Brief of the Case
ITAT Delhi held In the case of Avaya India (P) Ltd. vs. ACIT that a perusal of the annual report of company reveals that the said company has made income from sale of license to the tune of more than Rs.1 crore, which means the company is into production of software products which apparently cannot be a comparable to assessee dealing with contract software development and not into sale of any product. Therefore, we direct TPO/AO to exclude this company from the list of comparables.
Facts of the Case
The assessee, Avaya India Private Limited is a subsidiary in India of Avaya International LLC. During the financial year 2006-07, the assessee has provided software development and back office support services to the Associated Enterprises (AEs) under the cost plus model. The assessee has also provided marketing support services to Avaya International Sales Ltd. The assessee’s marketing activities include providing information about Avaya Products, customer awareness, etc.
The assessee had conducted an economic analysis, as a part of its Transfer Pricing documentation for FY 2006-07, to establish the arm’s length nature of international transactions with its AEs. During the relevant FY, the assessee undertook the various international transactions with its AEs. However, it was pointed out by the AR, that TPO has accepted the transaction in respect to rendering market support services, purchase of assets and reimbursement of expenses. The dispute is only in regard to rendering software services and payment towards back office support services.
For the purpose of comparability analysis, the assessee has analyzed the Software services and Back Office Support services segments by using Transactional Net Margin Method (TNMM) as the most appropriate method. The TPO rejected the filters adopted by the assessee in the TP documentation and imposed additional filters for the selection of comparables. The TPO took 26 companies as comparables for software development service and 25 comparables for IT enabled services (ITES). Accordingly, the TPO in the impugned order, proposed a total transfer pricing adjustment of Rs.9,17,78,903/- (Rs. 8,70,79,955 + Rs.46,98,948).
Pursuant to the DRP directions, the AO passed the final assessment order dated 07.09.2011, making a transfer pricing adjustment amounting to Rs.8,70,79,955/- to software services segment and Rs.44,11,464/- to back office support services segment. Thus, the total transfer pricing adjustment made in the assessee’s case was Rs.9,14,91,419/- thereby assessing the total income at Rs.20,03,30,080/- as against Rs.10,88,38,664/- disclosed by the assessee in the return of income.
Contention of the Assessee
The ld counsel of the assessee submitted that few companies are not comparable in regard to functionally dissimilar, non availability of segmental data , companies involved in the development of software tools , companies involved in diversified business or providing diversified services, engaged in significant R & D activities which resulted in creation of IPRs, companies having substantial intangible assets , companies under significant restructuring, companies involved in financial & economic irregularities and companies having significant related party transactions. Some major observation raised by the assessee is as follows –
Thirdware Solutions Ltd. (Seg.) – Ld. AR contended that this company cannot be compared with the assessee company because the company is functionally dissimilar and derives revenue from various sources such as sale of license, software services, export from SEZ unit, revenue from subscription etc. Further, ld. AR submitted that this company is engaged in diversified business including software products and no standalone financial data is available for FY 2006-07. Therefore, the ld. AR submitted that this comparable may be excluded.
Maple eSolutions Ltd. & Triton Corp Ltd. – The ld counsel of the assessee submitted that the directors of the company were involved in a fraud. This company is a wholly owned subsidiary of Haryana Fibres Ltd., whose promoters were involved in fraud as per newspaper report and the CBI report.
Asit C Mehta Financial Services Ltd. (earlier known as Nucleus Netsoft & GIS Ltd. & Caliber Point Business Solutions Ltd. & HCL Comnet Systems & Services Ltd. & Informed Technologies India Ltd. – The ld counsel of the assessee outset had objection in the filter used by the TPO of 25% related party transactions. According to him, the ideal situation is that there should be zero related party transactions, however, the related party transactions should be taken the least when there are reasonable comparables available before the TPO. In order to buttress his arguments, he cited the order of the coordinate Bench in the case of Motorola Solutions India Private Limited ITA No. 5637/Del/2011 wherein the Tribunal had accepted the said contention of the assessee.
Eclerx Services Ltd. & Vishal Information Technologies Ltd. – The ld. AR at the outset itself pointed out that Eclerx and Vishal are into KPO services. According to him, although KPO services were ITES but the nature of these services were materially different than the services rendered by the assessee. It was asserted that eClerx is engaged in financial services in the nature of account reconciliation, trade order management services and has been rated as a leading KPO by Nelso Hall. It was contended that similarly Vishal was engaged in the services of data analytics and providing data processing solutions to some of the largest brands in the world. Vishal too had been rated as a leading KPO by Nelso Hall. In addition, it was pointed out that whilst the employee costs incurred by Vishal was relatively low and constituted only 2.30% of its total cost during the relevant year, the hire charges, vendor payments constituted almost 87% of the total costs. According to the AR, this evidenced that Vishal’s business model was different and Vishal had outsourced significant part of its operations.
Held by ITAT
Thirdware Solutions Ltd. (Seg.) – A perusal of the annual report of Thirdware Solutions Ltd. reveals that the said company has made income from sale of licence to the tune of more than Rs.1 crore, which means the company is into production of software products which apparently cannot be a comparable to assessee dealing with contract software development and not into sale of any product. Therefore, we direct TPO/AO to exclude this company from the list of comparables.
Maple eSolutions Ltd. & Triton Corp Ltd. – The main contention of the ld. AR is that both these companies are tainted because of involvement in financial and economic irregularities which has forced the law enforcement agencies to initiate criminal proceedings against them. The Tribunal has been consistently on the same ground have been discarding M/s. Satyam Computers from being a comparable. Likewise, in the case of ITO vs. CRM India (P) Ltd. (ITA No.4068/Del/2009 order dated 30.06.2011),the coordinate Bench of this Tribunal has excluded these two comparables by reasoning that, “it would be unsafe to take their results for comparison of the profitability of the assessee.” We concur with the said opinion of the coordinate Bench and we direct to exclude these two companies from the list of comparables.
Moreover, we find that in the case of Maple, there has been mergers and acquisitions. In the light of the aforesaid facts regarding acquisition made by this company, we find where there is amalgamation and demerger, then the accounts do not portray the correct picture in the profits due to the merging of accounts. So the financial results cannot be relied upon for the computation of PLI of this comparable. Since the terms of amalgamation is decided on the scheme of amalgamation, which is approved by the High Court, so not necessarily all the items of expenses and income are merging. So, true and correct picture of profitability cannot be ascertained. Therefore, due to extra ordinary events taking place in the instant financial year of this company, we are of the opinion that this company should be excluded from the list of comparables.
Asit C Mehta Financial Services Ltd. (earlier known as Nucleus Netsoft & GIS Ltd. & Caliber Point Business Solutions Ltd. & HCL Comnet Systems & Services Ltd. & Informed Technologies India Ltd. – It was pointed out by the ld. AR that the aforesaid companies related party transactions are more than 15%. We find force in the said contention of the ld. AR and we find that in this list of comparables considered by the TPO, the assessee itself had accepted eleven (11) comparables as comparable with that of the assessee. In such a scenario, we are of the opinion that the TPO may take into consideration only those comparables where related party transactions are to the extent of 15% because it is not a case of the revenue that by applying threshold limit of 15%, it will not get sufficient number of comparables.
Eclerx Services Ltd. & Vishal Information Technologies Ltd. – The Hon’ble jurisdictional High Court in the case of Rampgreen Solutions Pvt. Ltd. ITA 102/2015 held that the transfer pricing analysis must serve the broad object of benchmarking an international transaction for determining an ALP. The methodology necessitates that the comparables must be similar in material aspects. The comparability must be judged on factors such as product/service characteristics, functions undertaken, assets used, risks assumed. This is essential to ensure the efficacy of the exercise. There is sufficient flexibility available within the statutory framework to ensure a fair ALP. Applying the aforesaid principles to the facts of the present case, it is once again clear that both Vishal and eClerx could not be taken as comparables for determining the ALP. Vishal and eClerx, both are into KPO Services.
In the light of the aforesaid decision of the Honorable jurisdictional High Court wherein the it was held
that both these companies cannot be compared with the low end service provider like the appellant in this case.
We find force in the contention of the ld. AR that risk adjustment sought by the assessee has not been dealt with as per Rule 10B (1)(e)(iii). The ld. AR pointed out to the order of the coordinate Bench in Motorola Solutions India Private Limited (supra) wherein in an identical matter, the Tribunal has given direction as afore-stated when the TPO repelled similar contention of the assessee. Since the risk adjustment sought by the assessee has also been turned down by the TPO on similar reasons, it has to be set aside and a computation exercise as envisaged under Rule 10B(1)(e)(iii) need to be done. Therefore, we restore this matter back to the file of the TPO/AO to consider the computation of risk adjustment as per CAPM model by availing the services of technical experts.
Accordingly appeal of the assessee partly allowed for statistical purpose.