Telcordia Technologies India P. Ltd. Vs ACIT (ITAT Mumbai)
Telcordia Technologies India Pvt. Ltd., a wholly owned subsidiary of Telcordia Technologies Inc., USA, was engaged in marketing, technical support and software development related services in India. It operated as a captive service provider and received compensation equal to its operating costs plus a 15% mark-up.
For software development and related services, the assessee adopted the Transaction Net Margin Method (TNMM) and Return on Total Costs as the Profit Level Indicator. Its operating margin was 15%, while the comparable companies selected in its Transfer Pricing Study showed an average margin of 12.67%.
The Transfer Pricing Officer (TPO) rejected the assessee’s comparables and selected 28 companies, with an arithmetic mean margin of 27.96%. Following the Dispute Resolution Panel’s (DRP) directions concerning three comparables, the final set consisted of 27 companies with an arithmetic mean margin of 24.72%. This resulted in a transfer pricing adjustment of Rs.88,49,974/-.
Before the Tribunal, the assessee challenged eight of the 27 comparables.
The assessee accepted R Systems as a comparable but disputed the TPO’s computation of its operating profit, contending that provisions for doubtful debts and doubtful advances should be treated as operating expenses.
The Tribunal rejected this contention. It held that doubtful debts and doubtful advances could not be regarded as normal and direct operating expenses because they depended on various factors relating to business transactions. However, the Tribunal directed the TPO to verify the discrepancy in the figures of provisions for doubtful debts and doubtful advances pointed out by the assessee.
The Tribunal excluded Lucid Software Ltd. The material indicated that the company had developed a software product called “Muulam” and had incurred substantial product-development expenditure. Complete segmental information distinguishing software-product sales from software-service revenue was unavailable.
The Tribunal held that where a company had employed substantial capital in product development, its profitability from product sales could differ from that of a service provider. In the absence of adequate segmental details, Lucid Software could not be used as a comparable.
The assessee argued that Celestial Labs was engaged in biotechnology, pharmaceutical and healthcare product development and was functionally different.
The Tribunal noted that the company’s income from sale of services was Rs.13,62,00,676/-, whereas product sales were Rs.50,75,000/-. As more than 95% of revenue was from services, the Tribunal held that Celestial Labs was a good comparable and directed its inclusion.
The Tribunal excluded Infosys Technologies Ltd. The assessee was a captive service provider with limited risks and revenue of approximately Rs.10.7 crore, whereas Infosys had revenue exceeding Rs.13,145 crore, substantial intangible assets, brand value, advertising and sales-promotion expenditure and significant research and development expenditure.
The Tribunal held that the comparison failed on the basis of functions, assets and risks. It also referred to the ITAT Delhi decision in Agnity India Technologies Private Limited, which had excluded Infosys on similar facts.
Wipro’s IT Services segment was also excluded. The Tribunal noted its global operations, diverse services and products and the magnitude of its operations. It further noted that approximately 67% of its sales related to products.
Considering these factors and the reasoning applied to Infosys, the Tribunal held that Wipro could not be considered comparable to the assessee.
The assessee contended that Flextronics was engaged in software products, BPO services and software consultancy.
The Tribunal examined the company’s profit and loss account and found that services constituted approximately 90% of its sales, while product sales represented about 10%. It therefore held that the company could be retained as a comparable.
The Tribunal excluded Tata Elxsi. It found that the company was engaged in niche product development and development services, innovation design, engineering, visual computing and related specialised activities that differed from the assessee’s activities.
The absence of relevant segmental revenue details also weighed against its inclusion.
Avani Cincom was also excluded because segmental details distinguishing income from IT services and software-product sales were not available. Although its earnings were mainly from software exports, the necessary details regarding the proportion of product and service revenue were not provided.
After considering the eight disputed comparables, the Tribunal directed the Assessing Officer to determine the profit ratio using the arithmetic mean of the final comparable set after excluding the five companies found unsuitable for comparability analysis. The TPO was also directed to examine the applicability of the +/- 5% range under Section 92C(2).
The transfer pricing issue was therefore partly allowed.
The assessee had claimed depreciation at 15% on UPS used for office equipment, plant and machinery and other infrastructure, whereas the DRP directed depreciation at 60%.
The Tribunal considered the decision in Nestle India Ltd. Vs. DCIT and held that UPS is a source of alternative and uninterrupted power supply and is not an integral part of the computer system. It therefore held that depreciation on the UPS used for office equipment and plant and machinery was allowable at 15%, subject to verification of the relevant details by the Assessing Officer.
This issue was allowed in favour of the assessee subject to verification.
The assessee challenged interest of Rs.46,825/- under Section 234C. Its tax liability was Rs.43,67,867/-, while advance tax payments totalled Rs.45,76,000/- and TDS was Rs.7,199/-.
The Tribunal examined the advance-tax payments made on 14 June 2006, 14 September 2006, 13 December 2006 and 14 March 2007. It found that there was no shortfall in any quarter.
Accordingly, the Tribunal held that no interest liability under Section 234C could be imposed and deleted the interest of Rs.46,825/-.
The appeal of the assessee was partly allowed. The Tribunal directed recomputation of the transfer pricing adjustment after excluding the specified comparables and considering the Section 92C(2) tolerance range, allowed depreciation on UPS at 15% subject to verification, and deleted the Section 234C interest of Rs.46,825/-.
Cases Discussed
- Maersk Global Service Centers (India) P.Ltd. Vs. ACIT (ITAT Mumbai), 2011-TII-133-ITAT-MUM-TP
- Deloitte Consulting India Pvt. Ltd. vs. DCIT (ITAT Hyderabad), 61-DTR-101-Hyd
- Agnity India Technologies Private Limited (ITAT Delhi), ITA No.3856/Delhi/2010
- Nestle India Limited Vs. DCIT (ITAT Delhi), (2007) 111 TTJ 498
FULL TEXT OF THE ORDER OF ITAT MUMBAI
The present appeal is directed against the order dated 19-10-2011, passed by the Assistant Commissioner of Income Tax, Circle 3(3), Mumbai under Section 143(3) read with Section 144C(13) for the assessment year 2007-2008. In the various grounds of appeal, the assessee has raised following issues :-
i) Adjustment of international transactions of Fees for Software Development and Related Services at Rs. 88,49,974/-:
ii) The application of depreciation @60% on UPS instead of 15%;
iii) Computation of interest liability for sum of Rs. 46,825/- under Section 234 C.”
First issue is with regard to adjustment of international transactions of fees for software development and related services at Rs. 88,49,974/-.
2. The factual matrix relating to first issue is that the assessee which is ‘Telcordia Technologies India Pvt. Ltd.’, is wholly owned subsidiary of ‘Telcordia Technologies Inc. USA,’ which is mainly engaged in providing various kinds of software and services for Internet Protocol, wire line, mobility and cable networks, helping various communications companies. The assessee company was engaged in the business of marketing products and technical support services and software development related services in India. For providing the said services, the assessee earned a compensation which equalled to its total operating cost of providing the services plus a mark-up of 15%. Looking to the nature of its working, the assessee company can be termed as “captive service provider” having least complex operations and for lesser share of risks. During the relevant assessment year, the assessee company’s international transactions with the associate enterprises (AEs) were as follows :-
| Sl.No. | Description of the transactions | Amount(Rs.) |
|---|---|---|
| 1. | Import of capital goods | 1,88,85,183 |
| 2. | Fees for Marketing Services | 5,36,48,151 |
| 3. | Fees for Technical Support Services | 6,68,54,541 |
| 4. | Fees for Software Development and Related Services | 10,47,45,490 |
| 5. | Reimbursement of expenses | 2,90,83,299 |
| 6. | Recovery of expenses | 3,17,66,999 |
2.1 For establishing the arms length price relating to software development and related services, the assessee in the TP Study of the relevant financial year adopted the ‘Transaction Net Margin Method’ (‘TNMM’) as the most appropriate method. As per the TP Study report submitted by the assessee, it had identified 18 comparable companies engaged in the software development services and the operating profit margin worked out in the following manner :-
| Nature of International Transactions | Most Appropriate Method | Profit Level Indicator | Telcordia India’s Price/ Operating Margin | Comparables Price/ Operating Margin |
|---|---|---|---|---|
| Marketing Services | Transaction Net Margin Method (TNMM) | Return on total costs | 13.27% | 11.52% |
| Technical Support | TNMM | Return on total costs | 9.90% | 5.65% |
| Software development and related services | TNMM | Return on total costs | 15% | 12.67% |
3. The Assessing Officer referred the matter of determining the Arm’s Length Price (ALP) to the Transfer Pricing Officer (TPO). During the course of TP assessment proceedings, the TPO rejected the comparables adopted by the assessee company and directed to submit margin of comparable companies using only the relevant year’s data. Based on that, the assessee submitted results of the comparable companies using financial year 2006-2007 data. The arithmetic mean of such comparable entities worked out at 10.67% as against 15% shown by the assessee. The TPO this time again not satisfied of the comparable companies adopted by the assessee conducted a fresh comparability analysis and selected 28 companies which also included three common companies also identified by the assessee. The arithmetic mean of the 28 companies was arrived at 27.96%. Based on this, the adjustment to ALP value worked out to !.11,65,46,468/- by the TPO as against the ALP of !.10,47,45,490/- shown by the assessee in its account. Thus, the difference of !.1,18,00,978/- was proposed by the Assessing Officer to be added to the assessee’s income.
4. Aggrieved by the said proposal, the assessee approached the DRP (Disputes Resolution Panel) and filed its objections. The DRP mostly rejected the objections of the assessee and directed the TPO to verify the comparables in respect of three entities namely, Bodhtree Consulting Ltd. (Seg.), Helios & Matheson Information Technology Ltd. and TVS Infotech Ltd.. The other companies and the result of operating profit margins were confirmed by the DRP. After giving effect to the DRP’s directions to the comparables, the Assessing Officer finally took the arithmetic mean of 27 comparables which worked out to 24.72%. Based on this, the arms length price for international transaction from the AEs was determined after making adjustment of !.88,49,974/-, which was added to the income of the assessee. Against this addition, the assessee has come before us, in this appeal.
5. Learned AR appearing on behalf of the assessee submitted that out of 27 comparable companies, 19 of such entities are not contested and the percentage of operating profit shown by them are accepted. However, for the balance 8 companies, the learned AR submitted his exhaustive objections as to why such comparable cannot be taken into consideration. Based on such objections, the learned AR finally analyzed the arithmetic mean of all the comparables at 18.38% as against 15%, declared by the assessee in the following manner :-
| Sl. No. | Name of Company | Operating Profit/ Total Cost Ratio (FY 2006-07) As per DRP | Operating Profit/ Total Cost Ratio (FY 2006-07) As per Assessee |
|---|---|---|---|
| 1. | Accel Tansmatic Ltd.(Segment) | 21.11% | 21.11% |
| 2. | Datamatics Ltd. | 7.27% | 7.27% |
| 3. | E-Zest Solutions Ltd | 36.12% | 36.12% |
| 4. | Geometric Ltd.(Seg) | 10.71% | 10.71% |
| 5. | IGate Global Solution Ltd. | 7.49% | 7.49% |
| 6. | Ishir Infotech Ltd | 30.12% | 30.12% |
| 7. | LGS Global Ltd (lanco Global Solutions Ltd) | 15.75% | 15.75% |
| 8. | Mediasoft Solutions Ltd | 3.66% | 3.66% |
| 9. | Megasoft Ltd(Seg) | 23.11% | 23.11% |
| 10. | Mindtree Ltd | 16.90% | 16.90% |
| 11. | Persistent Systems Ltd | 24.52% | 24.52% |
| 12. | Quintegra Solutions Ltd | 12.56% | 12.56% |
| 13. | RS Software(Ind.)Ltd | 13.47% | 13.47% |
| 14. | Sasken Communication Technologies Ltd (Seg) | 22.16% | 22.16% |
| 15. | SIP Technologies & Exports Ltd | 13.90% | 13.90 |
| 16. | Thirdware Solutions Ltd | 25.12% | 25.12% |
| 17. | Helios & Matheson Information Tech. Ltd. | 36.33% | 36.33% |
| 18. | KALS Information Systems Ltd (Segment) | 30.55% | 30.55% |
| 19. | Bodhtree Consulting Ltd | 9.61% | 9.61% |
| 20. | RSystems International Ltd (Segment) | 15.07% | 7.00% |
| 21. | Lucid Software Ltd | 54.85% | — |
| 22. | Celestial Labs Ltd | 58.35% | — |
| 23. | Infosys Technologies Ltd | 40.30% | — |
| 24. | Wipro Ltd.(Segment) | 33.65% | — |
| 25. | Flextronics Software Systems Ltd.(Segment) | 25.31% | — |
| 26. | Tata Elxsi Ltd(Segment) | 26.51% | — |
| 27. | Avani Cimcon Technologies Ltd. | 52.59% | — |
| Arithmetic Mean Margin of Comparables | 24.72% | 18.38% | |
| Assessee’s Margin | 15.00% | ||
Sl.No.20 to 27 have been objected to by the assessee.
6. We now proceed to deal with the objections of the learned AR with regard to the aforesaid 8 comparable entities and also the objections of the learned CIT DR.
(i) R Systems International Ltd (Segment) :
6.1 This entity has been accepted to be taken for comparable analysis, however, the learned AR has objected to the operating profit of 15.07% as taken by the TPO as not correct and submitted that it should be taken at 7% on the ground that, ‘provision for doubtful debt, and ‘doubtful advances’ are part of normal business operation and it should not be reduced from the operating expenses as done by the TPO and if this is added to the operating cost then the working would be as follows :-
| Particulars | As per TPO | As per Appellant |
|---|---|---|
| Segment Operating Revenues (A) | 112,01,72,651 | 112,01,72,651 |
| Segment Direct Expenses(B) | 100,75,62,812 | 100,75,62,812 |
| Apportioned Common Expenses(C | 3,93,34,570 | 3,93,34,570 |
| Less : Proportionate non-operating expense (D)’ | Provision for doubtful debts : Rs.5,08,06,788 Provision for doubtful advances: Rs.3,39,47,774 |
7,33,93,613 |
| Seg.Operating Expenses(E=B+C-D) | 97,35,03,769 | 104,68,97,382 |
| Seg. Operating Profit (F=A-E) | 14,66,68,882 | 7,32,75,269 |
| Operating profit to Total Cost (F/E) | 15.07% | 7.00% |
The learned AR also objected that the figure of doubtful debts taken at !.5,08,06,788/- seems to be, prima facie, wrong because as per the balance sheet of the said company the figure of doubtful debts is !.4,49,82,345/-. In support of this, he drew our attention to page 137 of the paper book.
On the other hand, learned DR submitted that debts and advances cannot be part of operating expenses and consequently operating profit, hence, they have been rightly excluded by the TPO.
(ii) Lucid Software Limited :
6.2 The contention of the learned AR is that, the Lucid Software Company though described as Software Development Company, is mainly dealing in selling of software products, which is reflected in the website of the said company and develops a software product called “Muluam”, which is used in civil engineering structures. He submitted that as per the details given, the company has employed the capital of !.1,18,57,145/-, out of which the product development expenditure itself was !.47,14,783/-, which comes to 39.76% of the capital. The said party is a product software company, different from assessee’s nature of activities which is purely engaged in software services. The software product company is different from software development company as the margin of profit in sale of product is very high, hence, it cannot be taken as a comparable case. Alternatively, he submitted that the TPO has wrongly ignored, depreciation and amortisation of the software development expenses and excluded the interest from the operating profit. The analysis of the operating profit vis-à-vis the analysis of TPO was given as under :-
| Particulars | As per TPO | As per Appellant |
|---|---|---|
| Operating Revenue | 16,992,078 | 16,992,078 |
| Less : | ||
| Software services and administrative expenses | 11,507,896 | 11,507,896 |
| Interest | (3,99,799) | – |
| Foreign exchange fluctuation | (134, 783) | (134, 783) |
| Depreciation | Not considered | 995,484 |
| Amortisation of software development expenses | Not considered | 1,866,703 |
| Total Operating Expenses | 1,09,73,224 | 14,235,300 |
| Operating Profit | 60,18,854 | 2,756,778 |
| Operating mark up on cost | 54.85% | 19.37% |
Thus, if these expenses are considered then operating profit will come down to 19.37%.
(iii) Celestial Labs Ltd. :
6.3 Learned AR submitted that this company is mainly engaged for development of products in the field of bio-technology, pharmaceuticals and healthcare industries. It develops high-end tools through R & D team for drug discovery. He objected that this company cannot be considered as a comparable for bench-making as its functions are different from the assessee which is into purely software services.
On the other hand, learned CIT DR provided us the extract of annual report of the company as found in the public domain, wherein the profit-loss account reveals that the income from sale of service was !.13,62,00,676/- whereas the sale on products was only !.50,75,000/- on 31st March, 2007, whereas on 31-3-2006, there was no income from products. Thus, its main operations was for services and is a perfect comparable for bench marking.
(iv) Infosys Technologies Ltd (‘Infosys’). :
6.4 Learned AR strongly objected to include the aforesaid entity as comparable party on the ground that Infosys is a very large company and is operating as a full-fledged enterprise as compared to the assessee, which is a captive service provider and operating at a minimal risk. Based on the annual report of the Infosys, he submitted that it has substantial intangible assets which have been valued by the company at !.69,552 crores which comprises of brand value itself at !.22,915 crores. It is a No.2 software service exporter having substantial investments in intangibles, economic value added and has a high focus on R&D. Its operating revenue goes on a staggering figure and it owns products which are sold on premium all over the world. A comparison of function and profile has been given to demonstrate that it is not comparable at all in the following manner :-
| Basic/ Particular | Infosys Technology Limited | Appellant |
|---|---|---|
| Risk Profile | Operate as full-fledged risk taking entrepreneurs | Operates at minimal risks as the 100% services are provided to AE |
| Nature of Services | Diversified-consulting, application design, development, re-engineering and maintenance, system integration, package evaluation and implementation and business process management, etc. | Software Development Services |
| Revenue | Rs.13145 Crores | Rs.10.47 Crores |
| Ownership of branded/proprietary products. | Develops/owns proprietary product like Finacle. Also, the company derives substantial portion of its revenue from sale of its proprietary products (including its flagship banking product suite ‘Finacle’) As per the annual report of the company, it has intangibles assets worth approx., Rs.89,069 Crores for the period ended March 31, 2007 | N.A. |
| Expenditure on Advertising/Sales promotion and brand building | Rs.69 Crores | Rs. Nil (as the 100% services are to AE) |
| Expenditure on Research & Development | Rs.167 Crores | Rs.Nil |
He also relied upon the decision of the ITAT Delhi Bench in the case of ‘Agnity India Technologies Private Limited’, passed in ITA No.3856/Delhi/2010), wherein the ITAT has excluded ‘Infosys Technologies Limited’ for the purpose of comparability analysis on similar facts.
On the other hand, learned DR submitted that intangible and R& D are independent of revenue and do not make any difference in profit level indication as Infosys is also involved in providing services and therefore, it can be taken up for comparability analysis.
(v) Wipro Ltd.-IT Services Segment(Wipro’) :
6.5 In the case of Wipro also learned AR reiterated the same argument as above and stated that it is also a global IT company having varieties of service and products and looking to the magnitude of its operations, sales and expenses, the same cannot be taken into consideration for comparison. Further, he pointed out that around 67% of its sales relates to products, and, therefore, it cannot be compared with the assessee at all. He also relied upon the decision of the ITAT Mumbai in the case of Maersk Global Service Centers (India) P.Ltd. Vs. ACIT (2011-TII-133-ITAT-MUM-TP) and also the decision of the ITAT Hyderabad Bench in the case of Deloitte Consulting India Pvt. Ltd. vs. DCIT, reported in 61-DTR-101-Hyd, that Wipro cannot be taken for comparability analysis with the companies like assessee.
Learned CIT DR reiterated the same arguments as given in the case of Infosys.
(vi) Flextronics Software Systems Ltd. :
6.6 Learned AR submitted that this company is also involved in development of software product and providing software consulting service for the use in telecommunication industries and also sales telecommunication equipments. Besides this, it is providing services of business outsourcing (BPO). Being product and service company, it cannot be taken as comparable.
On the other hand, learned CIT DR submitted a copy of profit and loss account of the company, obtained from the public domain, which revealed that services constitute almost 90% of its sales and product sales is only 10%, hence, TPO has rightly taken the said company for comparability analysis and the contention of the assessee should be rejected.
(vii) Tata Elxsi Limited:
6.7 Learned AR submitted that the software development services rendered by Tata Elxsi are for product development services, innovation design, engineering and visual computing labs, which is different from what the assessee company is mostly involved. He strongly contended that the innovation design and visual computing labs are entirely not comparable. The company is involved in product design and engineering for automotive, consumer goods, electronic and visual computing labs and undertakes content development and animation services for graphics and software animation and image/video editing. He also drew our attention to the relevant extract of the company’s reply which was given to the TPO in response to notice under Section 133 (6) that its activities is into very niche and specialized activities and do not have any comparable company, which is operating in the area in which the said company operates. Thus, this company cannot be included in comparability analysis.
Learned DR on the other hand, submitted that ultimately the said company is only involved in the software development services, hence, it is a fit case for comparison.
(viii) Avani Cincom Technologies Ltd.(‘Avani Cincom’). :
6.8 Learned AR submitted that this company is also a product company and owns specified products and cannot be compared with the assessee’s company. He further submitted that segmental details of operating income of IT services and sale of software products have not been provided.
Learned CIT DR pointed out that its earning is mostly from software exports and is a software company and the company itself claims that it is software services provider, and therefore, the same should be included for comparative analysis.
Decision on First Issue:
7. We have carefully considered the rival submissions of the parties and also gone through the material as have been relied upon and the findings given in the impugned orders. There is no dispute that here in this case most appropriate method for determining ‘arms length price’ is ‘Transactional Net Margin Method’ (TNMM), wherein the ‘arms length price’ is determined by comparing the operating profit relative to an appropriate base i.e. cost, sales, assets of the tested parties with the operating profit of an uncontrolled party engaged in comparable transactions. There is no quarrel at this stage that out of 27 tested parties selected by the TPO for comparability analysis, 19 entities have not been objected to by the learned AR. Only 8 parties which are appearing from Sl.No.20 to 27 as given in table at para 5 of this order, have been disputed by the AR before us. So, we have to examine as to whether these entities can be taken for comparability analysis for determining the ‘arms length price’ of the assessee. We, therefore, proceed to analyze each and every comparables as have been objected to by the learned AR.
7.1 R Systems International Ltd (Segment) :
So far as inclusion of this entity for comparability analysis, the learned AR has accepted the same. However, he is disputing the working of the operating profit as done by the TPO. His main contention is that the provision for doubtful debts and provision for doubtful advances are part of the operating expenses and should be deducted while working out the operating profit from the operating revenue. We are unable to agree with the contention of the learned AR that the provision for doubtful debts and provision for doubtful advances are part of the operating expenses. The operating expenses are the expenses which are incurred to earn operational income and, thus, the expenses which have direct nexus with the revenue has to be considered as operational expenses. The doubtful advances and doubtful debts cannot be considered as normal expenses as they are dependent upon number of factors in relation to the trade/business transactions. Accretion of a debt and write off depends upon the wisdom of the business enterprise with regard to timing of its identification and claim as expenditure. Similarly, doubtful advances, the very nature of it, signifies that it has not been incurred in the normal course of business operations. The nature of advance depends upon the transactions between the two parties and its treatment to be doubtful again depends upon the wisdom of the business enterprise and various other factors which requires scrutiny. The very nature of doubtful debts and doubtful advances are that it is not peculiar to all the business transactions and, hence, cannot be considered as normal and direct operating expenses. While working out the operating profit, only items of receipts and expenditure, which have direct relation for determining the profit has to be taken into account. Operating profit has to be seen in a comparable transaction under comparable circumstances. The profit level indicators are derived from uncontrolled party engaged in similar business activity under similar circumstances which is the measure of arm’s length result. If the assessee’s business transactions do not have accretion of doubtful debts and doubtful advances, such an adjustment has to be made in the comparability analysis of the comparable party to determine the arms length price. Thus, both these expenses have been rightly excluded by the TPO to work out the operating profit of the comparable party and accordingly the operating profit ratio of the said entity has been rightly taken by the TPO. In the result, R Systems International Ltd (Segment) has been rightly included in the list of entities for comparability analysis for determining the arms length price in the case of the assessee. However, the discrepancy in the figures of provision of doubtful advances and provision of doubtful debts as pointed out by Ld. A.R., needs verification which TPO is required to look into and examine the same.
7.2 Lucid Software Limited :
It has been submitted before us that this company, besides doing software development services, is also involved in development of software product. The learned AR has tried to distinguish by pointing out that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received in response to notice under Section 133(6), the company has described its business as software development company or pure software development service provider. This information itself is very vague as the segmental details of operating revenue has not been made available to examine how much is the ratio of sale from software product and sale of software service and development. Looking to the fact that it has developed a software product named as “Muulam” which is used for civil engineering structures and the product development expenditure itself is substantial vis-à-vis the capital employed by the said company, this criteria for being taken as comparable party, gets vitiated. For the purpose of comparability analysis, it is essential that the characteristics and the functions are by and large similar as that of the assessee company and T.P. analysis/study can be made with fewest and most reliable adjustment. If a company has employed heavy capital in development of a product then profitability in the sale of product would be entirely different from the company, who is involved in service sector. Therefore, this company cannot be treated as having same function and profitability ratio.
In our view, due to non-availability of full information about the segmental details as to how much is the sale of product and how much is from the services, therefore, this entity cannot be taken into account for comparability analysis for determining arms length price in the case of the assessee.
7.3 Celestial Labs Ltd. :
Regarding this company the learned AR submitted that this company is also engaged in development of products in the field of bio-technology, pharmaceutical etc. However, learned CIT DR has contradicted the contention of the AR by providing before us the profit and loss account for the relevant assessment year, which shows that income from sale of services is to the extent of Rs.13,62,00,676/-, whereas sale from products is only Rs.50,75,000/-. Thus, more than 95% of the revenue is from services and therefore, not much adjustments are required for comparing the profit ratio. Accordingly, the contention of the learned AR is rejected that this company cannot be taken as a comparable case.
In view of the information provided by the learned CIT DR obtained from the public domain, we hold that the ‘Celestial Labs Limited’ is a good comparable case, whose operating profit can be taken for comparability analysis in determining the arms length price for the assessee. Accordingly, the Assessing Officer is directed to include this company for comparability analysis.
7.4 Infosys Technologies Ltd. :
The parameter for identifying comparable entity has to be seen from the angle of functions formed by the company, size of the company in terms of the sales revenue, stage of business cycle and company’s growth cycle. In the case of Infosys, there are huge intangible assets which as per the information provided by the learned AR are valued at !.69,552 crores, which comprises of brand value itself at !.22,915 crores. Based on such fund valuation, the profit of Infosys is predominantly due to its premium branding. It is India’s No.2 software service exporter and Third in the world as an IT Service company. It is a giant company which is evident from its revenue fund from the sales which itself is more than !.13145 crores and expenditure on advertisement/sales promotion and expenditure on R & D is at !.69 crores and !.167 crores respectively, whereas in the case of the assessee the revenue is only 10.7 crores with no expenditure on advertisement, sales and promotion etc., which are borne by the associated enterprises. Even from the test of ‘FAR’ ie. function performed, assets employed and risk assumed, comparability analysis miserably fails in this case. The comparison of function and profile as has been reproduced in para 6(iv) above, mostly shows that the profit level indicators in relation to return of cost, return of sales and return of assets are huge between Infosys and the assessee company and therefore, the Infosys cannot be treated as comparable entity for making comparability analysis with the assessee company. The comparability of Infosys Technology of the company as that of an assessee has been dealt with ITAT Delhi Bench in the case of ‘Agnity India Technologies Private Limited’ (ITA No.3856/Delhi/2010), wherein it was held that Infosys is a giant in the area of development of software and it assumes all risks, leading to higher profit and cannot be compared with the company which is a captive unit of its parent company assuming only limited currency risk. In view of the above finding, we hold that the Infosys cannot be taken as a comparable for determining the arms length price in the case of the assessee.
7.5 Wipro Ltd.-IT Services Segment(‘Wipro’) :
This company is also a global IT Company having varieties of service and products and looking to the magnitude of its operations, sales and expenses, the same cannot be taken into consideration for comparability analysis. Moreover, 67% of its sales relates to its product which are sold on premium resulting into higher profitability, therefore, cannot be compared with the assessee company at all. There are several judgments of ITAT which have been referred in para 6.5 above, that Wipro cannot be taken as comparable case for comparable case with the company like assessee. In view of these facts and the reasoning given in the case of Infosys, we hold that Wipro also cannot be considered as a comparability analysis, hence, would not be included in the list of the comparable entities as identified by the TPO.
7.6 Flextronics Software Systems Ltd. :
As per the statement of the learned AR, this company is also involved in the development of the software product and is also involved in BPO services, besides joint software consultancies for the use in telecommunication industries. Thus, being product and service company, it cannot be taken as comparable. However, the learned CIT DR has amply controverted the said contention of the learned AR by submitting before us a copy of profit and loss account of the company for the relevant assessment year, obtained from the public domain.
From the perusal of the profit and loss account of the said company, it is seen that the revenue sales from services constitutes almost 90% and the product sales is only 10%. Thus, in this case also not much adjustment is required to be made for taking the profit ratio for comparing it with the assessee in determining the arms length price. In view of the above, we hold that TPO has rightly included the said company as comparable case which can be taken into consideration for comparing the profit ratio.
7.7 Tata Elxsi Limited.:
From the facts and material on record and submissions made by the learned AR, it is seen that the Tata Elxsi is engaged in development of niche product and development services, which is entirely different from the assessee company. We agree with the contention of the learned AR that the nature of product developed and services provided by this company are different from the assessee as have been narrated in para 6.6 above. Even the segmental details for revenue sales have not been provided by the TPO so as to consider it as a comparable party for comparing the profit ratio. Thus, on these facts, we are unable to treat this company fit for comparability analysis for determining the arms length price for the assessee, hence, should be excluded from the list of comparable parties.
7.8 Avani CincomTechnologies Ltd.(‘Avani Cincom’):
Here in this case also the segmental details of operating income of IT services and sale of software products have not been provided so as to see whether the profit ratio of this company can be taken into consideration for comparing the case that of assessee. In absence of any kind of details provided by the TPO, we are unable to persuade ourselves to include it as comparable party. Learned CIT DR has provided a copy of profit loss account which shows that mainly its earning is from software exports, however, the details of percentage of export of products or services have not been given. We, therefore, reject this company also from taking into consideration for comparability analysis.
8. Further the learned AR also submitted that the benefit under Section 92 C (2) for +/- 5% range should be given and if adjustment as per the assessee is made then the same would fall within the 5% range.
9. In view of our finding of each and every eight comparable case, which are in dispute before us, we direct the Assessing Officer to determine the profit ratio after taking the arithmetic mean of all the final tested parties (i.e. after excluding five entities as discussed above) and determine the arms length price of the assessee company for international transactions. Further after arriving at the arithmetic mean the TPO will examine whether +/- range of 5% is applicable or not and will decide this aspect in accordance with the provision of Section 92 C(2).
10. Accordingly, the first issue is partly allowed as per direction given above.
Second issue is in regard to application of depreciation @60% on UPS instead of 15% as claimed by the assessee.
11. The factual matrix relevant for this issue is that the assessee during the relevant financial year had purchased UPS of 120 KVA + 40 KVA for the purpose of using the same for the unit which was eligible for exemption under Section 10A, for various office items, data center equipments, networking equipments, computers routers, switches, emergency lights, IT infrastructure and various other office equipments. The assessee accordingly made a claim for depreciation @ 15% on UPS instead of 60%. However, in the objection filed before the DRP, the same was rejected and the DRP directed that the claim of depreciation for 10A unit should be allowed at 60% which as a result has enhanced the total claim of depreciation amounts to !.1,38,17,680/-. Thus, reducing the profit of unit covered under Section 10A, instead of depreciation claimed at !.1,31,91,053/- and non 10A of !.7,26,627/-. Thus, as per the direction of the DRP, the claim of depreciation of the assessee was enhanced from !.1,25,12,235/- to !.1,38,17,680/-. The learned AR relied upon the decision of ITAT Delhi Bench in the case of Nestle India Limited Vs. DCIT, reported in (2007) 111 TTJ 498, that the depreciation of rate of UPS should be taken at 15%. He referred to various details of usage of UPS as given in paper book at page 245 to 252. On the other hand, learned CIT DR relied upon the findings given by the DRP.
12. We have carefully considered the rival submissions and also the finding given in the impugned orders. From the details and material placed on record, it is seen that the UPS have been used for various kinds of office equipments and plant and machinery. This issue has been discussed and dealt with by the ITAT Delhi Bench in the case of Nestle India Ltd (supra), wherein following findings have been given with regard to depreciation of computer and depreciation of UPS :-
“The expression “computer” has not been defined in the Act. However, it has been defined by s.2(1)(i) of the Information Technology Act, 2000. As per the said Act, “computer” means any electronic, magnet, optical or other high speed data processing device or system which performs logical, arithmetic and memory functions by manipulation of electronics or magnetic or optical impulses and include all input-output processing, storage, computer software or communication facilities which are connected or related to the computer in a computer system or computer network…
….Whereas the UPS, is defined by Webopedia Computer Dictionary, stands for uninterruptible power supply. Thus, the UPS mainly ensures uninterrupted power supply to computer network and also regulated the flow of power to avoid any kind of damage to the computer network. It is, thus, a source of alternative supply of power to the computer and applying the functional test also, it is a part of power supply system and not the computer system.
The UPS is also not inbuilt in the computer as a battery in the laptop to make it an integral part of the computer system. It merely gives external aid to the computer system by ensuring the uninterrupted power supply in emergency and in regulating the flow of power….
It is worthwhile to note here that the computer system can function independently without the UPS and even the UPS generally can be used to ensure uninterrupted power supply to other equipments besides computer. It is, thus, not the integral part of the computer system like printer and scanner, which being output devises of the computer system are its integral part…”
Respectfully following the aforesaid decision, we hold that the UPS which has been used for the office equipments and plants and machinery, the depreciation is to be allowed at the rate of 15%, subject to verification of these details by the Assessing Officer as have been given before us. Accordingly, this issue is allowed in favour of the assessee, subject to the directions given above.
Third issue is with regard to computation of interest liability for sum of !.46,825/- under Section 234C.
13. The relevant facts are that the assessee filed his return of income at !.1,29,76,433/- which resulted into tax liability of !.43,67,867/-. This tax liability was fully covered by the advance tax of !.45,76,000/- and TDS of !.7,199/-. As per the provisions of Section 234 C which reads as under :-
(i) the advance tax paid by the company on its current income on or before the 15th day of June is less than fifteen per cent of the tax due on the returned income or the amount of such advance tax paid on or before the 15th day of September is less than forty-five per cent of the tax due on the returned income or the amount of such advance tax paid on or before the 15th day of December is less than seventy-five per cent of the tax due on the returned income, then, the company shall be liable to pay simple interest at the rate of one per cent per month for a period of three months on the amount of the shortfall from fifteen per cent or forty-five per cent or seventy-five per cent, as the case may be, of the tax due on the returned income;
If the advance tax is less than fifteen per cent of the tax due on the returned income, for every quarter, the interest under Section 234C would be payable at simple interest @1% per month. As per the Explanation to Section 234C, tax due on the returned income means the tax chargeable on the total income declared in the return of income furnished by the assessee, as reduced by the amount of tax deductible or collectible at source. The following details of advance tax payment has been placed on record :-
| Due Date | % | Amount Due (Rs.) | Date Amount Paid | Amount Paid (Rs.) | Cumulative Adv. Tax Paid (Rs.) |
|---|---|---|---|---|---|
| 15-Jun-06 | 15% | 6,55,180 | 14-Jun-06 | 9,80,000 | 9,80,000 |
| 15-Sep-06 | 45% | 19,65,540 | 14-Sep-06 | 15,24,000 | 25,04,000 |
| 15-Dec-06 | 75% | 32,75,900 | 13-Dec-06 | 14,36,000 | 39,40,000 |
| 15-Mar-07 | 100% | 43,67,867 | 14-Mar-07 | 6,36,000 | 45,76,000 |
| Total | 45,76,000 |
14. From the above, it is amply clear that there is no shortfall in any of the quarters and, therefore, no interest liability under Section234C can be fastened upon the assessee. Accordingly, the interest levied at Rs. 46,825/- under Section 234C is deleted.
15. In the result, appeal filed by the assessee is partly allowed.
Order pronounced on this 11th day of May, 2012.
