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Income Tax Appellate Tribunal, BANGALORE BENCH “ B ”
Before: SHRI VIJAYPAL RAO & SHRI JASON P. BOAZ
O R D E R Per Shri Jason P. Boaz, A.M. : These are cross appeals, one each by the assessee and Revenue, directed against the order of the Commissioner of Income Tax (Appeals)-IV, Bangalore dt.18.8.2014 for Assessment Year 2009-10. 2. The facts of the case, briefly, are as under :- 2.1 The assessee company is a wholly owned subsidiary of iPass Inc., USA providing captive software development support services for its Associated Enterprise (AE) in USA
2 IT(T.P)A Nos.1292 & 1310/Bang/2014 in its product offerings in the internet based mobile office communication services. The assessee is registered as a 100% EOU under the Scheme of STPI and is remunerated on cost plus mark up basis. For Assessment Year 2009-10, the assessee filed its return of income on 30.9.2009 declaring total income of Rs.4,44,20,779 as Book Profits under MAT provisions and income of Rs.34,848 under normal provisions of the Income Tax Act, 1961 (in short 'the Act') after claiming deduction of Rs.5,05,29,384 under Section 10A of the Act. The return was processed under Section 143(1) of the Act and the case was subsequently taken up for scrutiny. 2.2 The Assessing Officer on observing that the assessee reported international transactions, made a reference under Section 92CA of the Act to the Transfer Pricing Officer (‘TPO’) for determination of Arm’s Length Price (‘ALP’) of the international transactions entered into by the assessee with its AE. The TPO passed an order under Section 92CA of the Act dt.11.1.2013 proposing an adjustment of Rs.1,95,59,772 to the ALP of international transactions entered into by the assessee with its AE. Subsequently, the Assessing Officer completed the assessment under Section 143(3) rws 92CA of the Act vide order dt.5.3.2013 wherein the income of the assessee was determined at Rs.1,95,94,620 which included the T.P. Adjustment of Rs.1,95,59,772. Since the assessee decided to prefer an appeal in the matter before the CIT (Appeals), the Assessing Officer passed the final order of assessment under Section 143(3) of the Act dt.15.5.2013.
3 IT(T.P)A Nos.1292 & 1310/Bang/2014 3. Aggrieved by the order of assessment for Assessment Year 2009-10 dt.15.5.2013, the assessee preferred an appeal before the CIT (Appeals) – IV, Bangalore. The learned CIT (Appeals) disposed off the appeal by order dt.18.8.2014 allowing the assessee partial relief.
Both the assessee and revenue are aggrieved by the order of the CIT (Appeals) – IV, Bangalore dt.18.8.2014 for Assessment Year 2009-10 and have filed separate appeals which will be disposed off hereunder. Assessee's Appeal for Assessment Year 2009-10 in IT(TP)A No.1292/Bang/2014.
In its appeal, the assessee has raised the following grounds :- “
On the facts and circumstances of the case and in law:
1. The learned CIT(A) has erred in law and facts, by upholding the addition of Rs. 1,95,59,772 made by the learned Assessing Officer (“AO”) / Transfer Pricing Officer (“TPO”) on account of adjustment to the arm’s length price of the payments made by the Appellant to its Associated Enterprise (“AE”) towards software development services;
2. The learned CIT(A) has erred in law and facts by not accepting the Appellant’s plea entirely and confirming with the learned Assessing Officer (“AO”)/ Transfer Pricing Officer (“TPO”) on not accepting the economic analysis undertaken by the Appellant in accordance with the provisions of the Act read with the Income-tax Rules, 1962 (“Rules”), and conducting a fresh economic analysis for the determination of the arm’s length price in connection with the impugned international transaction and holding that the Appellant’s international transaction is not at arm’s length;
3. The learned CIT(A) has erred in law and facts by upholding the action of AO/TPO in determination of the arm’s length margin/price using only single year data i.e. for FY 2008-09 and not allowing the use of multiple year data as applied by the Appellant in the transfer pricing documentation;
4. The learned CIT(A) has erred in law and facts by upholding the action of AO/ TPO in rejecting certain comparables considered by the Appellant in the comparability analysis by applying different quantitative and qualitative filters: i. The learned CIT(A) has erred, by not adjudicating on the Appellant’s plea that companies that having different accounting year (i.e. companies having accounting 4 IT(T.P)A Nos.1292 & 1310/Bang/2014 year other than March 31 or companies whose financial statements were for a period other than 12 months)should not be rejected. ii. The learned CIT(A) has erred, in law and in facts, by upholding AO/TPO action in rejecting the comparable companies identified by the Appellant wherein consolidated results have been used for analysis. The Appellant had considered the consolidated results in only those cases where the software development services related income of the Indian company constituted more than 75 percent of the consolidated company-wide/ segmental revenues. iii. The learned CIT(A) has erred, in law and in facts, by not accepting the Appellant’s plea that companies should not be rejected using employee cost greater than 25% of the total revenues as a comparability criterion. iv. The learned CIT(A) has erred, in law and in facts, by not accepting the Appellant’s plea that rejecting companies using export sales less than 75% of the operating revenues as a comparability criterion in respect of the software development services transaction, is not appropriate.
5. The learned CIT(A) has erred, in law and in facts, by upholding the action of AO/ TPO in accepting/ rejecting certain comparable companies based on unreasonable comparability criteria.
6. The learned CIT(A) has erred, in law and facts, by considering incorrect receivables and payables in computing the working capital adjustment and further erred, by restricting the benefit on account of working capital adjustment to 1.71 percent.
The learned CIT(A) has erred, in law and facts, by not making suitable adjustments to account for differences in the risk profile of the Appellant vis-à- vis the comparables and concluding that once the working capital adjustment is granted, there is no necessity of providing any further adjustments.
8. The learned CIT(A) has erred, in law and facts, in computing the ALP without giving benefit of +/-5 percent under the proviso to section 92C(2) of the Act; 9. The learned CIT(A) has erred, in law and facts, in confirming the imposition of interest under Sections 234D of the Act by the learned AO.
The learned CIT(A) has erred, in law and facts, in upholding initiation of penalty proceedings under section 271(1)(c) of the Act by the learned AO.”
At the outset itself, the learned Authorised Representative for the assessee submitted that the assessee will only be pressing only the ground at S.No.5 seeking the exclusion of 3 comparable companies from the final set of comparables selected by the TPO.
5 IT(T.P)A Nos.1292 & 1310/Bang/2014 7. The learned Authorised Representative submitted that the assessee will not press and argue the grounds at S.Nos.1to 4 (I to iv) and 6 to 8. Consequently, since these grounds are not pressed they are rendered infructuous and are accordingly dismissed.
In Ground No.9, the assessee has denied itself liable to be charged interest under Section 234D of the Act. The charging of interest is consequential and mandatory and the Assessing Officer has no discretion in the matter. This proposition has been upheld by the Hon'ble Apex Court in the case of Anjum H Ghaswala 252 ITR 1. In this view of the matter, we uphold the action of the Assessing Officer in charging the assessee the said interest. The Assessing Officer is, however, directed to recompute the interest chargeable under Sections 234D of the Act, if any, while giving effect to this order.
In Ground No.10, the assessee challenges the action of the Assessing Officer in initiating penalty proceedings under Section 271(1)(c) of the Act in its case for Assessment Year 2009-10. This ground is not maintainable as no penalty has been levied on the assessee under Section 271(1)(c) of the Act for any cause of grievance to arise in the assessee's case and for us to adjudicate upon in the impugned order. This ground being not maintainable is dismissed accordingly. Transfer Pricing Issues. 10.1 In the year under consideration (i.e. Assessment Year 2009-10), the assessee reported the following international transactions it had entered into with its AE :- Sl.No. International Transactions Amount Rs. 1, Provision of software development services 29,13,15,514 2. Reimbursement of Expenses 1,65,24,195
6 IT(T.P)A Nos.1292 & 1310/Bang/2014 10.2 The financials of the assessee as per its profit and loss account for the year under consideration are as under :- Operating Revenues Rs.29,13,15,514 Operating Expenses Rs.24,98,99,748 Operating profit Rs.4,14,15,766 Operating Profit on cost % 16.57% 10.3 The assessee undertook a T.P. Study in respect of the ALP of its international transactions with its AE. The assessee characterizing itself as a routine provider of software development services to its AE, took itself as the tested party, and adopted ‘ TNMM’ as the Most Appropriate Method (‘MAM’) to determine the ALP. In order to identify companies comparable to the assessee, the assessee conducted its search on Prowess and Capitaline databases. The searches in these data bases resulted in the assessee selecting the following 21 companies as comparables for its software development services. Sl.No. Comparable Weighted Average Margin (%) 1. Akshay Software Technologies Ltd. 6.79 2. Ancent Software International Ltd. 7.41 3. Aztecsoft Ltd. 12.13 4. CG-VAK Software & Exports Ltd. - 1.41 5. Goldstone Technologies Ltd. 24.01 6. Helios & Matherson Information Technology Ltd. 38.09 7. Indium Software (India) Ltd. 1.25 8. Infosys Technologies Ltd. 40.83 9. KPIT Cummins Infosystems Ltd. 12.36 10. Larsen & Toubro Infotech Ltd. 16.46
7 IT(T.P)A Nos.1292 & 1310/Bang/2014 11. LGS Global Ltd. 24.60 12. Maars Software International Ltd. 7.14 13. Mindtree Limited 12.01 14. Persistent Systems Pvt. Ltd. 24.10 15. Quintegra Solutions Ltd. 18.95 16. R S Software (India) Ltd. 9.80 17. Sasken Communication Technologies Ltd. 19.55 18. SIP Technologies and Exports Ltd. - 10.97 19. Softsol India Ltd. 14.95 20. VMF Softech Ltd. 2.08 21. Zylog Systems Ltd. 16.63 Arithmetic Mean 14.13 As the operating margin of the assessee was 16.57% whereas the Mean Margin of the comparables was 14.13%, the assessee treated the ALP of its international transactions with its AE in the software development services segment being at Arm’s Length. 11.1 The TPO rejected the assessee's T.P. Study for the reasons given in the show cause notice and taking TNMM as the MAM carried out a fresh search using the data bases Prowess and Capitaline and applying various filters. Based on this study, the TPO rejected 13 of the 21 companies selected by the assessee as comparables. The TPO’s finally selected 11 comparables in the final set of comparables, 8 being those chosen by the assessee and 3 fresh comparables, with an average Mean Margin of 24.32 % on operating cost. The TPO’s final list of comparable is as under : Sl.No. Comparable Margin (%) (Unadjusted) 1. Akshay Software Technologies Ltd. 8.11 2. Bodhtree Consulting Ltd. 62.27 3. Kals Information Systems Ltd. 13.89 4. R S Software (India) Ltd. 9.97 5. Tata Elxsi Ltd. 20.28
8 IT(T.P)A Nos.1292 & 1310/Bang/2014 6. Sasken Communication Technologies Ltd. 27.91 7. Persistent Systems Ltd. 41.40 8. Larsen & Toubro Infotech 24.72 9. Infosys Ltd. 45.61 10. Zylog Systems Ltd. 7.81 11. Mindtree Ltd. 5.52 Arithmetic Mean 24.32 11.2 After providing a negative working capital adjustment of 0.08%, the net adjusted margin was computed at 24.40% on operating cost. The Assessing Officer then proceeded to compute the ALP of the assessee's international transactions with its AE as under :- Software Development Services. Arm’s Length Mean Margin on cost 24.32% Less : Working Capital Adjustment (Annex.C) (0.08%) Adjusted Margin 24.40% Operating Cost Rs.24,98,99,748 Arm’s Length Price (ALP) @ 124.40% of Rs.31,08,75,286 Operating Cost. Price Received Rs.29,13,15,514 Shortfall being adjustment u/s.92CA Rs.1,95,59,772 The above shortfall of Rs.1,95,59,772 was proposed as the T.P. Adjustment under Section 92CA of the Act in respect of the software development services segment of the assessee's international transactions.
Ground No.5 – Exclusion of Comparables Sought for by the assessee. 12.1 In this ground, the assessee has sought for the exclusion of the following three comparables form the TPO’s set of comparables :-
9 IT(T.P)A Nos.1292 & 1310/Bang/2014 (i) Bodhtree Consulting Ltd. (ii) Infosys Technologies Ltd. (iii) Tata Elxsi Ltd. In support of its claim for exclusion of the above three companies from the list of comparables, the learned Authorised Representative for the assessee has filed written submissions, a chart showing the accept / reject matrix of various comparables, a case law compilation of the judicial pronouncements relied upon, copies of Annual Reports of companies, etc. The learned Authorised Representative submitted that, inter alia, the assessee placed reliance on the decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. in IT(TP)A No.271/Bang/2014 for Assessment Year 2009-10; wherein that company like the assessee, in the case on hand, was also rendering software development services to its AEs and in which case the TPO had selected the very same final set of 11 comparable companies having the same average mean margin of 24.32%. In view of the facts and circumstances of the cited case, in which the order of the co-ordinate bench is also for Assessment Year 2009-10, we find that the similarity and applicability of the findings therein would be similar to those of the case on hand.
Bodhtree Consulting Ltd. (‘Bodhtree’) 13.1 This company was selected by the TPO as a comparable inspite of the assessee's objections to its inclusion in the final list of comparables. The learned CIT (Appeals) upheld the TPO’s action in selecting this company as a comparable.
10 IT(T.P)A Nos.1292 & 1310/Bang/2014 13.2 Before us, the learned Authorised Representative of the assessee contended that this company ought to be excluded from the final set of comparables as it was functionally different from the assessee. The learned Authorised Representative drew the attention of the Bench to page 12 of the Annual Report of ‘Bodhtree’ – “segment wise and product wise performance” wherein it is stated that :- “ Bodhtree has only one segment, namely software development. Being a software solutions company, it is engaged in providing open and end-to-end web solutions, off shoring Data Management, Data Warehousing, Software Consultancy, design and development of solutions, using latest technologies.” 13.2.2 The learned Authorised Representative further submitted that the website of ‘Bodhtree’ suggests that it is a global IT consulting and product engineering services provider with its key areas being product engineering, analytics, cloud and enterprise services. The services offered include:- � Product engineering – outsourced product development, Microsoft Share Point Services, SOA Services and Q&A managed testing services. � Analytic services – includes SAP BOBJ, OBIEE, Big Data, etc. � Cloud services – including cloud applications and platforms, social enterprise, etc. � Enterprise Services – including Oracle implementation services, R12 upgrade services, Oracle Enterprise integration services, etc. � Provides software solutions like Share Tree, Tele Tree, Seema Tree, Apps Scale and MIDAS.
11 IT(T.P)A Nos.1292 & 1310/Bang/2014 � ‘Outlook’ Section of Annual Report at page 15 states that this company has ventured into new areas like business intelligence, speed data management and data clearing operations. 13.3.3 The learned Authorised Representative submits that considering the fact that ‘Bodhtree’ provides varied business solutions and services as laid out above, it is prayed that it may be excluded from the final list of comparables as it is functionally different from the assessee, in the case on hand, who is a captive software development service provider to its AE. In this regard, the assessee, placed reliance on the decision of the co- ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. in IT(TP)A No.271/Bang/2014 dt.14.8.2014 for Assessment Year 2009-10 wherein this company was excluded from the list of comparables to a software development service provider as it is a software product company. 13.4 Per contra, the learned Departmental Representative supported the orders of the authorities below in retaining this company as a comparable to the assessee in the case on hand. 13.5.1 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial pronouncement relied on by the assessee. We find that a co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10, following the decisions of the Mumbai Benches of the ITAT in Nethawk Networks Pvt. Ltd. in dt.6.11.2013 and Wills Processing Services (I) Pvt. Ltd. in ITA No.4547/Mum/2012 had omitted this 12 IT(T.P)A Nos.1292 & 1310/Bang/2014 company from the list of comparables to a software development service provider as it was established to be in software product company. At para 26.1 of its order, the co- ordinate bench held as under :- “ 26.1 Bodhtree Consulting Ltd.:- As far as this company is concerned, it is not in dispute that in the list of comparables chosen by the assessee, this company was also included by the assessee. The assessee, however, submits before us that later on it came to the assessee’s notice that this company is not being considered as a comparable company in the case of companies rendering software development services. In this regard, the ld. counsel for the assessee has brought to our notice the decision of the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. v. ITO, order dated 6.11.2013. In this case, the Tribunal followed the decision rendered by the Mumbai Bench of the Tribunal in the case of Wills Processing Services (I) P. Ltd., ITA No.4547/Mum/2012. In the aforesaid decisions, the Tribunal has taken the view that Bodhtree Consulting Ltd. is in the business of software products and was engaged in providing open & end to end web solutions software consultancy and design & development of software using latest technology. The decision rendered by the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. (supra) is in relation to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Following the aforesaid decision of the Mumbai Bench of the Tribunal, we hold that Bodhtree Consulting Ltd. cannot be regarded as a comparable. In this regards, the fact that the assessee had itself proposed this company as comparable, in our opinion, should not be the basis on which the said company should be retained as a comparable, when factually it is shown that the said company is a software product company and not a software development services company.”
13.5.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10, we hold that ‘Bodhtree’ cannot be regarded as a comparable to a software development service 13 IT(T.P)A Nos.1292 & 1310/Bang/2014 provider, like the assessee in the case on hand, as it is a software product company and consequently direct the Assessing Officer / TPO to exclude this company from the final list of comparables.
Infosys Technologies Ltd. (‘Infosys’) 14.1 This company was initially chosen by the assessee as a comparable to the assessee. However, before the TPO itself the assessee objected to its inclusion in the final set of comparables on grounds of being functionally different since it has brand attributable profits, was owning significant intangibles, was having significant R&D activities, its scale of operations, etc. The TPO however overruled the assessee's objections and included this company in the list of comparables. The learned CIT (Appeals) upheld the TPO’s decision. 14.2.2 Before us, the learned Authorised Representative for the assessee reiterated the assessee's objections to the inclusion of ‘Infosys’ in the final set of comparables as it was functionally dis-similar and different form the assessee who is a captive software service provider to its AE. It was submitted that ‘Infosys’ was a market leader by virtue of its scale of operations, brand attributable profits, owning of significant IPRs ; and intangibles and having significant R&D activities. 14.2.3 In written submissions before us, the learned Authorised Representative contends that :- Company should be rejected as functionally different The company provides solutions that span the entire software life cycle encompassing technical consulting, design, development, re-engineering, maintenance, systems 14 IT(T.P)A Nos.1292 & 1310/Bang/2014 integration, package evaluation and implementation, testing and infrastructure management services. The company also offers software products for the banking industry, business consulting and business process management services. During the year, Infosys earned Rs 848 crores from software products, an increase of 42% over sales of Rs. 597 crores in FY 07-08. (a) Finacle™, its universal banking solution, partners with banks across the globe to power their innovation agenda enabling them to differentiate their products and services thereby enhancing customer experience and achieving greater operational efficiency (Page 13, Annual Report FY 2008-09). (b) Infosys also develops products like “Flypp”, “Infosys Customer Self-Service Energy Manager”, “Infosys Health Benefit Exchange”, “Infosys iTransform – ICD – 10 Migration Suite”, “Infosys mConnect”, “Infosys Omni-Channel Personalization Engine”, “Infosys Real Time Expert manager”, “Infosys Supply chain Performance management Suite”, “Infosys Trade origination System”, “Infosys Transaction Reconciliation System”. Company is engaged in significant R&D Infosys is engaged in significant Research & Development (R&D) that has led to creation of significant Intellectual Property (IP). In this regard, the Annual Report reports as below (Page 19, Annexure to Director’s Report): “Research and development of new solutions and services, designs, frameworks, processes and methodologies continue to be of top priority for us. The intellectual property (IP) created has led to enhance quality, productivity and customer satisfaction. This year we started focusing on creating significant IP to help the company’s non-linear growth strategy.” R&D is conducted at the various Software Engineering & Technology Labs (SETLabs) at Infosys. The SET Labs are engaged in R&D in various technologies, which inter alia includes (Page 19-20, Annexure to Director’s Report) Next generation of software engineering Convergence of services, network and applications Text analysis, machine learning, symbolic and quantitative approaches to Reasoning and Decision Making, and Task Oriented Knowledge Management Systems Virtualization, grid models for computing efficiencies and cloud computing. Application security requirements, etc. The efforts of the SETLabs have lead to creation of R&D and filing of patents. “During the year, the IP Cell of SETLabs has helped file an aggregate of 79 patent applications in the U.S. Patent and Trademark Office and Indian Patent Office.” (Page 13, Director’s Report)
15 IT(T.P)A Nos.1292 & 1310/Bang/2014 SET Labs is also engaged in collaborative R&D efforts like (Page 20, Annexure to Director’s Report): BT (British Telecom) Innovates & SET Labs are jointly working on development and for taking to market a product called Real-time Biz Intelligence Plus (RTBI Plus) Nomura Securities partnered Infosys regarding Interest Rate Risk Analysis Application. Infosys makes substantial expenditure on R&D year on year as can be seen from the table below (Page 20, Annexure to Director’s Report): In Rs. Crore 2009 2008 Revenue expenditure 236 201 Capital expenditure 31 -- Total 267 201 R&D expenditure/Total revenue 1.3% 1.3% Further, the company has already acquired a number of patents and many other applications are pending with the Trademark offices. The relevant screenshot of the Annual Report is provided below for your ready reference: We continue to concentrate on research and innovation. As of fiscal 2009, we have 200 patent applications (pending) in India and the U.S. We have been granted two patents by the United States Patent and trademark Office, earlier in fiscal 2009. Our Australian subsidiary and our research group have jointly participated in establishing the Smart Services Cooperative Research Centre to develop an R&D program for creating intellectual Property valuable to Australia’s services market. Infosys signed an agreement with the International Institute of Information Technology, Hyderabad (IIIT-H) to sponsor research in unstructured data analytics, inference and diagnostics tools and the development of next generation business intelligence tools. We have also partnered with The University of Southern California (USC) Viterbi School of Engineering for joint research. Company has significant intangible assets As per Annual Report of FY 2008-09, the company claims itself as the most reputed and admired company in India (Page 14, Director’s Report). “We were ranked 14th among the most respected companies in the world by Reputation Institute. We were ranked second in the Global Sourcing list of 100 best performing IT service providers. Hays Group and CEO magazine ranked us among the best companies in the world for leaders. ” Infosys is also spending substantial amounts for branding activities. During FY 2008-09, it had incurred an amount of INR 77 crore for brand building and marketing activities, as evident from the relevant screenshot of the Annual Report below: 2.c Selling and marketing expenses. We incurred selling and marketing expenses at 4.6% of our total revenues, compared to 4.7% during the previous year. Rs. In Crore.
16 IT(T.P)A Nos.1292 & 1310/Bang/2014 2009 % 2008 % Growth Revenues 20,264 100.0 15,648 100.0 29.5 Selling and marketing expenses : Salaries and Bonus 682 3.4 506 3.2 34.8 Overseas travel expenses. 92 0.5 86 0.5 7.0 Brand Building and marketing 77 0.4 70 0.4 10.0 expenses. Commission Charges 21 0.1 14 0.1 50.0 Professional charges 21 0.1 18 0.1 16.7 Others 40 0.2 36 0.2 11.1 Total : 933 4.6 730 4.7 27.8”
14.2.4 The learned Authorised Representative prays that in view of the elaborate reasons given above, this company i.e. ‘Infosys’ should be excluded for the final list of comparables to the assessee. In support of this proposition, the assessee placed reliance on the decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10 wherein this company ‘Infosys’ was excluded from the list of comparables as it was found to be owning significant IPRs and intangibles, was into software products, had brand attributable profits, etc. and was held to be not functionally comparable to a purely captive software development service provider. 14.3 Per contra, the learned Departmental Representative supported the decision of the authorities below in including this company as a comparable to the assessee. 14.4.1 We have heard the rival contentions and perused and carefully considered the material on record, including the judicial decisions cited. We find that a co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10, following the decision of an earlier co-ordinate bench in the 17 IT(T.P)A Nos.1292 & 1310/Bang/2014 case of 3DPLM Software Solutions P. Ltd. V DCIT in IT(TP)A No.1303/Bang/2013 dt.28.11.2013, has omitted this company from the list of comparables to a mere software development service provider since it was found to be functionally dis-similar and different, being a market leader engaged in software products, owned significant IPRs and intangibles, had significant R&D activities, brand attributable profits etc. At para 26.2 of its order the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) has held as under :- “ 26.2 Infosys Ltd.:- As far as this company is concerned, it is not in dispute before us that this company has been considered to be functionally different from a company providing simple software development services, as this company owns significant intangibles and has huge revenues from software products. In this regard, we find that the Bangalore Bench of the Tribunal in the case of M/s. TDPLM Software Solutions Ltd. v. DCIT, by order dated 28.11.2013 with regard to this comparable has held as follows:- “11.0 Infosys Technologies L t d . 11.1 This was a comparable selected by the TPO. Before the TPO, the assessee objected to the inclusion of the company in the set of comparables, on the grounds of turnover and brand attributable profit margin. The TPO, however, rejected these objections raised by the assessee on the grounds that turnover and brand aspects were not materially relevant in the software development segment. 11.2 Before us, the learned Authorised Representative contended that this company is not functionally comparable to the assessee in the case on hand. The learned Authorised Representative drew our attention to various parts of the Annual Report of this company to submit that this company commands substantial brand value, owns intellectual property rights and is a market leader in software development activities, whereas the assessee is merely a software service provider operating its business in India and does not possess either 18 IT(T.P)A Nos.1292 & 1310/Bang/2014 any brand value or own any intangible or intellectual property rights (IPRs). It was also submitted by the learned Authorised Representative that :- (i) the co-ordinate bench of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. in has held that a company owning intangibles cannot be compared to a low risk captive service provider who does not own any intangible and hence does not have an additional advantage in the market. It is submitted that this decision is applicable to the assessee's case, as the assessee does not own any intangibles and hence Infosys Technologies Ltd. cannot be comparable to the assessee ; (ii) the observation of the ITAT, Delhi Bench in the case of Agnity India Technologies Pvt. Ltd. in ITA No.3856 (Del)/2010 at para 5.2 thereof, that Infosys Technologies Ltd. being a giant company and market leader assuming all risks leading to higher profits cannot be considered as comparable to captive service providers assuming limited risk ; (iii) the company has generated several inventions and filed for many patents in India and USA ; (iv) the company has substantial revenues from software products and the break up of such revenues is not available ; (v) the company has incurred huge expenditure for research and development; (vi) the company has made arrangements towards acquisition of IPRs in ‘AUTOLAY’, a commercial application product used in designing high performance structural systems. In view of the above reasons, the learned Authorised Representative pleaded that, this company i.e. Infosys Technologies Ltd., be excluded from the list of comparable companies. 11.3 Per contra, opposing the contentions of the assessee, the learned Departmental Representative submitted that comparability cannot be decided merely on the basis of scale of 19 IT(T.P)A Nos.1292 & 1310/Bang/2014 operations and the brand attributable profit margins of this company have not been extraordinary. In view of this, the learned Departmental Representative supported the decision of the TPO to include this company in the list of comparable companies. 11.4 We have heard the rival submissions and perused and carefully considered the material on record. We find that the assessee has brought on record sufficient evidence to establish that this company is functionally dis-similar and different from the assessee and hence is not comparable and the finding rendered in the case of Trilogy E-Business Software India Pvt. Ltd. (supra) for Assessment Year 2007-08 is applicable to this year also. We are inclined to concur with the argument put forth by the assessee that Infosys Technologies Ltd is not functionally comparable since it owns significant intangible and has huge revenues from software products. It is also seen that the break up of revenue from software services and software products is not available. In this view of the matter, we hold that this company ought to be omitted from the set of comparable companies. It is ordered accordingly.” The decision rendered as aforesaid pertains to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Respectfully following the decision of the Tribunal referred to above, we hold that Infosys Ltd. be excluded from the list of comparable companies.” 14.4.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of CISCO India Pvt. Ltd. (supra) for Assessment Year 2009-10, we hold that ‘Infosys’ cannot be regarded as a comparable to a captive software development service provider, like the assessee in the case on hand, and consequently direct the Assessing Officer / TPO to exclude this company from the list of comparables.
20 IT(T.P)A Nos.1292 & 1310/Bang/2014 15. Tata Elxsi Ltd. (Seg.) 15.1 This company selected by the TPO as a comparable overruling the objections of the assessee to its inclusion as a comparable, on grounds that this company was a product company and into systems integration and support services and was therefore functionally different from the assessee. The learned CIT (Appeals) upheld this decision of the TPO. 15.2 Before us, the learned Authorised Representative of the assessee reiterated the contentions put forth before the authorities below that this company was functionally different from the assessee in the case on hand who is a captive software development services provider to its AE. It was submitted by the learned Authorised Representative that the Directors Report and Management Discussion and Analysis of the Annual Report of Tata Elxsi Ltd. for F.Y. 2008-09 indicates that the software development services segment cannot be considered for analysis since it comprises of 3 sub-segments, namely – i. Product design services i.e. Design and development of hardware and software; ii. Innovation design engineering (i.e. Mechanical design with a focus on industrial design) and iii. Visual Computing Labs (i.e. animation and special effects for movies). It is submitted that there being no sub-services break up under the software development services segment to determine the income and expenses from each of the sub-activities mentioned above, the company ‘Tata Elxsi’ ought to be excluded from the list of comparables as it is functionally different from the assessee in the case on hand who is a captive software development service provider to its AE. In this regard, the 21 IT(T.P)A Nos.1292 & 1310/Bang/2014 learned Authorised Representative placed reliance on the decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. in IT(TP)A No.271/Bang/2014 dt.14.8.2014. 15.3 Per contra, the learned Departmental Representative supported the decision of the authorities below in selecting this company to be a comparable to the assessee. 15.4.1 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial pronouncement relied upon by the assessee. We find that a co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra), following the decision in that assessee's own case for Assessment Year 2007-08 (ITA Noi.1076/Bang/2011 dt.29.3.2013) has held ‘Tata Elxsi’ being into software development service segments such as embedded product design services, industrial design and engineering services, systems integrating services, Visual Computing Labs , etc. cannot be regarded as comparable to a pure software development service provider, like is the assessee in the case on hand. At para 26.4 of its order the co-ordinate bench in CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10 has held as under :- “ 26.4 Tata Elxsi Ltd.:- As far as this company is concerned, it is not in dispute before us that in assessee’s own case for the A.Y. 2007-08, this company was not regarded as a comparable in its software development services segment in order dated 29.3.2013. Following were the relevant observations of the Tribunal:- II. UNREASONABLE COMPARABILITY CRITERIA : 19. The learned Chartered Accountant pleaded that out of the six comparables shortlisted above as comparables based on the turnover filter, the following two companies, namely (i) Tata 22 IT(T.P)A Nos.1292 & 1310/Bang/2014 Elxsi Ltd; and (ii) M/s. Flextronics Software Systems Ltd., deserve to be eliminated for the following reasons : (i) Tata Elxsi Ltd., : The company operates in the segments of software development services which comprises of embedded product design services, industrial design and engineering services and visual computing labs and system integration services segment. There is no sub-services break up/information provided in the annual report or the databases based on which the margin from software services activity only could be computed. The company has also in its response to the notice u/s.133(6) stated that it cannot be considered as comparable to any other software services company because of its complex nature. Hence, Tata Elxsi Ltd., is to be excluded from the list of comparables. (ii) Flextronics Software Systems Ltd. : The learned TPO has considered this company as a comparable based on 133(6) reply wherein this company reflected its software development services revenues to be more than 75% of the "software products and services" segment revenues. Flextronics has a hybrid revenue model and hence should be rejected as functionally different. Based on the information provided under "Revenue recognition" in its annual report, it can be inferred that the software services revenues are earned on a hybrid revenue model, and the same is not similar to the regular models adopted by other software service providers. The learned representative pleaded that a regular software services provider could not be compared to a company having such a unique revenue model, wherein the revenues of the company from software/product development services depends on the success of the products sold by its clients in the marketplace. Hence, it would be inappropriate to compare the business operations of the assessee with that of a company following hybrid business model comprising of royalty income as well as regular software services income, for which revenue break- up is not available. He finally submitted that this was a good reason to exclude this company also from the list of comparables.
20. On the other hand, the learned DR supported the order of the lower authorities regarding the inclusion of Tata Elxsi and Flextronics Software Systems Ltd., in the list of comparables. He 23 IT(T.P)A Nos.1292 & 1310/Bang/2014 reiterated the contents of para 14.2.25 of the TPO's order. He also read out the following portion from the TPO's order : "Thus as stated above by the company, the following facts emerge :
1. 1. The company's software development and services segment constitutes three sub-segments i) product design services; ii) engineering design services and iii) visual computing labs.
2. The product design services sub-segment is into embedded software development. Thus this segment is into software development services.
3. The contribution of the embedded services segment is to the tune of Rs.230 crores in the total segment revenue of Rs.263 crores. Even if we consider the other two sub-segments pertain to IT enabled services, the 87.45% (›75%) of the segment's revenues is from software development services.
4. This segment qualifies all the filters applied by the TPO." Regarding Flextronics Software Systems, the following extract from page 143 of TPO's order was read out by him as his submissions : "It is very pertinent to mention here that the company was considered by the taxpayer as a comparable for the preceding assessment year i.e., AY 2006-07. When the same was accepted by the TPO as a comparable, the same was not objected to it by the taxpayer. As the facts mentioned by the taxpayer are the same and these were there in the earlier FY 2005-06, there is no reason why the taxpayer is objecting to it. How the company is functionally similar in the earlier FY 2005-06 but the same is not functionally similar for the 24 IT(T.P)A Nos.1292 & 1310/Bang/2014 subsequent FY 2006-07 even when no facts have been changed from the preceding year. Thus the taxpayer is arguing against this comparable as the company was not considered as a comparable by the taxpayer for the present FY 2006-07."
We have heard the rival submissions and considered the facts and materials on record. After considering the submissions, we find that Tata Elxsi and Flextronics are functionally different from that of the assessee and hence they deserve to be deleted from the list of six comparables and hence there remains only four companies as comparables, as listed below:” 26.5. Following the aforesaid decision of the Tribunal, we hold that M/s. Tata Elxsi Ltd. should not be regarded as a comparable.” 15.4.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) for Assessment Year 2009-10, we hold that ‘Tata Elxsi Ltd.’ cannot be regarded as comparable to the assessee in the case on hand who is a captive software service provider and consequently direct the Assessing Officer / TPO to exclude this company form the list of comparables.
In the result, the assessee's appeal for Assessment Year 2009-10 is partly allowed. Revenue’s Appeal for A.Y. 2009-10 in IT(TP)A No.1310/Bang/2014 17. In its appeal, Revenue has raised the following grounds :- “
1. The order of the CIT (Appeals) is opposed to law and the facts and circumstances of the case.
2. The CIT (Appeals) erred in holding that foreign exchange loss/gain is operating in nature without ascertaining the nexus of the forex gain/loss with the business activity of the taxpayer and without appreciating that such loss/gain though attributable to the operating activity is not derived from the operating activity.
3. The CIT (Appeals) erred in concluding that forex gain/loss are to be treated as operating in nature without appreciating that though they may be incidental to the 25 IT(T.P)A Nos.1292 & 1310/Bang/2014 operating activity, they cannot be deemed as operating in nature since, they are not critical to operational activities of the business conducted by the taxpayer.
4. The CIT (Appeals) erred in law as well as on facts by directing the TPO to decide the case of the assessee, by applying the principles emerging from the orders of the Delhi Bench of the Hon'ble Tribunal in Haworth (India) Pvt. Ltd. V DCIT 11 ITR (Trib) 757 and the Bangalore Bench of the Hon'ble Tribunal in Triology E-Business Software V DCIT 23 ITR (Trib) 464 without appreciating that in transfer pricing every case is unique and requires to be decided independently and that the directions issued are beyond the mandate of the provisions of Section 251(1)(a) of the IT Act which does not empower the CIT (Appeals) to set aside the issue.
5. For these and such other grounds that may be urged at the time of hearing, it is humbly prayed that the order of the CIT (Appeals) be reversed and that of the Assessing Officer be restored.
6. The appellate craves to add, to alter, to amend or delete any of the grounds that may be urged at the time of hearing of the appeal.”
18. The Grounds at S.Nos.1, 5 & 6, being general in nature and not urged before us, no adjudication is called for thereon. 19.0 Grounds at S.Nos.2 to 4 :- Foreign Exchange Gain/Loss. 19.1 In these grounds, the Revenue assails the decision of the learned CIT (Appeals) in the impugned order in holding that foreign exchange gain/loss is operating in nature without appreciating that such gain/loss through attributable to the operating activity of the assessee is not derived from the operating activity but is only incidental to it. Revenue also assailed the decision of the learned CIT (Appeals) in following the decisions of the Delhi Bench of the ITAT in the case of Haworth (India) Pvt. Ltd. in 11 ITR (Trib) 757 and of the co-ordinate bench of the ITAT, Bangalore in the case of Triology E- Business Software India Pvt. Ltd. in 23 ITR (Trib) 464. The learned Departmental Representative was heard in support of the grounds raised.
26 IT(T.P)A Nos.1292 & 1310/Bang/2014 19.2 Per contra, the learned Authorised Representative for the assessee placed reliance on the decision of the learned CIT (Appeals) in the impugned order in holding that foreign exchange gain/loss is to be treated as part of operating activity for determining/comparable companies. It was contended that this issue is covered in favour of the assessee by a catena of decisions of the various benches of the ITAT and the learned CIT (Appeals) had, inter alia, rightly followed and directed the Assessing Officer to follow the decisions of the co-ordinate bench of the ITAT, Bangalore Benches in the case of Triology E-Business Software India Pvt. Ltd. (supra). It was prayed, in the light of the above averments, that Revenue’s appeal on this issue be dismissed. 19.3.1 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial decisions cited and placed reliance upon. We observe that it has not been disputed that the foreign exchange gain/loss has arisen as a consequence of the realization of the consideration for rendering software development services and therefore there is no reason for its exclusion from the operating revenues for the purpose of calculating the operating margin of the assessee. We find that this proposition has been upheld by a co-ordinate bench of this Tribunal in the case of Amba Research India Pvt. Ltd. in IT(TP)A No.1376/Bang/2014 dt.17.4.2015 wherein at para 5.7 thereof it has been held as under :- “ 5.7 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial decisions cited and placed reliance upon. We observe that it has not been disputed that the foreign exchange gain has arisen as a consequence of the realization of the consideration for rendering ITES services and therefore there is no reason for its exclusion from the operating revenues for the 27 IT(T.P)A Nos.1292 & 1310/Bang/2014 purpose of calculating the operating margin of the assessee. We find that this proposition has been upheld by a co-ordinate bench of this Tribunal in the case of Mindteck (India) Ltd. in IT(TP)A No.70/Bang/2014 dt.21.8.2014 wherein at para 11 thereof it has been held as under :- “11. We have considered the rival submissions. It is not disputed by the Revenue that the foreign exchange fluctuation has arisen as a result of the realization of the consideration for rendering software development services. It is therefore incurred in the normal course of business and therefore there is no reason why it should be excluded from determining the operating revenue for the purpose of calculation of operating margin. In our view, the analogy drawn by the DRP regarding exclusion of interest expenses while computing operating margins is not proper. In our view, foreign exchange gain on realization of consideration for rendering software development services should be regarding as part of the operating revenue. Following the decision of the ITAT, Bangalore Bench in the case of SAP Labs (supra), we hold that the operating revenue for the assessee be computed by including the foreign exchange gain.” Following the decision of the co-ordinate benches of this Tribunal in the case of Sap Labs India (Pvt.) Ltd. (surpa), Triology E Business Software India Pvt. Ltd. (supra) and Mindteck (India) Ltd. (supra), we hold that operating revenue should be computed by including the foreign exchange gain. Consequently, the grounds at S.Nos.2 to 4 raised by revenue are dismissed.” Following the decision of the co-ordinate benches of this Tribunal in the case of Sap Labs India (Pvt.) Ltd. (surpa), Triology E Business Software India Pvt. Ltd. (supra), Mindteck (India) Ltd. (supra) and Amba Research India Pvt. Ltd. (supra), we hold that operating revenue should be computed by including the foreign exchange gain/loss. Consequently, the grounds at S.Nos.2 to 4 raised by revenue are dismissed.
In the result,Revenue’s appeal for Assessment Year 2009-10 is dismissed. Order pronounced in the open court on 4th Sept., 2015.