No.- ITA No. 6334/Del/2012

SH. I.C. SUDHIR, JUDICIAL MEMBER AND SH. O.P. KANT, ACCOUNTANT MEMBER

For The Appellant : S/sh. G.C. Srivastava & Daksh Bhardwaj, Advocates
For The Respondent : Sh. T.M. Shiva Kumar, CIT(DR)

ORDER

The order of the Bench was delivered by

O.P. KANT, A.M.:-This appeal by the assessee is directed against order dated 23/10/2012 passed by the Assessing officer (AO) , in compliance to the direction of the Dispute Resolution Panel ( DRP) , under section 143 (3) read with section 144C of the Income- tax Act, 1961 (for short ‘the Act’), in respect of assessment year 2008-09 raising following grounds:

“On the facts and circumstances of the case and in law, the learned Assessing Officer (“AO") has erred in passing the assessment order under section 143(3) read with section 144C of the Income-tax Act, 1961 (“the Act”) after considering the adjustments proposed by the learned Transfer Pricing Officer (“TPO”) in his order passed under section 92CA(3) of the Act and subsequently confirmed by the Hon’ble Dispute Resolution Panel (“DRP”).

Each of the ground is referred to separately, which may kindly be considered independent of each other.

That, on the facts and circumstances of the case and in law,

1. the AO/TPO has erred in making an addition of INR 49,981,078 to the total income of the Appellant by rejecting the transfer pricing (“TP”) analysis undertaken by the Appellant and making an adjustment under section 92CA (3) of the Act without returning a finding about existence of any of the circumstances specified in clauses (a) to (d) of sub-section (3) of section 92C of the Act.

2. the AO/TPO has erred by not accepting the economic analysis undertaken by the Appellant in accordance with the provisions of the Act’ read with the Income-tax Rules, 1962 (“the Rules”), and modifying the same for the determination of the Arm’s Length Price ("ALP”) of the Appellant’s international transactions to hold that the same are not at arm’s length.
3. The AO/ TPO has erred in:

a) Using data for a single year instead of multiple year data; and
(b) Determining the arm’s length margins / prices using data pertaining only to financial Year (“FY”) 2007-08 which was not available to the Appellant at the time of complying with the Indian TP documentation requirements.

4 The AO/TPO has erred by rejecting certain comparable companies identified by the Appellant using ‘Employee cost greater than 25 percent of total revenue’ as a comparability criterion.

5 The AO/TPO has erred by rejecting certain comparable companies identified by the Appellant using Onsite revenues greater than 75 percent of the export revenues’ as a comparability criterion.

6. The AO/TPO has erred by exercising powers assigned under section 133(6) of the Act to obtain information which was not available in the public domain and relying upon the same for comparability purposes.

7. The AO/TPO has erred by selecting certain companies (which are earning super normal profits) as comparable to the Appellant.

8. The AO/TPO has erred, by rejecting certain comparable companies identified by the Appellant using Turnover less INR 1 crore’ as a comparability criterion.

9. The AO/TPO has erred, by wrongly rejecting certain companies from and adding certain companies to the final set of comparables on an ad-hoc basis, thereby resorting to cherry picking of comparables.

10. The AO/TPO has erred by passing an order under section 92CA(3) of the Act which contains computational error in the margin of certain comparable companies used in determination of ALP.
11. The AO/TPO has erred by not making appropriate adjustments to account for differences in working capital employed by the Appellant vis-a-vis the comparables.

12. The AO/TPO has erred by not making suitable adjustments to account for differences in the risk profile of the Appellant vis-a-vis the comparables.
13. the AO/TPO has erred in not providing the benefit of the arm’s length range as provided under proviso to Section 92C of Act for the purposes of computing the ALP under section 92F of the Act.
14. The DRP has erred in confirming the additions proposed by the learned AO and erred in rejecting the objection filed against the draft assessment order.

The Appellant craves leave to add, amend, vary, omit or substitute any of the aforesaid grounds of appeal at any time before or at the time of hearing of the appeal.
The Appellant prays for appropriate relief based on the said grounds of appeal and the facts and circumstances of the case.

2. The briefly stated facts of the case are that the assessee, a company incorporated under the Companies Act, 1956, is a wholly4 owned subsidiary of ‘Comverse Network System Inc., USA’. During the relevant assessment year, the assessee was engaged in the provision of sales and post sales support services, software development services, professional and maintenance services to its Associated Enterprises (AEs) in the field of telecommunication network including voicemail systems, Billings and other related hardware etc. The assessee filed its return of income electronically on 30/09/2008 declaring loss of Rs. 6,44,33,875/-, which was further revised to loss of Rs. 7,28,17,072/- on 31/03/2010. The case of the assessee was selected for scrutiny under ‘Computerized Assisted Selection of Scrutiny’ (CASS) and notice under section 143(2) of the Act was issued and complied with. The Assessing Officer made a reference to the Transfer Pricing Officer (TPO) under section 92CA(1) of the Act for determining the Arm’s Length Price (ALP) under section 92CA(3) of the Act in respect of the International Transactions entered into by the assessee. According to the transfer pricing study, report submitted by the assessee under section 92E of the Act, following services were provided by the assessee to its AE:

2.1 The ‘TPO' aggregated the results of software development, professional and maintenance services into a single segment namely ‘software development ‘. Thus, ALP was computed by the TPO for two segments namely ‘software development’ segment and ‘sales and post sale support services’ segment. The TPO carried out fresh search for both segments having results as under:

Software Development Services
2.1.1 The TPO selected 4 out of the 16 comparables selected by the Assessee and identified 15 new companies (totaling 19). The TPO computed the average OP/OC of these 19 companies at 26.20 percent, and applying this benchmark against the assessee’s margin of 11.54 percent, worked out transfer pricing adjustment of Rs. 2,92,33,284/- under this segment.

Sales and _Post-sales Support Services
2.1.2 The TPO rejected 3 companies which were selected by the Assessee and identified 5 companies and computed their average OP/OC at 26.70 percent, as against the assessee’s margin of 9.60 percent on cost. By applying this benchmark, the TPO worked out the transfer pricing adjustment for this segment amounting to Rs. 2,24,83,680/-.

2.2 The TPO vide his order dated 27/10/2011 determined adjustment/difference on account of ALP at Rs. 5,17,16,964/- as under:

2.3 After incorporating the adjustment proposed by the TPO, the Assessing Officer issued a draft assessment order on 23/12/2011 to the assessee. Against the draft assessment order, the assessee filed its objection before the DRP, New Delhi. In compliance to the direction of the DRP vide order dated 06/09/2012, the TPO recomputed the adjustment as under:

2.4 After taking into account the adjustment to ALP, as directed by the DRP, the Assessing Officer passed the impugned order under section 144C read with section 143(3) of the Act on 23/10/2012. Aggrieved with the adjustment to the ALP sustained by the DRP, the assessee is in appeal before the Tribunal raising the grounds as reproduced above.

2.5 Before us, the Ld. counsel of the assessee argued only issue of exclusion/inclusion of comparables in respect of both segments and issue of claim for working capital adjustment in software development segment. The grounds No. 4 to 9 are in respect of exclusion/inclusion of comparables and ground No. 11 is in respect of claim of working capital adjustment. As other grounds were not pressed before us, same are dismissed as infructuous.

3. First we take up the ground No. 11, wherein the assessee has challenged the finding of the AO/TPO in not allowing the working capital adjustment. The facts in respect of issue in dispute are that the assessee argued before the TPO that suitable adjustment on account of differences between the working capital intensities of the assessee viz-aviz comparables be allowed. The assessee filed computation of working capital adjustment for both sales and post sales support segment and software development segment before the TPO. In his order under section 92CA(3) of the Act, the TPO allowed the claim of the assessee for sales and post sale support segment, but he did not allow a similar adjustment in software segment by stating that figures given by the assessee did not match with the financials. The DRP confirmed the action of the TPO on the ground that working capital adjustment need not be given to the service sector to which the assessee relates. The authorities have given twofold reasoning for non-allowance of working capital adjustment;(a) nonmatching of working capital adjustment values with the financial (b) non-relevance of working capital adjustment to service industry.

3.1 Before us, the learned counsel of the assessee submitted that the claim of the TPO regarding non-matching of the working capital adjustment with financials was vague claim and was not substantiated by any remarks or observation of the TPO. He further submitted that if the TPO believes that said claim was allowable (as was done for the sales and post sales support segment) but there were certain errors in the computation furnished by the assessee, then he should have corrected himself rather than denying the adjustment altogether. Further, as regard to the non-allowance of working capital adjustment by the DRP, on the ground of the assessee was in the service sector, the learned consul submitted that said finding was not at all tenable as held by several reasons of the Tribunal. In this connection he relied on the decision of the Tribunal Delhi bench in the case of Sun Life India service centre private limited (ITA No. 5799/Del/2014), wherein it is held that working capital adjustment is as much relevant to service industry as to manufacturers and traders. The Ld. counsel also relied on the decision of the Tribunal Delhi bench in the case of Mercer consulting (India) private limited in ITA No. 966/Del/2014 and submitted that the assessee should be allowed the working capital adjustment in the software segment also. On the other hand, Ld. CITDR relied on the finding of the DRP.

3.2 We have heard the rival submission of the parties and perused the relevant material on record. The TPO in para-16.2 held that during the proceedings the figures given by the taxpayer like sundry debtor, sundry creditors, did not match with the financials, hence working capital adjustment was not given to the assessee. As far as finding of the TPO on the issue in dispute is concerned, we are agreed with the Ld. counsel of the assessee that if the TPO was agreed in principle for allowing the working capital adjustment, then he should not have denied the same merely on the ground of non-matching of working capital adjustment with financials. He could have allowed an opportunity to the assessee and get the financial corrected. Further, the DRP observed that the issue of working capital would be relevant when there is a situation of inventory remaining tied up or receivable is being held up. The DRP held that though situation might not be so relevant to the service industry. It was observed that the assessee as also the comparables used would launch into project only when they have been awarded a contract and it is not as if those parties manufactures goods that awaits buyers. The DRP further observed that the working capital adjustment would be required only when the varying levels of working capital deployed is actually making a difference to the margin earned by the assessee and the company and the assessee had not been able to demonstrate that difference in the working capital deployed was making difference in the margin earned by the assessee and the comparables and hence there was no case for working capital adjustment being allowed to the assessee.

3.2.1 We find that in the case of Sun Life India Service Centre Private Limited (supra), which is a case of service industry, the Tribunal held as under:

“7. We are not inclined to accept, in principle, the view canvassed by the authorities below that the assessee cannot be allowed a working capital adjustment. Such an adjustment is restricted to inventory, trade receivables and trade payables. If a company carries high trade receivables, it would mean that it is allowing its customers relatively longer period to pay their amounts, which will result into higher interest cost and the resultant low net profit. Similarly, by carrying high trade payables, a company benefits from a relatively longer period available to it for paying back to its suppliers, which reduces the interest cost and increases profits. In order to neutralize the difference on account of inventory, trade payables and trade receivables, it is of utmost importance to allow working capital adjustment for bringing the case of the assessee at par with the other otherwise functionally comparable entities. We, therefore, agree in principle with the grant of working capital adjustment.”

3.2.2 In the case of Mercer Consulting (India) Private Limited (supra), regarding allowability of working capital adjustment to service industry, the Tribunal observed as under:

“16.2 Having heard the rival submission and perused the relevant material on record, we find that the viewpoint canvassed by the authorities below is sans merit. Working capital adjustment is ordinarily confined to inventory, trade receivables and trade payables. If a company carried on high trade receivables, it would mean that is allowing its customers a relatively longer period to pay their amount which will result into higher interest cost and the resultant less profit. Similarly, by carrying high trade payables, a company benefits from a relatively longer period available to it to pay back its suppliers which lowers the interest cost and accelerates profits. To have a level playing field, it is sine qua non that the working capital adjustment should be carried out to bring two other side comparables cases at par with each other. We are unable to comprehend any reason or rhyme to restrict the grant of working capital adjustment only in the case of manufacturers or traders. What is true for these categories of businesses is fully true for a service provider as well. It is a different matter that in the case of service provider, no working capital adjustment would be required towards higher or lower inventory, but the same may be warranted in respect of higher or lower trade receivables/payables. Since the authorities below have rejected the assessee’s contention for grant of working capital adjustment at the threshold, which in our considered opinion is not correct, we set aside the impugned order and remit the matter to the file of the TPO/AO for examining the assessee’s claim for grant of working capital adjustment on merits and thereafter, allow the same, if it is available. Needless to say, the assessee will be allowed an adequate opportunity of hearing.”

3.2.3 Thus in case of service industry, the working capital adjustment has been justified in respect of higher or lower trade receivables/payables.

3.2.4 We also find that in subsequent assessment year 2011-12, the learned DRP has allowed working capital adjustment to the assessee. The finding of the learned DRP in assessment year 2011-12 is reproduced as under:

39.2 The submissions of the assessee and the facts have been carefully considered. Working capital is measured by trade receivables/debtors, trade receivables/debtors and inventories. Interest cost will be high if the trade receivable/debtors time cycle is large. Interest cost will be low if the company can pay its liabilities after a longer period. Holding of inventory has an interest cost and interest cost will be lower if inventory turnover is within a shorter period. The amount of trade debtors, trade creditors and inventories affects the overall results of a company. Working capital requirements affect the margins and costs because this is an implicit cost which is recovered/recoverable from tea customers. Considering Rule 10B(3) and the facts in this case, working capital adjustment should be made provided reliable data is furnished by the assessee to the TPO. The TPO is directed to give working capital adjustment using the methodology given in Annexure to Chapter III of OECD guidelines and apply SBI Prime Lending rate (as on 30th June of the relevant financial year) as the interest rate. The assessee is directed to provide the necessary data/details with computation of the working capital of the tested party and the comparables.

3.2.5 In view of above, respectfully following the finding in the case of Mercer Consulting (India) Private Limited (supra), we set aside the finding of the DRP on the issue in dispute and remit the matter to the file of the TPO/AO for examining the assessee’s claim for grant of working capital adjustment on merits and, thereafter, allow the same, if it is available. The assessee shall be afforded adequate opportunity of hearing.

4. The next issue in grounds before us relates to selection of comparables in both the segment. First we take up the software development segment.

Selection of comparables for software development segment

4.1 The assessee chosen 16 comparables, out of which 12 comparables were rejected by the TPO, leaving the following 4 comparables which were accepted by the TPO :

1. Lanco Global Ltd.
2. Quintegra Solutions Ltd.
3. RS Software ( India) Ltd.
4. Sasken Communication Technologies Ltd.
4.1.1 The TPO included 15 comparables to the above list of four comparables chosen by the assessee. The final list of comparables considered by the TPO is as under.

4.1.2 The grievance of the assessee is against the inclusion of following five companies in the final list of comparables selected by the TPO:

(i) Awani Cimcon Technologies Ltd
(ii) celestial labs Ltd
(iii) Infosys Ltd
(iv) KALS Information Systems Ltd(segmental) and
(v) Wipro Ltd.

4.2 Before proceeding further on the issue of accepting/rejecting of the above comparables, we would like to consider submission of both parties in respect of the profile and nature of services provided by the assessee. The learned counsel submitted as under:

“In its TP documentation, the appellant had reported four services, viz. sales and postsale support service, software development service, professional service and maintenance service. For the purpose of transfer pricing assessment, the TPO has aggregated the three segments (pertaining to software development services, professional services and maintenance services) as ‘software development’ segment. The nature of service rendered by the Appellant are as under:

“Software development division: This division is engaged in preparing test cases for the various products of Comverse group. Further, the division also performs various tests on software developed by Comverse group.

Professional services division: The professional services division is engaged in configuration, customization, integration, implementation and deployment of billing solutions of Comverse group.

Maintenance services division: The maintenance services division of Comverse provides warranty related services for software sold by Comverse group entities to customers in India. Further, Comverse India also undertakes error verification, bypass, bug fix (to a limited extent), assistance in update and new release implementation and help desk services.”

The assessee is remunerated on a cost-plus basis by its AE for such services and it carries out limited and routine functions and mitigated from all risks. Further, it does not own any intangible/technical knowhow of its own and relies solely upon training and know-how of its AE for provision of such services.”

4.2.1 On the other hand, as far as characterization of the assessee for software development segment is concerned, the Ld. CIT(DR) submitted that software development and software product development are interchangeable words.

4.2.2 We have heard the rival submission of the parties on the issue characterization of the software development segment. We find that rendering software development services as a captive service provider and development and sale of software product are altogether different activities and cannot be treated as interchangeable. In the process of development of software product, the entity carry out research and development activity, which results into generation of intellectual property rights, which is absent in case of a captive service provider. Accordingly, the segment in consideration is characterized at software development services.

4.3 In view of the above discussion on profile of the assessee, now we’re discussing rejecting or accepting of comparables chosen by the TPO and objected by the assessee:

(1) AvaniCimcon Technologies Ltd
4.3.1 The TPO included this company on the ground that it was engaged into software development and consulting with major focus on the travel and insurance industry. Before the TPO, The assessee objected to its inclusion on account of functional dissimilarity and use of information obtained under section 133 (6) of the Act by the TPO, but the same were rejected by the TPO. The DRP also rejected the claim of the assessee by upholding the action of the TPO.

4.3.2 Before us, the learned counsel of the assessee referred to pages 419 to 422 of the Annual Report compilation and submitted that said company is not comparable with the assessee due to following reasons:

(i) that ‘AvaniCimcon’ is functionally dissimilar to the assessee, as it was engaged in a wide array of services including development of software products and back-office support services and no separate segmental information is available.

(ii) that from the profit and loss account of the said comparable, it is seen that it was engaged in sale of products and also in the rendering of the services.

(iii) that in the decision of Sun Life India service centre private limited (ITA No. 5799/Del/2012 for assessment year 2008-09, the the Tribunal Delhi bench held that AvaniCimcon, a software product company having intellectual property rights or some of the products developed by it, cannot be compared with the assessee company at entity level, which was engaged in providing software development and maintenance services to its group concern.

(iv) that in the following rulings as well, the ‘AvaniCimcon’ was directed to be excluded for similar reasoning;

(a)3DPLM software solutions (ITA No.1303/BAN/2012)
(b)NXP semiconductors India private limited (ITA No. 1174/BAN/2011

4.3.3 On the other hand, the Ld. CIT(DR) relied on the finding of the TPO/AO. He further referred to page 173 of the assessee’s paper book, Volume 2, which contains submission of the assessee before the DRP and submitted that before the DRP, only objection was raised in respect supplying information under 133(6) by the TPO and non-availability of the information in respect of the company in public domain and hence should not be used for the purpose of comparability and no arguments of dissimilarity of functions were raised before the lower authorities, thus the matter may be restored to the file of the AO for verification of the functions of the comparable. In the rejoinder, the learned counsel submitted that in view of decisions on the issue of collection of information under Section 133(6) of the Act, the issue was not raised before the Tribunal & the assessee is free to raise argument of functional dissimilarity.

4.3.4 We have heard the rival submissions on the issue of inclusion/rejection of this comparable. We find that the for the assessment year under consideration i.e. AY 2008-09 , in the case of Sun Life India service centre private limited (supra) the comparable has been held to be a software product company having intellectual property rights or some of the products developed by it. The relevant finding of the Tribunal is reproduced as under:

“The Id. AR contended that the information of this company available in the public domain for the year under consideration has been downloaded and placed before us and except for these documents, no other reports, etc. constituting part of Annual report for the year ending 31.3.2008, are available. However, our attention was drawn towards certain Tribunal orders which have considered the functional profile of this company on the ITA No.5799/Del/2012 basis of information available on its website. First is Tribunal order in Agnity India Technologies Pvt. Ltd. Vs. DCIT (ITA No.6485/Del/2012). Vide its order dated 20.9.2013, the tribunal considered the functional profile of this company by noticing it to be a Product company owning software products like Dxchange, Travel Solutions, Insurance Solutions, Customer Appreciation, etc. Similar view has been taken by the Mumbai Bench of the Tribunal in the case of Net Hawk Networks India Pvt. Ltd. Vs. ITO (ITA No.7633/N/2012). Vide its order dated 6 11.2013, the Tribunal for the assessment year 2008-09 has noticed AvaniCimcon Ltd., to be a Product based company and not providing software development services. No contrary material has been placed before us by the Id. DR to show the functional profile of this company matching with the assessee. When contrasted with the assessee company, which is engaged in providing software development and maintenance services to its group concerns, we fail to see as to how a software product company like AvaniCimcon having intellectual property rights over some of the products developed by it, can be compared with the assessee on an entity level. IT A No.5799/Del/2012. We, therefore, order for the elimination of this company from the list of comparables.”

4.3.5 We don’t agree with the contention of the learned CIT(DR) in not allowing the learned counsel to raise objection regarding functional dissimilarity. It is well within his right to raise such issue before the appellate authority. Further, we find that the assessee does not own any intangible/technical knowhow of its own and rendered software development services to its AE on cost plus basis. In view of above, in our opinion the functions carried out by the comparable are dissimilar and it cannot be included as a comparable. Accordingly, we direct the TPO/AO to eliminate this company from the list of comparables.

(2) Celestial labs Ltd
4.3.6 The TPO selected this company on the basis that it was engaged in software development activities and passed all the filters applied. The DRP upheld the action of the TPO. Before us, the ld. counsel submitted for rejection of the comparable due to following reasons:

(i) that the Celestial lab functionality dissimilar to the assessee, as it is a product company engaged in the development of software and bio-informatics products. The company owns significant IPR, which it lets out on licence basis, and it is also engaged in undertaking significant research and development of product by incurring substantial R&D expenses. The company was shown to have several IPRs such as RATNA, DHANVANARI, SHANKHAR, ‘CLL TOX’, CELL VISION etc and earning revenue from sale of these licence (reffered pages 431 to 439 of the Annual Report compilation)

(ii) that in the decision of Toluna India Private Limited (ITA No. 5645/Del/2011, the Tribunal observed that celestial lab was engaged mainly in developing software products in the shape of tools which are protected using the patent. The Tribunal held that this company was engaged in developing software tools after enough research and development activity, and the tools so produced by it are intellectual property, it cannot be considered as comparable to the assessee which is also albeit in the software development, but doing it on contract basis without having any IP rights in the software developed by it.

(iii) That in following decisions as well, the celestial labs was directed to be excluded for similar reasoning:

• Bearing Point Business Consulting Private Ltd. (ITA No. 1124/Ban/2011)
• 3DPLM Software Solutions (ITA No. 1303/BAN/2012 )
• NXP Semiconductors Indian Private Ltd. (ITA No. 1174/BAN/2011)

4.3.7 On the other hand, the Ld. CIT(DR) submitted that this company was considered as one of the comparables in preceding year, thus the arguments of the learned counsel of the assessee need to be revisited by the TPO/AO and, therefore, matter needs to be restored back to the TPO/AO.
4.3.8 We have considered the rival submission of the parties and perused the relevant material on record. On perusal of the Annual Report of the company available on page 423 to page 464 of the Annual Report compilation of the assessee, we find that the company was engaged in the field of IT/bio informatics, biotechnology and consultancy work and offered enterprise resource planning solutions, Data warehousing, business intelligence solutions and bio services like clinical data management, gene sequence analysis, molecular modeling, design and development of drug molecules dedicated to health sector to government, institution Pharma and Biotech companies, hospitals and medical centres. On page 431 of the Annual Report compilation, the intellectual property rights of the company in various software like RATNA, VYASA, DHANVANTRI, SAHKAR are mentioned.

4.3.9 From the above, we find that the above company is engaged in diverse field of bio-informatics and related fields in addition to the ERP solutions and, thus, it cannot be said to be functionally similar to the software development segment of the assessee. In the case of Toluna India Private Limited (supra) also the Tribunal has observed in respect of the comparable company as under:
“Celestial Labs limited:

18.1. The TPO included this company in the list of comparables by observing that it was rendering mainly software development services.

18.2. After considering the rival submissions and perusing the relevant material on record, we find from the annual accounts of this company, a copy of which is available on page 41 of the paper book, that it is engaged mainly in the developing the software products in the shape of tools etc., which are protected using the patent. This company developed a tool, “CELSUITE” to drug discovery in finding the lead molecules for drug discovery. As this company is engaged in developing software tools after enough research and development activity and the tools so produced by it are its intellectual property, it cannot be considered as comparable to the assessee which is, also albeit in software development, but is doing it on contract basis without having any I.P. rights in the software developed by it. It is further relevant to note that this company has been held to be not comparable by the Dispute Resolution Panel (DRP) in its ITA No.5645/Del/2011 23 Directions for a subsequent year, a copy of which is available on record. Thus this company can’t be considered as functionally similar to that of the assessee. We, therefore, direct to exclude this company from the list of comparables. The assessee succeeds.”

4.3.10 In view of above discussion, we are of opinion that this company cannot be considered as functionally similar to that of the assessee, therefore, accordingly, we direct for elimination of this company from the list of comparables.

(3.) Infosys Ltd.
4.3.11 The TPO selected the company as comparable, as according to him, it passed all filters applied and was engaged in software development activities. The ld. DRP confirmed the action. Before us, the Ld. counsel of the assessee submitted to exclude the company from the list of the comparables due to following reasons:

(i) that the company is engaged in wide range of services from package evaluation and infrastructure management to development of software products.

(ii) that the company does not have adequate segmentation of revenue between services and products, in addition to the fact that such services are widely varied and dissimilar to those rendered by the assessee. The only segmental information is on the basis of geographical/industry segment.

(iii) that the company is an industry leader and is significantly large scale of operations (turnover of Rs. 15, 648 crores as against the appellant’s turnover of Rs. 22 crores) .

(iv) that the company has significant brand value and intangible assets as against the assessee which is a captive service provider.

(v) that in the case of Sun Life India Service Centre India Private Limited for AY 2008-09( ITA No. 5799/Del/2012) , the company was rejected as a comparable to a captive service provider.

(vi) that the finding of the Tribunal was also followed in following rulings:

(a) Toluna India Private Ltd. (ITA No. 5645/DEL/2011)
(b) 3DPLM Software Solutions (ITA No. 1303/BAN/2012)
(c) Ciena India Private Ltd. (ITA No. 3324/DEL/2013)
(d) NXP Semiconductors India Private Ltd. (ITA No. 1174/BAN/2011)

(vii) that the exclusion of Infosys is sought not only on account of huge turnover or but also on account of several functional dissimilarities between the assessee and Infosys as the assessee does not derive any revenue from sale of goods and also not held any intangible assets/IPR or R&D activities.

4.3.12 On the other hand, the Ld. CIT(DR) relied on the order of the TPO and DRP and submitted that the company is having broad similarity with the assessee and the assessee has chosen TNMM as the most appropriate method for determining arm’s length value of the international transaction, small variation can be tolerated.

4.3.13 We have heard the rival submissions of the parties and perused the relevant material on record. On perusal of the Annual Report of the company, which is available on pages 465 to 515 of the Annual Report compilation, we find that the company has revenue from software services as well as products and no segmental detail of revenue from software services and sale of software products is available, and thus the result of the comparable company cannot be compared with the software development services segment of the assessee company. Perusal of the Annual Report of the company has also revealed that it has incurred substantial expenditure on the research and Development, as against the assessee, who is a captive service provider to its AE. In the case of Sun Life India service centre India private limited for AY 2008-09 (supra), the Tribunal has rejected the Infosys as a comparable to a captive service provider. The relevant finding of the Tribunal is reproduced as under:

“19. Reverting to the facts of the instant case, we find that the assessee is only a captive unit rendering services to its AE alone without acquiring any intellectual property rights in the work done by it in the development of software. The Hon’ble Delhi High Court in CIT vs. Agnity India Technologies (P) Ltd. (2013) 219 Taxmann 26 (Del) considered the giantness of Infosys Ltd., in terms of risk profile, nature of services, number of employees, ownership of branded products and brand related profits, etc. in comparison with such factors prevailing in the case of Agnity India Technologies Pvt. Ltd., being, a captive unit providing software development services without having any IP rights in the work done by it. After making comparison of various factors as enumerated above, the Hon’ble Delhi High Court held Infosys Ltd. to be incomparable with Agnity India Technologies Pvt. Ltd. The facts of the instant case are more or less similar inasmuch as the extant assessee is also a captive service provider with a limited number of employees at its disposal and also not owning any branded products with no expenditure on R&D etc. When we consider all the above factors in a holistic manner, there remains absolutely no doubt in our mind that Infosys Technologies Ltd. Is incomparable to the assessee company. Respectfully, following the judgment of the Hon’ble jurisdictional High Court in Agnity India (supra), we hold that Infosys Technologies Ltd., cannot be held as comparable.”

4.3.14 In view of our discussion above, we are of the opinion that the company is functionally dissimilar to the assessee, and accordingly, we direct the AO/Transfer Pricing Officer to exclude the above company from the list of comparables.

(4.) KALS Information Systems Ltd (segment)
4.3.15 The TPO selected the company at segment level as in his view it passed all filters and was engaged in the software development activities. The DRP confirmed the action of the TPO. Before us, the learned counsel of the assessee referred to pages 719, 722, 723 and 726 of the Annual Report compilation and submitted that the segmental details, i.e., application software, which was selected with the TPO, also comprises of revenue from both activity of provision of services as well as sale of products and no separate information by bifurcating the revenues into software products and services was available. He further referred to schedules 16 of the Annual Report, which comprises notes to the financial statement, which gives background of the company to be engaged in development of software and software products since its inception. He further relied on the decision of the Tribunal in the case of Sun Life India service centre private limited for AY: 2008-09 (ITA No. 5799/Del/2012), wherein the company has been held to be engaged in development of software as well as software products. He also relied on the decision of the Tribunal in following cases:

• Toluna India Private Ltd. (ITA No.5645/Del/2011)
• NXP Semiconductors India Pvt. ltd. (ITA No. 1174/BAN/2011
• 3DPLM Software Solution (ITA No. 1303/BAN/2012)

4.3.16 On the other hand, the Ld. CIT(DR) relied on the order of the lower authorities.

4.3.17 We have heard the rival submissions of the parties and perused the relevant material on record. On perusal of the Annual Report of the comparable company, which is available on pages from 706 to 726 of the Annual Report compilation, we find that the company earned revenue from two segments namely application software and training. Further on perusal of clause 2(b) of schedule No. 16 (notes to the financial statement) of the Annual Report, we find that application software segment consisted of both software services and software products. The relevant clause reproduced as under:

“2. Summary of Significant Accounting Policies
(a)……………………………..

(b) Revenue Recognition: the Company derives its revenues primarily from software services and software products. Revenue from time and material contract is recognized on the basis of software developed and billed in accordance with the terms of the contract. Revenue from the fixed price contract is recognized on the completion of milestones in contracts, under the percentage of completion method. Income from training is recognized on time proportion basis.”

4.3.18 Further we find that in the case of Sun Life India service centre private limited (supra) also the revenue under application software segment of comparable company has been held to be consisted of from development of software as well as from sale of software products. The relevant part of the finding of the Tribunal is reproduced as under:

“We have gone through the Annual report of this company which is available at pages 24 onwards of the paper book. Schedule no. 16 comprising Notes to the Financial Statements gives background of this company to be ‘engaged in development of software and software products since its inception. ’ This company consists of STPI unit engaged in development of software and software products Page of the paper book contains segmental information of this company which has been divided into two parts, namely, 'Application software segment’ and 'Training segment’. It is the 'Application software segment’ of this company, which has been adopted by the TPO. The development of software and all software products have been clubbed under the ‘Application software’ segment. Since the figures of this company taken by the TPO for making comparison with the assessee include the effect of software products as well, apart from software development services, the same cannot be considered as comparable for the same reasons as assigned above for eliminating AvaniCimcon Ltd. A product company cannot be compared with a company engaged in providing software development services because of difference in the inherent characteristics of both. We, therefore, order for the removal of this company from the set of comparables.”

4.3.19 In view of above, we are of the considered opinion that the segment of comparable company, compared with the assessee company is functionally dissimilar and accordingly, we direct the AO/TPO to exclude the above company from the list of comparables.

(5.) WIPRO Ltd.
4.3.20 The TPO selected the company as comparable and the Ld. DRP also confirmed the action of the Assessing Officer. Before us, the Ld. counsel of the assessee submitted that Wipro, similar to Infosys, is engaged in providing wide range of IT services and also into trading of products and further; there is no break-down of profitability from such activities. The Annual Report of the company (filed as part of AR compilation) shows that Wipro earns only 68 percent of its revenues from IT services and products. Besides, similar to Infosys, Wipro was also engaged in significant R&D activities, and owns intangibles, which make it functionally dissimilar to the appellant. Further, the learned counsel also relied on the decision of the coordinate bench in the case of 3DPLM software solutions (ITA No. 1303/BAN/2012) for assessment year 2008- 09, wherein it is held that the company cannot be considered as comparable to a low-risk captive service provider assessee. The Ld. counsel also relied on the following decisions:

• Toluna India Private Ltd. (ITA No.5645/Del/2011)
• NXP Semiconductors India Private Ltd. (ITA No. 1174/BAN/2011)

4.3.21 The Ld. CIT(DR), on the other hand, relied on the order of the lower authorities and submitted that the like Infosys , the comparable was broadly similar in functions to the assessee and therefore it should be accepted as a comparable.

4.3.22 We have heard the rival submissions and perused the relevant material on record. We find from the Annual Report of the comparable company which is placed on page 516 to 612 of the Annual Report compilation, that the revenue consist of sales and services and no separate segmental results for software development services are available. On perusal of the page 560 of the Annual Report compilation, we find that the company was engaged in research and development and activities having focus to strengthen the portfolio of Centre of Excellence (COE) and innovation projects and part of this focus, over 600 people were engaged. On perusal of page 561 of the Annual Report compilation, we find that the company has been granted 40 registered patent and 62 pending applications. As against the intellectual property rights owned by the company and R&D activities, the assessee was only a captive service provider to its AE. In the case of 3-D PLM software solutions(supra) , the Tribunal has observed as under:

“We have heard both parties and carefully perused and considered the materials on record. We find merit in the contentions of the assessee for exclusion of this company form the set of comparables. It is seen that this company is engaged both in software development and product development services. There is no information on segmental bifurcation of revenue form sale of product and software services. The TPO appears to have adopted this company as a comparable without demonstrating how the company satisfies the software development sales 75 percent of total revenue filter adopted by him. Another major flow in the comparability analysis carried out by the TPO is that he adopted comparison of the consolidated financial statements of Wipro with the standalone financials of the assessee which is not appropriate comparison.

We also find that the company owns intellectual property in the form of registered patents and several pending applications for grant of patents. In this regard, the coordinate bench of this Tribunal in the case of 24/7 Customer. Com Pvt. Ltd (ITA No 227/Bang/2010) has held that a company owning intangibles cannot be compared to a low risk captive service provider who does not own any such intangible an hence does not have any additional advantage in the market. A the assessee in the case on hand does not own any intangibles, following the afore said decision of co-ordinate bench of the Tribunal i.e. 24/7 Customer.Com Pet Ltd (Supra), we hold hat this company cannot be considered as a comparable to the assessee. We therefore direct the Assessing Officer/TPO to omit this company form the set of comparable companies in the case on hand for the year under consideration.”

4.3.23 Since the instant assessee does not own any intangibles, respectfully following the decision of the coordinate bench of the Tribunal in the case of 3-D PLM software solutions (supra), we hold that the company cannot be considered as a comparable to the assessee and accordingly we direct the AO/TPO to eliminate this company from the set of comparable company for the year under consideration. 5. The next issue which was raised before us was in respect of selection of comparables for sales and post sales support segment. The assessee chosen three comparables, which the TPO rejected and The TPO included following five comparable to the set of comparables for this segment:

i. Alphageo India Ltd.
ii. Mahindra Consulting Engineers Ltd.
iii. Kirloskar Consultants Ltd.
iv. Stup Consultants Private Ltd.
v. Smac Limited.

5.1 In respect of profile and nature of the activities of the assessee in this segment, the Ld. counsel submitted as under:

“37. As per TP documentation maintained by the appellant, it is stated as:

“Sales support services includes services related to promotion and marketing of Comverse group’s products and identifying potential customers in India. Post-sale support services include installation and test runs, integrating the equipment with existing network, post commissioning maintenance including warranty, extended warranty and post warranty services on products sold directly by Comverse’s AEs to customers in India.”

38. The appellant is remunerated on a cost-plus basis by its AE for such services and it carries out limited and routine functions and mitigated from all risks. Any intangible/technical know-how of its own and relies solely upon training and know-how of its AE for provision of such services.”

5.2 The Ld. CIT(DR), on the other hand, referred to page -26 of the transfer pricing study and submitted that the sales and post sales support segment of the assessee was more of a technical in nature, which consisted software error analysis and bug fixing and therefore the work which was carried out by the assessee was in the nature of technical services/engineering services. He further referred to para-3.1 on page 141 of the Appeal Set and submitted that around 50 peoples were employed in post sales services which established that post sales services rendered were technical in nature and therefore the segment should be characterized accordingly.

5.3 We have considered the arguments of the rival parties on the issue of characterization of the segment of the assessee, however, we do not agree with the arguments of the Ld. CIT(DR). The services rendered by the assessee are in respect of the support services for sale of software by the AE and the post sales support services are also in respect of the sale of software by the AE. The bug fixing is also part of the post sales support services, which may be treated partly as a function of technical nature but same cannot be compared with consultancy provided in the field of engineering or infrastructure field. Thus, the segmental function of the assessee is characterized as sale and post sales support services.

5.4 Regarding selection of comparables, the Ld. counsel submitted that the TPO had erred in selecting companies which bore no functional similarity to the services rendered by the assessee. He further submitted that even though TNMM is more tolerant to functional differences, this leverage could not be stretched to include companies which had no functional similarity with the functional profile of the assessee. In the ruling of jurisdictional Hon’ble Delhi High Court in the case of Rampgreen Solutions (ITA 102/2015) which though was rendered in the context of BPO Vs. KPO, had larger implications and the principles are relevant to this case as well because the services rendered by the appellant, even if technical, could not be taken at par with complex civil engineering, infrastructure and engineering consultancy services.

5.4.1 In respect of the specific comparables, learned counsel submitted as under:
Alphaoeo India Limited:
The Ld. counsel submitted that above company should be excluded from the list of comparable due to following reasons:

- It is an integrated seismic service provider and offers various topographical survey, tape transcription, digitalization, seismic sections and well logs into various formats for oil exploration companies.

- It uses advanced technologies such as state-of-art software for 2D and 3D seismic data interpretations, distortion free 24 sensors and deploys the latest seismic data analysis with advanced interactive workstations.

- It had a huge asset base of INR 705 crore (majority of which is seismic equipment), with substantial expenses on survey and drilling.

- The Hon’ble ITAT excluded in the case of Syngenta Biosciences Private Limited (ITA No 1083/MUM/2015) by holding that it is engaged in seismic research activity including 3D data seismic data acquisition Mahindra Consulting Engineers Limited

Mahindra Consulting Engineers Limited:
- It is engaged in infrastructure consultancy services and provides services in multidisciplinary projects (such as special economic zones, water supply and sewerage, solid waste management, urban infrastructure, agriculture and horticulture infrastructure, social infrastructure, ports; harbor and offshore terminal, industrial infrastructure etc).

- Owns technical knowhow and operated in a single business segment
- The Hon’ble ITAT excluded in the case of Rolls Royce India Private Limited (ITA No. 6636/DEL/2015) and Emersons Process Management Power & Water Solutions India Private Limited (ITA No. 5343/DEL/2012)

Kirloskar Consultants Limited:
- It is engaged in engineering consultancy, project management services and architectural consultancy services Stup Consultants Private Limited

Stup Consultants Private Ltd.
- This company is engaged in civil engineering and architectural consultancy services, which are quite high-end and complex, and has no further segmental information available

- The Hon’ble ITAT excluded in the case of Emersons Process Management Power and Water Solutions India Private Limited (ITA No 5343/DEL/2012) for AY 2008-09

Semac Limited.
- It is engaged in providing engineering consultancy services, which is different from sales and post-sale support services rendered by the appellant.

5.5 On the other hand, the Ld. CIT(DR) relied on the lower authorities and submitted that assessee himself has selected comparables having broad category of raw materials/products/economic activity and therefore cannot be allowed to question the comparable chosen by the TPO. He submitted that under the TNMM comparables having broad functional similarity should be accepted.

5.6 In the rejoinder, the ld Counsel submitted that the databases deployed for carrying out searches, though improved, have still not sufficiently matured. Accordingly, the appellant had used the afore-stated keywords to identify companies operating in telecom industry (in which the appellant and its AE operate), and then perused the business and functional profile of each company to examine if they were functionally comparable to the said services. Further, where a particular segment of any company in consideration had a similar functional profile, only such segment was taken as comparable while determining the ALP The technical services encompasses within itself a wide array of services, and those on the higher-end (more complex such as infrastructure consultancy, architecture and civil engineering) could not be compared to relatively less-complex services (such as installation, after-sales services). A product design engineer employed by Apple could not be said to perform similar functions and activity as an after-sales technician for Apple products.

5.7 We heard rival submissions of the parties and perused the relevant material on record. On perusal of the page 7, of the compilation of the annual reports, we find that M/s Alphageo India Ltd was engaged in providing 2D and 3D seismic services for design and preplanning of 2-D and 3-D surveys, seismic data acquisition, seismic data processing/reprocessing/special processing, seismic data interpretation, generation ,evolution and ranking of prospectus, Rservoir data acquisition, Reservoir analysis etc. This company has also been held as engaged in seismic research activity by the Tribunal in the case of Syngenta Bioscience private limited (supra). On perusal of page 119 of the compilation of the annual reports, we find that M/s Mahindra consulting Engineers Ltd is engaged in infrastructure sector by providing consultancy services in the areas of special economic zone, water supply and sewerage, solid waste management, urban infrastructure, Agri and Horti infrastructure, social infrastructure, ports and harbours and offshore terminals, industrial infrastructure etc. On perusal of page 97 of the compilation of the Annual Report, we find that M/s Kirloskar consultants Ltd was engaged in the area of engineering consultancy, project management services, architectural consultancy. The major assignment executed by the company are mentioned on page 98 of the compilation of the Annual Report, which are reproduced as under:

“During the period under review, the Company has executed some major assignments which are as below:

1) Integrated project services for IT complex and 400 Bed Super Speciality Hospital under Project Engineering Division.

2) TEFR for a 18 MW power plant for Public Sector Undertaking, Market Research for an Air Cargo Logistic Company, Consumer Research for a Nationalized Bank in Market Research Division.

3) Execution of 2 water based package has been undertaken for International Cargo Hub & total Water Supply System for four class B Municipal Council in the Environment Division.

4) Structural Engineering for large special purpose structures for a large irrigation project & River Bank Erosion Control for State Electricity Utility etc. in Irrigation Division.

5) Forestry Clearance under Forest Conservation Act, 1980 and obtaining its clearance from Ministry of Environment & Forest, Govt. of India for a State Electricity Utility, REIA & CEIA works for Private Sector Steel Plant & National Electricity Utility Company in Environment Management Division.”

On perusal of segment information available on page 148 of the annual report compilation, we find that M/s. Stup Consultant Private Limited was engaged in the profession of civil engineering and architectural consultancy. Further, on perusal of para-2 of the Annexure to the auditor’s report, which is available on page 161 of the compilation of the Annual Report, we find that M/s. Semac Pvt. Ltd. was engaged in providing engineering consultancy services.

5.8 Thus, we find that the comparables chosen by the TPO are engaged in the functions altogether different from the functions in the nature of sales and post sales support services. The requirement of human resources competence for providing consultancy in the field of engineering is all altogether different from the manpower required for providing sales and post sales support services. In view of our discussion above, we are of the considered opinion that above five companies chosen by the TPO, cannot be selected as comparables. Accordingly, we direct the AO/TPO to exclude above five companies from the list of comparables for sale and post sale support segment of the assessee.
5.9 In respect of the comparables included by the assessee and rejected by the TPO, the assessee challenged the action of the TPO in respect of company M/s Himachal Futuristic Communication Ltd. The company was selected as a comparable by the assessee but was rejected by the TPO on functional dissimilarity.

5.10 Before us, the Ld. counsel submitted that the company was engaged in activities similar to the assessee. He further submitted that in the immediately preceding year i.e. A Y 2007-08 the company was chosen as comparable by the TPO and there was no change in the functional profile of either the assessee or the company and thus there was no rationale behind TPO’s exclusion of this company from the list of comparables.

5.11 Before us, Ld. CIT(DR) submitted that the TPO rejected the company as it was engaged in providing telecom solutions and producing mobile communication equipment and digital microwave communication equipments and providing turnkey project, hence the company was functionally not comparable to the assessee. Ld. CIT(DR) submitted that no segment report was available in the Annual Report of the company. He also referred to page 186 of the compilation of the Annual Report and submitted that revenue of the company was decreasing and it was incurring losses. He further referred to page 187 of the Annual Report compilation and submitted that losses of the company has resulted into erosion of 50% of its peak net worth during the immediately preceding four financial years and the company was continued to be a potentially sick company. He also submitted that the company defaulted in repayment of dues to financial institutions. The Ld. CIT(DR) referred to page 207 of the Annual Report compilation and submitted that the company had approached its lenders for corporate debt restructuring. In view of arguments, the learned CIT(DR) submitted that the company cannot be selected as comparable to the sales and post sales support segment of the assessee.

5.12 In the rejoinder, the Ld. counsel submitted that the company was engaged in manufacturing business as well as provision of sales and support services. He submitted that on page 212 of the compilation of the Annual Reports, the company had reported two segments, being (a) manufacturing equipment and (b) turnkey contract and services. He further submitted that for the purpose of comparability in transfer pricing study, it was the turnkey contract and service segment that was taken as comparable. It was also submitted that the company was incurring losses on equipment segment and results for turnkey contract and services which is relevant segment are, consistently profitable and thus the company did not fail the persistent operating losses filter. He further submitted that if any financial irregularities that had occurred were only relatable to manufacturing segment, but did not relate to turnkey contract and service segments. Accordingly, submitted that above company deserved to be included as comparable.

4.7.7 We have heard the rival submissions and perused the relevant material on record. We find that the assessee has compared the ‘turnkey contract and service’ segment of the company with the sales and post sales support segment of the assessee company. However, we do not agree with the contention of the assessee that the company segment of turnkey contract & service was functionally similar to the segment of the assessee under comparison. The segment of the company compared is turnkey contract and services. No information is available in respect of the turnkey contract executed by the company and, therefore, the result of turnkey contract and service segment are not comparable with the sales and post sale support services in respect of software products. Normally, the turnkey contracts include executing of all component of contract contracts, i.e., from start to the end including civil, electrical, transportation etc. kind of work. In the Annual Report of the company, no information in respect of turnkey contract executed by the company, is available. In our opinion, the segment of the company inclusive of turnkey contract, cannot be compared functionally with the sales and post sale support segment of the assessee. Further, the argument of the learned counsel that it was considered as comparable in preceding year also cannot be accepted because the functional comparability has to be made in the current year only and preceding year results cannot be precedent in Transfer Pricing comparison. Further, since the company has not been found functionally comparable at segment level, we are not adjudicated on the other arguments argued by the Ld. CIT(DR) on the issue of persistent loss-making company etc . Accordingly, we direct exclusion of the company from the set of comparables.

5. Exclusion of the other two companies i.e. ORG Informatics Ltd and Telecommunication Consultants Ltd, was not pressed before us.

6. We find that in view of our direction to exclude the comparables chosen the TPO and one comparable chosen by the assessee as well as exclusion of the remaining two comparables by the TPO not challenged by the assessee before us, has left with no comparable in the sales and post sale support segment for determination of arm’s length price. In view of the above facts and circumstances, we restore the matter to the TPO for carrying out a fresh searchand selection of comparables having functions similarity to the segment of sales and post sales support and compute the adjustment accordingly as per law. Needless to mention that the assessee shall be provided sufficient opportunity of hearing.

7. Accordingly, the grounds in respect of the issues of sales and support segment allowed for statistical purposes.

8. In the result, appeal of the assessee is allowed partly for statistical purpose.

The order pronounced in the open court on 20th January, 2017.