ITA No.3532/Del/2014

SHRI R.S. SYAL, AM AND SHRI KULDIP SINGH, JM

For The Assessee : Shri Nageshwar Rao, Advocate,
For The Department : Shri Peeyush Jain, CIT, DR

ORDER

R.S. SYAL, AM:-This appeal by the assessee arises out of the final order dated 28.4.2014 passed by the Assessing Officer (AO) u/s 143(3)/254 read with section 144C(5) of the Income-tax Act, 1961 (hereinafter also called ‘the Act’) in relation to the assessment year 2006-07.

2. A final assessment order was earlier passed in this case which was assailed by the assessee before the Tribunal. Vide its order dated 29.12.2011, the Tribunal in ITA No.3990/Del/2010 observed that the Dispute Resolution Panel (DRP) had not disposed of the assessee’s objections by means of a speaking order. Resultantly, the matter was restored to the file of the DRP for passing a fresh speaking order giving proper reasons. That is how, the DRP issued direction dated 21.3.2014, pursuant to which, the AO has passed the impugned order.

3. The first issue raised in this appeal is against the addition amounting to Rs. 28,30,09,294/- on account of transfer pricing adjustment. The facts apropos this issue are that the assessee is a wholly owned subsidiary of American Express International Inc., USA. It is engaged in providing services to its group companies in the nature of data management, information analysis and control activities. The assessee also provides tele-servicing and transaction processing support to American Express group entities. The assessee reported 11 international transactions which have been mentioned on page 2 of the Transfer Pricing Officer (TPO)’s order. These transactions were divided by the assessee in two categories, namely, Category-1 covering transactions from Sl. No. 1-6 and Category-2 covering transactions from Sl. No. 7-11. In the instant appeal, we are concerned only with international transactions of Category-1 which are as under :-

4. The assessee follows ‘Cost Plus’ business model, i.e., it charges the associated enterprises (AE) for the services on the cost plus certain mark-up. This mark-up is charged on overall total costs including all direct and indirect costs. During the year, the assessee charged mark-up of 15% for rendering the above services. The assessee applied Transactional Net Margin Method (TNMM) as the most appropriate method to benchmark international transactions of Category-1 by choosing Profit Level Indicator (PLI) of Operating profit/Operating cost (OP/OC). Initially, it chose 13 comparable companies with their weighted average margin, calculated on the basis of multiple year data, at 15.20%. The assessee computed its own margin at 17.43% and claimed that these international transactions were at arm’s length price (ALP). The AO made a reference to the TPO for determining the ALP of the international transactions. The TPO, inter alia, did not accept the use of multiple year data. The assessee furnished a revised list of comparable companies with their profit margins on the basis of single year data. The number of comparable companies in this list got shrinked to 11. The TPO excluded certain companies from the assessee’s list of comparables and included certain fresh companies. That is how the TPO shortlisted 8 companies tabulated on page 23 and 24 of his order with their average OP/OC computed at 30.71%, as under : -

5. On the basis of the above mean profit margin of the comparable companies, the TPO proposed transfer pricing adjustment of Rs. 5.41 crore. After passing of order by the Tribunal and taking into consideration the fresh directions given by the DRP, the AO has finally reduced the amount of addition on account of transfer pricing adjustment to Rs. 2.83 crore. The assessee is aggrieved against this addition. To be more precise, the grievance of the assessee is restricted in seeking exclusion of two companies, namely, Nucleus Netsoft and GIS (India) Ltd. (Seg.) and Vishal Information Technology Ltd.; and inclusion of Kirloskar Computer Services Limited and Mercury Outsourcing Management Ltd. We will deal with these companies in seriatim.

6. Before arriving at a conclusion about the comparability or otherwise of the above referred four companies, it is pertinent to observe the nature of functions performed by the assessee under Category-1 of the international transaction in dispute. First transaction is 'Export of data processing and back office support’, whose nature has been discussed in the Transfer Pricing Study Report as undertaking data management, information analysis and control management activities and providing tele-servicing and transaction processing report for export to American Express Group. The assessee receives inputs in the form of data, mainly in electronic form to undertake business processing. It exports its output to the concerned group companies worldwide. These services are primarily in the nature of I.T. enabled services. The second international transaction is ‘Charges for CDN/CPU’ with the transacted value of Rs. 28.73 crore. The nature of this transaction has been given in the TP study report to mean utilization of World Wide Information Processing Telecommunication Centre at Phoenix in the USA maintained by another AE. The utilization of Consolidated Data Network (CDN) and Central Processing Unit (CPU) and Technology services is for rendering I.T. enabled services to its AEs. The next international transaction under Category-1 is ‘Charges for Global Max Software’ with the transacted value of Rs. 31.92 lac. Similarly, next transaction under this category is 'Secondment of personnel’. The assessee reimburses compensation and other benefits actually incurred by the AEs from time to time on the seconded employees sent to it on cost to cost basis. Such amount incurred by the AE includes remuneration, allowances, insurance and related amounts as spent by AEs during secondment term, which also includes travelling and other incidental expenses. The services of such seconded employees are utilized by the assessee in rendering I.T. enabled services to its AEs. Then it is ‘Relocation of expenses’, which is, again, nothing, but, the reimbursement of cost incurred by the associated enterprises on relocation of employees seconded to it. If we closely look at the nature of the international transactions under Category-1, it becomes manifest that these are the transactions in the nature of rendering or enabling to render I.T. enabled services. There is no dispute on the nature of the services provided by the assessee under this Category. Now, we will examine the comparability or otherwise of the companies disputed by the ld. AR.

(i) Nucleus Netsoft and GIS (India) Ltd.

7.1. This company was initially included by the assessee in its list of comparables on weighted average basis. Thereafter, when the TPO required the assessee to furnish the profit rates of the companies selected by it with current year data alone, the assessee excluded this company. The TPO included it in the final set of comparables despite the assessee’s objection that there was amalgamation of some other company in this company during the year under consideration and the audited financial accounts contain the figures relevant to the amalgamating company as well. The TPO was unconvinced with this reason for exclusion. The DRP affixed its seal of approval on the inclusion of this company.

7.2. We have heard the rival submissions and perused the relevant material on record. The assessee has not disputed the functional dissimilarity of this company. The only reason taken by the assessee in seeking its exclusion is the amalgamation of another company with it during the year. This fact is borne out from the Annual report of this company, a copy of which has been placed on record. The Annual report of this company provides that: The Scheme of Amalgamation (“the Scheme”) of erstwhile Nucleus and GIS (India) Ltd., the Transferor Company, with your Company was sanctioned by Hon’ble High Court of Judicature of Bombay on 22nd February, 2006. On complying with the requisite formalities, the Scheme became effective and operative retrospectively from the appointed date of 1 April 2005 as per the Scheme. In the accompanying financial statements, results of the transferor company have been incorporated and the figures given herein and elsewhere in this Annual Report are not strictly comparable with those of previous year.” It is clear from the above extraction that the amalgamation took place in the year in question and the financial results of this company include those of the amalgamating company as well. In our considered opinion, the factor of amalgamation or merger or acquisitions, etc., has its own implications on the financial results of a company as these are abnormal financial characteristics which distort the normal profitability. The Mumbai Bench of the Tribunal in Petro Araldite (P) Ltd. Vs. DCIT (2013) 154 TTJ (Mum) 176, has held that a company cannot be considered as comparable because of exceptional financial results due to mergers/demergers. Similar view has been bolstered by the Delhi Bench of the Tribunal in several cases including Ciena India Pvt. Ltd. Vs. DCIT (ITA No.3324/Del/2013) vide its order dated 23.4.2015. In view of the fact that there was a merger by way of amalgamation during the year itself, we hold that Nucleus Netsoft and GIS (India) Ltd. cannot be considered as comparable due to this extraordinary financial event. Accordingly, we direct to eliminate this company from the final set of comparables.

(ii) Vishal Information Technology Ltd.

8.1. The assessee initially considered this company as comparable which the TPO included as such. No dispute was raised before the DRP in the first round. It was only during the second round of proceedings before the DRP that the assessee argued for the exclusion of this company from the final set of comparables. The DRP refused to accept the assessee’s contention, inter alia, on the ground that the functional differences pointed out by the assessee were not significant enough to warrant its rejection as a good comparable. The assessee argued before the DRP that this company outsourced a significant part of its operations, inasmuch as such outsourcing charges constitute 65.98% of the total costs and that was one of the reasons rendering it incomparable. Though the DRP upheld the inclusion of this company, but it did not adversely comment on this aspect of outsourcing of significant parts of its operations. The assessee is aggrieved against the inclusion of this company.

8.2. We have taken into consideration the Annual report of this company which is available in the paper book, from which it can be seen that it has outsourced its manual activities. As against the assessee’s contention before the DRP of this company’s outsourcing costs at 65.98%, we find that the assessee’s outsourcing cost is roughly 8%. This is an important factor which has its impact on the overall profitability of a company. Several Benches of the Tribunal across the board have unanimously held this factor to be a relevant one in deciding the question of exclusion of a particular company from the list of comparables. Copies of some of such orders expunging companies on this score have been placed by the ld. AR on record. In view of this different business model adopted by Vishal Information Technology Ltd. (now known as Coral Hub Ltd.) vis-à-vis the assessee, we order for the omission of this company from the list of comparables.

(iii) Kirloskar Computer Services Limited (Seg.) and Mercury Outsourcing Management Ltd.

9.1. These two companies were originally included by the assessee in its list of comparables, which were eliminated by the TPO on the ground of failing turnover filter of Rs. 1 crore. The assessee is aggrieved against the exclusion of these companies.

9.2. We have heard the rival submissions and perused the relevant material on record. We find that the TPO has accepted the functional comparability of these companies on segmental level. The ld. DR was also fair enough to candidly accept the functional similarity of the relevant segment of these companies. In such circumstances, the question arises as to whether the relevant segment of these companies can be excluded from the list of comparables merely on the ground that the revenue from this segment is very limited? In our considered opinion, the quantum of turnover can be no reason for the exclusion of a company, which is otherwise comparable. The Hon’ble jurisdictional High Court in the case of ChrysCapital Investment Advisors (India) P. Ltd vs. DCIT (2015) 93 CCH 29 DelHC has held that high turnover or high profit can be no reason to eliminate an otherwise comparable company. The same applies with full force in the converse manner as well to a low turnover/low profit company. We, therefore, hold that a company cannot be excluded from the list of comparables on the ground of its low turnover. In principle, we direct the inclusion of the relevant segment of these companies in the list of comparables. The TPO is directed to include the operating profit/operating costs of the ITES segment of these companies in the final set of comparables, after due verification of the necessary figures for determination of their operating profit margin etc.

10. In the final analysis, we set aside the impugned order and remit the matter to the file of AO/TPO for a fresh computation of the ALP of the international transaction under Category-1 in consonance with our above directions/observations. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in this regard.

11. First corporate ground is against the denial of deduction u/s 10A amounting to Rs. 36,31,98,760/- in respect of AEGSC (STP) unit set up by the assessee during the financial year 2002-03 on the ground that the STP unit was set up after splitting up its existing business of FCE (EOU).

12. Having heard the rival submissions and perused the relevant material on record, it is observed that this is a recurring issue coming from earlier years. This fact has also been recognized by the DRP on page 19 of its directions in which it has been noticed that the Tribunal has accepted the assessee’s claim for the benefit of section 10A in this regard. We have also gone through the order passed by the Tribunal in the assessee’s own case for the A.Y. 2004-05, a copy of which has been placed on record. This aspect has been discussed on page 21 of the order. After following the view taken by the Tribunal in the assessee’s own case for the A.Y. 2002-03, the Tribunal has granted the benefit of deduction u/s 10A in respect of profits of newly set up AEGSC unit. In the absence of any distinguishing feature having been brought to our notice by the ld. DR, respectfully following the precedent, we grant the benefit of deduction u/s 10A in respect of profits of AEGSC unit. This ground is allowed.

13. The only other ground which survives for consideration is against treating interest on short-term deposits amounting to Rs. 4,54,09,340/- as ‘Income from other sources’ and thereby denying the benefit of deduction u/s 10A/10B. Here again, it is an admitted position that the Tribunal has decided this issue in the assessee’s favour in earlier years by holding such interest on short-term deposits to be in the nature of 'Business income’ and thereby eligible for the benefit of deduction u/s 10A/10B. Respectfully following the precedent, we allow this ground of appeal.

14. In the result, the appeal is partly allowed.