM driven engineering services. Engineering services is a separate recognized service line which can be distinctly demarcated from the IT Services, BPO services or KPO services. Hence, engineering services cannot ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n carried out by the assessee in engineering services and ITeS. It is also the plea of assessee that engineering services and ITeS have been considered as separate segments in the safe harbour guidelines framed under the Income-tax Rules, 1968 and this also supports the plea of assessee. We also find that in the preceding years 2004-05, 2005-06 2006-07, the engineering segment has been considered separately from the ITeS. The ld. DR, however, pointed out that the services rendered by the assessee were akin to ITeS and the conclusion of the revenue authorities have to be upheld. 19. After considering the rival submissions, we are of the view that rule of consistency will apply and consistent with the approach adopted for the AYs 2004-05 to 2006-07, engineering services segment should be considered as distinct from ITeS and comparable companies chosen accordingly. We hold and direct accordingly and set aside the orders of the DRP and remand the issue for fresh consideration by the TPO/AO in accordance with the above observations and in accordance with law, after affording opportunity of being heard to the assessee. 20. The only other ground that remains ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not correct. Without prejudice to its contention that the aforesaid sums should not be excluded from the export turnover while computing deduction u/s.10A of the Act, the Assessee has also made an alternate prayer that expenses that are reduced from the export turnover should also be reduced from the total turnover and in this regard has placed reliance on the decision of the Hon ble Karnataka High Court in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn) wherein it was held that while computing deduction u/s.10A of the Act expenses that are reduced from the export turnover should also be reduced from the total turnover. The DRP did not allow the claim of the Assessee. 23. Aggrieved by the order of DRP, the Assessee is in appeal before the Tribunal. The learned DR relied on the order of the DRP. 24. We have considered his submission. Taking into consideration the decision rendered by the Hon ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn), we are of the view that expenditure incurred in foreign currency should be excluded both from export turnover and total turnover. We are of the view that as of today ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... accepted in the earlier years and a contrary stand has been taken in this year, without adducing any reason. 3. ITES and Software services segments: The Honourable DRP and the learned AO have erred in: 3.1. changing the functional characterisation of engineering services segment, thereby taking a contrary stand this year, without any reason; 3.2. in not granting adjustment for market; 3.3. in taking a RPT limit of 25%, which is against the guidance set in several case laws, including those of the Hon'ble Bangalore Tribunal; 3.4. inconsistency in applying filters like export earnings etc. and not applying necessary filters like employee cost filters, which are again not consistent with the guidance of several case laws; 3.5. upholding the actions of the learned TPO in applying the export filter, accepting companies with significant advertisement expenses and research and development expenses and companies having different year end; and 3.6. selecting wrong comparables, inconsistent with the guidance of several case laws. II. Corporate Tax 1. Re- comp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... #8377; 103,275,145 Operating /Net margin (OP/TC) 3.78% 29. The Assessee chose comparable companies and the average arithmetic mean profit of such comparable companies after permissible variation u/s.92C(2) was within Arm s Length Price. 30. The learned TPO rejected the analysis carried out by the Assessee and rejected all the comparable companies selected in the TP Study. The learned TPO adopted Cost Plus Method ( CPM ) as the most appropriate method and granted selling and marketing adjustment for the below mentioned comparable companies. The following Comparable companies were selected by TPO and their arithmetic mean of profit margin was as follows: SI. No. Name of the Company Unadjusted 1 Alpha X-Ray Technologies (India) 26.96% 2 Artficial Limbs manufacturing 28.09% 3 Centenial Surgical Surture ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... CIT(A) order for AY 2005-06 and AY 2004-05. Margin of the comparable companies post working capital and selling and marketing adjustment on actuals is as given below: Company Gross Margin/COP [A] Working Capital Adjustment [B] Selling Marketing Adjustment [C] Adjusted Gross Margin/COP [D=A-B-C] Artificial Limbs 14.28% 8.76% 10.78% -4.72% Centennial Surgical 55.39% 7.10% 39.25% 10.620/0 Poly Medicure 16.94% 3.10% 5.06% 8.93% Shree Pacetronix 37.21% 9.31% 6.59% 22.06% South India Surgicals Co. Ltd 22. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Average 6.33% Range Computation Particulars Assessee s Segment 5% -5% Revenue 2,83,27,93,348 2,97,44,33,015 2,69,11,53,680 Cost 2,72,95,18,203 2,72,95,18,203 2,72,95,18,203 Operating Profit 10,32,75,145 244914812 -38364522 OP/OC 3.78% 8.97% -1.41% Therefore, even if TNMM is considered as the most appropriate method then the operating margin of the company would be within the range of + / - 5% of the Assessee's Net Margin, no TP adjustment is required and therefore the TP adjustment made by the TPO is liable to be quashed. 34. It was also submitted that reimbursement of exp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... see for Engineering Segment was as follows: Particulars EDS Operating Income 1,310,310,457 Operating Expenses* 1,176,105,198 Operating Profit (Op. Income - Op. Expenses) 134,205,259 Operating/Net margin (OP/TC) 11.41% 38. The Comparable companies selected by the Assessee in the engineering segment and their arithmetic mean was as follows: S.No. Comparable Companies ROTC 1 Aztecsoft Ltd. 11.70% 2 Geometric Ltd. 16.99% 3 Infotech Enterprises Ltd. 25.04% 4 Larsen Toubro Infotech Ltd. 15.64% ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... indra Acres Consulting Engineers Ltd. 33.89% 31.88% Average 18.72% 7.69% 42. The learned counsel for the Assessee submitted that the adjusted operating profit to total cost of comparable companies is 7.69%. The Assessee s margin for the engineering segment is 11.32 which is higher than the aforementioned adjusted margins of the comparable companies. Based on the above submission, he submitted that the engineering service segment is not comparable to ITES, BPO or KPO services and hence it will not be appropriate to aggregate the engineering service segment with the ITES segment. 43. The learned DR relied on the order of the DRP. 44. We have already decided similar issue in AY 2007-08 in the earlier part of this order. Facts and circumstances being identical in the present AY, we deem it fit and proper to remand the issue of determination of ALP to the TPO/AO for fresh consideration as per directions given in AY 2007- 08. Gr.No.2 is accordingly treated as allowed for statis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Name of the Company Unadjusted Working Capital Adjusted (incorporated from SCN) 1 Accentia Technologies Ltd 41.77% 37.58% 2 Acropetal Technologies Ltd (Seg) 35.30% 13.50% 3 Aditya Birla Minacs Worldwide Ltd -4.00% -4.82% 4 Asit C Mehta Financial Services Ltd (Seg) 9.42% 7.550/0 5 Caliber Point Business Solutions Ltd 10.97% 7.06% 6 Coral Hubs Ltd 50.68% 37.60% 7 Cosmic Global Ltd 23.30% 21.94% ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... wing comparable companies would be the Accepted / Rejected. Sr. No. Name of the Company Margin Unadj. % Margin WC adjusted Remarks Page Reference in the case law compendium 1 Accentia Technologies Ltd. 41.77% 37.58% Reject dissimilar function Page No. 346 2 Acropetal Technologies Ltd. 35.30% 13.50% Reject - dissimilar function Page No. 347 3 Aditya Birla Minacs Worldwide Ltd. -4.00% -4.80% Accept 4 Asit C Mehta Financial Services Ltd. 9.42% 7.56% Accept ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ologies Ltd. 96.66% 90.24% Reject-dissimilar function No. 352 17 R Systems International Ltd. 4.30% 3.33% Accept 18 panco Ltd. 8.81% 3.09% Accept 19 Wipro Ltd. 30.05% 30.05% Reject dissimilar function Page No.352, 353 20 Allsec Technologies Ltd. -13.29% -15.54% Accept 48. The Computation of arithmetic mean of 11 comparable companies that remain after accept/reject matrix as given in the table is adopted would be as follows: SI.No. Name of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ES segment alone without combining the same with the engineering services segment afresh. The TPO/AO will consider the submissions made by Assessee before us and also afford opportunity of being heard to the Assessee in the set aside proceedings. 51. As far as the SWD services segment which is also part of Gr.No.3 is concerned, the factual details are as follows:- a. Software Segment Net Margin on cost earned by the Appellant Particulars OP/OC Operating Income ₹ 371,438,299 Operating Expenses ₹ 345,260,313 Operating Profit (Op. Income - Op. Expenses) ₹ 26,177,986 Operating/Net margin (OP/TC) 7.58% Comparable companies selected by the Assessee S.No. Company Name' Operating Margin 1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7.86% 4.17% 6 iGate Global Solutions Ltd 13.99% 10.05% 7 Infosys 40.37% 37.18% 8 KALS Information System (Seg) 41.94% 27.60% 9 LGS Global Ltd 27.52% 24.06% 10 Mindtree Ltd (Seg) 16.41% 12.35% 11 Persistent Systems Ltd 20.31% 19.11% 12 Quintegra Solutions Ltd 21.74% 13.35% 13 R Systems Intenational (Seg) 15.30% 12.05% ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r to the Assessee company, 13 out of the 20 comparable companies selected by the TPO would stand excluded and in that event the following would be the Accept / Reject matrix: Sr.No. Name of the Company Margin Unadj. % Margin WC Adjusted Remarks Page Reference in the case law compendium 1 Avani Cimcon 25.62% 25.62% Reject dissimilar Page 314function 2 Bodhtree Ltd 18.72% 18.12% Reject dissimilar Page 336function 3 Celestial Biolabs Ltd 87.94% 80.25% Reject dissimilar Page 326function 4 E-Zest Solutions Ltd 29.81% ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Sasken Communications (Seg) 7.58% 5.61% Accept 17 Softsol India Ltd 17.89% 14.11% Reject dissimilar Function Page 335 18 Tata Elxsi Ltd(seg) 18.97% 17.38% Reject dissimilar Function Page 331 19 Thirdware Solutions 19.35% 15.53% Reject dissimilar Function Page 332 20 Wipro Limited (Seg) 28.45% 28.45% Reject dissimilar function Page 330 54. If the correct working capital adjusted margins are considered, the arithmetic mean of seven accepted comparable companies ou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eady set aside this issue to the TPO/AO for fresh consideration with certain directions. Facts and circumstances being identical in the present AY, we deem it fit and proper to remand the issue of determination of ALP to the TPO/AO keeping in mind the submissions made as above, for fresh consideration. This part of Gr.No.3 is accordingly treated as allowed for statistical purpose. 57. The other corporate issue that arises for consideration is whether expenses incurred in foreign currency should be excluded from both Export turnover and total turnover while computing deduction u/s.10A of the Act. 58. We have already decided identical ground of appeal in AY 2007-08 in the earlier part of this order. Taking into consideration the decision rendered by the Hon ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn), we are of the view that expenditure incurred in foreign currency should be excluded both from export turnover and total turnover. We are of the view that as of today, law declared by the Hon'ble High Court of Karnataka which is the jurisdictional High Court is binding on us. Moreover, the order of the Hon ble Karnataka High ..... X X X X Extracts X X X X X X X X Extracts X X X X
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