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Income Tax Appellate Tribunal, DELHI BENCH “I-1” NEW DELHI
Before: SHRI S.V. MEHROTRA : & SHRI SUDHANSHU SRIVASTAVA:Shri Rohit Tiwari CA Shri Amarendra Kumar CIT (DR)
This is assessee’s appeal against the assessment order dated 22.10.2012, passed by the Assessing Officer u/s 143(3) pursuant to DRP’s directions u/s 144C of the Income-tax Act, 1961, relating to AY 2008-09.
Brief facts of the case are that the assessee is a subsidiary of Avaya International LLC, a Delaware Corporation. The assessee, in the relevant assessment year, was engaged in providing software development services (SDS), IT enabled services (ITES) and market support services (MSS) to its AEs. The company is primarily engaged in the business of software development for export, more specifically, the assessee is involved in development of switching integration and comer stone modules for Janus release, a next generation messaging products. The assessee had filed its return of income declaring an income of Rs. 13,53,49,060/-. During the year under consideration the assessee had reported following international transactions in form 3CEB: Nature of transaction Value of international Transaction Software Services rendered (SDS) 1,508,656,740 Marketing Support Services provided (MSS) 16,158,264 Back office support services function (ITES) 71,907,052 Purchase of fixed assets 62,293,945 Reimbursement of Expenses paid 26,741,824 Maintenance Services availed 259,688
Ld. TPO noticed that TNM method was selected as the most appropriate method for benchmarking these transactions. The OP/TC was taken as the PLI for all the transactions.
At the outset ld. counsel for the assessee pointed out that no adjustment has been made in regard to purchase of fixed assets, maintenance services availed and reimbursement of expenses paid. However, ld. TPO has made adjustment in regard to provision of SDS, provision of MSS and provision of ITES. 5. Ld. TPO noticed that as per the details submitted by assessee, the mean margin of comparables and number of comparables was as under: Particulars Software Market ITES Development support Services Operating 1,508,856,740 26,158,264 71,907,052 Revenues OP/TC 16% 6.50% 18% Method used TNMM TNMM TNMM PLI OP/TC OP/TC OP/TC No. of comparables 18 6 13 Mean margin of 14.30 9.55 13.65% comparables
Ld. TPO conducted a fresh comparability analysis based on application of additional/ revised filters in determining the ALP for the assessee’s international transaction of IT, ITES and MSS and arrived at following results: Particulars Provision of Provision of Provision of IT ITES MSS No. of 19 20 10 comparables Average 26.20% 29.61% 21.76% OP/TC Assessee’s 16.00% 18.00% 6.50% OP/TC TP Rs. Rs. Rs. Adjustment 13,675,334/0 6,800,700/- 3,748,122/-
Ld. TPO, after considering various objections in regard to different comparables, computed the ALP in regard to provision of software development services, as under: “20.5 Computation of Arms Length Price: The arithmetic mean of the profit level indicators is taken as arms length margin. (Please see Annexure B for details of PLI of the comparables). Based on this, the arms length price of the software development services segment rendered by the taxpayer to its AE(s) is computed as under: Arithmetic mean PLI : 26.20% Adj. Arithmetic mean PLI : 26.20% Arm’s Length price: Operating cost Rs. 1,300,738,569 Arms Length margin 26.20% of the operating cost Arms length price Rs. 1,641,532,074 20.6 Price received vis-à-vis the Arm’s Length price:
The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length price as under: Arms Length price @ 126.20% of operating cost Rs. 1,641,532,074 Price charged in the international transactions Rs. 1,508,856,740 Shortfall being adjustment u/s 92CA Rs. 132,675,334
As regards provision of ITES, Ld. TPO computed the ALP as under: a. Computation of Arms Length Price: The arithmetic mean of the profit level indicators is taken as arms length margin. (Please see Annexure E for details of PLI of the comparables). Based on this, the arms length price of the IT enabled services rendered by you is computed as under: Arithmetic mean PLI : 29.16% Arm’s Length price : 29.16% Operating cost Rs. 60,938,179 Arms Length margin 29.16% of the operating cost Arms length price (ALP) Rs. 78,707,752 b. Price received vis-à-vis the Arm’s Length price: The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length price as under: Arms Length price Rs. 78,702,752 Price charged in the international transactions Rs. 71,972,052 Shortfall being adjustment u/s 92CA Rs. 6,800,700
As regards the market support services, ALP was computed as under: a. Computation of Arms Length Price: The arithmetic mean of the profit level indicators is taken as arms length margin. (Please see Annexure Y for details of PLI of the comparables). Based on this, the arms length price of the IT enabled services rendered by you is computed as under: Arithmetic mean PLI : 21.76% Arm’s Length price : 21.76% Operating cost Rs. 24,561,743 Arms Length margin 21.76% of the operating cost Arms length price (ALP) Rs. 29,906,378 b. Price received vis-à-vis the Arm’s Length price: The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length price as under: Arms Length price Rs. 29,906,378 Price charged in the international transactions Rs. 26,158,256 Shortfall being adjustment u/s 92CA Rs. 3,748,122
Being aggrieved with the draft order of AO, passed in pursuance to directions of ld. TPO, the assessee filed its objections before ld. DRP. Ld. DRP issued following directions: a. Provision of Software Development Services: directed for exclusion of Celestial Biolabs for the following reasons: “The Annual report in the case of Celestial Biolabs has been examined. We find that this company fails the employee cost filter. Besides that, this company is constantly receiving loans from Department of Science and Industrial Research and hence the economic circumstances of this company are at absolute divergence from the tested party. In view of these reasons, we find that Celestial Biolabs is not a suitable comparable for analysis. TPO is directed to exclude it.
As regards Softsol India Ltd., Ld. DRP directed as under: “The company is functionally comparable. However, see that the operating margin has been calculated by taking the rental income. The TPO is directed to exclude the Rental income and expenses related to the same for calculating the margins. b. Provision of ITES: 12. As regards Mold-tek Technologies Ltd., ld. DRP directed for exclusion of this company for the following reasons: “In this case, the TPO has, while calculating margins, excluded profits and losses on account of derivatives. Derivatives are normally forward exchange contracts and the nature and the reasons for the profits and losses are not ascertainable. Hence for this year we are not in a position of data sufficiency to conclude whether this company can be taken with the margins accounting for derivatives or otherwise. Thus this company is directed to be kept out of comparability. TPO direct to exclude this. c. Provision of Marketing Support Services: 13. Ld. DRP directed for exclusion of RITES, Vapti Waste & Effluent Management Co. Ltd. observing as under: “The comparables of this segment as taken by the TP have been examined. The comparables namely RITES and Vapti Waste & Effluent Management Co. Ltd. are directed to be excluded from the list of comparables. It is seen that RITES is into an altogether different domain and Vapi has got a different economic model since it is akin to that of an Non Government Organisation.”
14. In pursuance to the directions of Ld. DRP, AO passed the order determining the total income at Rs. 21,98,03,222/- after making addition on account of TPO’s order of Rs. 8,44,55,162/-.
Being aggrieved, the assessee is in appeal before us and has taken following grounds of appeal: “That on the facts and circumstances of the case, and in law;
1. The Assessment Order passed in pursuance of the directions issued by the Hon'ble Dispute Resolution Panel ('Hon'ble DRP') is a vitiated order as the Hon'ble DRP erred both on facts and in law in partially confirming the addition made by the Ld. Assessing Officer ('Ld. AO') to the Appellant's income by issuing an order without appreciation of facts and law;
2. The Hon'ble DRP erred both on facts and in law in partially confirming the transfer pricing adjustment to the income of the Appellant by holding that the international transactions pertaining to its provision of Software Development Services ('11'), IT Enabled Services ('ITES') & Marketing Support Services ('MSS') do not satisfy the arm's length principle envisaged under the Act In doing so, the Hon'ble DRP has grossly erred in agreeing with the Learned Transfer Pricing Officer's ('Ld. TPO's) action of: 2.1. not appreciating that none of the conditions set out in section 92C(3) of the Act are satisfied in the present case; 2.2. disregarding the ALP as determined by the Appellant in the Transfer Pricing ('TP') documentation maintained by it in terms of section 920 of the Act read with Rule 100 of the Income-tax Rules, 1962 ('Rules'); and in particular modifying/ rejecting the filters applied by the Appellant; 2.3. disregarding multiple year/ prior years' data as used by the Appellant in the TP documentation and holding that current year (i.e. FY 2007-08) data for comparable companies should be used despite the fact that the same was not necessarily available to the Appellant at the time of preparing its TP documentation; at 2.4. collecting information of the companies by exercising power granted to him under section 133(6) of the Act that was not available to the Appellant in the public domain and relying on selective information for comparability purposes (and to the extent of completely ignoring reliable data available in public domain/ annual reports in numerous cases), and in doing so violating the fundamental principles of natural justice by relying on the information sourced under section 133(6); 2.5. rejecting without reason, the quantitative and qualitative screens/filters applied and set of comparables arrived at by the Appellant following a detailed and robust search methodology carried out in the TP Report, and proceeding to carry out fresh search by applying certain arbitrarily selected filters and a riving at his own comparables set instead; 2.6. including high-profit making companies in the final comparables' set for benchmarking a low risk captive unit such as the Appellant (disregarding judicial pronouncements on the issue), thus demonstrating an intention to arrive at a pre- formulated opinion without complete and adequate application of mind with the single-minded intention of making an addition to the returned income of the Appellant; 2.7. including certain companies that are not comparable to the Appellant in terms of functions performed, assets employed and risks assumed; 2.8. resorting to arbitrary rejection of low-profit/ loss making companies based on erroneous and inconsistent reasons; 2.9. excluding certain companies on arbitrary/ frivolous grounds even though they are comparable to the Appellant in terms of functions performed, assets employed and risks assumed; 2.10. ignoring the business/ commercial reality that since the Appellant (vis-a-vis its IT, ITES & MSS) is remunerated on an arm's length cost plus basis, i.e. it is compensated for all its operating costs plus a pre-agreed mark-up based on a benchmarking analysis, the Appellant undertakes minimal business risks as against comparable companies that are full fledged risk taking entrepreneurs, and by not allowing a risk adjustment to the Appellant on account of this fact; 2.11. rejecting the Appellant's claim regarding Working Capital adjustment. 2.12. committing a number of factual errors in accept-reject of com parables and/ or in the computation of the operating profit margins of the com parables; 2.13. grossly erred in not providing the benefit of +/-5% range to the Appellant; 2.14. disregarding judicial pronouncements in India in undertaking the TP adjustment; and 2.15. ignoring the fact that the Appellant is entitled to tax holiday under section 10A of the Act on its profits in relation to provision of IT and ITES, and therefore would not have any untoward motive of deriving a tax advantage by manipulating transfer prices of its international transactions.
3. Without prejudice to the above grounds, the Ld. AO grossly erred, while following the direction of Hon'ble DRP of computing the operating margin of Softsol India Limited, in excluding depreciation and expenses attributable to let-out property, without any basis and rationale.
4. On the facts and circumstances of the case and in law, the Ld. AO has grossly erred in initiating penalty proceedings under Section 271 (1) (c) of the Act.
16. Ld. counsel pointed out that as far as software development services and IT enabled service segments are concerned, the same were there in AY 2007-08 and the Tribunal vide its order dated 18.9.2015 has directed for exclusion of comparables as detailed below: Software Development Segment: (x) Infosys Technologies Ltd. “Ld. AR contended that this company cannot be compared with the assessee company because the company owns significant software products and is engaged into various diversified business operations. Its high turnover of Rs.13,149 crores which is 157 times the size of the assessee. He also submitted that this company has substantial intangible assets valued at Rs.89,069 crores which includes brand value of Rs.31,617 crores. It also involves in significant R&D and has ownership of intangibles. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- "25. From the nature of services rendered by the assessee to its AE on a cost plus basis without having any intangible assets or retaining any intellectual property in the work done by it, we find that Infosys Technologies Ltd., which is a giant company in terms of risk profile, scale, nature of services, revenue ownership of branded/proprietary products, onsite and offshore services, etc., cannot be compared with the assessee. Our view is fortified by the judgment of the Hon'ble jurisdictional High Court in the case of CIT vs. Agnity India Technologies Pvt. Ltd. [(2013) 219 Taxman 26 (Del)] in which Infosys Ltd. has been held to be not comparable to a company that was engaged in the business of development of software for parent company. We, therefore, direct the exclusion of this case from the list of comparables. The assessee succeeds." In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
Consistent with the view taken in AY 2007-08, we exclude this comparable from the list of comparables. Assessee succeeds. (xii) KALS Information Systems Ltd. (Seg.) Ld. AR contended that this company cannot be compared with, the assessee company because the company fails on software service revenue filter and has significant revenue from product. This company has no segmental details available. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- "27.1. The TPO observed that this company was engaged in Software development and training. As the software products constituted only 3% of its revenue and training revenue constituted 8.56%, the TPO held that this segment of KALS Information Systems Limited was rightly includible. 27.2. After considering the rival submissions and perusing the relevant material on record, it is an admitted position that the TPO adopted Software development segment of this company by noticing that this segment also included revenues from software products and training. In view of the fact that the assessee is not engaged in imparting any training on commercial basis or selling its software products, we hold that the financials of this company under this segment cannot be compared with the assessee. The contribution by the sale of software products or training to the overall revenue of this segment cannot be precisely ascertained to determine the question of its comparability. As such, this case is directed to be excluded. The assessee succeeds." In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.
Consistent with the view taken in AY 2007-08, we exclude this comparable from the list of comparables. Assessee succeeds. (xxvi) Wipro Ltd. (Seg.) “Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar and a perusal of the segmental details for FY 2006- 07 indicates that Wipro had incurred expenses to the extent of Rs.63,13,70,75,351 towards the cost of goods sold. He further submitted that during the FY 2006-07, this company had earned a markup of 33.43% on the cost incurred in the IT services and as such, on an approximation, the revenue earned by the company from the sale of products would be Rs.84,24,37,99,640. He submitted that this company fails on R&D filter and substantial turnover and also there is no standalone financial data for FY 2006-07. Ld. AR submitted that this comparable was excluded in Toluna (supra). We find force in the said contentions of the AR. In Toluna (supra), the co-ordinate bench while accepting the contentions of the AR, held as under :- "41. After considering the rival submissions and perusing the relevant material on record, we have absolutely no doubt in our mind that this company cannot be considered as comparable to the assessee inasmuch as it is a giant company in terms of parameters discussed above while dealing with the case of Infosys Ltd. The Hon'ble Delhi High Court in the case of Agnity India Technologies Pvt. Ltd. (supra) has upheld the exclusion of this company also from the list of comparables on the basis of certain parameters, which are fully applicable to the instant assessee as well. It is, therefore, directed to exclude this company from the list of comparables. The assessee succeeds." In the light of the co-ordinate Bench finding, as afore-stated, we direct the exclusion of this company from the list of comparables. So, the assessee's objection is upheld.”
Consistent with the view taken in AY 2007-08, we exclude this comparable from the list of comparables. Assessee succeeds. ITES SEGMENT (i) Accentia Technologies Ltd. The TPO repelled the objections of the assessee and placed reliance on the response received to the notice issued under Section 133(6) to hold that Accentia is comparable, despite the fact that the company admitting in writing that it is into medical transcription service. According to ld. AR, the TPO erred in comparing the medical transcription segment of Accentia to ITES segment of assessee. The Ld. AR submitted that Accentia provides high end functions such as Knowledge Process Outsourcing, Legal Process Outsourcing, Data Process Outsourcing, high end software services delivery besides offering Software As A Service ("SaaS") Model in the healthcare outsourcing area. He further submitted that it also developed software products such as Business Process Outsourcing Management ('BPOM') solutions and HealthDox (HRCM Solution), apart from IT enabled services. Our attention was also brought to the pertinent fact that TPO has himself admitted that Annual Report of this company is not available so assumption is that segmental information for Accentia was unavailable before the TPO. We have considered the rival submission and have gone through the material available on record and the case-laws cited by both the parties. We find that a perusal of page 279 of appeal set of TPO order dealing with Accentia, the TPO has stated that annual report of this Financial Year is not available. However, in order to make this company a comparable, the TPO has relied on the reply of this company u/s 133(6) of the Act. Pursuant to the notice of TPO, Accentia had replied that it is into medical transcription and the TPO has held it to be comparable by stating as below: "The company was not part of the companies considered by the taxpayer in the accept/reject matrix given by the taxpayer as Appendix D to the TP report. However, the company's data is available in the Capitaline database. The Annual Report is not available for the FY 2006-07. 133(6) notice was issued. As per the reply received form the company it has ITES segment which is into medical transcription services and qualifies all the filters applied by the TPO. " We find that the TPO has treated the medical transcription segment comparable to that of the ITES back office support of the assessee, which is not correct in view of the Hon'ble jurisdictional High Court decision in Rampgreen Solutions Pvt. Ltd. vs. CIT (ITA 102/2015 order dated 10.08.2015) wherein the Hon'ble High Court has held as under: "33. The Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra) struck a different cord. The Special Bench of the Tribunal held that even though there appears to be a difference between BPO and KPO Services, the line of difference is very thin. The Tribunal was of the view that there could be a significant overlap in their activities and it may be difficult to classify services strictly as falling under the category of either a BPO or a KPO. The Tribunal also observed that one of the key success factors of the BPO Industry is its ability to move up the value chain through KPO service offering. For the aforesaid reasons, the Special Bench of the Tribunal held that ITeS Services could not be bifurcated as BPO and KPO Services for the purpose of comparability analysis in the first instance. The Tribunal proceeded to hold that a relatively equal degree of comparability can be achieved by selecting potential comparables on a broad functional analysis at ITeS level and that the comparables so selected could be put to further test by comparing specific functions performed in the international transactions with uncontrolled transactions to attain relatively equal degree of comparability.
We have reservations as to the Tribunal's aforesaid view in Maersk Global Centers (India) Pvt. Ltd. (supra). As indicated above, the expression 'BPO' and 'KPO' are, plainly, understood in the sense that whereas, BPO does not necessarily involve advanced skills and knowledge; KPO, on the other hand, would involve employment of advanced skills and knowledge for providing services. Thus, the expression 'KPO' in common parlance is used to indicate an ITeS provider providing a completely different nature of service than any other BPO service provider. A KPO service provider would also be functionally different from other BPO service providers, inasmuch as the responsibilities undertaken, the activities performed, the quality of resources employed would be materially different. In the circumstances, we are unable to agree that broadly ITeS sector can be used for selecting comparables without making a conscious selection as to the quality and nature of the content of services. Rule lOB(2)(a) of the Income Tax Rules, 1962 mandates that the comparability of controlled and uncontrolled transactions be judged with reference to service/product characteristics. This factor cannot be undermined by using a broad classification of ITeS which takes within its fold various types of services with completely different content and value. Thus, where the tested party is not a KPO service provider, an entity rendering KPO services cannot be considered as a comparable for the purposes of Transfer Pricing analysis. The perception that a BPO service provider may have the ability to move up the value chain by offering KPO services cannot be a ground for assessing the transactions relating to services rendered by the BPO service provider by benchmarking it with the transactions of KPO services providers. The object is to ascertain the ALP of the service rendered and not of a service (higher in value chain) that may possibly be rendered subsequently.
As pointed out by the Special Bench of the Tribunal in Maersk Global Centers (India) Pvt. Ltd. (supra), there may be cases where an entity may be rendering a mix of services some of which may be functionally comparable to a KPO while other services may not. In such cases a classification of BPO and KPO may not be feasible. Clearly, no straitjacket formula can be applied. In cases where the categorization of services rendered cannot be defined with certainty, it would be apposite to employ the broad functionality test and then exclude uncontrolled entities, which are found to be materially dissimilar in aspects and features that have a bearing on the profitability of those entities. However, where the controlled transactions are clearly in the nature of lower-end ITeS such as Call Centers etc. for rendering data processing not involving domain knowledge, inclusion of any KPO service provider as a comparable would not be warranted and the transfer pricing study must take that into account at the threshold.
As pointed out earlier, the transfer pricing analysis must serve the broad object of benchmarking an international transaction for determining an ALP. The methodology necessitates that the comparables must be similar in material aspects. The comparability must be judged on factors such as product/service characteristics, functions undertaken, assets used, risks assumed. This is essential to ensure the efficacy of the exercise. There is sufficient flexibility available within the statutory framework to ensure a fair ALP." In the light of the above, we find that Accentia is into high end service (KPO), which cannot be compared with the assessee. So, we direct its exclusion from the list of comparables.”
Consistent with the view taken in AY 2007-08, we exclude this comparable from the list of comparables. Assessee succeeds. (viii )Coral Hub (Vishal Information Technologies Ltd.) (vii) Eclerx Services Ltd. “As regards the aforesaid two comparables [mentioned at sl.nos.(vii) & (viii)], The ld. AR at the outset itself pointed out that Eclerx and Vishal are into KPO services. According to him, although KPO services were ITES but the nature of these services were materially different than the services rendered by the assessee. It was asserted that eClerx is engaged in financial services in the nature of account reconciliation, trade order management services and has been rated as a leading KPO by Nelso Hall. It was contended that similarly Vishal was engaged in the services of data analytics and providing data processing solutions to some of the largest brands in the world. Vishal too had been rated as a leading KPO by Nelso Hall. In addition, it was pointed out that whilst the employee costs incurred by Vishal was relatively low and constituted only 2.30% of its total cost during the relevant year, the hire charges, vendor payments constituted almost 87% of the total costs. According to the AR, this evidenced that Vishal' s business model was different and Vishal had outsourced significant part of its operations. We have heard both the sides and perused the material available on record. The Hon'ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd. (supra) has held as under :- "36. As pointed out earlier, the transfer pricing analysis must serve the broad object of benchmarking an international transaction for determining an ALP. The methodology necessitates that the comparables must be similar in material aspects. The comparability must be judged on factors such as product/ service characteristics, functions undertaken, assets used, risks assumed. This is essential to ensure the efficacy of the exercise. There is sufficient flexibility available within the statutory framework to ensure a fair ALP.
Applying the aforesaid principles to the facts of the present case, it is once again clear that both Vishal and eClerx could not be taken as comparables for determining the ALP. Vishal and eClerx, both are into KPO Services. In Maersk Global Centers (India) Pvt. Ltd. (supra), the Special Bench of the Tribunal had noted that eClerx is engaged in data analytics, data processing services, pricing analytics, bundling optimization, content operation, sales and marketing support, product data management, revenue management. In addition, eClerx also offered financial services such as real-time capital markets, middle and back-office support, portfolio risk management services and various critical data management services. Clearly, the aforesaid services are not comparable with the services rendered by the Assessee. Further, the functions undertaken (i.e. the activities performed) are also not comparable with the Assessee. In our view, the Tribunal erred in holding that the functions performed by the Assessee were broadly similar to that of eClerx or Vishal. The operating margin of eClerx, thus, could not be included to arrive at an ALP of controlled transactions, which were materially different in its content and value. In Maersk Global Centers (India) Pvt. Ltd. (supra), the Special Bench of the Tribunal had noted the same and had, thus, excluded eClerx as a comparable. It is further observed that the comparability of eClerx had also been examined by the Hyderabad Bench of the Tribunal in M/s Capital Iq Information Systems(India) (P.) Ltd. v. Additional Commissioner of Income- tax (supra), wherein, the Tribunal directed the exclusion of eClerx as a comparable for the reason that it was engaged in providing KPO Services and further that it had also returned supernormal profits.
38. In our view, even Vishal could not be considered as a comparable, as admittedly, its business model was completely different. Admittedly, Vishal's expenditure on employment cost during the relevant period was a small fraction of the proportionate cost incurred by the Assessee, apparently, for the reason that most of its work was outsourced to other vendors/service providers. The DRP and the Tribunal erred in brushing aside this vital difference by observing that outsourcing was common in ITeS industry and the same would not have a bearing on profitability. Plainly, a business model where services are rendered by employing own employees and using one's own infrastructure would have a different cost structure as compared to a business model where services are outsourced. There was no material for the Tribunal to conclude that the outsourcing of services by Vishal would have no bearing on the profitability of the said entity." In the light of the aforesaid decision of the Honorable jurisdictional High Court in the case of Rampgreen (Supra) wherein the it was held that both these companies cannot be compared with the low end service provider like the appellant in this case.
Consistent with the view taken in AY 2007-08, we exclude these comparables from the list of comparables. Assessee succeeds.
(v) HCL Comnet Systems & Services Ltd. “As regards the aforesaid four comparables [mentioned at sl. no.(iii) to (vi)], the ld. AR at the outset had objection in the filter used by the TPO of 25% related party transactions. According to him, the ideal situation is that there should be zero related party transactions, however, the related party transactions should be taken the least when there are reasonable comparables available before the TPO. In order to buttress his arguments, he cited the order of the coordinate Bench in the case of Motorola Solutions India Private Limited (supra) wherein the Tribunal had accepted the said contention of the assessee and held as under :- "56. We are in agreement with TPO in principle that this filter is appropriate to eliminate the companies which have controlled transactions and thereby have a significant influence on the margins earned. The TPO in his order has observed that in principle the tax payer has no objection for applying this filter. However, its two main contentions are-one-availability of RPT information and second the threshold limit of 15% in place of 25%. At the same time we also find considerable force in the submission of ld. Counsel for the assessee that ideally if sufficient number of 100% uncontrolled comparables are found, then no comparable having related party transactions should be considered. We are in agreement with ld. Counsel that only when sufficient comparables are not found, the related party threshold should be relaxed and 99 only gradually to the extent that sufficient comparables are found, the limit should be relaxed. Therefore, we accept the assessee's plea that no sacrosanct threshold limit should be fixed for this filter. Ld.
DRP has also noted that neither there is any judicial consensus on the numerical limit nor the section so prescribes. However, there is consensus on the effect of RPT i.e. it should not materially affect the international transaction. Therefore, considering the submissions of both the sides, we are of the opinion that if by applying the threshold limit of 15% of related party transaction, sufficient comparables are available then there is no reason to further extend the limit to 25%. Therefore, we direct the TPO to take into consideration only those comparables where related party transactions are to the extent of 15% because it is not the case of revenue that by applying the threshold limit of 15%, it will not get sufficient number of comparables." It was pointed out by the ld. AR that the aforesaid companies related party transactions are more than 15%. We find force in the said contention of the ld. AR and we find that in this list of comparables considered by the TPO, the assessee itself had accepted eleven (11) comparables as comparable with that of the assessee. In such a scenano, we are of the opinion that the TPO may take into consideration only those comparables where related party transactions are to the extent of 15% because it is not a case of the revenue that by applying threshold limit of 15%, it will not get sufficient number of comparables. Since we are not entering into any other grounds raised by the assessee against these companies, the other grounds are left open.”
22. Consistent with the view taken in AY 2007-08, we direct that if the related party transactions of this comparable are found more than 15%, then this comparable would be excluded from the list of comparables.
As regards market support segment, ld. counsel submitted that out of the 8 comparables, finally selected by AO, the assessee is primarily disputing the inclusion of following three comparables: - Apitco Ltd. - Choksi Laboratories Ltd. - WAPCOS Ltd. (Seg.) 24. Ld. counsel submitted that there is no dispute on functional profile of assessee. He pointed out that ld. TPO accepted that assessee was rendering market support services to its AEs. He pointed out that as per TP study, there were 6 comparables with an average profit margin of 9.55% on cost, whereas the tax payer’s margin was 6.5% on OC and, therefore, the transaction was treated at arm’s length. He submitted that because of inclusion of certain comparables, average margin has gone to 21.48%. 25. Ld. counsel referred to the decision of the ITAT Delhi Bench in the case of M/s Ciena India (P) Ltd. Vs. DCIT in & 3324/Del/2013 dated 23.4.2015 for exclusion of these companies from list of comparables. 26. Ld. CIT(DR) relied on the orders of lower revenue authorities. 27. We have considered the submissions of both the parties and have perused the record of the case. Before we decide any inclusion/ exclusion of any comparable from the list of comparables, selected by ld. TPO, we have to examine the market support services rendered by assessee to its AEs. In the TP study, it is stated in para 3.3 that assessee provides marketing support services to Avaya Ireland. Assessee’s marketing support activities include providing information about Avaya products, customer awareness etc. The assessee had renewed its Market Services Agreement effective from 1.4.2007, under which Avaya US compensates Avaya India at an increased mark up of cost plus six point five percent from the previous mark up of five percent. It is further stated in para 4.2 that assessee is responsible for briefing and updating the customers on various promotional initiatives and new product launches of the Avaya Group entities. Assessee advices Avaya Group entities of the local law and business, political and regulatory practices and policies. 28. Ld. counsel has relied on the order of the ITAT in the case of Ciena India Pvt. Ltd. (supra) and, therefore, it is necessary to examine the functional profile of Ciena India Pvt. Ltd. (supra) also in regard to marketing support segment. In this regard we find that the Tribunal in paras 13 & 14 of its order has observed as under:
“13. We have heard the rival submissions and perused the relevant material on record. Before examining the comparability or otherwise of the companies challenged before us, it is of utmost importance to consider the nature of activity carried out by the assessee in the provision of marketing support services. There is no elaboration of the nature of services in the Agreement between the assessee and Ciena Corporation, USA, except for mentioning in Schedule 2: 'Provision of other such services to Ciena, USA as Ciena, USA may reasonably request from time to time.' The TPO has also not discussed the nature of services under this segment except for recording the description of transactions with its nomenclature being 'Provision of marketing support services.' When we advert to the TP study report, it can be found that the functions performed by the assessee in the provision of marketing support services are indicated at page 29 of the paper book, as under:-
- "Marketing: Marketing activities undertaken by Ciena India includes identifying potential customer, collecting market related information, attending trade exhibitions and industry shows, etc. - Sales support: Sales support activities comprise gathering information and analyzing industry information, making presentations on Ciena products and services and providing relevant support to Ciena, US. - Technical Support: Ciena India also provides technical support services to the customers. During FY 2007-08, the Company rendered training and installation support to the end customers of Ciena US. Also, Ciena India received training on technical matter from Ciena Group."
From the above description of Marketing support service performed by the assessee for its foreign AE, it is patent that the assessee's nature of work basically includes identifying potential customers and providing technical support services to the customers of its AE. The work of identifying customers is carried out by collecting market related information, attending trade exhibitions, etc. With this background in mind about the nature of services provided by the assessee under this segment, we now proceed to examine whether or not the companies under challenge are comparable”.
From the above analysis of functions, performed by Ciena India Pvt. Ltd., it is evident that both, assessee and Ciena India Pvt. Ltd., are fully comparable to each other, as regards the functions performed by market support segment of these two viz. assessee and Ciena India Pvt. Ltd.. Therefore, the decisions in the case of Ciena India Pvt. Ltd. will be applicable to the facts of the present case also.
He pointed out that the first comparable which is disputed is Apitco Ltd. In this regard he submitted that this company is functionally different. In this regard he referred to page 275 of the PB containing the annual report of this company and pointed out that the company’s major business segments were as under: - Asset reconstruction and Management Services (Rs. 201.93 lakhs) - Project related services (Rs. 201.64 Lakhs) - Micro Enterprises Development (Rs. 150.09 lakhs) - Infrastructure Planning & Development (Rs. 136.15 lakhs) - Research Studies & Tourism (Rs. 126.22 lakhs) - Spill Development (Rs. 112.88 lakhs); - Environment Management (Rs. 42.08 lakhs); - Entrepreneurship Development & Training (Rs. 34.79 lakhs); - Cluster Development (Rs. 24.08 lakhs); - Energy related services (Rs./ 16.24 lakhs); - Emerging areas (Rs. 5.30 lakhs)
Thus, he submitted that this company was engaged in provision of high end technical consultancy services. He further pointed out that new areas covered by this company were trunkey implementation of wire rope suspension foot bridge at Lakhnavaram lake in Warangal district, Andhra Pradesh .
Ld. counsel referred to the TPO’s comments at page 145 of his order, wherein the ld. TPO has observed as under: “8.1. Apitco Ltd.: In respect of this comparable the assessee has objected on the functional difference ground. However, a perusal of the annual report of the comparable in question reveals that its carried out functions akin to that of the assessee, wherein it prepares project feasibility reports, it carries out market/ other surveys, arranges for seminars and trainings, provides “escort services”, energy related services, skill development etc. These functions are very similar to those provided by the assessee to its AEs. These functions are similar to those carried out by Apitco and hence the objections of the assessee are not acceptable. Apitco meets all the quantitative criteria set forth by the TPO for the selection of comparables. The assessee did not consider the verticals while carrying out its search process therefore its objections are not acceptable.”
With reference to above observations of ld. TPO, ld. counsel pointed out that these observations are not in conformity with the contents of annual report noted above.
34. Ld. counsel further referred to ld. DRP’s order and referred to page 13 of the DRP’s order to demonstrate that assessee’s pleas have not been considered. 35. Having considered submissions of both parties, we find that ld. TPO has not correctly examined the functions performed by Apitco and from the contents of annual report, it is evident that this company is performing very different functions when compared with the assessee’s market support segment functions. We find that in the case of Ciena India Pvt. Ltd., Tribunal in para 17.2 has observed as under:- “17.2 . Having heard the rival submissions and perused the relevant material on record, we find from the Annual report of this company that it is engaged in providing several services, viz., Micro Enterprises Development, Skill Development, Entrepreneurship Development, Research Studies, Project related Services, Infrastructure Planning & Development, Environment Management, Energy related Service, Cluster Development, Technology Facilitation, Asset Reconstruction & Management Services, Emerging Areas. It can be seen from the nature of operations carried out by this company that the same is towards Micro enterprises development, Skill development and Project related services, etc., also including Infrastructure planning and development along with Energy related service and Cluster development. A part of its activities has got some resemblance with the nature of service provided by the assessee under this segment. The ld. CIT(A) has recorded that 'only 12% of total income of this company is from research studies which is akin to the nature of services provided by the assessee company. This contention has not been controverted by the ld. DR with any clinching evidence. When we consider the operations of this company as enumerated above and the fact that this company has maintained accounts on entity level and there is no bifurcation available in respect of the services similar to those provided by the assessee under this segment, this company on entity level cannot be considered as comparable. We, therefore, hold that the ld. CIT(A) was justified in considering this company as not comparable.” 36. We, therefore, following the decision in the case of Ciena India Pvt. Ltd. (supra), direct for exclusion of this company from the list of comparables. 37. Choksi Laboratories Ltd. Ld. counsel referred to page 320 of the PB, wherein as regards segmental reporting it is stated as under in Schedule 14:-
08. Segmental Reporting: The Company treats Analytical Charges & Consultancy Receipts as a single segment and therefore details of segments are not separately shown. The company is a Commercial Testing House engaged in testing of various products and also offers services in the field of pollution control as allied activity. The company is managed organizationally as a unified entity with various functional heads reporting to the top management and is not organized along segments. There are, therefore, no separate segments within the Company as defined by AS-17 (Segmental Reporting) issued by the ICAI.
He further pointed out that this comparable has also been excluded in the case of Ciena India Pvt. Ltd. (supra).
Having heard both the parties we find that there is no separate segmental reporting as regards the market support segment and the functions carried out by this company are not at all comparable to the assessee. We find that the Tribunal in the case of Ciena India Pvt. Ltd., supra, has inter alia, observed as under:
We fail to appreciate as to how marketing support services can be equated with testing services. When we peruse Schedule of fixed assets of this company, it can be seen that the major asset is 'Instruments.' It is with the help of these instruments that the company is providing services in the nature of testing of various products. By no standard, this company can be considered as comparable with the assessee company. We, therefore, direct the exclusion of this company from the list of comparables
Consistent with the view taken in the case of Ciena India Pvt. Ltd., supra, we direct for exclusion of Choksi Laboratories Ltd. from the list of comparables.
WAPCOS LTD. (Seg.): Ld. counsel referred to page 333 to 335 of the PB, wherein the annual report of this company is contained to demonstrate that this company was primarily carrying on high end technical activities by imparting consultancy services for engineering projects. Thus, this company is primarily a technical consultancy organization.
Ld. counsel further referred to page 381 of the annual report and pointed out that in the segment reporting this company has identified two business segments viz. consultancy and engineering projects and lump sum trunkey. He, therefore, submitted that this company has not reported any market support services segment separately. Therefore, both on the count of functional profile as well as segmental reporting, this company cannot be taken as comparable. He pointed out that this company has been directed to be excluded in the case of Ciena India Pvt. Ltd., supra.
Having heard both the parties, we find that this company is mainly imparting technical consultancy services and there is no separate marketing support segment. In the case of Ciena India Pvt. Ltd., supra, the Tribunal has observed in para 16.2 as under:
After considering the rival submissions and perusing the relevant material on record, we find from the Annual report of this company that it has two segments, namely, 'Consultancy and engineering projects' and 'Lumpsum turnkey projects.' The TPO has taken 'Consultancy and engineering project segment' for the purposes of comparison with the assessee company. This company is engaged in infrastructure development projects. This company is also working as independent review and monitoring agency for projects in some States. It is also providing supervision and quality control consultancy for construction/ upgradation of rural roads under PMGSY. It also secured projects for development and hygiene education, development of dry pit latrines, designs for local conditions for household and schools and solid waste management. It also secured projects for transmission line Kirti Irti to Sta, Treng, Cambodia. A review of the above services provided by this company, it can be easily ascertained that it is nowhere close to the rendering of marketing support services, which is being done by the assessee under this segment. The nature of activity done by the assessee is quite distinct from this company. We, therefore, direct to exclude WAPCOS Ltd. (Seg.) from the list of comparables.
Consistent with the view taken in the case of Ciena India Pvt. Ltd., supra, we direct for exclusion of WAPCOS Ltd. from the list of comparables.
Ld. counsel has not advanced any argument apart from inclusion/ exclusion of comparables and, therefore, we are not dealing with other grounds raised
by assessee.
46. In view of above observations, we set aside the order of AO and direct for computing the ALP in terms of our observations for inclusion/ exclusion of comparables.
47. In the result, assessee’s appeal is partly allowed. Order pronouncement in open court on 17/06/2016.