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Income Tax Appellate Tribunal, “B’’ BENCH: BANGALORE
Before: SHRI CHANDRA POOJARI & SHRI GEORGE GEORGE K.
PER CHANDRA POOJARI, ACCOUNTANT MEMBER:
This appeal by the assessee is directed against the final assessment order passed by Deputy Commissioner of Income-tax Circle-2(1)(1), Bangalore for the assessment 2015-16 dated 25.9.2019. The assessee has raised following main grounds of appeal:-
“That the learned Deputy Commissioner of Income Tax, Circle 2(1)(1), Bangalore ("Assessing Officer" or "AO") and the learned Dispute Resolution Panel ("learned Panel") erred in upholding the rejection of Transfer Pricing'('TP') documentation by the learned Assistant Commissioner of Income tax, Transfer Pricing — Range")(1)(2) (learned TPO') and in upholding the adjustment to the transfer price of the Appellant in respect of Software
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Page 2 of 49 Development services (`SWD') & Information Technology enabled services (`ITeS') segments. 2. That the order passed by the learned Assessing Officer to the extent prejudicial to the Appellant, is bad in law and liable to be quashed. 3. That on the facts and circumstances of the case, the learned TPO along with the learned AO, pursuant to the directions issued by the ,learned panel, erred in rejecting the comparability analysis in the TP documentation undertaken by the Appellant in accordance with the provisions of the Act read with the Income Tax Rules, 1962, (`the Rules') and also erred in rejecting companies functionally akin to the Appellant while performing the comparability analysis. 4. The learned TPO along with the learned AO in pursuance of the directions of the learned Panel erred in law and on facts in not providing the Working Capital Adjustment to the Appellant. 5. The learned TPO along with the learned AO in pursuance of the directions of the learned Panel erred in law and on facts in not providing Risk Adjustment and thus ignored the limited risk nature of the services provided by the Appellant and in not providing an appropriate adjustment towards the risk differential, even when full-fledged entrepreneurial companies are selected as comparables. 6. The Learned AO/ TPO while passing the final AO order/ Order giving effect to DRP directions erroneously computed incorrect margin for various comparable companies in SWD and ITeS segments. Following are the comparables for exclusion/inclusion in the SWD segment: 7. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Tata Elxsi Ltd (Seg) as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, huge amount of R&D expenditure, huge onsite expenses, etc. 8. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Rheal Software Private Ltd. as a comparable to the Appellant on the grou.r.ld of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, no segmental bifurcation etc. 9. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Mindtree Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, lack of segmental data, significant onsite activities, owns huge amount of intangibles and having significant R&D expenditure. 10. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Larsen & Tourbo Infotech Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, lack of segmental data, huge onsite activities and significant presence of brand etc.
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Page 3 of 49 ii. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including R S Software (India) Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, onsite revenue model and significant outsourcing expenses etc. 12. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Infobeans Technologies Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar etc. 13. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Persistent Systems Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being engaged in diversified activities and lack of segmental data, significant R&D expenditure, significant outsourcing charges, fails learned TPO fillet of Related Party Transactions, product company etc. 14. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Nihilent Technologies Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar etc. 15. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Aspire Systems (India) Pvt Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, onsite revenue model and significant outsourcing expenses, fails learned TPO filter of Related Party Transactions etc. 16. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Inteq Software Pvt. Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar etc. 17. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Infosys Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, involved in development of software products, huge brand building and R&D 18. The Learned AO in pursuance of the directions of the learned Panel erred in law and on facts in including Cybage Software Pvt. Ltd. as a comparable to the Appellant on the ground of functional similarity whereas this comparable should have been excluded for the reason being functionally dissimilar, involved in diversified activities and lack of segmental data etc.
The Learned TPO along with the learned AO in pursuance of the directions of the learned Panel erred in law and on facts in excluding Akshay Software Technologies Ltd. as a comparable to the Appellant on the ground of functional dissimilarity whereas this comparable should have
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Page 4 of 49 been included for the reason being functionally similar and passing all the filters applied by the Learned TPO. 20. The Learned TPO along with the learned AO in pursuance of the directions of the learned Panel erred in law and on facts in excluding Sasken Communications Technologies Ltd. as a comparable to the Appellant on the ground of functional dissimilarity whereas this comparable should have been included for the reason being functionally similar and passing all the filters applied by the Learned TPO.
The Learned TPO along with the learned AO in pursuance of the directions of the learned Panel erred in law and on facts in excluding I2T2 India Ltd. as a comparable to the Appellant on the ground of lack of Related Party Transaction information whereas this comparable should have been included by learned TPO by exercising his power under Sec 133(6). 22. The Learned AO/ TPO while passing the final AO order/ Order giving effect to DRP directions erred in including Cigniti Technolgies Ltd in ITeS comparable set whereas the same should have been included in SWD comparable set. 23. The Learned AO/ TPO while passing the final AO order/ Order giving effect to DRP directions erred in including Bhilwara Infotechnology Ltd, Nucleus Software Exports Ltd, Cybercom Datamatics Information Solutions Ltd and Consilient Technolgies Pvt Ltd in SWD comparable set whereas the same were not-part of TPO's comparable set in TPO order.”
The assessee also raised following additional grounds:- 24. “On the facts & circumstances of the case and in law, the Final Order/OGE passed by the learned AO/TPO, is not in conformity with the directions issued by the Hon'ble Dispute Resolution Panel ("DRP"), covered in our averments in Ground No. 22, 24 & 28 and thus is bad in law as per provisions of section 144C(10) r.w.s. 144C(13) of the IT Act, 1961.
The learned Transfer Pricing Officer (`TPO') has erred in law and facts by excluding Infomile Technologies Limited, a Software development company, without citing any reason justifying its exclusion, in its Order dated 30/Oct/2018.
The Learned AO/ TPO while passing the final AO order/ Order giving effect to DRP directions erred in excluding Kals Information Systems Ltd, E-Zest Solutions Ltd and CG-VAK Software & Exports Ltd in SWD comparable set whereas the same were part of TPO's comparable set in TPO order, were not objected before the DRP and were not discussed in the DRP directions. 27. The Learned AO/ TPO while passing the final AO order/ Order giving effect to DRP directions erred in excluding Sasken Communication Technologies
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Page 5 of 49 Ltd in SWD comparable set whereas the same should have been included as per the DRP directions.” 3. The assessee filed petition for admission of additional grounds stating that on account of inadvertent oversight on the part of assessee, these additional grounds were not raised on earlier occasion before Ld. Dispute Resolution Panel (“DRP”) and prayed that these additional grounds may be admitted. In view of the judgement of the Hon’ble Supreme Court in the case of NTPC Ltd. reported in 229 ITR 383, wherein it was held that when there is no necessity of investigation of fresh facts, otherwise on record, Tribunal is at liberty to admit the additional grounds. Accordingly, Ld. AR prayed that all the facts are already recorded and there is no necessity of investigation of any facts otherwise on record and prayed that additional grounds may be admitted in the interest of justice.
3.1 Ld. D.R. not put any serious objection for admission of additional grounds. Accordingly, the above additional grounds are admitted for adjudication.
The assessee filed detailed charts mentioning each ground, which are pressed before us. Accordingly, we consider the chart filed before us for the brevity.
Ground Nos.1 to 3 are general in nature, which do not require any adjudication.
Ground No.4 is with regard to the working capital adjustment. The contention of Ld. A.R. is that TPO/DRP erred in not providing appropriate adjustments towards the difference in the working capital between the assessee and the companies selected as comparables. He submitted that in view of the following judgements,
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Page 6 of 49 the assessee is entitled for working capital adjustment and prayed that the same may be granted:- 1. Huawei Technologies India Pvt. Ltd. (AY 2012-13) IT(TP) No.1939/Bang/2017 2. IKA India (P) Ltd. vs. Deputy Commissioner of Income- tax (AY 12-13) IT(TP)A No.2192/Bang/2017. 3. Deputy Commissioner of Income-tax V. Apotex Pharmachem India (P) Ltd. in IT(TP)A No.156/Bang/2014 & 2200/Bang/2016 (AY 09-10 & 11-12). 6.1. We have heard the rival submissions on this issue and perused the record. This issue was considered by the Tribunal in the case of Huawei Technologies India P. Ltd. in IT(TP)A No.1939/Bang/2017 dated 31.10.2018, wherein it was held as under:
“10. The next grievance projected by the Assessee in its appeal is with regard to the action of the CIT(A) in not allowing any adjustment towards working capital differences. On this issue we have heard the rival submisSions. The relevant provisions of the Act in so far as comparability of international transaction with a transaction of similar nature entered into between unrelated parties, provides as follows:
Determination of arm's length price under section 92C . 10B. (1) For the purposes of sub-section (2) of section 92C, the arm's length price in relation to an international transaction [or a specified domestic transaction] shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely :--- (a) to (d)………….
(e)transactional net margin method, by which,— (i) the net profit margin realised by the enterprise from an international transaction [or a specified domestic transaction] entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by 'the enterprise or having regard to any other relevant base;
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Page 7 of 49 (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable. uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction [or the specified domestic transaction] and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market;
(iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii);
(v) the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the, international transaction [or the specified domestic transaction];
(f) ..... (2) For the purposes of sub-rule (1), the comparability of an international transaction [or a specified domestic transaction] with an uncontrolled transaction shall be judged with reference to the following, namely:— (a) the specific characteristics of the property transferred or services provided in either transaction; (b) the functions performed, taking into account assets employed or to be employed and the risks assumed, by the respective parties to the transactions; (c) the contractual terms (whether or not such terms are formal or in writing) of the transactions which lay down explicitly or implicitly how the responsibilities, risks and benefits are to be divided between the respective parties to the transactions; conditions prevailing in the markets.in which the respective (d) parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs. of labour and capital in the markets, overall economic development and level of competition and whether the markets are wholesale or retail. (3) An uncontrolled transaction shall be comparable to an international transaction [or a specified domestic transaction] if—
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Page 8 of 49 (i) none of the differences, if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged or paid in, or the profit arising from, such transactions in the open market; or
(ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences. A reading of Rule 10B(1)(e)(iii) of the Rules read with 11. Sec.92CA of the Act, would clearly shows that the net profit margin arising in comparable uncontrolled transactions has to be adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, which could materially affect the amount of net profit margin in the open market.
Chapters I and III of the OECD Transfer Pricing Guidelines for 12. Multinational Enterprises and Tax Administrations (hereafter the "TPG") contain extensive guidance on comparability analyses for transfer pricing purposes. Guidance on comparability adjustments is found in paragraphs 3.47-3.54 and in the Annex to Chapter III of the TPG. A revised version of this guidance was approved by the Council of the OECD on 22 July 2010. In paragraph 2 of these guidelines it has been explained as to what is comparability adjustment. The guideline explains that wheri applying the arm's length principle, the conditions of a controlled transaction (i.e. a transaction between a taxpayer and an associated enterprise) are generally compared to the conditions of comparable uncontrolled transactions. In this context, to be comparable means that: • None of the differences (if any) between the situations being compared could materially affect the condition being examined in the methodology (e.g. price or margin), or • Reasonably accurate adjustments can be made to eliminate the effect of any such differences. These are called "comparability adjustments.
In Paragraph 13 to 16 of the aforesaid OECD guidelines, need for working capital adjustment has been explained as follows: "13. In a competitive environment, money has a time value. If a company provided, say, 60 days trade terms for payment of accounts, the price of the goods should equate to the price for immediate payment plus 60 days of interest on the immediate payment price. By carrying high accounts receivable a company is allowing its customers a relatively long period to pay their
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Page 9 of 49 accounts. It would need to borrow money to fund the credit terms and/or suffer a reduction in the amount of cash surplus which it would otherwise have available to invest. In a competitive environment, the price should therefore include an element to reflect these payment terms and compensate for the timing effect.
The opposite applies to higher levels of accounts payable. By carrying high accounts payable, a company is benefitting from a relatively long period to pay its suppliers. It would need to borrow less money to fund its purchases and/or benefit from an increase in the amount of cash surplus available to invest. In a competitive environment, the cost of goods sold should include an element to reflect these payment terms and compensate for the timing effect.
A company with high levels of inventory would similarly need to either borrow to fund the purchase, or reduce the amount of cash surplus which it is able to invest. Note that the interest sate July 2010 Page 6 might be affected by the funding structure (e.g. where the purchase of inventory is partly funded by equity) of by the risk associated with holding specific types of inventory)
Making a working capital adjustment is an attempt to adjust for the differences in time value of money between the tested party and potential comparables, with an assumption that the difference should be reflected in profits. The underlying reasoning is that: • A company will need funding to cover the time gap between the time it invests money (i.e. pays money to supplier) and the time it collects the investment (i.e. collects money from customers) • This time gap is calculated as: the period needed to sell inventories to customers + (plus) the period needed to collect money from customers — (less) the period granted to pay debts to suppliers."
Examples of how to work out adjustment on account of working capital adjustment is also given in the said guidelines. The guideline also expresses the difficulty in making working capital adjustment by concluding that the following factors have to be kept in mind (i) The point in time at which the Receivables, Inventory and Payables should be compared between the tested party and the comparables, whether it should be the figures of receivables, inventory and payable at the year end or beginning of the year or average of these figures. (ii) the selection of the appropriate interest rate (or rates) to use. The rate (or rates) should generally be determined by reference to the rate(s) of interest applicable to a commercial enterprise operating in the same market as the
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Page 10 of 49 tested party. The guidelines conclude by observing that the purpose of working capital adjustments is to improve the reliability of the comparables.
In the present case the TPO allowed working capital adjustment accepting the calculation given s by the Assessee. The CIT(A) in exercise of his powers of enhancement held that no adjustment should be made to the profit margins on account of working capital differences between the tested party and the comparable companies for the following reasons:
(i) The daily working capital levels of the tested party and the comparables was the only reliable basis of determining adjustment to be made on account of working capital because that would be on the basis of working capital deployed throughout the year. (ii) Segmental working capital is not disclosed in the annual reports of companies engaged in different segments and therefore proper comparison cannot be made. (vi) Disclose in the balance sheet does not contain break up of trade and non-trade debtors and creditors and therefore working capital adjustment done without such break up would result in computation being skewed. (vii) Cost of capital would be different for different companies and therefore working capital adjustment made disregarding this different based on broad approximations, estimations and assumptions may not lead to reliable results.
16.The CIT(A) also placed reliance on a decision of Chennai ITAT in the case of Mobis India ITA No.2112/Mds/2011 (2013) 38 taxmann.com. That decision was based on the factual aspect that the Assessee was not able to demonstrate how working capital adjustment was arrived at by the Assessee. Therefore nothing turns on the decision relied upon by the CIT(A) in the impugned order. In the matter of determination of Arm's Length Price, it cannot be said that the burden is on the Assessee or the Department to show what is the Arm's Length Price. The data available with the Assessee and the Department would be the starting point and depending on the facts and circumstances of a case further details can be called for. As far as the Assessee is concerned, the facts and figures with regard to his business has to be furnished. Regarding comparable companies, one has to fall back upon only on the information available in the public domain. If that information is insufficient, it is beyond the power of the Assessee to produce the correct information about the comparable companies. The Revenue has on the other hand powers to compel
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Page 11 of 49 production of the required details from the comparable companies. If that power is not exercised to find out the truth then it is no defence to say that the Assessee has not furnished the required details and on that score deny adjustment on account of working capital differences. Regarding applying the daily balances of inventory, receivables and payables for computing working capital adjustment, the Delhi Bench of ITAT in the case of ITO Vs. E Value Serve.com (2016) 75 taxmann.com 195(Del-Trib) has held that insisting on daily balances of working capital requirements to compute working capital adjustment is not proper as it will be impossible to carry out such exercise and that working capital adjustment has to be based on the opening and closing working capital deployed. The Bench has also observed that that in Transfer Pricing Anal is there is always an element of estimation because it is not an exact science. One has to see that reasonable adjustment is being made so as to bring both comparable and test party on same footing. Therefore there is little merit in CIT(A)'s objection on working adjustment based on unavailable daily working capital requirements data. There is Also no merit in the objection of the CIT(A) regarding absence of segmental details available of working capital requirements of comparable companies chosen and absence of details of trade and non-trade debtors of comparable companies as these details are beyond the power of the Assessee to obtain, unless these details are available in public domain. Regarding absence of cost of working capital funds, the OECD guidelines clearly advocates adopting rate(s) of interest applicable to a commercial enterprise operating in the same market as the tested party. Therefore this objection of the CIT(A) is also not sustainable.
In the light of the above discussion we are of the view that the CIT(A) was not justified in denying adjustment on account of working capital adjustment. Since, the CIT(A) has not found any error in the TPO's working of working capital adjustment, the working capital adjustment as worked out by the TPO has to be allowed. We may also add that the complete working capital adjustment working has been given by the Assessee and a copy of the same is at page 173 & 192 of the Assessee's paper book. No defect whatsoever has been pointed out in these working by the CIT(A). We may also further add that in terms of 1ule 10B(1)( e) (iii) of the Rules, the net profit margin arising in comparable uncontrolled transactions should be adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions which could materially affect the amount of net profit margin in the open market. It is, not the case of the CIT(A) that differences in working capital requirements of the international transaction and the uncontrolled comparable transactions is not a difference which will materially affect the amount of net profit margin in the open market. If for reasons given by CIT(A) working capital adjustment cannot be allowed to the profit margins, then the comparable uncontrolled transactions chosen for the
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Page 12 of 49 purpose of comparison will have to be treated as not comparable in terms of Rule 10B(3) of the Rules, which provides as follows:
"(3) An uncontrolled transaction shall be comparable to an international transaction if— (i) none of the differences, if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged to paid in, or the profit arising from, such transactions in the open market; or
(ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences."
In such a scenario there would remain no comparable uncontrolled transactions for the purpose of comparison. The transfer pricing exercise would therefore fail. Therefore, in keeping with the OECD guidelines, endeavor should be made to bring in comparable companies for the purpose of broad comparison. Therefore, the working capital adjustment as claimed by the Assessee should be allowed. We hold and direct accordingly.”
6.2. In view of the above, we remit the issue to the file of AO/TPO to compute the working capital adjustment after necessary examination in the light of the above observation and after allowing an opportunity of hearing to the assessee. This ground is partly allowed for statistical purpose.
Ground No.5 above is not pressed and dismissed as not pressed.
With regard to Ground No.6, the contention of the Ld. A.R. is that the AO/TPO has computed incorrect margin across various comparables in both segments of SWD & ITes. The comparable needs re-computation/verification and prayed that the issue may be
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Page 13 of 49 remitted for re-computation purpose in respect of following comparables:- SWD Segment 1. CG VAK Software & Exports Ltd. 2. Tata Elxsi Limited (Segment) 3. Cybage Software (P) Ltd. ITes Segment 1. Cosmic Global Limited 2. Digicall Global (P) Limited
8.1. We accede to the request of Ld. A.R. Accordingly, we remit the issue to the file of AO/TPO for re-computation of correct margin after giving an opportunity of hearing to the assessee. Accordingly, this ground of appeal is allowed for statistical purposes.
Ground Nos.7 to 18:- 9. The Ld. A.R. wanted the exclusion of following comparables through the ground Nos.7 to 18 as follows:-
Ground No.7 is with regard to exclusion of M/s. Tata Elxsi Limited from the list of comparables.
10.1 The Ld. A.R. submitted that this comparable is functionally dissimilar to the assessee. It had significant R&D activity and onsite activities and it contains significant intangibles. He relied on the order of the Tribunal of Delhi Bench in the case of Global Logic India Ltd. in ITA No.8726/Del/2019 dated 29.6.2020 for the assessment year 2015-16.
10.2 The Ld. D.R. submitted that on perusal of the annual report of this comparable, it was that the software development and
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Page 14 of 49 services segment of this company is functionally comparable to the assessee and passes the filters of the TPO. Further, the revenue streams from this segment is on account of rendition of services and not on account of product sales. The company's business is primarily classified into two segments: (i) software development and services and (ii) systems integration and support. The software development and services segment comprises three divisions (a) Embedded product design (ii) Industrial design (iii) visual computing lab. As per information in the annual report, in the software development and services segment, this company helps its customers to create new products & experience to drive their growth. It was also seen that as per information in the annual report, the company provides consulting, product development and testing services to its customers and help customers to develop brands and products. Thus, this company essentially renders software development, system design and testing services for broadcast, consumer electronics, telecom & transportation industries and does not sell products. The VCL division renders animation services for the media and entertainment industry. Thus, this company can be characterized as a software development & design service provider and functionally comparable to the assessee's activities. Therefore, the plea that this company.is functionally different was rejected by the Ld DRP.
10.3 It was pleaded by the assessee before Ld. DRP that this company is engaged in R&D activities and has significant intangibles. However, perusal of the information in the annual report (ref p.18) that the expenses incurred towards R&D was only 2.75% of total revenue, and quiet less to the generally acceptable tolerable limit of 3%. There is no indication in the annual report to show that the R&D had resulted in any distinct
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Page 15 of 49 product development giving rise to source of separate revenue stream. On the other hand, the information in the annual report indicate that the R&D activities are undertaken towards continuous training, human resource development and to facilitate the engineering teams in upcoming projects in terms of delivery capability and capacity. Therefore, the R&D activities are to be considered as routine and towards enhancing the development capability of the employees for efficient delivery. In view of the above these pleas were rejected by the Ld. DRP.
10.4 With regard to the plea that the company has significant intangibles, it was noted by Ld. DRP that the value of intangibles generated internally was only Rs.3.97 crore (refer page No. 52, fixed assets schedule 9) and is not very significant considering the turnover of Rs.817 crore and assets put to use of Rs.101 crore of the company. Hence this plea was rejected. Ld DRP also noted that the assessee has failed to establish that such differences towards R&D, intangibles have material effect on the margin of the above company, in terms of clause (i) of sub-rule (3) of Rule 10B, which provides that an uncontrolled transaction shall be comparable to an international transaction if none of the differences, if any, between enterprises entering into business transactions or likely to materially affect the profit arising from such transactions in the open market. Hence, these pleas were rejected by Ld. DRP.
10.5 On the plea of onsite expenses, it was noted that the expenditure incurred in foreign currency have been assumed to represent onsite expenses which is totally incorrect. It was seen that, the assessee has not given any reasons or justification as to how these affect comparability. Ld. DRP also stated that onsite expenses do not adversely affect comparability. Hence, Ld DRP
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Page 16 of 49 rejected the plea for exclusion of this company on account of onsite expenses.
10.6 We have heard the rival submissions and perused the materials available on record. We have carefully gone through the order cited by the Ld. A.R. in the case of Global Logic India Ltd. (supra) and also submissions of Ld. D.R. along with order of lower authorities. In the case of Global Logic India Ltd. (supra), the assessee was engaged in provision of software development services to Global Logic India Ltd. (supra), an unrelated customer. The company operates through export- oriented units registered with the STPI. Its total turnover for that assessment year was Rs.41.05 crores and in that case, the AO included Tata Elxsi Ltd. as a comparable while determining ALP, comparing the functions of Global Logic India Pvt. Ltd. with the Tata Elxsi Ltd. It was held by the Tribunal in the case cited (supra) that the Global Logic India Pvt. Ltd. solely engaged in the provisions of software development concerns. Hence, where the concern was also product company, margin of such company cannot be excluded for bench-marking the ALP of international transaction undertaken by the assessee. In the present case, the TPO considered the software development & services segment of Tata Elxsi Ltd. to compare with the assessee company, wherein he found that, that company is functionally comparable to the assessee company and passes through all the filters adopted by the TPO. It was also noted by TPO that revenue streams from this segment is on account of rendition of services and not on account of product sales. As per the information in annual report, in the software development & services segment, this company helps its customer to create new path and experience to drive their growth and also the TPO/DRP rightly commented on the various objections made by the assessee before them. The Ld. A.R. was not able to controvert the above
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Page 17 of 49 findings before us. In view of this, we do not find any infirmity in including this comparable in the list of comparables. This ground of appeal of the assessee is rejected.
Ground No.8 is with regard to exclusion of Rheal Software P. Ltd. This ground was not pressed. Accordingly, dismissed as not pressed.
Ground No.9 is with regard to exclusion of Mind Tree Ltd. from the list of comparables. Ld. A.R. submitted the following:- Significant onsite activity (viz. 46% of revenue earned under Onsite model) Diversified business operations UN Practice Manual, Chapter 5 extract - comparables having unique intangibles have to be rejected Significant Research and development activity Presence of significant non-routine intangibles. 12.1 Ld. D.R. submitted that on perusal of the annual report of this company Ld. DRP noted that this company is engaged in rendering of software development services in different verticals and not engaged in product sales as contended. As seen from the annual report of this company, it is engaged in international information technology consulting and implementation delivering business solutions through global software development. Its software development is structured into five verticals. As per page 108 of annual report, it is stated, 'that the company derives its revenue primarily from software services'. Again, as per page 122 of annual report 'the company is engaged in software development services'. Further, as per Note 3.1.2 of the annual report, the company's earnings in foreign currency from software development services was Rs.34.45 millions. As per the Note on Revenue Recognition, it
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Page 18 of 49 has stated the principles adopted in recognizing revenue from software development services and there is no reference to product sales.
12.2 All these information clearly indicate that this company is engaged in software development. Besides, it is also relevant to note that the IP led revenue constituted meagre 2% of the consolidated revenue of the company for the F.Y. 2014-15 & 1% for F.Y. 2013-14 as per page 90 of the annual report. Considering these information in the annual report, Ld. DRP observed that this company is predominantly (i.e., 98%) engaged in software development activity and is functionally comparable to the assessee. The different services activities (referred in page 90 of annual report), in the form of consulting, maintenance, testing, management support services etc. clearly fall within the gamut of software development services, though it pertains to different verticals. That is the reason, the company has recognized a single business segment i.e., software development services, and which are categorized into five verticals. Besides, page 39, Annexure 4 of the annual report, the nature of the various services activities are given as under:
SI. Name and Description of main NIC Code of the % total turnover of Product / service the No products / services company 1 Writing, modifying, testing of 62011 15.6 computer program to meet 2 Web-page designing 62012 0.0 3 Providing 62013 21.1 software support and maintenance to the clients Computer consultancy and 62020 4.0 computer facilities management activities 5 Software installation 62091 5.6 6 Other information technology and 53.7 computer service activities n.e.c Total 100
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Page 19 of 49 12.3 The above information clearly show that this company is engaged only in software development and related services. Therefore, the pleas that the company performs different and diverse activities and hence functionally different is rejected. Hence, Ld DRP also rejected the plea that this company is product-based company.
12.4 It was also contended that this company owns significant non-routine intangibles and hence not comparable. However, on perusal of the annual report for the F.Y. 2014-15, Ld. DRP noted that there is no information to indicate that the assessee acquired technology licenses or developed patents to give it an edge over others. There is no information to indicate that it owns IPRs which are seen to be insignificant, amounting to Rs.67 million out of total assets of Rs.9849 Million, to constitute a major source of revenue. Ld. DRP further noted that the IP led revenue constituted meagre 2% of the consolidated revenue of the company for the F.Y. 2014-15 & 1% for F.Y. 2013- 14 (refer page 90 of the annual report) which show that these intangibles have materially not affected the profit or revenue of this company. Therefore, Ld. DRP rejected the pleas raised. The selection of this company was upheld.
12.5 It was also argued that this company has significant intangibles and undertakes R & D activity. On careful perusal of the information in the annual report, Ld. DRP noted that the R&D activities are mainly towards remaining abreast with the technological development so as to remain competitive in the business and improve delivery excellence. Further, there is no specific debit in the P&L a/c towards R&D activity, which only indicates that the R&D activities are routine and carried in the
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Page 20 of 49 normal course of business. Besides, as per the information in the Asset Schedule (at page 11 of Annual report), the intangible assets comprised of Intellectual Property and computer software. The value of Intellectual Property as on 31.03.2013 was Rs.67 million, as on 31.03.2014 Rs.15 million and as on 31.03.2015 Rs.2 Trillion which is insignificant and meagre in regard to its Asset Portfolio of Rs.6407 million; Rs.3436 million & Rs.4626 million in the corresponding period. The computer software refer to routine computer licenses & not Intellectual Property generated by the company. Besides, Ld. DRP also noted that as per information in the annual report at page 90, the IP led revenue was only 2% during the year and meagre 1% in the earlier year. Thus, it is evident that the intangibles has no material impact on the revenue growth or profitability of the company. Besides, the assessee has failed to establish that such differences have material effect on the margin of the above company, in terms of clause (i) of sub-rule (3) of Rule 10B, which provides that an uncontrolled transaction shall be comparable to an international transaction if none of the differences, if any, between enterprises entering into business transactions or likely to materially affect the profit arising from such transactions in the open market. Hence, these pleas were rejected by Ld. DRP.
12.6 As to onsite expenses, it was noted that the assessee has assumed that the entire expenditure incurred in foreign currency would be onsite expenses, which is incorrect, as there may be requirement to incur expenditure in foreign currency for offshore transactions also like payment of professional charges, sales commission etc. Besides, the onsite activity, as such would not affect adversely comparability when the company is otherwise functionally comparable. Therefore, Ld. DRP
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Page 21 of 49 considered it appropriate to reject these pleas. Accordingly, he upheld the selection of this comparable.
12.7 We have heard the rival submissions and perused the materials available on record. Admittedly, this comparable is considered as not comparable in the case of Yahoo Software Development India Pvt. Ltd. in ITA No.2651/Bang/2018 and 2635/Bang/2019 for the assessment years 2014-15 & 2015-16 vide order dated 28.2.2020 “42. The DRP while dealing with the aforesaid objections has merely taken the view that the presence of IPR revenue was insignificant and so also expenses of brand value, R&D & intangibles. More importantly, the DRP did not dispute the presence of 46% of revenue from onsite model, but went on to hold that the presence of revenue is not sufficient to exclude a company, when it is otherwise functionally comparable. On this aspect, we have already referred to the decision of the ITAT Bangalore bench in the case of Trilogy e- business Software India (P) Ltd. (supra) and in the light of this decision and admitted the factual position regarding presence of onsite revenue over and above the threshold limit of 255 of total revenue, we are of the view that this company should be excluded from the list of comparable companies. We hold and direct accordingly.”
12.8 In view of the above findings of the Tribunal, we are inclined to direct the TPO/AO to exclude this company from the list of comparables.
Ground No.10 is with regard to exclusion of Larsen & Toubro Infotech Ltd. from the list of comparable companies. In this regard, the Ld. A.R. submitted as follows:- Engaged in functionally dissimilar activities. No segmental information. Brand Value - Presence of such brand value commands premium price. Significant Onsite activity - Overseas office expenses constitute 47.925 of the operating cost during FY 2014-15.
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Page 22 of 49 Company acquired Information Systems Resource Centre Private Limited (“ISRC”) on October 16, 2014 - Extraordinary event during the year under consideration. 13.1 Ld. D.R. submitted that at the outset, the assessee had selected this company as functionally comparable in its TP study giving the following reasons, "Larsen & Toubro Infotech Limited is an IT service company. The company is engaged in providing Application maintenance and Development, Enterprise Resource Planning and specialized services like Data Warehousing and Business Intelligence, Testing Services and Infrastructure Management Services. The services offerings are focussed mainly towards four verticals namely manufacturing, utilities, financial services and telecom. For the period ended March 31, 2015, March 31, 2014 and March 31, 2013 100 percent of the operating revenues respectively were derived from software development services". However, without giving reasons, it has raised a plea that it is functionally different, when the TPO has selected this company as comparable. Further, Ld. DRP noted that this company has two business segments — services cluster and industrials cluster operating in software development services. The information in the annual report clearly show that the entire revenue is from provision of software services. As per Note 2, regarding accounting principle on Revenue Recognition, it is stated that revenue is recognized when services are rendered and related costs incurred; and there is no reference to sale of products. The financial statements do not mention about any product sale or inventory. As there is no revenue stream on account of product sales, Ld. DRP did not find any merit in the argument that the company is engaged in product sales. Accordingly, he upheld it as functionally comparable being a software service provider.
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Page 23 of 49 13.2 It was also contended that the company is engaged in diversified activities with reference to certain information said to be available in the company's website. At the outset, Ld. DPR noted that the information put in website cannot be given much credence, as they are mere forward looking statements with the motive of advertisement and other promotion. Further, the information in website are dynamic and cannot be related to a particular period. The information in the website in the year 2018-19 or 2019-20 will show the functionality for the current period which may be very much different from that existing in 2014-15, the year of scrutiny. There is no way to verify whether the said information have relevance for the year under scrutiny. Therefore, as a principle, Ld. DRP strictly gone by the information in the annual report which is based on audited financial statements. Even otherwise, the information only refer to software services rendered by the company to various industries and as such this company is functionally comparable. The assessee has also not pointed out specifically as to any non- software service undertaken by this company. Therefore, Ld. DRP rejected the pleas raised.
13.3 A plea was raised that this company also provides data analytic services which is high end and hence, cannot be compared to the assessee. Ld. DRP did not find merit in the plea, as undoubtedly, provision of data analytic services is not functionally different from software development activity. The data analytic services also use only certain software and tools, write codes to perform certain tasks. Like any other software application, these tools also facilitate and enables business enterprises for informed management and decision. Therefore, Ld. DRP did not find merit in the plea. Further, there cannot be
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Page 24 of 49 any distinction between high end software activity and low-end activity, so long as it falls within the purview of software development services. Besides, under the TNMM, such differences are tolerable and there is no requirement that the services / activities performed are identical. It is enough that the services are similar and fail within the same domain of software development. Accordingly, the pleas raised were rejected by the Ld. DRP.
13.4 On the pleas as to presence of brand, Ld. DRP noted that, there is no specific information in the financial statements to indicate that the brand has contributed to revenue growth of the company. On the other hand, the reference in the annual report mentions that the company's efforts to be cost-effective and agile in contributing value to clients have strengthened its brand. In other words, its operational efficiency has contributed to its revenue growth and brand name and not the other way. There is no information to indicate that the brand has impacted the revenue or profit of the company. The intangibles referred in the Asset Schedule represent the computer software, and business rights and as such does not refer to any IPR or license owned by the said company as argued. Certain developments are under way which has not crystallized into an intangible to be a source of revenue. Thus, the assessee has failed to establish that such differences have material effect on the margin of the above company, in terms of clause (i) of sub-rule (3) of Rule 10B, which provides that an uncontrolled transaction shall be comparable to an international transaction if none of the differences, if any, between enterprises entering into business transactions or likely to materially affect the profit arising from such transactions in the open market. Hence, these pleas were rejected by the Ld. DRP.
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Page 25 of 49 13.5 On the plea of onsite expense, Ld. DRP noted that the expenditure incurred in foreign currency have been assumed to represent onsite expenses which is totally incorrect. It was seen that, the assessee has not given any reasons or justification as to how these affect comparability. In this regard, Ld. DRP noted profit margins for onsite work is normally low as compared to offshore work and average rate per hour differs for onsite and offshore work; the salary structure in case of on-site project is governed by the economic conditions prevailing in the resident country where work is actually performed, whereas in offshore projects, Indian conditions govern the salary structure which is much lower as compared to the country where associated enterprise is located. This fact is favorable to the assessee on which, there should be no grievances to the assessee. Besides, onsite activity, as such would not affect adversely comparability when the company is otherwise functionally comparable. Accordingly, there is no need to reject a functionally comparable company on account of onsite expenditure.
13.6 Further, it was seen that this company was upheld to be functionally comparable to a software service provider company, by this Tribunal in the case of M/s. Advice America Software Development Centre Private Limited (in ITA (TP) No. 2531/Bang/2017 dated 23.05.2018 relating to A.Y. 2013-14). In view of the above, Ld. DRP upheld the selection of this comparable.
13.7 We have heard the rival submissions and perused the materials available on record. This company as not considered as comparable in the case of Global Logic India Ltd. in ITA No.8726/Del/2019 vide order dated 29.6.2020 and in the case of Goldman Sachs Services Pvt. Ltd. in IT(TP)A No.2355/Bang/2019 dated 15.6.2020
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Page 26 of 49 “9. But The learned Authorized Representative supported his arguments with the decision of the co-ordinate bench of this Tribunal for the A.Y. 2015-16 Yahoo Software India Pvt. Ltd. v. JCT (115 Taxman.com 60) and the three comparables discussed for exclusion in the above paragraphs are dealt by the co-ordinate bench of the Tribunal at page 13, Para 37 to 40 of the order which is read as under : " 37. On the issue of RPT filter, we notice that the TPO in pars 16 has accepted that the RPT filter should St be @ 25%. In th case of Persistent Systems Ltd., the RPT is at 31.32% as extracted in the earlier part of this order and the fore this company should be excluded by application of RPT filter. In view of the above, we do not wish to go into other grounds on which this company is sought to be excluded viz., that it is a product company and there is no segmental data between product and services segment, presence of onsite activity and the impact of extra- ordinary event of acquisition during the relevant previous year. Therefore; this company is, directed to be excluded from the list of comparable company. , 38. As far as "L&T Infotech Ltd. is concerned, the Id. counsel for the assessee brought to our notice the decision of ITA Delhi Bench in the case of Saxo India Pvt. Ltd. v. ACIT, ITA No. 6148/De1/2015 for A' 2011- 12, order dated 5-2-2010, wherein the Tribunal took note of the fact that this company was also trading in software and owned insignificant intangible assets. The company was excluded from the list of comparable companies with reference to SWD services provider such as the assessee. The Id. Counsel pointed out that though this decision was rendered with reference to AY 2011-12, the same reasoning would apply to AY 2015-16 also and in this regard, he drew our attention to page 696 of assessee's PB, which gives the details of the revenue generated by this company without any segmental break- up. Our attention was also drawn to page 682 of PB which shows that there is substantial onsite revenue activity as well as cost incurred on onsite software development. We notice from page 676 of assessee's PB that this company as part of its operating profit in Schedule 0 of profit & loss account contains expenditure for 'cost of bought out items for resale' and this is a significant part of the operating expenditure. When we see the revenue in Schedule M of the profit & loss account, there is no break-up of the revenue with regard to software services and software product. In our opinion, this distinction is enough to exclude this company from the list of comparable companies as held by the Hon'ble Delhi ITAT in the case of Saxo India Pvt. Ltd. (supra) which decision was also confirmed by the Hon'ble Delhi High Court. 39. The next company which the assessee seeks to exclude is 14Lom.Ltd. As far as this company is concerned, it is seen that the following are the functional dissimilarities brought to our notice:- "Functionally dissimilar - owns intellectual properties, incurs significant R&D costs & onsite activity. - Engaged in diversified business_, • activities. - Involved in development of software products in addition
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Page 27 of 49 to software services. - Owns intellectual property rights. - Incurs significant research and development costs. - Carries out significant activities based on onsite business. - Owns products such as Finacle, Edge Verve and other Extra-ordinary event of merger product based solutions with Infosys Consulting India Ltd Segmental profit & loss account not available. Commands substantial brand value. 40. The DRP, however, has not thought it fit to exclude this company by observing that this company has substantial pre-dominant revenue from software services and the growth was not attributable to any brand value. Presence of onsite activity and the expenses on R&D have all been brushed aside. In our view, the difference pointed out by the Id. counsel for the assessee before us show that this company cannot be compared with that of the assessee basically because of its business model, presence of onsite revenue generation and other reasons cited before us. Besides, the reason that turnover of this company is huge and more than 10 times that of the assessee.
We find the decision relied, pertains to A.Y. 2015-16, and the comparable Persistent Systems Limited was excluded based on the RPT filter and the L & T InfoTech Limited was considered for exclusion because of trading in software and owned significant intangible assets, and further the Infosys Limited was excluded considering the brand presence and turnover criteria. We follow the judicial precedence and direct the TPO to exclude L & T InfoTech Limited, Persistent Systems Limited and Infosys Limited from the final list of comparables for determination of ALP.”
13.8 In view of the above, we direct the AO/TPO to exclude this company from the list of comparables.
Ground No.11 is with regard to exclusion of R.S. Software (India) Ltd. from the list of comparable companies. In this regard, the Ld. A.R. submitted as follows:- Significant Onsite activity - The overseas staff and office expenses constitutes a significant portion of the operating cost of the company - 68.82% Functionally dissimilar Significant outsourcing charges - Charges are in the nature of sub-contractor expenses.
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Page 28 of 49 14.1. The Ld. D.R. submitted that the assessee had selected this company as functionally comparable in its TP study giving the reasons, "R S software is engaged in providing technology solutions to the electronic payments industry. The company is focussed exclusively on providing software solution to electronic payment industries since its inception. The company is engaged in development, testing and maintenance of software. For the three years, 100 percent each of the operating revenues were derived from the above mentioned services". Ld. DRP expressed his view that it was strange to note that without giving any specific reason as to how it has become functionally different on selection of this comparable by the TPO, it argues for its exclusion. On perusal of the annual report, he noted that this company is engaged in rendering services relating to maintenance and testing of computer software for the payment industry. As per information given at page 113 of the annual report, 'the company has focussed exclusively on providing software solution to electronic payment industries since its inception. The company is engaged in development, testing and maintenance of software for its clients based in different Geographies'. Thus, it is very apparent, it has a single business activity and the argument that it has diversified activities is primafacie untenable. As it operates in a single business segment, it has reported segmental information based on geography. Further, at page 131, it is categorically stated, 'the company is primarily engaged in rendering services related to maintenance and testing of computer software'. Therefore, Ld. DRP found that this company is functionally comparable to the assessee.
14.2 Referring to information at page 4 of the annual report, it was argued that this company performs diversified activities such as custom application development quality assurance and testing, application maintenance and support, strategic consulting and
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Page 29 of 49 hence not comparable. However, Ld. DRP noted that these are not separate and different activities. They from part of the application maintenance and testing services provided as software solution to electronic payment industry. There is no information in the annual report to take a view that these are different from software development services.
14.3 A plea was raised that this company also provides data analytic services which is high end and hence, cannot be compared to the assessee. Ld. DRP did not find merit in the plea, as undoubtedly, provision of data analytic services is not functionally different from software development activity. The data analytic services also use only certain software and tools, write codes to perform certain tasks. Like any other software application, these tools also facilitate and enables business enterprises for informed management and decision. Therefore, he did not find merit in the plea. Further, there cannot be any distinction between high end software activity and low-end activity, so long as it falls within the purview of software development services. Besides, under the TN MM, such differences are tolerable and there is no requirement that the services / activities performed are identical. It is enough that the services are similar and fall within the same domain of software development. Accordingly, the pleas raised were rejected by the Ld. DRP.
14.4 On the plea of onsite expense, Ld. DRP has already noted that they do not adversely affect comparability. Hence, this plea was rejected by him.
14.5 The company has reported outsourcing activity constituting about 21.17% of total operating cost of the company during the year. The annual report mentions that these activities
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Page 30 of 49 are used for operational activities. This is a common practice in almost all the companies to give a small portion of the work to some other vendors for a variety of reasons. This may allow the company to focus on its core activities. Sometimes it may be to meet the mismatch in certain skill-sets that are required in various projects. These expenses are incurred in the routine course of business. This cannot be held to be a criteria to affect the functional comparability of a company. This objection is accordingly rejected.
14.6 In view of the above, we uphold the selection of this company as comparable.
14.7 We have heard the rival submissions and perused the materials available on record. As rightly pointed out by Ld. A.R., this company is not comparable with the assessee company as held by Tribunal in the case of Yahoo Software Development India Pvt. Ltd. Cited (supra), wherein the overseas staff and office expenses constitutes significant portion of operating cost of the company i.e. 68.82% which is very exorbitant and hence as held by Tribunal in the case of Yahoo Software Development India Pvt. Ltd. cited (supra), we are inclined to direct the AO to exclude this company from the list of comparables.
Ground No.12 is with regard to Infobeans Technologies Ltd. This comparable is not pressed. Accordingly, this ground is dismissed as not pressed.
Ground No.13 is with regard to the exclusion of Persistent Systems Ltd. from the list of comparable companies. In this regard, the Ld. A.R. submitted as follows:-
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Page 31 of 49 Functionally dissimilar - Offers complete product life cycle services. The company has generated revenue from sale of software licenses. Fails RPT to Sales filter applied by the learned TPO - The company has RPT in excess of 25% of the sales I.e. 31.32% of sales. R&D - Persistent owns software products which have been developed in house - Company engaged in R&D activity cannot be considered comparable to captive service providers Significant outsourcing activity Information u/s 133(6) incomplete - Copy of the response provided to Assessee is not complete. 16.1 Ld. D.R. submitted that on perusal of the annual report, Ld. DRP noted that the company's core activity was rendering product development services i.e. providing services to business enterprise to develop software products. As per the information at page 211 of the annual report, it has reported income from software services of Rs.12,353.53/- million and software licenses of Rs.71.45/- million aggregating to Rs.12,424.98/- million. Thus, the income from software licenses constitute a meagre 0.58% of its operating revenue. It is also noted that this company in response to the notice
Software product Category Revenue as per books of accounts (INR) eMee Internally 20,525,798 developed Radia Acquired for 3,421,402 Distribution activity 14,374,00 GEMS Reselling activity SAP Reselling activity 28,877,317 WCM 1,046,640 Internally developed connector(ECSC)
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Page 32 of 49 E Docs DM 876,282 Internally connector developed (ECSC) AWS 790,500 Reselling activity Cloudsquad 1,533,750 Acquired for distribution activity Grand total 71,445,689
16.2 From the information in the above table it could be seen that only an amount of Rs.2.25 crore (i.e. 22.5 million) represent income on account of internally developed which constitute 0.18% of operating revenue, and all others license revenue was from distribution or reselling activity. Besides, the company has also categorically clarified in its reply u/s 133(6) of the Act that it is engaged in software product development services only. The relevant extract of the reply is as under:-
"Persistent System Limited is predominantly engaged in the business of providing outsourced software product development services to customers across the globe from following industry verticals: Infrastructure and systems, Telecom and Wireless, Life science and Healthcare and Financial services. The company reports segment information based on the above industry verticals. The nature of services provided that each of these segments differs only in terms of the industry and specific requirements of customers in each of these industries. The essential activity across all business segments can be considered to be software product development services".
16.3 Further, it is seen that the assessee based on certain information discussed in the consolidated annual report (which included discussion of financial results of Persistent Systems Ltd and its six subsidiaries associates) argued that this company is into product development and IP led revenue. Ld. DRP was of the view that it would be totally incorrect to consider the information
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Page 33 of 49 pertaining to the entire group as such, when the comparability is to be seen with reference to the stand-alone financials of Persistent Systems Ltd, which was considered for comparable analysis by the TPO. 16.4 In this regard it is pertinent to note as per the consolidated annual report the revenue from software license was Rs.535.59 million for the entire group whereas, such revenue in the case of M/s Persistent Systems Ltd was only Rs.71.45 million (Ref page 168 and page 211 of the annual report). It is also seen that in the P&L account of the consolidated financial statement expenses were debited towards Royalty expenses of Rs.176,73 million (refer page 169) and such a debit is not to be noted in the P&L account of M/s. Persistent Systems Limited.
16.5 Further, as per information at page 88 of the annual report for FY 2012-13 it was stated in the notes to the consolidated results that the increase of intangible block of assets during the year (2012-13), of Rs.262.84 million, was mainly on account of acquisition of various IPs during the year and the same is shown in the intangible Asset Schedule of the consolidated financial statement at page 115 as under:-
16.6 All these clearly show that the IP related and product revenue pertain to other group entities and does not pertain to M/s
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Page 34 of 49 Persistent Systems Ltd, which is being compared. It is also relevant to note that this company has clarified in its reply given u/s 133(6), that M/s Persistent Systems Ltd is predominantly engaged in the business of rendering software development services; the revenue reported is primarily on account of rendering of software development services only. The relevant extract is as under
"In respect of the information you have requested under 3(a) and 3(c) in respect of software products and innovations, overseas subsidiary companies of Persistent Group have acquire certain Intellectual Property (IP) products and generating some revenue from licensing and support of these products. In case of PSL India , which is predominantly engaged in the business of rendering software development services, the revenue reported is primarily on account of rendering of software development services only" The above clarification also makes it clear that this company is not into diversified activities.
16.7 Further, it is seen that the expenditure incurred towards R&D as per page 225 of the annual report was Rs.62.24 million, which constitute meagre 0.50% of operating revenue. Further, the capital expenditure towards R&D was only Rs.07.28 million, which clearly show that the R&D activities are routine. The value of intangible assets was only Rs.162.85 million constituting 1.31% of operating revenue. There is no reference to any intangible assets or patent owned or developed by the company, in the stand-alone annual report. There is also no acquisition of intangibles during the year. Further as per note in of the annual report, software product developments costs are expensed as incurred unless the technical and commercial feasibility of the project enable to use or sell the software, they are not capitalized. Such a development is not reflected in the Asset schedule. Thus, it can be inferred that the R&D and intangible assets do not have impact on the revenue and profitability of the company. Ld. DRP also noted that, the assessee has failed to establish that such differences, if any, on account of
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Page 35 of 49 R&D, brand and IRPs have material effect on the margin of the above company, in terms of clause (i) of sub-rule (3) of Rule 10B, which provides that an uncontrolled transaction shall be comparable to an international transaction if none of the differences, if any, between enterprises entering into business transactions or likely to materially affect the profit arising from such transactions in the open market. The said company also clarified u/s 133(6) that its intangible assets are in the nature of software licenses acquired for use in the operation of the company and are not in the nature of inbuilt software product generating revenue for the company. Hence, these pleas were rejected by the Ld. DRP.
16.8 Further, it was seen that this company was held to be engaged in software development and not a product company and hence functionally comparable to a software service provider company, Bangalore bench of Tribunal in the case of M/s. Advice America Software Development Centre Private Limited (in ITA (TP) No. 2531/Bang/2017 dated 23.05.2.918 relating to A.Y. 2013-14). In view of the above, Ld. DRP upheld the selection of this comparable.
16.9 On the plea of the RPT, Ld. DRP noted that the approach of the TPO in treatment of related party transaction into two sets, are for revenue transactions and other for expense transaction is logical and correct. He also noted that the RPT filter was adopted by the TPO was with the above conditions and has adopted consistently. Hence, Ld. DRP did not find any infirmity in the approach. Hence, he rejected the assessee's plea.
16.10 The company has reported outsourcing activity constituting about 14.51% of total operating cost of the company during the year. The annual report mentions that these activities are used for operational activities. This is a common practice in
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Page 36 of 49 almost all the companies to give a small portion of the work to some other vendors for a variety of reasons. This may allow the company to focus on its core activities. Sometimes it may be to meet the mismatch in certain skill-sets that are required in various projects. These expenses are incurred in the routine course of business. This cannot be held to be a criteria to affect the functional comparability of a company. This objection was accordingly rejected by the Ld. DRP.
16.11 On the plea of insufficient information u/s 133(6), Ld. DRP did not find in the merit in the objection of the assessee as discussed in above paras. The complete details are available in the public domain related to revenue generation and intangibles assets. Accordingly, Ld.DRP rejected this objection.
16.12 In view of the above discussion, Ld. upheld the selection of this company as comparable.
16.13 We have heard the rival submissions and perused the materials available on record. This company is considered as not comparable in the case of Yahoo Software Development India Ltd. cited (supra), wherein it is held that when the controlled transactions of Persistent Systems Ltd. constitutes at 32% of sales, as such it cannot be comparable to the assessee’s case. The relevant finding of the Tribunal in the case of Yahoo Software Development India Pvt. Ltd. Cited (supra) is as follows:
“33. We have considered the rival submissions. We find that on the question of application of RPT filter, the assessee had made the following submission before the DRP:-,
Fails the Related Party Transaction to Sales filter applied by the learned TPO
IT(TP)A No.2428/Bang/2019 M/s. Citrix R&D India Private Limited, Bangalore
Page 37 of 49 In the show-cause notice issued, the learned TPO has excluded companies for which the ratio of RPT to sales exceeds 25% during the current year i.e., during FY 2014-15. The relevant extract from the show-cause notice is reproduced below for ease of reference: (e) Companies whIl.bave more than 25% related parry transactions of the sales were excluded. Companies having related party transactions of more than 25% are proposed to be excluded. A threshold of 25% is being applied following the provisions of Section 92A(2)(a) which provides a limit of 26% of the equity capital carrying voting rights for treating an enterprise as Associated Enterprise. if the limit is reduced further it would only result in eliminating more and more companies, on the other hand if the limit is relaxed then companies with predominantly related party transactions would get included which would not represent uncontrolled transactions. Therefore, on a balancing note, 25% is a proper threshold limit for related party transactions. The companies having more than 25% related party transactions should therefore be rejected as comparables. The Hon'ble ITAT has upheld the application of this filter by the TPO in its order in the case of M/s. Supporisoft India Pvt. Ltd for AY 2005-G6 in IT (TP)A 1372/B/11 & 20/2012 dated 28-3-2013 following its own decision in the case of M/s. Actis Advertisers Pvt. Ltd. vide ITA No.5277/Del/2011 dated 12.10.2012.
On perusal of the Annual Report of Persistent observe that the company has RPT in excess of 25% of the sales. The calculation of the same has been provided below for your ease of reference: RPT to Sales ratio for FY 2014-15 particulars Amount (INR Million)
Sale of services 2,410.02 Commission received 10.26 Purchase of software 1.49 Cost of technical professional 1,339.1 Commission paid on sales 111.79 Traveling and conveyance 19.27 Total related party transactions (A) 3,891.93 Total Sales (B) 12,424.98 RPT % of Sales (A/B) 31.32%
From the above computation, it is clear that the controlled transactions of Persistent constitutes 31.32% of sales. Based on the above, it can be seen that Persistent fails the 'RPT to sales ratio' filter applied by the learned TPO and should therefore not be considered as a comparable."
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………………………………………………………………………………………… ………………………………………………………………………………………… 37. On the issue of RPT filter, we notice that the TPO in para 16 has accepted that the RPT filter should be @ 25%. In the case of Persistent Systems Ltd., the RPT is at 31.32% as extracted in the earlier part of this order and therefore this company should be excluded by application of RPT filter. In view of the above, we do not wish to go into other grounds on which this company is sought to be excluded viz., that it is a product company and there is no segmental data between product and services segment, presence of onsite activity company is directed to excluded from the list of comparable company.”
16.14 Further, same view has been taken by Tribunal in the case of Goldman Sachs Services Ltd. in IT(TP)A No.2355/Bang/2019 dated 5.6.2020. In view of the above, we remit this issue to the file of AO to consider the comparability of the company in the light of above observation of the Tribunal. The issue is remitted back to the AO/TPO for fresh consideration.
Ground No.14 is with regard to exclusion of Nihilent Technologies Ltd. from the list of comparables.
17.1 The Ld. A.R. submitted that the company earns onsite revenue of about 90.26% from its office in South Africa and also this company is engaged in high end services in the nature of technology analytics and segmental information is also not available. Hence, he requested to exclude this company from the list of comparables.
17.2 The Ld. D.R. submitted that on perusal of the annual report by the Ld. DRP it was noted that this company is engaged in rendering software services and other related IT services. As per information at page 13 of the annual report, "the company derives its revenue primarily from rendering software service activities'. Further at page 32 of the annual report, it is stated,
IT(TP)A No.2428/Bang/2019 M/s. Citrix R&D India Private Limited, Bangalore
Page 39 of 49 'the company's activities involve predominantly providing software related services, which is considered to be a single business segment, since these are subject to similar risks and returns'. Thus, it is functionally comparable to the assessee which renders software development -services and other allied services. Further, in response to the information gathered u/s 133(6), this company has clarified that it is engaged in software development and IT consulting services and it is not engaged in product development. Thus, the contentions of the assessee that it is engaged in diverse activities and not functionally comparable is without merits. Besides, there is no information in the annual report to indicate that this company is engaged in product development or to indicate that it has revenue stream from product sales. The assessee also could not point to any such information in the annual report. We also note at page 6 of the annual report, the independent auditor has certified, 'the company does not have any purchase of inventories or sales of goods since it is a service company'. In view of these, Ld. DRP upheld that this company is functionally comparable to the assessee and the pleas raised in this regard were rejected.
17.3 Ld. D.R. submitted that the assessee has relied on certain information said to be available in the website of this company and argued that this company is engaged in product development and has diverse activities and hence not comparable to the assessee. At the outset, Ld. DRP was of the considered view that complete credence cannot be given to the information said to be given in the website, as these information are motivated towards advertisement and other promotional gains. Besides, it is impossible to correlate whether the information pertain to the year under scrutiny, or it relate to
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Page 40 of 49 subsequent current period developments. Besides, as a Panel, Ld. DRP strictly gone by the information stated in annual report for qualitative analysis of comparability, as the information stated in the annual report are primarily based on audited financial statements. Therefore, the pleas raised based on information in the website are liable to be rejected in limine. Accordingly, this comparable request for exclusion was rejected by the Ld. DRP.
17.4 We have heard the rival submissions and perused the materials available on record. In this case also on site revenue is 90.26% on its total revenue as such it is held in the case of Yahoo Software Development India Pvt. Ltd. Cited (supra) para 42 of its order as follows:- “42. The DRP while dealing with the aforesaid objections has merely taken the view that the presence of IPR revenue was insignificant and so also expenses of brand value, R&D & intangibles. More importantly, the DRP did not dispute the presence of 46% of revenue from onsite model, but went on to hold that the presence of revenue is not sufficient to exclude a company, when it is otherwise functionally comparable. On this aspect, we have already referred to the decision of the ITAT Bangalore bench in the case of Trilogy e-business Software India (P) Ltd. (supra) and in the light of this decision and admitted the factual position regarding presence of onsite revenue over and above the threshold limit of 255 of total revenue, we are of the view that this company should be excluded from the list of comparable companies. We hold and direct accordingly.”
17.4 In view of the high percentage of on site revenue compared to the assessee company, Nihilent Technologies Ltd. cannot be compared to the assessee and cannot be considered as a comparable. However, these facts were not verified or the assessee not raised these arguments before lower authorities. Hence, this issue is remitted back to the file of AO/TPO for fresh consideration to examine this issue afresh.
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Ground No.15 is with regard Aspire Systems (India) (P) Ltd. for exclusion of this company from the list of comparable companies. The Ld. A.R. submitted as follows:- Onsite revenue - It is observed that the company earns about 90.26% of its revenue from its office in South Africa. Functionally dissimilar - The company is engaged in high end services in the nature of technology analytics Segmental information is not provided. 18.1. Ld. D.R. submitted that on perusal of the annual report, Ld. DRP noted that this company is engaged in provision of software development services and satisfies all the filters adopted by the TPO. This company is engaged in providing outsourced technology services. The pleas raised as to platforms are nothing but software bases on which coding is carried out. Every software company has to use such software platforms to develop the software. The activities of the company fall within the ambit of software services, and comparable to the assessee's functions. The TPO has made a detailed discussion in para 13.4 in the TP order with reference to various activities of software development. Ld. DRP found that the activities of the company fall under the gamut of software development as categorized by the company itself. Accordingly, Ld. DRP did not agree that this company is functionally dissimilar.
18.2 At the outset, he noted that this company fulfils the RPT filter adopted by the TPO. The assessee has erroneous taken it appears all the related party transactions both on the revenue side as well as on the expenditure side without parity between denominator and numerator, which is not correct method.
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Page 42 of 49 18.3 As to onsite expenses, Ld. DRP noted that the assessee has assumed that the entire expenditure incurred in foreign currency would be onsite expenses, which is incorrect, as there may be requirement to incur expenditure in foreign currency for offshore transactions also like payment of professional charges, sales commission etc. Besides, as such Ld. DRP considered it appropriate to reject these pleas.
18.4 The company has reported outsourcing charges constituting about 16.38% of total operating cost of the company during the year. The annual report mentions that these activities are used for operational activities. This is a common practice in almost all the companies to give a small portion of the work to some other vendors for a variety of reasons. This may allow the company to focus on its core activities. Sometimes it may be to meet the mismatch in certain skill-sets that are required in various projects. These expenses are incurred in the routine course of business. This cannot be held to be a criteria to affect the functional comparability of a company. This objection was accordingly rejected by Ld DRP.
18.5 We have heard the rival submissions and perused the materials available on record. The Ld. A.R. placed reliance on the order of Yahoo Software Development India Pvt. Ltd. in ITA No.2657/Bang/2017 (supra) in paras 33, 34 & 37 for the proposition that on site revenue is very high to the total sales and to be excluded. However, we find that these facts are not examined by AO/TPO at their end. Hence, it is remitted to the file of AO/TPO for fresh consideration after giving opportunity of hearing to the assessee.
IT(TP)A No.2428/Bang/2019 M/s. Citrix R&D India Private Limited, Bangalore
Page 43 of 49 19. Ground No.16 is with regard to exclusion of Inteq Software Pvt. Ltd. This ground is not pressed and hence, dismissed as not pressed. 20. Ground No.17 is with regard to exclusion of Infosys Ltd. as comparable in the list of comparables. 20.1 Ld. A.R. submitted as follows:- Infosys is involved in development of software products. No segment data is available in respect of the same. Presence of significant brand values, Intangibles & scale respectively Company engaged in R&D activity cannot be considered comparable to captive service providers Significant onsite activity (viz. 50.4% of revenue is generated from onsite model)
20.2 Ld. D.R. relied on the order of Ld DRP. 20.3 We have heard the rival submissions and perused the materials available on record. This company is considered as not comparable in the case of Yahoo Software Development India Pvt Ltd. Cited (supra). wherein it was held as under:
“The next company which the assessee seeks to exclude is Infosys Ltd. As far as this company is concerned, it is seen that the following are the functional dissimilarities brought to our notice:- "Functionally dissimilar - owns intellectual properties, incurs significant R&D costs & onsite activity. - Engaged in diversified business activities. - Involved in development of software products in addition to software services. - Owns intellectual property rights. - Incurs significant research and development costs. - Carries out significant activities based on onsite business.' - Owns products such as Finacle, Edge Verve and other product based solutions.
IT(TP)A No.2428/Bang/2019 M/s. Citrix R&D India Private Limited, Bangalore
Page 44 of 49 Extra-ordinary event of merger with lnfosys Consulting India Ltd. Segmental profit & loss account not available. Commands substantial brand value. 40. The DRP, however, has not thought it fit to exclude this company by observing that this company has substantial pre-dominant revenue from software services and the growth was not attributable to any brand value. Presence of onsite activity and the expenses on R&D have all been brushed aside. In our view, the difference pointed out by the Id. counsel for the assessee before us show that this company cannot be compared with that of the assessee basically because of its business model, presence of onsite revenue.”
20.4 In view of the above, we direct the AO/TPO to exclude this company from the list of comparables.
Ground No.18 is with regard to exclusion of Cybage Software Pvt. Ltd. From the list of comparable companies. This ground is not pressed and hence, dismissed as not pressed.
Ground No.19 is with regard to inclusion of Akshay Software Technologies Ltd. in the list of comparables. This ground of appeal is not pressed and hence, dismissed as not pressed.
Ground No.20 is with regard to inclusion Sasken Communication Technologies Ltd. in the list of comparables.
23.1 The Ld. A.R. submitted that inspite of direction of Ld. DRP, the TPO has inadvertently missed out the inclusion of this comparable.
23.2 Ld. D.R. relied on the order of Ld DRP.
23.3 We have heard the rival submissions and perused the materials available on record. After hearing both the parties, we
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Page 45 of 49 direct the AO/TPO to pass the final order in conformity with the Ld. DRP’s directions. Directed accordingly.
Ground No.21 is with regard to inclusion of I2T2 India Pvt. Ltd. in the list of comparables.
24.1 The Ld. A.R. submitted as follows:- Functionally comparable: It is engaged in the business of providing SWD services and the predominant revenue generated during the year FY 14-15 is from export of software services. The Company satisfies all the filters applied by the learned TPO. The contention of the TPO that the company fails the export services revenue filter is misplaced, as the same is observed to be 97.55%
24.2 Ld. D.R. relied on the order of Ld. DRP
24.3 We have heard the rival submissions and perused the materials available on record. It was considered in the case of Goldman Sachs Pvt. Ltd. in IT(TP)A No.2355/Bang/2019 dated 15.6.2020 in which it was held as under: “10.(i) I2T2 India Limited - The Ld AR submitted that the comparable company margin is 3.67%. The comparable has to be included as the RPT details are available in the Annual Report and referred to page No.2385 of the Paper book. We are of the opinion that the Assessing Officer could have called for the information under section 133(6) of the Act to confirm the details in the proceedings. Accordingly, we restore this comparable to the file of the TPO/AO for examination and verification of facts.”
24.4 In view of the above, we direct the AO/TPO to include this company as comparable in the list of comparables.
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Ground No.22 is with regard to inclusion of Cigniti Technologies Ltd. in the list of comparables.
25.1 The grievance of Ld. A.R. is that inspite of direction by the Ld DRP to include this company as comparable, TPO failed to follow it.
25.2 Ld. D.R. relied on the order of Ld. DRP
25.3 We have heard the rival submissions and perused the materials available on record. After hearing both the parties, we direct the AO/TPO to follow the Ld. DRP’s order in true perspective and pass consequential order.
Ground No.23 is with regard to give direction to AO/TPO to include following comparables in the list of comparables while passing giving effect order to the DRP’s direction arbitrarily when the above comparable did not form part of the final list of comparables as per TPO order for SWD segment. 1. Bhilwara Infotechnology Ltd. 2. Nucleus Software Expots Ltd. 3. Cybercom Datamatics Information Solotions Ltd. 4. Consilient Technologies Pvt. Ltd.
26.1 We have heard the rival submissions and perused the materials available on record. After hearing both the parties, we direct the AO/TPO to pass the consequent orders in conformity with the direction to the Ld. DRP order. Ordered accordingly.
IT(TP)A No.2428/Bang/2019 M/s. Citrix R&D India Private Limited, Bangalore
Page 47 of 49 27. Next ground no.24 is with regard to exclusion of BNR Udyog Ltd. from the list of comparables.
27.1. Ld. A.R. submitted that inspite of directions by Ld.DRP to exclude this company from the list of comparables, AO/TPO did not follow it.
27.2. We have heard the rival submissions and perused the materials available on record. We direct the AO/TPO to pass consequential order in conformity with the Ld. DRP’s order. Directed accordingly.
Ground No.25 read with additional ground. The first additional ground is not pressed and accordingly dismissed as not pressed.
The next additional ground No.26 is with regard to excluding Infomile Technologies Ltd. from the list of comparables.
29.1 The Ld. A.R. submitted that the TPO/AO has erred in law and facts by failing to pass a speaking order on exclusion of the above comparable in its TP order dated 30/Oct/2018. The assessee has furnished to the TPO, workings and justification as to why this comparable is fit for comparability. The same may be evidenced from page No.473 of the paper book, written submission dated 27 September, 2018, where in the company is found to pass the export earnings to sales filter across three financial years (including the year under consideration).
29.2 The Ld. D.R. submitted that the assessee has not contested before Ld. DRP. Hence, the plea of the assessee be rejected.
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29.3 We have heard the rival submissions and perused the materials available on record. Admittedly, the assessee raised additional ground on this issue. As such in our opinion, lower authority have no occasion to examine it. Being so, in the interest of justice, we remit this issue to AO/TPO for fresh consideration.
Ground No.27 is with regard to fact that these comparables form part of the TPO’s final list in the TP order who got omitted the DRP’s directions and subsequently in the OGE from the TPO the said comparables are neither objected to by either of the parties. In our discussion, in DRP’s direction the inadvertent lapse to be rectified and following companies to be included as comparables. 1) Kals Information Systems Ltd. 2) E-Zest Solutions Ltd. 3) CG VAK Software & Exports Ltd.
Ground No.27 is the additional ground that the AO/TPO while passing the final assessment order/order giving effect to the DRP direction erred in excluding Sasken Communication Technologies Ltd. in software development comparable set, whereas the same should have been included as per DRPs directions. The Ld. A.R. submitted that this inadvertent lapse may be rectified and the said company may be included as comparable.
31.1 After hearing both the parties, this being the additional ground we direct the AO/TPO to consider it afresh and decide accordingly.
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Page 49 of 49 32. In the result the appeal filed by the assessee is allowed for statistical purposes. Order pronounced in the open court on 15th June, 2022
Sd/- Sd/- (George George K.) (Chandra Poojari) Judicial Member Accountant Member
Bangalore, Dated 15th June, 2022. VG/SPS
Copy to:
The Applicant 2. The Respondent 3. The CIT 4. The CIT(A) 5. The DR, ITAT, Bangalore. 6. Guard file By order
Asst. Registrar, ITAT, Bangalore.