QUALCOMM INDIA PVT. LTD.,NEW DELHI vs. DCIT, NEW DELHI

Date of Hearing 26.10.2015 Date of 06.01.2016 Pronouncement ORDER

PER DIVA SINGH, JM

I.T.A .No.-6059/Del/2012 Prayer for the said exclusion it was submitted is made on the basis of Ground Nos.2.1, 2.3, 2.4 & 2.5. 3.1. Referring to the material available on record it was his submission that merely because the comparable was offered by the assessee, it should not be retained on this count alone as at that stage full facts were not available in the public domain. It was his submission that at the time that the said comparable was offered the assessee did not have the benefit of examining its financial results of 2008-09 assessment year as the selection of the said comparable was done on the basis of the financial data of 2006-07 assessment year. 3.2. The decisions of the Special Bench in the case of DCIT vs Quark Systems Pvt. Ltd. [2010] 4 ITR 606 (SB) Chandigarh Bench and JCIT vs Verizon India Pvt. Ltd. in it was submitted supported the prayer for its exclusion. 3.3. In support of the said request it was further submitted that from 2009-10 assessment year onwards neither the assessee nor the Income Tax Department as per record have considered Saket Projects Ltd. as a comparable company.

I.T.A .No.-6059/Del/2012 declared an income of Rs.4,62,96,826/- under the normal provisions and an income of Rs.51,17,87,682/- under the MAT provisions. The return was processed u/s 143(1) and subsequently after issuance of notice u/s 143(2) was selected for scrutiny assessment. The case following the procedures was marked to the TPO in view of the fact that the assessee engaged in the business of software development and providing marketing services had entered into the following international transactions in the year under consideration:- Nature of International Method Value of international transaction selected transaction (INR) Provision of software TNMM 3,589,814,990 services (including chip design services) Provision of business TNMM 345,440,186 support services Sale of Fixed Assets CUP 1,538,446 Reimbursement of NA 45,365,448 expenses-Payment Interest on ECB CUP NIL

I.T.A .No.-6059/Del/2012 DSP firmware and hardware for the products of QUALCOMM and its group companies QIPL also provides business support, technical support and market research services. 6.1. The TPO considering the relevant Business Support Agreements and the functions performed concluded that when considered with the functions performed qua the “Business Support Services” segment the selection of the comparables made by the assessee was not correct not only on account of the fact that multiple year data had been used but also on account of the fact that a remuneration of only 10% mark up over costs was provided. Considering the vital service provided, he was of the view that the comparables chosen necessitated a relook and accordingly a show cause notice was issued by him. The relevant extract is reproduced hereunder from the TPO’s order at pages 29 to 31 (Appeal set pages 139 to 140):- 6.1. “As per your TP report, in the course of the international transaction related to provision of business support services, the functions that you perform are (i) Identifying potential business opportunities for your AE. (ii) Distributing and disseminating information on the products and services of your AE to the wireless and telecommunication industry. (iii) Advising on local marketing strategies, local market conditions and customers views and requirements on the AE's products and services. (iv) General promotional activities for the AE's technology, products and services. (v) Establishment and maintenance of business relationships with the AE's customers.

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(vi) Providing technical guidance, support and training of the AE's customers. (vii) General administrative and technical assistance as requested by the AE. (viii) Other services that may be requested by the AE. The functional matrix of the functions earned by you vis-a-vis the AE is as below. Sl.No. Type of function QIPL AE 1. Corporate services functions Yes No 2 Market research and Yes No business development 3. Marketing support No Yes 4. Training of employees Yes Limited 5. Implementation and post Yes Yes sales service

The only function that you do not state to be functioning is market support interestingly, your TP report states, "The AE undertakes the marketing activities based on the market research and business development reports provided by QIPL Mumbai". That only means that the effective part of the marketing activity is carried out by you. Further, as in the case of software development and chip designing segments, the service agreement that governs the provision of business support services also mentions that the intellectual property that you will create will be transferred to the AE at no remuneration over and above the routine mark-up of 10% over cost. Such market behaviour is unlikely to answer the arm's length principle. As was argued In the case of the other segment it can be said on this occasion also that no independent party would have agreed to such terms. It is evident from the perusal of the service agreement and the other documents, that you are providing a service that is extremely vital for your AE. You have obviously developed certain intangibles, like the human intangible (that eventually bring benefit to your AE. This is recognized by the AE, hence the provision regarding the intellectual property that has been included in the service agreement. You are entitled to remuneration higher than what will be available to a routine service provider. Under these circumstances, it will be imperative that we choose the comparables carefully. 6.1. As per your TP report you have earned a margin of 10.77% on cost. As against this you have chosen a set of 14 comparables, which have an average margin of 11.97% using multiple year data. As explained in the case of software/chip

I.T.A .No.-6059/Del/2012 designing segment, this approach is faulty-as the mandate of Rule 10D(4) is to use current year data unless it is demonstrated that factors of earlier years have affected the transfer prices in the current year. In all your submissions so far, you have not been able to do so. During the course of these proceedings, you were asked to provide the updated margins of the comparables used by you. You provided the same vide your submission dated 21.02.2011. You have provided the margins in respect of 7 comparables, while the rest are either stated to be 'not available’ or 'not comparable'. The average margin of these 7 comparables is 15.71%. Among the companies that you have rejected Is Saket Projects Ltd. You have rejected it on the ground that Segmental financials are not available. That Is found to be incorrect. As per annexure 8 of your submission dated 21.02.2011, segmental data is very much available. In this case, normally, the Event management segment is considered comparable. This segment still very much exists and the segment revenue is clearly identified. The segment expenses are identified at Schedule 14 of the annual report. Therefore, the event management segment of this company shall be treated as comparable. As for the other companies, the reasons that you have advanced are acceptable, with the exception of the reason of Besant Raj international. You have advanced the reason that the company does not have any foreign exchange earnings. This fitter is not required to be used in this segment. However, the company shall remain rejected because in FY 2007-08, revenue from comparable activities (Provision of consultancy services) is less than 75 percent (Consultancy Income was 63.22 percent) of total revenue. Since no segmental information is available, the company is rejected.”

6.2. The assessee in its transfer pricing study disclosed that its margin of 10.77% with Profit Level Indicator (hereinafter referred to as “PLI”) as Operation Profit to Total Cost (hereinafter referred to as “OP/TC”) was comparable as against the OP/TC margins of 14 comparables which worked out to 11.97%. These 14 comparables selected by the assessee included Saket Projects Ltd. and since multiple year data had been taken the assessee was required in I.T.A .No.-6059/Del/2012 terms of the mandate of Rule 10D(4) to provide updated margins of the comparables chosen by the assessee. 6.3. The assessee as per record provided the update margins of 7 comparables excluding the remaining as “not comparable” or “not available. For the exclusion of Saket Projects Ltd. as a comparable the assessee’s objection were over-ruled by the TPO on the following reasoning:- 6.2.1. Saket Projects Ltd. “The assessee will recall that this company was chosen by the assessee as a comparable. The assessee has used multiple year data in its search for comparables. As in the case of many of the comparables chosen by it, in this case also the assessee did not use current year data. However, the assessee has obviously carried out a functional analysis on the basis of data of previous years. That means that this company was comparable based on earlier year data. The company would validly cease to be a comparable on the use of current year data if there was a change in the functions of this company. There no doubt about the fact that there is no change in the functions of this company as compared to earlier years. Para 3.63 of the OECD Guidelines, 2010 state as below. 3.63 Extreme results might consist of fosses or unusually high profits. Extreme results can affect the financial indicators that are looked at in the chosen method (e.g. the gross margin when applying a resale price, or a net profit indicator when applying a transactional net margin method). They can also affect other items, e.g. exceptional items which are below the line but nonetheless may reflect exceptional circumstances. Where one or more of the potential comparables have extreme results, further examination would be needed to understand the reasons for such extreme results. The reason might be a defect in comparability, or exceptional conditions met by an otherwise comparable third party. An extreme result may be excluded on the basis that a previously overlooked significant comparability defect has been brought to light, not on the sole basis that the results arising from the proposed "comparable” merely appear to be very different from the results observed in other proposed “comparables”.

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This point is being made here because the only reason that the assessee has raised objection against its own comparable is because of the high margin. The Issue of the inappropriateness of objecting to comparables merely on the issue of margin has been discussed earlier in this order. In addition to what has been stated, it must he stated that margin is at best a measure of efficiency in the normal course of business. It cannot be used to reject a company as a comparable unless some actual functional dissimilarity has been pointed out. The assessee has failed to do so. In fact the assessee has chosen this as a comparable based on data for previous years. There is no change in the functions of this company in this year. The assessee has claimed that the segmental results of this company are not dependable. This is not borne out by facts. The expenses relatable to the event management segment are identified at Schedule 14 to the profit and loss account. The annual report does not give any indication that there was any problem in correctly identifying the expenses related to this segment. This company can very much be used as a comparable.”

6.4. Before the DRP also the assessee was unsuccessful on various grounds including that past history showed all along the said company has been offered as a comparable which necessarily supports the conclusion that functional comparability stood established and accepted and the assessee could not be allowed to resile from its accepted stand. Apart from that the absence of ostensible reasons justifying its exclusion was also found to be missing. The relevant extract is reproduced hereunder:-

“The company is engaged in four different business activities, namely Industrial Publication Division (IPD), Energy Management Division (EMD), Pharmaceutical manufacturing Division (PMD) and Event Management Division (EMD). The TPO has considered EMD business division as comparable to Nortel India for the impugned transactions and has considered operating margin of 159.37% on operating cost for this segment in the TP order.

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The assessee itself has chosen this company based on proviso three years’ data. In earlier years also, this company was taken by the assessee as comparable for transfer pricing analysis. It may be mentioned here that the functional profile of this company is same in the current year as was in earlier years. Subsequently, when the TPO asked the assessee to provide current year’s margin, the assessee changed its stand, obviously, for the reasons of its high margin in the current year. The assessee can’t be allowed to change its stand unless: i) the functional profile of either the comparable or the assessee has changed in the current year or ii) there are some ostensible reasons to justify the same which is not the case here. Moreover, event management is also part of the marketing activities and minor functional differences can be tolerate if TNMM is used as most appropriate method. Therefore, this company can be considered as a comparable for Marketing and after sales services segment.”

6.5. In the said background, we are required to consider the allowability of assessee’s prayer for exclusion of the said comparable relying upon the facts as found considered by the Co-ordinate Benches in Nortel Networks India Pvt. Ltd. and Premier Exploration Services Private Ltd (cited supra). 6.6. A perusal of the record shows that the Co-ordinate Bench in the case of Nortel Networks India Pvt. Ltd. while considering the facts of Saket Projects Ltd. in 2008-09 assessment year directed exclusion of the said comparable holding as under:- 11.2. “On issue of exclusion of Saket Projects Ltd, we are of the view that specific characteristics of services provided, assets employed, risk assumed i.e. the FAR of the comparable is decisive and inclusion or exclusion of comparables. The higher or lower rate of profit is nowhere prescribed as the determinative factor in this behalf. Only if the higher or lower profit rate results on account of effect of factors given in Rule 10B(2)read with sub-rule (3), that such case shall merit omission then only it can be considered. Higher profits achieved due to factors not mentioned in the rule then such case shall be I.T.A .No.-6059/Del/2012 continued to find place in the list of comparables. Similar view has been approved by various coordinate ITAT benches in the cases like Exxon Mobil Company India (P.) Ltd.- (2011-TTJ-68- ITAT-MUMTP) and DCIT vs. M/s. B.P. India Services (P.) Ltd. – 2010. 11.3. On issue of comparability of Saket Projects Limited, we are in agreement with the ld DR that no comparable can be rejected merely on the basis of high margins if it is functionally comparable to the assessee or there is miner variation in functional similarity. The case of Saket Projects Ltd. has functional dissimilarity as it is organizing events with various kinds of sponsorships. The company in this division is earning revenue from selling event fees and offering space for rent which cannot be comparable with provision of marketing and sales support services. Besides segmental allocation of expenses were not reliable. In view of these facts, we hold that Saket Projects Ltd. has been rightly held as not an appropriate comparable. We direct ld. AO to work out the ALP in A.Y. 2008-09 accordingly.” (Emphasis provided) 6.7. A further reading of the decision of the Co-ordinate Bench in Premier Exploration Services shows again for 2008-09 assessment year vide para 9 (page 618-619 of the Paper Book) the said comparable was directed to be excluded from the list of comparables on the following reasoning:- 9. “We have heard both sides on this ground. TPO had considered the event management Division of Saket Projects Ltd. as comparable to assessee’s functions. Although assessee had taken this company as comparable on the basis of past years data but in our considered view, the Saket Projects Ltd. was not comparable to assessee because the event management was done by sponsorships which is evident form various documents placed in paper book. Further the segment allocation of expenses also appears to be not reliable. We agree with the view of revenue that no comparable can be rejected merely on the basis of high margins if the comparable is functionally comparable to the assessee and also that there is miner variation in functional similarity. However, in the case of Saket Projects Ltd. there is functional dissimilarity. The company is organizing events with various

I.T.A .No.-6059/Del/2012 kinds of sponsorships. The facts also suggest that segmental allocation of expenses were not reliable. We also hold that when direct comparables are available then segmental results of companies engaged in other business should not be taken as comparable. On the basis of these facts, we hold that Saket Projects Ltd. was not comparable to the extent wherein the various variations could be ruled out or iron out by provision of law and rules.” (Emphasis provided) 7. It is seen that the order dated 22.11.2013 in the case of Premier Exploration Services Private Ltd pertains to 2008-09 assessment year which order has been followed by the Co-ordinate Bench in the case of Nortel Networks India Pvt. Ltd. order dated 25.02.2015.

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