ORDER
Abraham P. George, Accountant Member - These are appeals filed by assessee and the Revenue respectively and directed against an order dt. 01.11.2009 of CIT-IV, Bangalore.
2. Appeal of the Revenue is taken up first for disposal. Revenue has altogether raised six grounds of which grounds 1, 5 and 6 are general in nature needing no specific adjudication. Vide its ground 2, Revenue is aggrieved that CIT(A) directed exclusion of comparable companies which had profit of more than 50% of the total costs, considering this to be abnormal.
3. Ld. DR in support of the above ground submitted that the company which was excluded from the list of comparables by the CIT (A) for this reason was Exensys Software Solutions Ltd. As per the Ld. DR by virtue of the judgment of Hon'ble Delhi High Court in the case of Crhyscapital Investment Advisors (India) (P.) Ltd. v. Dy. CIT [2015] 56 taxmann.com 417/232 Taxman 20/376 ITR 183 , level of margins of profit could not be considered as a criteria for exclusion while arriving at a list of comparables.
4. Per contra Ld. AR submitted that Exensys Software Solutions Ltd, which was excluded by the CIT (A) for a reason that one Halool India Ltd, was amalgamated with the said company during the relevant previous year resulting in the exceptional performance. Further as per the Ld. AR, the said company was engaged in the business of BPO services and segmental result were not available.
5. We have perused the orders and heard the rival contentions. Before deciding on the issue raised it would be appropriate to cull out the facts relating to the case. Assessee, an off-shore development centre had international transactions with its AE during the relevant previous year in the software development segment. Though it had revenue also from Bio informatics Division, there was no related party transactions in the said segment. Assessee had filed TP documentations alongwith its return of income and gone by the CUP method for justifying its profits from the international transactions. Financial results for the assessee for the relevant previous year read as under :
| Operating Revenue | Rs. 9,77,00,693/-* |
| Operating Expenses | Rs. 12,49,80,135/- |
| Operating Profit (PBIT) | (-) Rs. 2,72,79,442/- |
| OP on cost | (-) 21.83% |
6. Segmental results of the assessee were as under :
| Description | SWD Division | BI Division | Total |
| Operating Revenue | Rs. 9,71,81,643/- | Rs. 5,19,050/- | Rs. 9,77,00,693/-* |
| Operating Expenses | Rs. 12,06,21,350/- | Rs. 37,92,270/- | Rs. 12,49,80,135/- |
| Operating Profit (PBIT) | (-) Rs. 2,34,39,707/- | (-) Rs. 32,73,220/- | (-) Rs. 2,72,79,442/- |
| OP on cost | (-) 19.43% | (-) 21.83% |
7. Whole of the operating revenue from software development segment came out of transactions with its AE's abroad. AO referred the issue of benchmarking the international transactions of the assessee to the TPO, in accordance with Section 92CA of the Act, TPO was of the opinion that the CUP method could not be accepted since comparable data on hourly rates charged by independent enterprises, engaged in similar services could not be reliably obtained from data information available in the public domain. TPO opted for the TNMM. He made a search using capitaline and prowess data bases and arrived at a set of 17 comparables, List of comparables arrived at by the TPO and their profits to cost ratio stood as under :
| Sl. No. | Company Name | Sales (Rs. cr.) | OP to Total Cost% | Product sales (Rs./% of sales) | RPT(Rs. cr.) | % of RPT over Sales |
| 1. | Bodhtree consulting ltd | 3.87 | 24.85 | Nil | 0 | 0 |
| 2. | Lanco Global Systems ltd* | 6.11 | 13.65 | Nil | 0 | 0 |
| 3. | Exensys Software Solutions ltd | 7.3 | 70.68 | Nil | 0 | 0 |
| 4. | Sankhya Infotech ltd | 12.99 | 27.39 | Nil | 0 | 0 |
| 5. | Sasken Network Systems ltd* | 14.44 | 16.64 | Nil | 1.1 | 7.62 |
| 6. | Four soft ltd | 15.94 | 22.98 | 2.57(16%) | 3.17 | 19.89 |
| 7. | Thirdware Solution limited | 29.11 | 66.09 | 2.7(9%) | 2.58 | 8.86 |
| 8. | R S Software (India) Ltd* | 81.69 | 8.07 | Nil | 6 | 7.34 |
| 9. | Geometric Software Solutions Co. ltd | 95.44 | 20.34 | 17.56(18%) | 10.97 | 11.49 |
| 10. | Tata Elxsi Limited (seg) | 146.46 | 24.35 | Nil | 8.63 | 5.89 |
| 11. | Visual soft Technologies Ltd (seg) | 185.43 | 23.52 | Nil | 0 | 0 |
| 12. | Sasken communication Technologies Ltd(seg) | 189.05 | 14.42 | Nil | 0.44 | 0.23 |
| 13. | Igate(seg.)* | 406 | 4.32 | Nil | 28.83 | 7.10 |
| 14. | Flextronics(seg) | 457.45 | 32.19 | 70(15%) | 24.91 | 5.45 |
| 15. | L&T Infotech | 562.45 | 10.33 | Nil | 46.8 | 8.32 |
| 16. | Salyam | 3464.2 | 29.44 | Nil | 67.1 | 1.94 |
| 17. | Infosys | 6859.7 | 42.83 | 212(3%) | 254.07 | 3.7 |
| Avg. | 26.59% | 3.59% | 5.17% |
8. On the arithmetic mean PLI of 26.59% of the comparables, AO made a negative working capital adjustment of 3.49% and arrived at adjusted arithmetic mean PLI of 23.10%. Though the assessee had sought for a risk adjustment citing that it was providing services to a single customer, TPO was of the opinion that the business environment of the assessee as well as its comparables did not have significant differences, warranting any such adjustment. As per the TPO assessee could not show how market risks borne by the comparable enterprises had an effect on their profits and had also failed to quantify the risk adjustment. TPO thereafter computed the shortfall u/s. 92CA of the Act, as under:
Arm's Length Price;
| Operating Cost | Rs.12,06,21,350/- |
| Arm's Length Margin | 23.10% of the Operating Cost |
| Arm's Length Price @ 123.10% of operating cost | Rs. 14,85,84,882/- |
| Price received | Rs. 9,71,81,643/- |
| Shortfall being adjustment u/s. 92CA | Rs. 5,13,03,239/- |
Assessment was thereafter completed making an addition of Rs. 5,13,03,239/-.
9. Aggrieved assessee moved in appeal before the CIT (A). One of the contentions raised by the assessee before the CIT (A) was that Exensys Software Solution Ltd, a comparable considered by the TPO had abnormal profits due to an amalgamation during the relevant previous year. CIT (A) was appreciative of this contention. According to him, the said company had super profits and could not be considered for comparison. He directed exclusion of the company from the list of comparables.
10. The contentions of both counsels on M/s. Exensys Software Solution Ltd. (supra) have been narrated by us at para two and three above. No doubt it has been held by Hon'ble Delhi High Court in Cryscaptial Investment Advisors India (P.) Ltd. (supra) that excessive profits or abnormal loss by itself would not be a reason for exclusion of a company from the list of comparables which was otherwise similar to the tested party. However what we find in the case of Exensys Software Solution Ltd, is that there was an amalgamation of one company named Holool India Ltd. with Exensys Software Solutions Ltd, during the relevant previous year which was clearly mentioned in its annual report. Further the said company also had earnings from BPO services, and segmental results were not available. Thus it was not a case where exclusion was directed by the CIT (A) solely for a reason of abnormal profits. Such directions were given considering the fact that such profits arose out of an extraordinary event of amalgamation. This has not been rebutted by the Revenue. Revenue has also not produced anything to show that segmental results of the said company was available. We are of the opinion that CIT (A) had directed exclusion of Exensys Software Solution Ltd. from the list of comparables correctly. We do not find any ground to interfere with the decision of the CIT (A) Ground.2 of the Revenue stands dismissed.
11. Vide its ground 3 Revenue is aggrieved that CIT (A) directed exclusion of Infosys Technologies, iGate Global Solution Ltd, Flextronics Software & Systems Ltd, (seg) and L & T Infotech Ltd, as comparables by applying the turnover filter.
12. CIT (A) had held that assessee's turnover being only Rs. 9.77 crores could not be comparable with companies having huge turnover. He went by the decision of a coordinate bench of the Tribunal in the case of Climate Systems India Ltd. v. Commissioner Of Income-Tax [2012] 53 SOT 159/20 taxmann.com 715 (Bang.) and directed exclusion of companies having turnover in excess of Rs. 200 crores from the list of comparables. By virtue of this direction above mentioned companies went out of the list of comparable.
13. Now before us, Ld. DR strongly assailing the order of CIT (A) placed strong reliance once again on the decision of Hon'ble Delhi High Court in the case of Cryscapital Investment Advisors (India) (P.) Ltd. (supra). According to her, AO had made an analysis of the turnover of various companies and came to a conclusion that there was no linear relationship between the turnover and profits. When the comparables were doing similar functions as that of assessee, turnover could not be considered as a criteria for exclusion, according to her.
14. Per contra, Ld. AR strongly supporting the order of CIT(A) submitted that coordinate bench of this Tribunal not only in the case of Genisys Integration Systems (India) (P.) Ltd. (supra) but in a host of other subsequent decisions held that turnover filter as set out in the case of Genisys Integrating systems (India) (P.) Ltd. (supra) was an appropriate one that could be applied for filtering out the comparables. Reliance was also placed on the judgment of Hon'ble Bombay High Court in the case of CIT v. Pentair Water India (P.) Ltd. [Tax Appeal No. 18 of 2015, dated 16-9-2015]
15. We have perused the orders and heard the rival contentions. No doubt Ld. DR has relied on the Hon'ble Delhi High Court in the case of Cryscaptial Investment Advisors (India) (P.) Ltd. (supra). However, we also find that Hon'ble Bombay High Court in the case of Pentair Water India (P.) Ltd. (supra) had affirmed an order of the Tribunal where large companies having huge turnover were excluded. Bombay High Court had followed the judgment of Hon'ble Delhi High Court in the case of Agnity India Technologies P. Ltd. Considering this confliction opinions of two non-jurisdictional High Courts, we prefer to go by the view more favourable to the assessee. We cannot say that turnover is having no relevance, especially when the assessee was having a turnover below Rs. 10 crores and was being compared with entities having turnover well exceeding Rs. 200 crores. We are therefore convinced that CIT (A) was justified in direction exclusion of companies having turnover in excess of Rs. 200 crores from the list of comparables. Ground 3 of the Revenue stands dismissed.
16. Vide its ground 4, Revenue is aggrieved that assessee is liable for a standard deduction of 5% applying proviso to Section 92C(2) of the Act. Ld. AR fairly conceded that the proviso to Sub-section (2) of Section 92C of the Act could not be considered as a standard deduction. We therefore allow ground taken by the Revenue.
17. Now we take up the appeal of the assessee. Assessee in its appeal has raised altogether nineteen ground of which grounds 1 to 18 are on matter relation to TP. Ld. Counsel for the Assessees at the out set submitted that if his ground relating to exclusion of certain comparables selected by the TPO admission of ten new Comparables, along with its ground for risk adjustment were considered, other grounds relating to TP matter could be adjudicated at a later stage in proceedings when these were relevant.
18. Accordingly we are confining ourselves to the grounds relating to exclusion of certain comparables and inclusion of new comparables and risk adjustments sought by the assessee.
19. Ld. AR submitted that out of the comparables selected by the TPO, M/s. Flextronics Software Systems Ltd. M/s. L & T Info Tech Ltd., iGate Solutions Ltd., and M/s. Infosys Ltd. went out on application of turnover filter. Insofar as Bodhtree Consulting Ltd. was concerned, as per the Ld. AR, coordinate bench of this Tribunal in the case of Dy. CIT v. Kodiak Networks India (P.) Ltd. IT(TP) Appeal No. 532 (Bang.) of 2013 and CO. 119/Bang/2015, dated 30.07.2015 had held that M/s. Bodhtree Consulting Ltd. was not a proper comparable in the software development segment. As per the Ld. AR the said decision was for the very same assessment year viz., 2005-06, and the segment considered was also very same.
19.1 Per contra, Ld. DR submitted that assessee's profile actually showed that it was into product development and not software development services.
20. We have perused the orders and heard the rival contentions. Decision of the coordinate bench in Kodiak Networks India (P.) Ltd. (supra) has considered the comparability of Bodhtree Consulting Ltd., with Kodiak Networks India (P.) Ltd. (supra), Kodiak Networks India (P.) Ltd. (supra) was also providing software development services and its revenue came to Rs. 16.23 crores. Concerned assessment year was also 2005-06. Vis-a-vis comparability of M/s. Bodhtree Consulting Ltd., this Tribunal has held as under at paras 32 to 34 of its order:
"32. In the C.O. the Assessee has also prayed for exclusion of Bodhtree Consulting Ltd., which was considered as a comparable company by the TPO/DRP. Bodhtree Consulting Ltd., was chosen as a comparable company by the assessee in its TP study and same was accepted as a comparable by the TPO also. Even before the DRP, the assessee did not challenge the inclusion of this company as a comparable. However in the CO filed before the Tribunal, the assessee has sought to challenge the inclusion of this company as a comparable in ground No. 5(d). The law by now is well settled that assessee is entitled to raise an objection regarding comparability at any stage of proceedings and even in a case where the assessee has not raised objection for including the same as a comparable before the lower authorities, or the assessee had chosen in its TP study a company which it seeks to exclude as a comparable. The Special Bench of Chandigarh Tribunal in DCIT v. Quark Systems (P.) Ltd. (2010) 38 SOT 307 has held that the Tribunal is a fact finding body and therefore has to take into account all the relevant material and determine the question as per the statutory regulations and that tax payer is not estopped from pointing out a mistake in the assessment, though such mistake is a result of evidence adduced by the tax payer. We therefore proceed to determine the comparability of Bodhtree Consulting Ltd. In this regard, we find that ITAT Hyderabad Bench in Ivy Computech (P.) Ltd. v. ACIT (2014) 43 taxmann.com 183 (Hyd.) Trib. Has taken the view that Bodhtree Consulting Ltd., should not be regarded as a comparable in the case of software development service provider: The ld. Counsel for the assessee also brought to our notice that comparability of this company with software development provider was considered by this Tribunal in Mindtech India Ltd. v. DCIT ITA No. 70/B/2014 for AY 2009-10, order dated 21.8.2014 and it was held as under:—
"14. The next aspect that was canvassed by the learned counsel for the assessee was with regard to the exclusion of the following comparables form the list of final comparables chosen by the TPO:
1. Bodhtree Consulting Ltd. : As far as this company is concerned, the submission of the learned counsel for the assessee was that this company made extraordinary profits during the previous year: Our attention was drawn to the fact that the operating profit/operating cost of this company jumped from 17% for FY 2007-08 to 56% in FY 2008-09. It dipped in FY 2009-10 to 40% and in FY 2010-11 it became (-) 2% and 5% in FY 2011-12 and finally touched (-) 9% in FY 2012-13. Our attention was drawn to the fact that the Special Bench of the Tribunal, Mumbai, in the case of Maersk Global Centres (India) P. Ltd., in ITA. 7466/Mum/2012, dt. 07.03.2014 for AY 2008-09 had an occasion to consider the question as to whether companies having abnormal profits should be excluded as a comparable. The Special Bench took the view that it has to be shown that the high profit margin does not reflect the normal business conditions and only in such circumstances, high profit margin companies can be excluded. Our attention was drawn to the DRP's observation in its order on the issue which is as follows: "Bodhtree: The assessee has objected to selection of this entity on the basis of following objections:
3. Revenue Recognition: Revenue from software development is recognised based on software developed and billed to clients. From perusal of the above, it is seen that this entity is engaged in building revenues through Fixed Price Project Modal. As is a natural corollary in such type of revenue recognition, some part of the expenditure may be booked in one year, for which the revenue may have been recognised in the earlier or subsequent year. Therefore, it is but natural that there is some fluctuation in the profitability margin of such entity. Merely because of such fluctuations, an entity engaged in the development of software, being functionally comparable to the assessee, cannot be rejected only on this ground."
14. The learned counsel for the assessee drew our attention to the fact that Bodhtree Consulting admittedly follows a fixed price project modal whereby revenues from software development is recognised based on software and billed to clients. In such business model expenditure for developing software would be billed in an earlier year but the revenue would be recognized in a subsequent year. It was his submission that this fact is recognized by the DRP in its order. According to him this circumstance would be sufficient to show that the margin reflected of this company does not reflect the normal business condition.
15. The learned DR placed reliance on the reason given by the DRP in its Order.
16. We have considered the rival submissions. The Special Bench of the ITAT in the case of Maersk Global Centres (supra) had on occasion to deal with the question as to whether high profit margin making companies should be excluded as a comparable. The Special Bench after considering several aspect held in para 88 of its order that the potential comparable companies cannot be excluded merely on the ground that their profit is abnormally high. The Special Bench held that in such cases it would require further investigation to ascertain the reason for unusually high profit and in order to establish whether the entities with such high profits can be taken as comparable or not. In the light of the aforesaid decision of the Special Bench and in view of the admitted position that the assessee follows Fixed Price Project model where revenues from software development is recognized based on software developed and billed to clients, there is a possibility of the expenditure in relation to the revenue being booked in the earlier year. The results of Bodhtree from FY 2003 to 2008 excluding FY 2007 as given by the learned counsel for the assessee were also perused. Perusal of the same shows, that there has been a consistent change in the operating margins. The chart filed by the assessee in this regard is given as an annexure to this order. It appears to us that the revenue recognition method followed by the assessee is the reason for the drastic variation in the profit margins of this company. In the given circumstances, we are of the view that it would be safe to exclude Bodhtree Consulting from the final list of comparables chosen by the assessee. We hold and direct accordingly."
33. The ld. counsel for the assessee filed before us a chart showing the fluctuation margins of Bodhtree Consulting Ltd., which are as follows:—
34. As can be seen from the above analysis, this company has erratic margins and growth over the years. The margins of Bodhtree are consistently changing. This reflects that the revenue recognition policy followed by Bodhtree is not proper and is resulting in consistent change in margins. Further, the growth rate over the years is also fluctuating to extremes. Further, growth in revenues is not supported by growth in expenses. In some cases expense growth is higher that the revenue growth. Also salary cost ratio is widely fluctuating. These circumstances are peculiar in nature and require further analysis, without which this company should be rejected as a comparable.'
21. Contention of the Ld. DR that assessee was into software product development cannot be accepted since the TPO himself had considered assessee to be into software development services. This is clear from the segmental results compiled by him at para 2 of his order which has been reproduced by us at para six above. Accordingly we are of the opinion that the decision of the coordinate bench Kodiak Networks India (P.) Ltd. (supra) would apply on all four squares. We therefore direct exclusion of M/s. Bodhtree Consulting Ltd., from the list of comparables.
22. Arguing for exclusion of M/s. Sankhya Infotech Ltd., Ld. AR submitted that the said company also appeared in the list of comparables in the case of Kodiak Networks India (P.) Ltd. (supra). According to him, Tribunal had directed its exclusion at para 25 of its order mentioned supra.
23. Per contra, Ld. DR took the same pleading as he took in the case of M/s. Bodhtree Consulting Ltd.
24. We have perused the orders and heard the rival contentions. In the case of Kodiak Networks India (P.) Ltd., this Tribunal at paras 29 to 31 of its order held as under :
Sankhya Infotech Limited ('Sankhya')
'29. It was submitted by the learned counsel for the assessee that Sankhya is engaged in the business of development of software products & services and training. The company focuses on the development of niche products for the transport and aviation industry. However, segmental information in relation to the above mentioned activities is not available in public domain. Therefore, as Sankhya engages itself in products and services as well as software training, it cannot be considered as a comparable of the Appellant. The products developed and owned by Sankhya are listed below.
(1) SILICONTM Training Suite of Products: The products are a comprehensive enterprise wide training platform that covers the entire spectrum of training in a paperless environment. It comprises of four products:- SILICONTM LMS (Training Management Information - SILICONTM QT (Online Assessment System) - SILICONTM LCMS (Learning Content Management System) - IRMAQTM : This is an integrated resource planning, management tracing system exclusively developed for Airline operations. It is an end-to-end solution for all Flight Operations. - Sakai CLE: This is a widely used and popular open source LMS used in many leading educational institution and corporate. The relevant extract from the Annual report substantiating that the company also engages in different activities is reproduced below :
"2. Activities: The company as engaged in the business of development of Software Products & Services and training. The production of software is not capable of being expressed in any generic unit and hence 11 is riot possible to give the information as required by certain clauses of paragraphs 3.4C and 4D of Part 11 of Schedule VI of the Companies Act, 1956."
30. It was also brought to our notice that the Delhi Tribunal in ITO v. Colt Technology Services India Pvt. Ltd. (judgment dated 23.10.2012 in ITA No. 6091/Del/2011 for the assessment year 2005-06) has held that the said company is not a comparable to the assessee therein which was also in the business of software development.
31. The submissions made by the learned counsel for the assessee are considered. The activities set out above and the decision of the Delhi ITAT rendered in the context of a software development company such as the assessee makes it amply clear that this company Sankhya cannot be regarded as a comparable. The same is directed to be excluded from the list of comparable companies.'
Accordingly we direct exclusion of M/s. Sankhya Infotech Ltd., from the list of comparables.
25. Vis-à-vis Foursoft Ltd., Ld. AR submitted that the said company was also rejected by this Tribunal in the case of Kodiak Networks India (P.) Ltd. (supra) Ld. AR also submitted that said company was also hit by RPT filter of 15% and reliance was placed a decision of coordinate bench in the case of 24/7 Customer.com (P.) Ltd. v. Dy. CIT [2013] 140 ITD 344/28 taxmann.com 258 (Bang.) .
26. Ld. DR made similar submissions as she had made in the case of M/s. Bodhtree Consulting Ltd.
27. We have perused the orders and heard the rival contentions. This Tribunal had in the case of Kodiak Networks India (P.) Ltd. (supra) had held as under at para 22 of its order :
"22. Having heard both the parties and having gone through the material on record, we find that the TPO at page 37 of his order has brought out the differences between a product company and a software development services provider. Thus, it is clear that he is aware of the functional dissimilarity between a product company and a software development service provider. Having taken note of the difference between the two functions, the Assessing Officer ought not to have taken the companies which are into both the product development as well as software development service provider as comparables unless the segmental details are available. Even if the has adopted the filter of more than 75% of the revenue from the software services for selecting a comparable company, he ought to have taken the segmental results of the software services only. The percentage of expenditure towards the development of software products may differ from company to company and also it may not be proportionate to the sales from the sale of software products. Under section 133(6) of the I.T. Act, the TPO has the power to call for the necessary details from the comparable companies. It is seen that the Assessing Officer/TPO as exercised this power to call for details with regard to the various companies. As seen from the annual report of Foursoft Limited which is reproduced at page 7 of the TPO's Order, the said company has derived income from software licence also and AMCs."
28. We also find that M/s. Foursoft Ltd., had a RPT of 19.89% of its sales and this has been clearly mentioned by the TPO in the list of comparables compiled by him at page 91 of his order. By virtue of the order of coordinate bench in the case of 24/7 Customer.com (P.) Ltd. (supra) RPT filter of 15% can be considered as threshold level of filter. Accordingly we are of the opinion that M/s. Foursoft Ltd., could not be considered as a proper comparable. We therefore direct exclusion of M/s. Foursoft Ltd., from the list of comparables.
29. Vis-à-vis, Thirdware Solution Ltd., Ld. DR submitted that the decision of the coordinate bench in the case of Kodiak Networks India (P.) Ltd. (supra), covered the said company also. Reliance was placed at paras 20 to 22 of the order of the Tribunal mentioned supra.
30. Per contra, Ld. AR raised similar plea as was made in the case of M/s. Bodhtree Consulting Ltd.
31. We have perused the orders and heard the rival contentions. This Tribunal's decision in the case of Kodiak Networks India (P.) Ltd. (supra) has held as under at paras 20 to 24 of its order :
"20. As regards grounds No. 3 to 6 are concerned. Thirdware Solution Ltd., and Geometric Software Solutions Ltd., are concerned, were held to be functionally different from a company rendering software development services such as the Assessee in the case of Sunquest Information Systems (I) Pvt. Ltd. by the ITAT Bangalore ITA No. 1302/BNG/2011 for AY 05-06 order dated 11-6-2015. The following were the relevant observations of the Tribunal.
22. We have considered his submission and find that the ITAT Hyderabad Bench on identical facts, held that the aforesaid two companies viz., Four Soft Ltd., and Thirdware Solutions Ltd., are not comparable companies in Software Development Services companies. The following were the relevant observations:—
15.4 FOURSOFT LIMITED : This comparable is objected on the same reason as this company is involved in product development and owns products namely 4S eTrans and 4S eLog. These products are used in Sun Microsystems Inc, in an Application Verification Kit Certified for Enterprises and assessee have been investing continuously on product developments. Since assessee is in the product development having I.P. rights, the same is not comparable.
15.5 THIRDWARE SOFTWARE SOLUTIONS LIMITED : This company is objected to by the assessee on the reason that the said Thirdware Software Solutions Ltd. is engaged in sale of software licence and related services and not a service provider. Referring to the annual report, it was submitted that this comparable was rejected by the ITAT. Pune in the case of Egain Communications Ltd. This company having revenue from product license and earning extraordinary profit due to intangible owns.
15.6 These three comparable above. Flextronics Software Limited, Foursoft Limited and Thirdware Software Solution Limited were analysed by the Coordinate Bench of the Tribunal in the case of Intoto Software Solutions Pvt. Ltd. (supra) wherein it has been held as under:
23. The other companies which are objected to by the assessee are Flextronics Software Limited. Foursoft Limited and Thirdware Software Solution Limited. As far as these three companies are concerned, the learned Counsel appearing on behalf of the assessee submitted that they are into both software as well as product development. He submitted that the TPO has taken note of the fact these companies are also into product development but has selected these companies as comparables by applying the filter of more than 70% of its revenue being from software development services. The learned Counsel submitted that the functions of these companies are different from the assessee who was into sole activity of software development for its associated enterprise. He submitted that the TPO has allocated the expenditure in the proportion of the revenue of these companies from software services and software products and has adopted the figure as segmental margin of the company and has taken these companies as comparables. He submitted that by taking the proportionate expenditure, the correct financial results would not emerge. He submitted that nothing prevented the Assessing Officer/TPO from obtaining the segmental details from the respective comparable companies before adopting them as comparable companies and before taking the operating margin for arriving at the arm's length price. He submitted that wherever the segmental details are not available, then the said companies should not be taken as comparables. For this purpose, he placed reliance upon the decision of the Bangalore Tribunal in the case of First Advantage Offshore Services Pvt. Ltd. v. DCIT in ITA. No. 1252/Bang./2010 wherein these companies were directed to be excluded from the list of comparables.
21. The learned D.R. however, supported the Orders of the authorities below.
22. Having heard both the parties and having gone through the material on record, we find that the TPO at page 37 of his order has brought out the differences between a product company and a software development services provider. Thus, it is clear that he is aware of the functional dissimilarity between a product company and a software development service provider. Having taken note of the difference between the two functions, the Assessing Officer ought not to have taken the companies which are into both the product development as well as software development service provider as comparables unless the segmental details are available. Even if he has adopted the filter of more than 75% of the revenue from the software services for selecting a comparable company, he ought to have taken the segmental results of the software services only. The percentage of expenditure towards the development of software products may differ from company to company and also it may not be proportionate to the sales from the sale of software products. Under section 133(6) of the I.T. Act, the TPO has the power to call for the necessary details from the comparable companies. It is seen that the Assessing Officer/TPO as exercised this power to call for details with regard to the various companies. As seen from the annual report of Foursoft Limited which is reproduced at page 7 of the TPO's Order, the said company has derived income from software licence also and AMCs.
23. As far as Thirdware Software Solution Limited is concerned, we find from the information furnished by the said company that though the said company is also into product development, there are no software products that the company invoiced during the relevant financial year and the financial results are in respect of services only. Thus, it is clear that there is no sale of software products during the year but the said company might have incurred expenditure towards the development of the software products.
24. In view of the aforesaid decision, we do not find any infirmity in the action of the CIT(A) in excluding the aforesaid two companies from the list of comparable companies for determining ALP."
Following the above decision we direct exclusion of Thirdware Solutions Ltd., from the list of comparables.
32. Vis-a-vis Geometric Software Solutions Co. Ltd. also, Ld. DR submitted that the very same paragraphs mentioned supra, applied to it as well and therefore according to him, it had to be excluded from the list of comparables.
33. Per contra, Ld. AR submitted that Geometric Software Solutions Co. Ltd. was functionally dissimilar to that of the assessee.
34. We have Perused the orders and heard the rival contentions. Paras 20 to 24 of the order in Kodiak Networks India (P.) Ltd. (supra), relied on by the Ld. AR has been reproduced by us at para 31 above. Though Geometric Software Solutions Co. Ltd, finds a mention in para 20 of that order, there are no specific directions given by the Tribunal in relation to the said company. However we find that contention of the assessee that it was functionally dissimilar to that of the assessee was never examined by the lower authorities. We are therefore of the opinion that the question whether Geometric Software Solutions Co. Ltd, could be considered as a proper comparability of Geometric Software Solutions Co. Ltd., back to the file of AO/TPO for consideration afresh.
35. Vis-a-vis Tata Elxsi (seg), Ld. AR submitted that this company was also directed to be excluded by the coordinate bench in the case of Kodiak Networks India (P.) Ltd. (supra) vide paras 18 and 19 of the order which is reproduced hereunder :
'18. As regard ground No. 7, TATA Elxsi Ltd., has to be excluded as this company was held to be not comparable with as Assessee such as the Assessee in the present case providing software development services by the ITAT Hyderabad bench in the case of CNO IT Services (India) Pvt. Ltd. (Formerly known as Conseco Data Services (India) Pvt. Ltd.) Hyderabad v. DCIT, Circle, 1(2) Hyderabad, in ITA. No. 1280/Hyd/2010 Assessment year 2005-2006 order dated 12-2-2014. The ITAT Hyderabad Bench on identical facts, held on comparability of TATA Elxsi Ltd. as follows:
"15.7 Tata Elxsi Limited : The objection of the assessee is that Tata Elxsi operating two segments - system communication services and software development services. The TPO accepted the software development services segment in his T.P. analysis and assessee's objection is the software development services segment itself comprises of three sub-services namely (a) product design services (b) design engineering services and (c) visual computing labs. It was submitted that these services are not akin to assessee software services and segmental information of only product design services could have been accepted by the TPO as a comparable but not the entire software development service. Since company's operations are functionally different as such, the same is not comparable. Further, assessee is also objecting on the basis of intangible scale of operations. The coordinate bench in the case of Intoto (supra) considered the issue as under in para 22:
22 Tata Elxi Limited : As regards this company, the learned Counsel appearing on behalf if the assessee, filed before us the reply of Tata Elsi Limited to the Addl. CIT (Transfer Pricing), Hyderabad, wherein the concerned Officer has been informed that Tata Elxsi Limited is specialised Embedded Software Development Service Provider and that it cannot be compared with any other software development company. It was submitted that because of the specialisation and also because of diverse nature of its business, it very difficult to scale-up the operations of Tata Elxsi Limited. In view of this, Tata Elsi Limited has informed that it is not fair to use its financial numbers to compare it with any other company. The communication dated 25th August, 2009 to the TPO is placed before us. As this communication was not before the TPO at the time of transfer pricing adjustment we deem it fit and proper to remand this issue also to the file of the TPO to reconsider adopting this company as the comparable in the light of observations of this company to the TPO on the case of another assessee. In the result, the Assessing Officer/TPO is directed to reconsider the issue in accordance with law, after affording a reasonable opportunity of being heard to the assessee. Keeping the assessee's objection and the decisions of the Coordinate Bench, prima facie, we are of the view that TATA Elxsi Limited is functionally different and has incomparable size to that of the assessee. Further, we are unable to verify whether the segment profits adopted by the TPO pertain to entire software development services or pertain to limited service akin to assessee services. Since these aspects are not clear from the data furnished before us we directed the TPO to examine and in case, the segmental profits of a particular service is not available, then to exclude the TATA Elxsi Limited from the list of comparables. Accordingly, this issue is resorted to the file of TPO for examination and to decide in accordance with law and facts, after affording reasonable opportunity of being heard to assessee."
19. In view of the aforesaid decision rendered on identical facts and circumstances, we are of the view that TATA Elxsi Ltd., was rightly excluded from the list of comparable companies.'
36. Per contra, Ld. DR submitted that Tata Elxsi (seg) was doing very similar work as that of the assessee and hence ought not to be excluded.
37. We have perused the orders and heard the rival contentions. Finding of the Tribunal as it appear at paras 18 and 19 in the case of Kodiak Networks India (P.) Ltd. (supra) has been reproduced in para 35 above, Accordingly we direct exclusion of Tata Elxsi (seg) from the list of comparables.
38. Vis-a-vis Sathyam Computers Service Ltd, Ld. AR submitted that its turnover exceeded Rs. 200 crores and by virtue of turnover filter it had to be excluded. Further as per the Ld. AR its financial statements were not reliable.
39. Ld. DR made the very same submissions as for Bodhtree Consulting Ltd.
40. We have perused the orders and heard the rival contentions. This Tribunal in the case of ITO v. Sunquest Information Systems (India) (P.) Ltd. [IT Appeal No. 299 (Bang) of 2015], relied on by the Ld. AR, had held that the financial results of M/s. Sathyam Computers Ltd. was not reliable. Same view was taken by the Delhi Tribunal in the case of Agnity India Technologies (P.) Ltd. v. ITO [IT Appeal No. 3856/Delhi of 2010] which was confirmed by the Delhi High Court on appeal by the Revenue. We are therefore of the opinion that M/s. Sathyam Computers Ltd. has to be excluded from the list of comparables. Ordered accordingly.
41. In the next ground assessee has pleaded for inclusion of the following comparables as proper ones. As per the Ld. AR assessee had sought of inclusion of such comparables before the CIT(A), but he had not considered it :
| Sl. No. | Name of the Company | Operating Margin on Cost | Adjusted Margin on Cost |
| 1. | Gensys International Corporation Limited | -18.42% | -30.88% |
| 2. | Lanco Global Systems Limited | 11.63% | 5.04% |
| 3. | Melstar Information Technologies Ltd. | -0.73% | -7.93% |
| 4. | Orient Information Technology Limited | 14.90% | 11.20% |
| 5. | R.S. Software (India) Limited | 7.91% | 4.38% |
| 6. | Sasken Network Systems Limited | 16.12% | 11.19% |
| 7. | TVS Infotech Ltd. | 7.27% | 2.44% |
| 8. | Visualsoft Technologies Ltd. (seg.) | 20.45% | 12.80% |
| 9. | VJIL Consulting Limited | 6.68% | -5.87% |
| 10. | Sasken communication Technologies Limited | 16.16% | 11.94% |
| Arithmetic Mean | 8.20% | 1.43% |
Reliance was placed on the decision of Special Bench of this Tribunal in the case of Dy. CIT v. Quark Systems (P.) Ltd. [2010] 38 SOT 307 (Chd) .
42. Per contra Ld. DR submitted that if the assessee was given the freedom of suggesting new comparables, TPO also should be given similar freedom to consider fresh set of comparables.
43. We have perused the orders and heard the rival contentions. We find that assessee had in its submissions dt. 19.07.2012 before the CIT (A) prayed for inclusion of above mentioned companies. CIT (A) had not given any findings in this regard. In our opinion by virtue of the decision of Special Bench in the case of Quark Systems (P.) Ltd. (supra) assessee can seek inclusion of a fresh set of comparables since TP study is an evolving area. However there is much strength in the argument of the Ld. DR that similar freedom should be granted to the TPO also. Accordingly ewe direct the TPO to consider the fresh set of comparables sought to be included by the assessee mentioned at para 41 (supra) and redo the analysis of the arms length, pricing of the international transactions undertaken by the assessee. TPO is free to select his own set of comparables also except those which we have specifically directed to be excluded.
44. Coming to the pleading of the assessee that risk adjustment for under utilization of capacity should be given, we find that CIT (A) had not dealt with this issue of risk adjustment. However the TPO's findings as it appear at pages 99 to 105, show that after verifying the agreements entered by the assessee with its AE namely Lead Pharma Systems Inc. on 01-04-2002. TPO had reached a conclusion that risk borne by the assessee due to its dependence on one client was comparable to market risks faced by other companies in software development sector. TPO did note that AE could terminate the agreement with the assessee and AE did not guarantee any specific quantum of business. However as per TPO the risk borne by independent enterprises was more considering the vagaries of market condition. In our opinion assessee could not show how it was eligible for any risk adjustment. AE had assured a particular cost + margin. Just because funds required for the infrastructure was given by the parent company or because the agreement with the parent company was for a long-term would not mean that assessee was bearing any significant risk more or less than the comparables which were selected. In such a situation we are of the opinion that TPO was justified in not giving any risk adjustment especially since a scientific quantification was not attempted by the assessee in its TP documentation. We do not therefore find any merit in the ground raised by the assessee for giving any margin for risk adjustment.
45. Before parting with, it will be inappropriate if we do not point out that Revenue has not taken any grounds against the RPT filter of 0% applied by the CIT (A) which has been mentioned at page 29 of his order. Nevertheless we have considered that 15% RPT filter would be appropriate in relation to one of the comparables sought to be excluded by the assessee. As a natural corollary some of the companies which were excluded by application of zero percent RPT filter do get back into the list. However these companies which would come have also been considered in the foregoing paras, in relation to grounds raised by the assessee, applying other filters.
46. In the result, appeal of the Revenue as well as that of the assessee are treated as partly allowed for statistical purpose.
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