ST Electronics (P) Ltd, V. DCIT Circle-9 (1),

ITA 1807/DEL/2008

• Counselvise Citation: [2011] 134 COUNSELVISE.COM (IT) 3904 (ITAT-DELHI)
• Duration Of Justice: 3 year(s) 24 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 03-06-2011
• Appeal Filed By: Assessee
• Order Result: Dismissed
• Bench Allotted: I2
• Next Hearing Date: 02-05-2017
• Assessment Year: 2004-2005
• Appeal Filed On: 09-05-2008
• Result in Favour of: Revenue
• Court: TRIBUNAL
• Department Lawyers: N K CHAND
• Assessee Lawyers: RAJAN SACHDEV CAS
• Keywords: Related party transaction; Business income; Transfer pricing; International transaction; Services rendered outside India; Cost of acquisition; Wholly owned subsidiary; Avoidance of tax; Revenue expenditure; Capital expenditure
• Section: 92C; 92D; 10B; 2

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCH: G NEW DELHI BEFORE SHRI RAJPAL YADAV, JUDICIAL MEMBER AND SHRI B.C.MEENA, ACCOUNTANT MEMBER I.T.A NOS. 1806,1807/DEL/2008 ASSTT. YEARS 2003-04,2004-05 M/S. ST MICROELECTRONICS PRIVATE LIMITED, 204-206, TOLSTOY HOUSE, TOLSTOY MARG, NEW DELHI VS. COMMISSIONER OF INCOME TAX (APPEALS) XX, CR BUILDING, NEW DELHI. (APPELLANT) (RESPONDENT) I.T.A NOS. 1598,1599/DEL/2008 ASSTT. YEARS 2003-04,2004-05 DCIT, CIR.9 (1) VS. M/S. ST MICROELECTRONICS PRIVATE LIMITED, 204-206, TOLSTOY HOUSE, 15, TOLSTOY MARG, NEW DELHI (APPELLANT) (RESPONDENT) I.T.A NO. 5058/DEL/2010 ASSTT. YEARS 2006-07 M/S. ST MICROELECTRONICS PRIVATE LIMITED, 204-206, TOLSTOY HOUSE, 15, TOLSTOY MARG, NEW DELHI VS. ADDL. CIT RANGE-9, NEW DELHI. (APPELLANT) (RESPONDENT APPELLANT BY: S/SH.PAWAN KUMAR, ADITYA GUPTA, S ANJIV CHOUDHARY,S.K. AGGARWAL & RAJAN SACHDEV, CAS RESPONDENT BY: S/SH.RAJNI KANT GUPTA, A.D. MEHROTRA , CIT DR & N.K. CHAND, SR.DR S 2 ORDER PER RAJPAL YADAV, JM: IN ASSESSMENT YEARS 2003-04 AND 2004-05, ASSESSEE AND REVENUE ARE IN CROSS APPEALS AGAINST THE SEPARATE O RDERS OF EVEN DATE I.E. 28 TH FEBRUARY, 2008 OF LD. CIT(A) IN ASSTT. YEAR 2006-0 7, ASSESSEE ALONE IS IN APPEAL AGAINST THE ORDER OF LD . DRP DATED 29.9.2010 PASSED U/S 144C OF THE INCOME TAX ACT. TH OUGH THESE APPEALS WERE HEARD SEPARATELY, BUT THE SOLITARY ISS UE RAISED BY THE RESPECTIVE PARTIES IN ASSTT. YEAR 2003-04 AND 2004- 05 IS COMMON WITH ONE OF THE GROUND TAKEN BY THE ASSESSEE IN ASSTT. Y EAR 2006-07. THIS COMMON GROUND IN ALL THE THREE YEARS, RELATES TO AD DITION MADE ON ACCOUNT OF ADJUSTMENT RECOMMENDED BY THE TPO IN THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS ENTERED BY THE ASSESSEE WITH ITS ASSOCIATE ENTERPRISES. THE FACTS AND CIRCUMSTAN CES ON THIS ISSUE ARE COMMON. THEREFORE, WE DEEM IT APPROPRIATE TO DI SPOSE OF ALL THESE APPEALS BY THIS COMMON ORDER. 2. THE BASIC FACTS ARE COMMON IN ALL THE ASSTT. YEA RS. FOR THE FACILITY OF REFERENCE, WE ARE TAKING UP THE FACTS F ROM THE ASSTT. YEAR 2003-04. HOWEVER, IF WE FIND SOME VARIATION IN THE FACTS WHICH HAVE 3 ANY BEARING IN ADJUDICATING THE CONTROVERSY, WE WOU LD REFER THOSE FACTS AT THE APPROPRIATE STAGE OF THIS ORDER. 3. THE DISPUTE IN BRIEF IS THAT ASSESSEE HAS DISCLO SED INTERNATIONAL TRANSACTION WITH ITS ASSOCIATE ENTERPRISES IN ALL T HESE THREE ASSTT. YEARS. IN ITS TRANSFER PRICING REPORT SUBMITTED IN FORM NO. 3CEB, IT HAS PROVIDED THE APPROPRIATE METHOD AS TRANSACTIONAL NE T MARGIN METHOD (TMM) AND COMPUTED THE PLI BY DIVIDING OPERATING PR OFITS WITH OPERATING COST. IN THIS PROCEDURE, ASSESSEE HAS SHO WN PROFIT LEVEL INDICATOR AT 9.87%. THE LD. TPO ON THE BASIS OF CO MPARABLES, RECOMMENDED THE ADJUSTMENT BY WORKING OUT AVERAGE O PERATING PROFIT ON TOTAL COST RATIO OF 17.88% IN ASSTT. YEAR 2003-0 4. LD. CIT(A) HAS REDUCED THIS PERCENTAGE TO 16.16% BY APPLYING MORE FILTERS IN SELECTING THE COMPARABLES. IN THIS WAY, THE ADJUSTM ENT RECOMMENDED BY THE TPO HAS BEEN MARGINALLY REDUCED. THE ASSESSE E IS DISPUTING ADDITIONS MADE ON THE RECOMMENDATION OF THE TPO FO R MAKING ADJUSTMENT IN ITS ARMS LENGTH PRICE, WHEREAS REVENU E IN ITS APPEAL IS DISPUTED THE REDUCTION MADE BY THE LD. CIT(A) IN WO RKING OUT THE PLI AT 16.16%. SIMILARLY, IN ASSTT. YEAR 2004-05, ASSES SEE HAS WORKED OUT AVERAGE OPERATING PROFIT ON TOTAL COST RATIO AT 8.9 3%. TPO RECOMMENDED IT 17.50%. LD. CIT(A) REDUCED IT TO 16. 33%. BOTH 4 PARTIES ARE DISPUTING THE RETENTION OF THE ADJUSTME NT RECOMMENDED BY THE TPO AND REDUCTION OF THE ADJUSTMENT MADE BY THE LD. CIT(A). IN ASSTT. YEAR 2006-07, THERE IS NO DIFFERENCE IN THE METHOD APPLIED BY THE ASSESSEE. IT HAD SHOWN PLI AT 11.6%. THE TPO WO RKED OUT THE AVERAGE OF OP OVER TC I.E. PLI AT 18.13%. LD. DRP H AS UPHELD THE RECOMMENDATIONS MADE BY THE TPO FOR MAKING ADJUSTME NT IN THE ALP OF INTERNATIONAL TRANSACTION. THE ASSESSEE IS I MPUGNING THE ADDITION ON THE BASIS OF SUCH RECOMMENDATION. ASSTT. YEAR 2003-04 4. THE BRIEF FACTS OF THE CASE ARE THAT ASSESSEE HAS FILED ITS RETURN OF INCOME ON 2 ND DECEMBER, 2003 DECLARING AN INCOME OF ` 10,60,25,643/-. ALONG WITH THE RETURN ASSESSEE HAS SUBMITTED STATUTORY AUDIT REPORT, TAX AUDIT REPORT, AUDITED B ALANCE SHEET AND P &L ACCOUNT. THE CASE OF THE ASSESSEE WAS SELECTED F OR SCRUTINY ASSESSMENT AND A NOTICE U/S 143(2) WAS DULY ISSUED AND SERVED. SHRI ANKUR GUPTA, CHARTERED ACCOUNTANT APPEARED ON BEHAL F OF THE ASSESSEE FROM TIME TO TIME AND FILED THE NECESSARY DETAILS. THE ASSESSEE HAS SHOWN TWO INTERNATIONAL TRANSACTION WI TH ITS ASSOCIATE ENTERPRISES CARRIED OUT IN FINANCIAL YEAR 2002-03. THESE TRANSACTIONS REPORTED IN FORM NO. 3CEB READ AS UNDER :- 5 S.NO. TYPE OF INTERNATIONAL TRANSACTION VALUE OF TRANSACTION METHOD SELECTED TESTED PARTY 1. PROVISION OF INTEGRATED CIRCUIT DESIGN, CAD TOOLS AND SOFTWARE DEVELOPMENT SERVICES 1,32,25,62,370 TNMM ST INDIA 2. PROVISION OF MARKET SUPPORT SERVICE 2,67,53,693 TNMM ST INDIA 5. THE LD. AO IN ORDER TO JUDGE THE APPROPRIATENESS OF ARMS LENGTH PRICE DISCLOSED BY THE ASSESSEE WITH RESPECT TO ITS INTERNATIONAL TRANSACTION WITH ASSOCIATE ENTERPRISES, AS REPORTED IN THE TP R EPORT SUBMITTED BY THE ASSESSEE ALONG WITH FORM NO. 3CEB, MADE A REFERENC E U/S 92CA(1) OF THE ACT TO THE TRANSFER PRICING OFFICER. LD. TPO IN ORD ER TO VERIFY WHETHER ASSESSEE HAS DISCLOSED THE VALUE OF ITS INTERNATION AL TRANSACTION ACCORDING TO THE ARMS LENGTH PRICE OR NOT EXAMINED THE TRANSF ER PRICING REPORT SUBMITTED BY THE ASSESSEE AND THEREAFTER POINTED OU T THE DEFECTS IN PREPARATION OF SUCH REPORT. AFTER HEARING THE ASSES SEE, HE CARRIED OUT A FRESH SEARCH AND THEN SELECTED SUITABLE COMPARABLES AND THEN RECOMMENDED THE ADJUSTMENT IN THE VALUE OF INTERNA L TRANSACTION DISCLOSED BY THE ASSESSEE. IN THIS EXERCISE, LD. TPO FIRST N OTICED THE BUSINESS PROFILE OF THE ASSESSEE. THEREAFTER, HE NOTICED OPE RATING MODEL ETC. THE OBJECT OF ANALYSING THE REPORT IS THAT SUCH REPORT WILL THROW LIGHT ON THE FUNCTION PERFORMED BY UNDERTAKING, WHAT TYPE OF ASS ETS WERE EMPLOYED AND HOW MUCH RISK WAS ASSUMED BY THE ASSESSEE. KEEP ING IN VIEW THESE FACTORS IT IS TO BE SEEN HOW MUCH RETURN IS DISCLO SED BY THE ASSESSEE IN 6 THE SHAPE OF PROFIT WHETHER IT IS CONSUMERATE WITH THE FUNCTION PERFORMED, ASSETS USED AND RISK ASSUMED. THE BUSINESS PROFILE AND OPERATING MODEL NOTICED BY THE LD. CIT(A) READ AS UNDER :- A. BUSINESS PROFILE: 4.4 BEFORE ADJUDICATING ON THE TP ISSUE, IT WOULD B E APPROPRIATE TO SKETCH THE BUSINESS PROFILE OF THE APPELLANT AS DESCRIBED IN T HE TP REPORT :- (I) THE ST GROUP (HEADQUARTERED IN NETHERLANDS) IS A GLOBAL GROUP THAT DESIGNS, DEVELOPS, MANUFACTURES AND MARKETS A BROAD RANGE OF SEMICONDUCTOR INTEGRATED CIRCUITS (ICS) AND DISCRET E DEVICES USED IN A WIDE VARIETY OR MICROELECTRONIC APPLICATIONS, INC LUDING TELECOMMUNICATIONS SYSTEMS, COMPUTER SYSTEMS, CONSU MER PRODUCTS, AUTOMOTIVE PRODUCTS, INDUSTRIAL AUTOMATIO N AND CONTROL SYSTEMS. (II) THE PRODUCT PORTFOLIO COVERS ALL MAJOR CATEGOR IES OF SEMICONDUCTOR DEVICES, DEDICATED ICS, MICROPROCESSORS AND SEMI CO NDUCTORS, MEMORIES, STANDARD ICS (III) ST GROUP IS THE WORLDS LEADING SUPPLIER OF M PEG-2 DECODER ICS, DIGITAL SET-TOP BOX ICS AND EPROM NON-VOLATILE MEMO RIES AND ALSO THE SECOND LEADING SUPPLIER OF ANALOG AND MIXED-SIN GLE ICS, DISK DRIVE ICS, SMART CARD ICS AND EEPROM MEMORIES. (IV) ST MICROELECTRONICS PRIVATE LTD. (STML) IS A S UBSIDIARY OF ST MICROELECTRONICS PTE. LTD. (ST SINGAPORE) WHICH IN TURN IS A WHOLLY OWNED SUBSIDIARY OF ST MICROELECTRONICS NV, NETHERL ANDS. (V) STML IS ENGAGED IN THE BUSINESS OF INTEGRATED C IRCUIT DESIGN, CAD TOOLS AND SOFTWARE DEVELOPMENT FOR ITS OVERSEAS GRO UP CONCERNS. (VI) STML ALSO PROVIDES MARKETING SUPPORT SERVICES TO A GROUP COMPANY (VII) STML IS A 100% EXPORT ORIENTED UNIT (EOU) SET UP FOR DEVELOPMENT OF INTEGRATED CIRCUIT DESIGN, CAD TOOLS AND COMPUTER SOFTWARE. B. T.P. REPORT & FUNCTION, ASSETS & RISK (FAR) ANAL YSIS : 4.5 THE FOLLOWING ARE THE INTERNATIONAL TRANSACTION S ENTERED INTO BY STML WITH ITS ASSOCIATED ENTERPRISES DURING THE SUBJECT YEAR: PROVISION OF SOFTWARE DEVELOPMENT SERVICES; AND PROVISION OF MARKET SUPPORT SERVICES. SINCE THE MARKET SUPPORT SERVICES CONSTITUTED ONLY 2% OF THE OVERALL REVENUE, BOTH THESE TRANSACTIONS WERE AGGREGATED AND SUBJECT ED TO A COMMON ANALYSIS. 7 4.5.1 AS PER THE FUNCTIONAL ANALYSIS CARRIED OUT AT PARA 3 TO 3.2.3 IN THE TP REPORT, THE FOLLOWING ARE THE DETAILS RELATING TO T HE MAJOR FUNCTIONS PERFORMED IN RESPECT OF THE INTERNATIONAL TRANSACTI ON ALONG WITH RISK ASSUMED AND ASSETS DEPLOYED BY THE APPELLANT DISCUS SED IN SUBSEQUENT SUB-PARAS. 4.5.2 OPERATING MODEL: THE OPERATING MODEL OF THE S T GROUP IN RESPECT OF SOFTWARE DEVELOPMENT SERVICES IS BRIEFLY DESCRIBED BELOW: ST NV PERFORMS THE LONG-TERM STRATEGIC MANAGEMENT A ND PLANNING FUNCTION FOR OVERSEAS OPERATIONS THE PRODUCT CONCEPTUALISATION, CORE DESIGN, RESEARC H AND DEVELOPMENT, MARKETING, DISTRIBUTION, SALES AND POST-SALES CLIEN T SUPPORT ARE ALL PERFORMED BY ST GROUP ALL MAJOR DECISIONS RELATING TO SOFTWARE DEVELOPMEN T (IN TERMS OF EXTENT, TIMING, SEQUENCE, ETC.) ARE TAKEN BY ST GROUP. ST GROUP FOLLOWS A WATERFALL MODEL OF CHIP DESIGN/S OFTWARE DEVELOPMENT LIFE CYCLE. ST GROUP IS ENGAGED IN CORE TECHNOLOGY DEVELOPMENT, COMPLEX MANUFACTURING, GLOBAL SALES AND MARKETING, ETC. STML DEVELOPS INTEGRATED CIRCUIT DESIGNS, CAD TOOLS , COMPUTER SOFTWARE ETC, FOR ST GROUP AND UNDERTAKES THESE ACT IVITIES IN ACCORDANCE WITH THE GUIDELINES. STML ACTS AS A BACK OFFICE CONTRACT SERVICE PROVIDE R TO ST GROUP AND DOES NOT NEED TO PERFORM SOFTWARE DEVELOPMENT FOR A NY EXTERNAL CUSTOMERS. STML ONLY PERFORMS THE ROUTINE SERVICE FUNCTION IN THE LIFE CYCLE PROVIDED BY THE ST GROUP, WITHIN THE FRAMEWORK OF BUDGETS DE CIDED BETWEEN ST INDIA AND ST GROUP, WHICH SHOWS THAT ALL HIGH VALU E FUNCTIONS ARE PERFORMED BY ST GROUP. STML UNDERTAKES ALL THE COMMON FUNCTIONS SUCH AS FI NANCE AND ACCOUNTING, BUDGETING, SYSTEM MAINTENANCE, PERSONNE L MANAGEMENT, HUMAN RESOURCE MANAGEMENT ETC. THAT RE CARRIED OUT BY BUSINESS IRRESPECTIVE OF ITS SIZE AND NATURE. 4.5.3 ST GROUP OWNS SIGNIFICANT TANGIBLES AND INTAN GIBLES THAT ARE USED IN MANUFACTURING AND OTHER ACTIVITIES. THE TANGIBLE AS SETS DEPLOYED BY STML ARE TO THE EXTENT OF RS. 112.30 CRORES WHICH INCLUDE OFFIC E EQUIPMENTS (64.8 CRORES), BUILDING (30.3 CRORES), LEASEHOLD LAND (8.9 CRORES) AND FURNITURE AND FIXTURES (8.4 CRORES). IN ADDITION TO THE TANGIBLE ASSETS, CERTAI N INTANGIBLE ASSETS ARE DEPLOYED BY STML. DURING THE COURSE OF ITS FUNCTIONING, STML DEVELOPS CERTAIN INTANGIBLES WITHOUT HAVING ANY PROPRIETARY RIGHTS ON THEM. THE DETAILS, AS PER THE TP REPORT, ARE AS UNDER :- 8 STML USES THE PROCESS KNOW-HOW , SOFTWARE, OPERATIN G / QUALITY STANDARDS, DESIGNS, DIAGRAMS, TECHNICAL SPECIFICATIONS, ETC. DEVELOPED / OWNED BY ST GROUP. STML HAS DEVELOPED CERTAIN PROPRIETARY CHIP DESIGN /SOFTWARE DEVELOPMENT AND RELATED SERVICE MODULES. HOWEVER, IT DOES NOT UNDERTAKE ANY RESEARCH AND DEVELOPMENT ON ITS OWN ACCOUNT THAT LEADS TO THE DEVELOPMENT OF NON-ROUTINE INTANGIBLES / PRODUCTS. THE ICS DESIGNED /SOFTWARE DESIGNED, DEVELOPED, AME NDED OF MODIFIED BY STML IS THE PROPERTY OF THE ST GROUP AND AT NO POINT IN TIME DOES OWNERSHIP VEST WITH STML. STML DOES NOT OWN ANY COPYRIGHTS, PATENTS RIGHTS, T RADE SECRETS OR TRADEMARKS ON SUCH SOFTWARE SOLUTIONS. F URTHER, STML DOES NOT HAVE ANY COPYRIGHTED PRODUCTS THAT AR E SOLD TO ST GROUP. STML DOES NOT OWN ANY SIGNIFICANT NON-ROUTINE INTAN GIBLES. 4.5.3 THE MARKET RISK, PRODUCT LIABILITY RISK, TECH NOLOGY RISK, CREDIT RISK, ETC. ARE ASSUMED BY THE ST GROUP WHEREAS STML IS MOSTLY INS ULATED FROM THESE RISKS. THE FOLLOWING ARE THE DETAILS OF RISKS ASSUME BY TH E STML: STML DOES NOT HAVE SIGNIFICANT EXPOSURE TO MARKET R ISK BECAUSE IT RENDERS SOFTWARE DEVELOPMENT SERVICES EXCLUSIVELY F OR ST GROUP UNDER A LONG-TERM DEVELOPMENT CONTRACT. STML DOES NOT HAVE EXPOSURE TO PRODUCT LIABILITY RI SK BECAUSE IT DEVELOPS A PART OF THE PRODUCT WHEREIN THE FINAL OW NERSHIP OF THE PRODUCT LIES WITH ST GROUP WHICH IS RESPONSIBLE FOR ANY CLAIMS ON THE PRODUCTS. AS ST GROUP PROVIDES THE NECESSARY CORE TOOLS AND K NOW-HOW RELATING TO THE BASIC TECHNOLOGY / PLATFORM, IT ALS O BEARS TECHNOLOGY RISK AND THE SAME IS NOT ASSUMED BY STML. STML DOES NOT UNDERTAKE ANY RESEARCH AND DEVELOPMEN T ON ITS OWN ACCOUNT, AND ACCORDINGLY, IT IS NOT EXPOSED TO THIS RISK. STML IS PROTECTED FROM CREDIT RISK AS IT IS COMPENS ATED BY ST GROUP IRRESPECTIVE OR COLLECTIONS BY THE LATTER FRO M THE ULTIMATE CUSTOMER. STML BEARS FOREIGN CURRENCY RISK DURING THE PERIOD BETWEEN INVOLVING AND RECOVERY. STML IS EXPOSED TO MANPOWER RISK. AS ST INDIA BILLS ST GROUP ON A COST PLUS BASIS, IT DOES NOT BEAR THE IDLE CAPACITY RISK. STML HAS LOW EXPOSURE TO PRICE RISK BECAUSE IT REND ERS SOFTWARE DEVELOPMENT SERVICES EXCLUSIVELY FOR ST GROUP UNDE R A LONG TERM DEVELOPMENT ARRANGEMENT. 9 6. LD. TPO AFTER ANALYSING THE TP REPORT SUBMITTED BY THE ASSESSEE OBSERVED THAT ASSESSEE HAS IDENTIFIED A SE T OF 14 COMPARABLE COMPANIES FROM PROWESS DATA BASE BY ADOP TING A FORMULA BASED SEARCH STRATEGY, THEREAFTER IT APPLIE D VARIOUS QUANTITATIVE AND QUALITATIVE FILTERS TO THE SET OF POTENTIAL COMPARABLES. HE ALSO FOUND THAT ASSESSEE HAS RELIED MULTIPLE YEA R DATA AND HAD FOCUSED ON THE OPERATING RESULTS OF COMPARABLE OVER THE THREE FINANCIAL YEARS I.E. FINANCE YEAR 2000-2001 TO 2002 -03. THE ARITHMETIC MEAN OF THE 14 COMPARABLES IDENTIFIED BY THE ASSESSEE WAS WORKED OUT AT 11.88%. THE ASSESSEE HAS SHOWN OP ERATING PROFIT OVER COST AT 9.87%. IT WAS SUBMITTED BY THE ASSESSE E THAT NCP MARGIN SHOWN BY IT AT 9.87% IS WITHIN THE VARIATION ALLOWED BY THE PROVISO TO SECTION 92C(2) OF THE INCOME TAX ACT AND , THEREFORE, NO ADJUSTMENT IS REQUIRED. LD. TPO HAS OBSERVED THAT A SSESSEE HAS CONSIDERED ITSELF A LOW END RISK, CAPTIVE SOFTWARE SERVICE PROVIDER TO ST GROUP, WHEREAS ACCORDING TO THE LD. TPO THE ASSE SSEE IS TO BE CHARACTERISE AS A PERFORMER OF HIGH END ACTIVITY RE LATING TO VALUE ADDED SEGMENT EMBEDDED TECHNOLOGIES FOR HIGH PRO FIT MARGINS. ACCORDING TO THE LD. TPO THE ASSESSEE HAS CHARACTER ISED ITS FUNCTIONAL PROFILE IMPROPERLY, IT LED TO INCORRECT SELECTION OF 10 COMPARABLE BY APPLYING WRONG QUANTITATIVE AND QUALI TATIVE FILTERS . THE TPO HAS ALSO OBSERVED THAT IT HAS USED MULTI YE AR DATA WHICH IS NOT PERMISSIBLE IN LAW. THE ASSESSEE IS SUPPOSED TO USE CURRENT YEAR DATA FOR BENCH MARKING ANALYSIS. LD. TPO THEREAFTER MADE AN ANALYSIS OF FUNCTIONAL PROFILE OF THE ASSESSEE. IN HIS OPINION THE VALUE CHAIN OF THE SOFTWARE INDUSTRY CONSIST 6 LEVELS. LEVEL 1 IS A BASIC DATA ANALYSIS WORK. LEVEL 2 REPRESENT LOW VALUE ADDING FUNCTIONS OF CO DING AND TESTING ; VALUE ADDED FUNCTIONS OF DESIGNS AND PROJECT MANAGE MENT SHOWN BY THE CUSTOMER ITSELF. LEVEL 3 SPECIFIES THE PROJECT DEVELOPMENT , WHICH R EQUIRES DOMAIN EXPERTISE AND INVESTMENT LEVEL 4 REPRESENT DEVELOPING PRODUCTS FROM PROJECT EXPERIENCE THAT CAN BE CUSTOMIZED TO CLIENTS NEEDS. LEVEL 5 REPRESENTS DEVELOPING PRE PACKAGED PRODUCTS FOR SPECIFIC SEGMENTS. LEVEL 6 REPRESENT DEVELOPING PACKAGED PRODUCTS THA N CAN BE SOLD OF THE SELF 7. ACCORDING TO THE LD. TPO IN FINANCIAL YEAR 2002- 03 MOST OF THE INDIAN COMPANIES WERE OPERATING BETWEEN LEVEL 2 AND 3, WHEREAS 11 THE SOFTWARE DEVELOPMENT WORK CARRIED OUT BY THE ASSESSEE RELATES TO LEVEL 4 AND 5. LD. TPO HAS ARRIVED AT A CONCLUSI ON THAT FUNCTIONAL PROFILE OF THE ASSESSEE AS A DEVELOPING OF INTEGRAT ED CIRCUIT DESIGN, CAD TOOLS AND COMPUTER SOFTWARE WORK, ENTAILED HIGH END INTANGIBLE CREATION ACTIVITY. FOR ARRIVING AT THIS CONCLUSION HE HAS ASSIGNED A NUMBER OF REASONS AND LD. CIT(A) TAKE COGNIGENCE O F THOSE REASONS IN A SUMMARISED WAY AND THEY READ AS UNDER :- (I) STML IS ONE OF THE LARGEST DESIGN CENTRES OF ST GROUP OUTSIDE EUROPE. SEAMLESSLY INTEGRATED INTO ST GROUPS RESEARCH AND DEVELOPMENT ORGANISATION. (II) STML COMBINES THE POWER OF AN ADVANCED WORLDWI DE COMMUNICATIONS NETWORK AND THE DISCIPLINE OF A GLOBAL SERVICE ORIE NTED CORPORATE CULTURE WITH THE SKILL AND ENTHUSIASM OF THE INDIAN SCIENTIFIC ENGINEERING COMMUNITY. (III) STML HAS ESTABLISHED A DESIGN CENTRE AT NOIDA , WHICH SERVES THE GROUP AS ONE OF THE MOST IMPORTANT CENTRE FOR IP CR EATION. IT DEVELOPS LIBRARIES OF REUSABLE IPS BASED UPON UNICAD AND THE CAD PLATFORM, ESPECIALLY IN ADVANCED SYSTEM-ON-CHIP (SOC) SOLUTIO NS FOR DIGITAL CONSUMERS, COMPUTER, TELECOM AND AUTOMOTIVE APPLICA TIONS. (IV) AMONG THE CUSTOM CHIP DESIGNS THAT HAVE BEEN I MPLEMENTED AT NOIDA ARE TELEPHONE ICS AND A VARIETY OF HIGH PROFILE HAR D DISK AND COMPUTER PERIPHERALS. (V) THE RANGE OF DESIGN ACTIVITIES CARRIED OUT BY S TML REFLECTS THE MULTIFUNCTIONAL NATURE AND ITS ABILITY TO CREATE LE ADING EDGE TECHNOLOGIES. (VI) STML SPECIALIZES IN DEVELOPING HIGH VALUE VLS I INTELLECTUAL PROPERTY (IPS), SYSTEM ON CHIP (SOCS), EMBEDDED SOFTWARE F OR END APPLICATIONS AND IT INFRASTRUCTURE. (VII) STML WAS ALSO A MAJOR CONTRIBUTOR TO THE DEVE LOPMENT OF THE LATEST NOMADIK CHIP FAMILY WHICH WILL ENABLE PORTABLE TERM INALS TO PLAY MUSIC, TAKE PICTURES, RECORD VIDEO, AND HOST TWO-WAY COMMU NICATION (VIII) THE TRANSFER PRICING REPORT ADMITS THAT THE DESIGN CENTRE OF STML IS THE MOST IMPORT CENTRE OF THE GROUP FOR INTELLECTUA L PROPERTY CREATION. (IX) STML RENDERS DESIGNING SERVICES USING THE LATE ST 2D AND 3D CAD WITH CRITICAL SOFTWARE. THE ICS DESIGN/SOFTWARE DEVELOPM ENT SERVICES 12 PERFORMED BY STML REQUIRE A HIGH LEVEL OF EXPERTISE IN THE FIELD OF SOFTWARE ENGINEERING. (X) THE AGREEMENT BETWEEN ASSESSEE AND PARENT COMPA NY STATES THAT THE ST NETHERLANDS IS INTERESTED FOR THE FURTHERANCE AN D RECOGNITION OF ITS LEADING POSITION AS SUPPLIER OF A BROAD RANGE OF SE MICONDUCTOR DEVICE IN A WIDE VARIETY OF SEMICONDUCTOR APPLICATIONS, T O DEVELOP ITS INTELLECTUAL PROPERTY PORTFOLIO THROUGH THE PROCURE MENT OF STATE OF ART DEVELOPMENT SERVICES. (XI) THE AGREEMENT FURTHER STATES THAT THE STML, HA S VERY QUALIFIED, EXPERIENCED AND SKILLED ENGINEERS AND DESIGNERS IN THE FIELD OF DEVELOPING INTEGRATED CIRCUIT DESIGNS, CAD TOOLS, C OMPUTER SOFTWARE FINGER PRINT SECURITY SYSTEMS, BIOMETRIC SOLUTIONS AND RELATED SOFTWARE. (XII) STML IS CARRYING OUT THE MOST CRITICAL AND IM PORTANT PART OF THE VALUE ADDITION CHAIN. THE DESIGN OF THE CHIP LEADS TO CRE ATION OF INTELLECTUAL PROPERTY RIGHTS THAT CAN BE EXPLOITED COMMERCIALLY. (XIII) NORMALLY, A TYPICAL SOFTWARE DEVELOPER ACTS AT THE INSTRUCTION OF ITS PRINCIPAL AND DOES NOT CARRY OUT ANY WORK CONTRIBUT ING TO CREATION OF IPRS OR INTANGIBLES. THE NATURE OF WORK BEING CARRI ED OUT BY STML IS A HIGH END ACTIVITY FORMING PART OF THE BROAD CATEGOR Y OF EMBEDDED TECHNOLOGIES FOR WHICH THE MARGINS ARE USUALLY HIG H AND THE GROWTH RATE IS IMPRESSIVE. 8. LD. TPO HAS OBSERVED THAT ASSESSEE HAD TREATED A LL COMPANIES ENGAGED IN SOFTWARE DEVELOPMENT SERVICES AT PAR WIT HOUT MAKING ANY REFERENCE TO THEIR POSITION ABOUT VALUE CHAIN. FOR DEVELOPING A HIGH END SOFTWARE PRODUCT, HIGHLY QUALIFIED TECHNICAL PERSO NNEL WOULD REQUIRE. SUCH CHARACTERISTIC OUGHT TO BE KEPT IN MIND WHILE CHOOS ING COMPARABLE FOR HIGH END SERVICE PROVIDER LIKE ASSESSEE. ON THE STRENGTH OF RULE 10B2,10B3 AND GUIDELINES ISSUED BY THE OECD LD. TPO HAS POINT ED OUT THE DEFECTS IN THE SELECTION OF COMPARABLES COMMITTED BY THE ASSES SEE. THESE REASONS HAVE BEEN SUMMARISED BY THE LD. CIT(A) IN THE IMPUG NED ORDER WHICH READ AS UNDER :- (I) SPECIFIC CHARACTERISTICS OF THE PROPERTY TRANS FERRED OR SERVICES PROVIDED IN EITHER TRANSACTION (II) FUNCTIONS PERFORMED, TAKING INTO ACCOUNT ASSET S EMPLOYED OR TO BE EMPLOYED AND THE RISKS ASSUMED, BY THE RESPECTIVE P ARTIES TO THE TRANSACTIONS (III) CONTRACTUAL TERMS WHETHER OR NOT SUCH TERMS A RE FORMAL OR IN WRITING, OF THE TRANSACTIONS WHICH LAY DOWN EXPLICI TLY OR IMPLICITLY HOW THE RESPONSIBILITIES, RISKS AND BENEFITS ARE TO BE DIVIDED BETWEEN THE RESPECTIVE PARTIES TO THE TRANSACTIONS; (IV) CONDITIONS PREVAILING IN THE MARKETS IN WHICH THE RESPECTIVE PARTIES TO THE TRANSACTIONS OPERATE, INCLUDING GEOGRAPHICAL LOCATIONS AND SIZE OF THE MARKETS, THE LAWS AND GOVERNMENT ORDERS IN FORCE, COSTS OF LABOR AND CAPITAL IN THE MARKETS, OVERALL ECONOM IC DEVELOPMENT 13 AND LEVEL OF COMPETITION AND WHETHER THE MARKETS AR E WHOLESALE OR RETAIL (V) A HIGH DEGREE OF SIMILARITY IS REQUIRED IN A NU MBER OF ASPECTS OF THE ASSOCIATED ENTERPRISE AND THE INDEPENDENT ENTERPRIS E INVOLVED IN THE TRANSACTIONS IN ORDER FOR THE CONTROLLED TRANSA CTIONS TO BE COMPARABLE (VI) VARIOUS FACTORS OTHER THAN PRODUCTS AND FUNCTI ONS THAT CAN SIGNIFICANTLY INFLUENCE NET MARGINS. (VII) NET MARGINS MAY BE DIRECTLY AFFECTED BY SUCH FORCES OPERATING IN THE INDUSTRY AS FOLLOWS THREAT OF NEW ENTRANTS COMPETITIVE POSITION MANAGEMENT EFFICIENCY AND INDIVIDUAL STRATEGIES THREAT OF SUBSTITUTE PRODUCT VARYING COST STRUCTURES AS REFLECTED IN THE AGE OF THE PLANT AND EQUIPMENT DIFFERENCES IN THE COST OF CAPITAL SELF FINANCING V ERSUS BORROWING DEGREE OF BUSINESS EXPERIENCE WHETHER THE BUSINESS IS IN A START UP PHASE OR IS MATURE: (VIII) NET MARGINS ARE ALSO INDIRECTLY AFFECTED BY A PLETHORA OF OTHER FORCES AS EACH OF THE ABOVE MENTIONED FACTORS IN TU RN CAN BE INFLUENCED BY NUMEROUS OTHER ELEMENTS. FOR EXAMPLE THE THREAT OF NEW ENTRANTS WILL BE DETERMINED BY SUCH ELEMENTS AS PRODUCT DIFFERENTIATION, CAPITAL REQUIREMENTS, AND GOVERNME NT SUBSIDIES AND REGULATIONS. (IX) IN CASE OF STARK DIFFERENCES BETWEEN CONTROLLE D AND UNCONTROLLED TRANSACTIONS WHEN NO RELIABLE ADJUSTMENTS CAN BE MA DE, THE RESULTS OF THE UNCONTROLLED TRANSACTIONS CANNOT BE USED FOR BENCHMARKING AT ALL. 9. AFTER POINTING OUT VARIOUS DEFECTS IN THE TP REP ORT PREPARED BY THE ASSESSEE AND HOW IT ERRED TO USE MULTIPLE YEAR DATA FOR IDENTIFYING THE COMPARABLE LD. TPO PROCEED TO CARRY OUT A SEARC H FOR NEW COMPARABLES, HE SELECTED PROWESS DATA BASE FOR THE FINANCIAL YEAR 2002-03. HE TOOK INTO CONSIDERATION ALL COMPANIES E NGAGED IN COMPUTER SOFTWARE DEVELOPMENT. IN A WAY THE LD. TPO HAS SELECTED 10 TEST FOR IDENTIFYING THE COMPARABLES. THE FILTER EMPLOYED BY HIM IS 14 THAT COMPANIES WITH TOTAL SALES BELOW RS. 10 CRORE AND ABOVE RS. 1000/- CRORE WERE EXCLUDED. COMPANIES FUNCTIONALLY DIFFERENT FROM THE ASSESSEE WERE EXCLUDED. COMPANIES HAVING EMPLOYEE C OST TO TOTAL COST RATIO BELOW 10% WERE EXCLUDED. THE COMPANIES W ITH OPERATING LOSS MARGINS / TOTAL COST OF MORE THAN 20% OR WITH OPERATING PROFIT /TOTAL COST OF MORE THAN 80% HAVE ALSO BEEN EXCLUDE D. THIS SEARCH IDENTIFIED 44 POTENTIAL COMPARABLES. AFTER APPLYING THE FILTERS, LD. TPO CAME OUT 23 COMPARABLES. AN ARITHMETIC MEAN OF ALL THESE 23 COMPARABLES HAVE BEEN WORKED OUT AT 17.86%. HE RECO MMENDED THE ADJUSTMENT BY ADOPTING THIS PLI. THE AO ACCEPTED TH E RECOMMENDATION MADE BY THE LD. TPO AND ACCORDINGLY MADE AN ADDITION OF RS. 10,35,72,191/-. 10. DISSATISFIED WITH THE TPOS RECOMMENDATION, AS SESSEE CARRIED THE MATTER IN APPEAL BEFORE LD. CIT(A). IT SUBMITTE D THAT LD. AO WAS ERRED IN MAKING A MECHANICAL REFERENCE TO THE TPO A S WELL AS ACCEPTANCE OF TPOS RECOMMENDATION. IT POINTED OUT THAT LD. TPO HAS ERRED IN CLASSIFYING THE ASSESSEES BUSINESS AS HIGH END SERVICE PROVIDER. ACCORDING TO THE ASSESSEE, THERE IS NO MA TERIAL ON THE RECORD WHICH SUGGEST THAT ASSESSEE IS A HIGH END SE RVICE PROVIDER. FOR BUTTRESSING HIS CONTENTION, ASSESSEE HAS DREW T HE ATTENTION OF LD. 15 FIRST APPELLATE AUTHORITY ABOUT ITS OPERATING MODEL AS WELL AS BUSINESS PROFILE EXTRACTED SUPRA. IT ALSO SUBMITTED THAT LD. TPO HAS ERRED IN REJECTING THE SEARCH METHODOLOGY USED BY T HE ASSESSEE FOR SELECTING THE COMPARABLES. ACCORDING TO THE ASSESSE E, THE TPO HAS ERRED IN APPLYING FRESH SEARCH METHOD WITHOUT POIN TING OUT SPECIFIC DEFECTS IN THE ASSESSEES METHOD. THE ASSESSEE ALSO CONTENDED THAT TPO HAS ERRED IN NOT GRANTING THE BENEFIT OF + - 5 % VARIATION FROM ARITHMETIC MEAN PROVIDED IN THE PROVISO TO SECTION 92C(2). THE ASSESSEE FURTHER CONTENDED THAT THE TPO OUGHT TO HA VE NOT RELIED UPON THE CURRENT YEAR DATA ALONE. HE SHOULD HAVE AP PRECIATED THE TP REPORT SUBMITTED BY THE ASSESSEE ON THE BASIS OF MU LTIPLE YEAR DATA. 11. THE LD. CIT(A) HAS CONSIDERED THE SUBMISSIONS OF THE ASSESSEE IN DETAIL. WITH REGARD TO ITS FIRST OBJECT ION THAT REFERENCE MADE BY THE AO TO THE TPO IS BAD IN LAW. LD. CIT(A ) , ON THE STRENGTH OF SPECIAL BENCH ORDER OF THE ITAT IN THE CASE OF M/S. AZTEC SOFTWARE & TECHNOLOGY SERVICES LTD. VS. ACIT 294 IT R (AT) 32 REJECTED ITS GROUND OF APPEAL. ACCORDING TO THE SPE CIAL BENCH DECISION OF THE TRIBUNAL, AO WAS NOT SUPPOSED TO DEMONSTRATE AVOIDANCE OF TAX BEFORE INVOKING THE PROVISION FOR MAKING A REFE RENCE. THUS THE REFERENCE WAS NOT MECHANICAL ONE. LD. CIT(A) SIMILA RLY REJECTED THE 16 CONTENTION OF ASSESSEE THAT AO HAS ACCEPTED THE REC OMMENDATIONS MADE BY THE TPO MECHANICALLY. THE LD. CIT(A) RELIED UPON THE DECISION OF THE SPECIAL BENCH OF ITAT. THE NEXT OBJ ECTION RAISED BY THE ASSESSEE BEFORE THE LD. CIT(A) WAS WHETHER MULT IPLE YEAR DATA IS TO BE USED FOR IDENTIFYING THE COMPARABLE OR CURREN T YEAR DATA HAS TO BE USED. LD. CIT(A) HAS DEALT WITH THIS ISSUE IN D ETAIL AND MADE A REFERENCE TO THE ORDER OF THE SPECIAL BENCH IN THE CASE OF M/S. AZTEC SOFTWARE & TECHNOLOGY SERVICES LTD. THIS ISSUE HAS NOW BEEN SETTLED AND IT HAS BEEN HELD THAT CURRENT YEAR DATA IS TO BE USED FOR IDENTIFYING THE COMPARABLES. RULE 10B4 IS CLEAR ON THIS POINT. THE NEXT ARGUMENT BEFORE LD. CIT(A) WAS THAT LD. TPO H AS ERRED IN CHARACTERISING ASSESSEES BUSINESS AS A HIGH END SE RVICE PROVIDER. LD. CIT(A) HAS REJECTED THIS CONTENTION OF THE ASSE SSEE AFTER MAKING A REFERENCE TO AN ARTICLE OF ASSTT. PROFESSOR DEEP AK BAGAI, DEPARTMENT OF ELECTRONICS, PUNJAB, ENGINEERING COLL EGE CHANDIGARH. APART FROM THIS ARTICLE, HE HAS POINTED OUT THE VAR IOUS STEPS DISCUSSED BY THE LD. TPO IN IDENTIFYING THE LEVEL OF TECHNICA L WORK CARRIED OUT BY THE ASSESSEE. 12. LD. CIT(A) THEREAFTER EXAMINED THE VARIOUS FILT ERS APPLIED BY THE LD. TPO IN SELECTING THE COMPARABLES. IT EMERGES OU T FROM THE ORDER 17 OF LD. CIT(A) THAT QUANTITATIVE FILTERS AS WELL AS QUALITATIVE FILTERS WERE APPLIED BY THE TPO IN CARVING OUT THE COMPARABLES. WHILE EXAMINING THOSE FILTERS, LD. CIT(A) HAS OBSERVED THAT ONE OF THE FILTER APPLIED BY THE TPO IS RELATED PARTY TRANSACTION I.E. IF ANY CO MPARABLES HAS AN INTERNATIONAL TRANSACTION LESS THAN 30% WITH RELAT ED PARTY I.E. ASSOCIATE ENTERPRISES THEN THAT CAN BE TAKEN AS A C OMPARABLE. LD. CIT(A) WAS OF THE VIEW THAT THERE IS NO SCIENTIFIC REASONING FOR ADOPTING THIS FILTER. IF TRANSACTIONS LESS THAN 30% OF THE TOTAL TRANSACTION ARE WITH RELATED PARTY, THE COMPANY CAN BE SELECTED AS A COMPARABLE THEN WHY NOT 10% OR 20% TRANSACTIONS COU LD BE APPLIED. IN THE OPINION OF THE LD. CIT(A), ITS ADOPTION OF L ESS THAN 30% TRANSACTION WITH RELATED PARTY AS FILTER, IS AN ARB ITRARY STEP AND, THEREFORE, ANY ENTERPRISE WHO HAS RELATED PARTY TRA NSACTION THAT HAS TO BE EXCLUDED FROM THE COMPARABLE. 13. THE NEXT FILTER APPLIED BY THE LD. TPO IS EMPLO YEE COST TO THE TOTAL COST. IN ASSTT. YEAR 2003-04, HE WAS OF THE O PINION THAT EMPLOYEES COST TO TOTAL COST OF THE ASSESSEE WAS 53 .69%. THE TPO HAS USED A FILTER OF 10% FOR SELECTING THE COMPARAB LES. LD. CIT(A) WAS OF THE OPINION THAT THERE IS A HUGE MARGIN BETW EEN 10% AND 53.69%. IN HIS OPINION, THE COMPANIES WHO HAVE EMPL OYEES COST 18 RATIO OVER TOTAL COST EXCEEDING 25% CAN BE CONSIDER ED AS A COMPARABLE. AFTER APPLYING THESE TWO ADDITIONAL FIL TERS, LD. CIT(A) HAS IDENTIFIED 4 COMPANIES WHICH CAN BE TERMED AS A COM PARABLE. AN ARITHMETIC MEAN OF NCP IN RESPECT OF THESE FOUR COM PANIES COMES OUT TO 16.16%. HE UPHELD THE ADJUSTMENT BY APPLYING THIS ALP. LD. TPO HAS RECOMMENDED AN ADJUSTMENT OF ` 10,35,72,191/- WITH THE RATIO WORKED OUT BY THE LD. CIT(A), IT COMES OUT TO ` 8,30,01,779/-. THE LD. CIT(A) IN THIS WAY DELETED THE ADJUSTMENT T O THE EXTENT OF ` 2,05,70,412/-. THE REVENUE IS IMPUGNING THIS DELETI ON WHEREAS ASSESSEE IS IMPUGNING THE CONFIRMATION OF ADDITION AT ` 8,30,01,779/-. ASSTT. YEAR 2004-05 14. IN THIS ASSTT. YEAR, THERE IS NO DISPARITY ON F ACTS THE TPO HAS RECOMMENDED ADJUSTMENT OF ` 13,23,25,016/-. LD. CIT(A) UPHELD THE ADJUSTMENT OF ` 11,42,89,458/-. HE HAS DELETED THE ADDITION OF ` 1,80,35,558/-. THE PLI COMPUTED BY THE LD. CIT(A) I S AT 16.33%. IN ASSTT. YEAR 2006-07 19 15. THERE IS NO DISPARITY ON FACTS IN THIS YEAR ALS O. ASSESSEE HAS DISCLOSED TWO INTERNATIONAL TRANSACTIONS WITH ITS A E IN THE TP REPORT SUBMITTED IN FORM NO.3CEB. THE PLI DISCLOSED BY THE ASSESSEE AT 11.6%. IN THE TP REPORT, IT HAS SELECTED 30 COMPARA BLE AND COMPUTED THEIR WEIGHTED MEAN AT 13.3%. LEARNED TPO HAS REJEC TED THE COMPARABLES SELECTED BY THE ASSESSEE AND CARRIED OU T A FRESH SEARCH. HE SHORT LISTED 19 COMPANIES. THE ASSESSEE HAS RAISED OBJECTIONS. LEARNED TPO HAS ACCEPTED ITS OBJECTION QUA CERTAIN COMPANIES AND ULTIMATELY SELECTED 12 COMPANIES. THE WEIGHTED ARITHMETIC MEAN OF PROFIT COMES OUT AT 18.30%. ON THE BASIS OF THIS ANALYSIS, LD. TPO RECOMMENDED ADJUSTMENT OF RS.17,3 5,18,074. LEARNED DRP HAS UPHELD THE RECOMMENDATION. 16. WE HAVE HEARD THE LD. REPRESENTATIVE AND WITH T HEIR ASSISTANCE GONE THROUGH THE RECORD CAREFULLY. FROM THE RECORD AND ARGUMENTS ADVANCED BY THE LD. REPRESENTATIVE, IT RE VEALED THAT BOTH THE SIDES ARE AGITATING ON VARIOUS ISSUES DETERMINI NG THE ALP OF INTERNATIONAL TRANSACTION. THEIR GRIEVANCE HAS TO B E COMPARTMENTALIZED FOR CONVENIENCE AS WELL AS BETTER APPRECIATION OF THE ISSUES. FROM THE RECORD OF ASSTT. YEAR 2003-04, WE HAVE ALSO 20 NOTICED THE BUSINESS PROFILE OF THE ASSESSEE, INCLU DING OPERATING MODELS WHICH EXHIBITS ROLE PLAYED BY ASSESSEE VIS A VIS ITS PARENT COMPANY I.E. ST NETHERLAND. 17. THE FIRST AREA OF DISPUTE WHICH COULD ARISE BET WEEN THE PARTIES IS IN RESPECT OF MOST APPROPRIATE METHOD REQUIRED T O BE ADOPTED FOR DETERMINATION OF ARMS LENGTH PRICE (ALP) AS PROVIDE D IN SECTION 92C OF INCOME TAX ACT READ WITH RULE 10B OF THE INCOME TAX RULES. THE SECTION 92C PROVIDES 5 MAIN METHOD I.E. A) COMPARABLE UNCONTROLLED PRICE METHOD B) RESALE PRICE METHOD C) COST PLUS METHOD D) PROFIT SPLIT METHOD E) TRANSACTIONAL NET MARGIN METHOD AND F) ONE RESIDUARY METHOD I.E. SUCH OTHER METHOD AS MAY BE PRESCRIBED BY THE BOARD. 18. IN THE PRESENT YEARS, ON AN ANALYSIS OF INTERNA TIONAL TRANSACTIONS WITH THE ASSOCIATE PARTIES AND DATA OF COMPARABLES, ASSESSEE HAS SELECTED TRANSACTIONAL NET MARGIN (TNM M), USING NET PROFIT MARGIN BASED ON COST AS PLI. IN THESE THREE YEARS THIS METHOD WAS NOT DISPUTED BY THE LD. TPO. WE CAN SAY THAT BO TH SIDES ARE IN AGREEMENT ON THE METHOD. 21 THE NEXT DISPUTE IS USE OF CURRENT YEAR DATA OR MUL TIPLE AREA DATA 19. AFTER RESOLVING THE APPROPRIATE METHOD FOR DETE RMINING THE ALP, THE NEXT STEP IS TO FIND OUT THE DATA REQUIRED TO B E USED FOR SELECTING COMPARABLES. THE ASSESSEE HAS USED MULTIPLE AREA DA TA WHEREAS THE TPO IS OF THE OPINION THAT CURRENT YEAR DATA IS TO BE USED. THE VIEW OF THE LD. TPO HAS BEEN ACCEPTED BY THE LD. CIT(A) IN ASSTT. YEAR 2003-04 AND 2004-05 AND LD. DRP IN ASSTT. YEAR 2006 -07. ARGUMENTS OF THE ASSESSEE 20. THE ASSESSEE HAS CONTENDED BEFORE THE LD. TPO THAT SECTION 92C AND SECTION 92D READ WITH RULE 10D CLEARLY INDI CATE THAT DOCUMENTATION (INCLUDING THE BENCH MARKING / ANALY SIS) IS REQUIRED TO BE MAINTAINED BY THE ASSESSEE TO ESTABLISH AND SUPP ORT THE ARMS LENGTH NATURE OF ITS INTERNATIONAL TRANSACTION. THE ASSESSEE IS REQUIRED TO MAINTAIN TP DOCUMENTATION CONTEMPORANEOUSLY . SU CH DOCUMENTATION SHOULD EXIST LATEST BY 31 ST OCTOBER OF THE RELEVANT FINANCIAL YEAR. THIS MAKE IT CLEAR THAT LEGISLATURE PREFERS THE DETERMINATION OF ALP BETWEEN THIS DATE. THUS THE DA TA USED IN DETERMINATION OF ALP SHOULD BE AVAILABLE LATEST BY NOVEMBER, 30 AND NOT BEYOND. THEREFORE, THE USE OF CURRENT YEAR DATA WHICH WAS NOT AVAILABLE AT THAT STAGE WOULD BE NOTHING BUT HARDSH IP TO THE TAX 22 PAYERS AND IN CONTRARY TO THE INTEND OF THE LEGISLA TURE. THE ASSESSEE HAS RELIED UPON THE DECISION OF ITAT IN THE CASE OF PHILIPS SOFTWARE CENTRE PVT. LTD. 2008 VS. ACIT 119 TTJ 721 ITAT BAN GALORE. LD. DR. ON THE OTHER HAND SUBMITTED THAT RULE 10B (4) IS QU ITE CLEAR IN THIS REGARD. IT MANDATE THE ASSESSEE TO USE CURRENT YEAR DATA. THE MULTIPLE YEAR DATA IS PERMITTED TO BE USED ONLY IN THOSE CASES, WHERE NO OTHER DATA IS AVAILABLE IN THE CURRENT YEAR. HE POINTED OUT THAT THIS ISSUE HAS BEEN SETTLED BY THE SPECIAL BENCH OF ITAT IN THE CASE OF M/S. AZTEC SOFTWARE & TECHNOLOGY SERVICES LTD. VS. ACIT REPORTED IN 294 ITR (AT) 32 OF THE ACT. HE ALSO RELIED UPON THE ORDER OF ITAT DELHI IN THE CASE OF GEODIS OVERSEAS PVT. LTD. VS. DCIT RENDERED IN ITA NO. 4243/D/2010. HE PLACED ON RECORD COPIES OF THE TRIBUNALS ORDER. HE ALSO POINTED THAT IN THE CASE OF MENTOR G RAPHICS (NOIDA) PRIVATE LIMITED VS. DCIT REPORTED 109 ITD PAGE 101, THE TRIBUNAL AGAIN HELD THAT COMPARABILITY ANALYSIS IS TO BE CON DUCTED ON THE BASIS OF CURRENT YEAR DATA. 21. WE HAVE DULY CONSIDERED THE RIVAL CONTENTION AN D GONE THROUGH THE RECORD CAREFULLY. RULE 10B(4) OF THE INCOME TAX RULES HAS A 23 DIRECT BEARING ON THE CONTROVERSY. THEREFORE, IT IS SALUTARY UPON US TO TAKE NOTE OF THIS RULE IT READ AS UNDER :- 10(4) THE DATA TO BE USED IN ANALYSING THE COMPARA BILITY OF AN UNCONTROLLED TRANSACTION WITH AN INTERNATIONAL TRAN SACTION SHALL BE THE DATA RELATING TO THE FINANCIAL YEAR IN WHICH THE INTERNATIONAL TRANSACTION HAS BEEN ENTERED INTO: PROVIDED THAT DATA RELATING TO A PERIOD NOT BEING M ORE THAN TWO YEARS PRIOR TO SUCH FINANCIAL YEAR MAY ALSO BE CONS IDERED IF SUCH DATA REVEALS FACTS WHICH COULD HAVE AN INFLUEN CE ON THE DETERMINATION OF TRANSFER PRICES IN RELATION TO THE TRANSACTIONS BEING COMPARED. 22. A BARE PERUSAL OF THIS RULE WOULD REVEAL THAT E XPRESSION SHALL HAS BEEN EMPLOYED IN THIS RULE WHICH MAKE IT ABUNDA NTLY CLEAR THAT CURRENT YEAR DATA OF AN UNCONTROLLED TRANSACTION IS TO BE USED FOR THE PURPOSE OF COMPARABILITY, WHILE EXAMINING THE INTER NATIONAL TRANSACTIONS WITH ASSOCIATE ENTERPRISES. THE PROVIS O APPENDED TO THE SECTION CARVES OUT AN EXCEPTION THAT THE DATA RELAT ING TO THE PERIOD OF BEING MORE THAN TWO YEAR PRIOR TO SUCH FINANCIAL YEAR MAY ALSO BE CONSIDERED, IF SUCH DATA REVEALS FACTS WHICH COULD HAVE AN INFLUENCE ON THE DETERMINATION OF TRANSFER PRICE IN RELATION TO TRANSACTION OF COMPARISON. THUS THE MAIN SECTION USED THE EXPRESS ION SHALL WHICH 24 MAKE IT MANDATORY TO FIRST USE THE CURRENT YEAR D ATA. IF CERTAIN OTHER CIRCUMSTANCES REVEALS AN INFLUENCE ON THE DETERMINA TION OF TRANSFER PRICING IN RELATION TO THE TRANSACTION BEING COMPAR ED THAN OTHER DATAS FOR PERIOD NOT MORE THAN TWO YEARS PRIOR TO SUCH FI NANCIAL YEAR MAY BE USED. THUS LD. CIT(A) AS WELL AS LD. DRP HAS RIGHTL Y UPHELD THE VIEW POINT OF TPO FOR USING CURRENT YEAR DATA. 23. THE NEXT STEP FOR DETERMINATION OF A.L.P. OF TH E INTERNATIONAL TRANSACTIONS ENTERED BY THE ASSESSEE WITH ITS ASSOC IATE ENTERPRISES IS TO FIND OUT THE COMPARABLE ASSESSEES WHO HAVE UNCONTROLLED INTERNATIONAL TRANSACTIONS OF SIMILAR NATURE. BEFORE FINDING OUT THE COMPARABLE, IT IS NECESSARY TO FIND OUT THE STATUS OF ASSESSEE I.E. W HAT IT MANUFACTURES AND WITH WHOM IT CAN BE COMPARED. THIS DISPUTE ARISES BECAUS E THE ASSESSING OFFICER TERMED THE ASSESSEE AS HIGH END PERFORMER IN THE FI ELD OF COMPUTER SOFTWARE WHEREAS ACCORDING TO THE ASSESSEE ITS ACTIVITIES AR E OF LOW END. THUS, WE HAVE TO FIRST DECIDE:- WHETHER CHARACTERIZATION OF THE ASSESSEES BUSINE SS BY THE LEARNED TPO AS HIGH END SERVICE PROVIDER IS CORRECT ?. 25 24. THE LEARNED COUNSEL FOR THE ASSESSEE WHILE IMPU GNING THE FINDINGS OF THE LEARNED REVENUE AUTHORITIES, POINTED OUT THAT A SSESSEE IS A SUBSIDIARY OF ST MICROELECTRONICS PTE LTD. SINGAPORE, WHICH IS A WHOLLY OWNED SUBSIDIARY OF ST MICROELECTRONICS, NEITHERLAND. IT HAD COMMENCED ITS COMMERCIAL OPERATION IN FINANCIAL YEAR ENDED ON 31. 3.1993. IT IS ENGAGED IN THE BUSINESS OF RENDERING INTEGRATED CIRCUIT DESIGN AND SOFTWARE DEVELOPMENT SERVICES FOR THE ST GROUP. IN ORDER TO DEMONSTRATE AS TO HOW THE SERVICES PROVIDED BY THE ASSESSEE IS TO BE CATEGORIZED AS LO W END SERVICE, THE LEARNED COUNSEL FOR THE ASSESSEE APPRAISED US WITH THE FAR ANALYSIS OF THE ASSESSEE I.E. (FUNCTION PERFORMED, ASSETS EMPLOYED AND RISK ASSUMED). WE HAVE NOTICED THIS ASPECT IN THE PARAGRAPHS NO. 5, WHILE TAKING COGNIZATION OF ASSESSEES BUSINESS PROFILE AS WELL AS OPERATING MO DEL. SHRI PAWAN KUMAR, LEARNED COUNSEL FOR THE ASSESSEE FOR ASSESSMENT YEA RS 2003-04 AND 2004-05 APPRAISED US THAT ENTIRE PROCESS OF MANUFACTURING I NTEGRATED CIRCUIT ( IC ), ACCORDING TO HIM, IT IS VERY COMPLEX AND BROADLY C ONSISTS OF SIX STEPS. HE REFERRED THE DIAGRAM REPRODUCED BY THE LEARNED CIT( APPEALS) ON PAGE 23 OF THE IMPUGNED ORDER. THEREAFTER, HE DREW OUR ATTENTI ON TOWARDS THE EXPLANATION OF ASSESSEE SUBMITTED IN THE WRITTEN SU BMISSIONS WHEREIN IT HAS PLACED ON RECORD A DIAGRAM EXHIBITING VALUE CHAIN A NALYSIS OF SEMI- CONDUCTOR CHIP. ACCORDING TO THE LEARNED COUNSEL F OR THE ASSESSEE, THE FIRST 26 STAGE RELATES TO IDENTIFICATION OF CUSTOMERS NEEDS. THIS HAS BEEN CARRIED OUT BY ST GROUP OVERSEAS, WHO IDENTIFIES A CUSTOMERS R EQUIREMENTS FOR THE ICS FROM THE CUSTOMERS SURVEYS, FEEDBACK AND TECHNOLOGI CAL ADVANCEMENT IN THE INDUSTRY. THE SECOND STAGE IS WHERE PRODUCT IS CONC EPTUALIZED AND SPECIFICATIONS ARE DETERMINED. THIS STAGE IS ALSO P ERFORMED BY ST GROUP AND ROLE OF ASSESSEE IN INDIA, NOWHERE COME IN PICTURE. THE PRODUCT IS CONCEPTUALIZED WITH THE HELP OF INPUT PROVIDED BY T HE CUSTOMERS AND TECHNICAL KNOW HOW PROCESS BY ST GROUP NEITHERLAND. NEXT STAGE IS STAGE NO.3 WHERE DESIGN AND DEVELOPMENT IS FINALIZED. ACC ORDING TO HIM, THIS PART OF THE VALUE CHAIN ALSO INVOLVES RESEARCH AND DEVEL OPMENT ACTIVITIES RELATED TO THE PRODUCT. THE HIGH DESIGN COST IS INCURRED IN FRANCE AND ITALY AND ARE MAINLY ON ACCOUNT OF THEIR FOCUSED ACTIVITIES ON CE NTRALIZED DEVELOPMENT OF TECHNOLOGY PLATFORM. THE ROLE OF THE ASSESSEE IS NE GLIGIBLE IN PERFORMANCE OF THIS STAGE. HE ADMITTED THAT NO DOUBT IN INDIA, CER TAIN DESIGNS WORKS ARE ALSO CARRIED OUT BUT THEY ARE ONLY A PARTIAL EXECUTION O F THE DESIGN AND DEVELOPMENTS CARRIED OUT BY THE ST GROUP. THE ASSES SEE WORKS ONLY ON THE SPECIFICATION GIVEN TO IT BY THE ST GROUP. THE NEXT STAGE IS PRODUCT TESTING AND VERIFICATION. THE PRODUCT DESIGN IS FOLLOWED BY THE PRODUCT TESTING AND VERIFICATION STAGE. ACCORDING TO THE ASSESSEE, IT I S CRITICAL STAGE WHICH 27 REQUIRES HIGH INFUSION OF CAPITAL IN ORDER TO TEST THE DESIGNED PRODUCT. THERE IS NO CONTRIBUTION OF ST INDIA IN PERFORMANCE OF TH IS STAGE. STAGE NO.5: AT THIS STAGE, MANUFACTURING AND FABRICATION TAK EN PLACE. ACCORDING TO THE ASSESSEE, IT ALSO INVOLVES HIGH CA PITAL AND IT IS HIGHLY COMPLEX PROCESS. THERE IS NO ROLE OF ST INDIA IN CA RRYING OUT THIS ACTIVITY. STAGE NO. 6 : IN THIS STAGE, SALES MARKETING AND CUSTOMERS SUPPORT ARE PERFORMED. ON THE STRENGTH OF THIS FLOW CHART, THE LEARNED COUNSEL FOR THE ASSESSEE SUBMITTED THAT ST INDIA IS INVOLVED ONLY A T ONE STAGE AND THAT TOO WITH A LIMITED SCOPE OF WORK. IT HAS NO SAY IN THE PROCESS OF CONCEPTUALIZATION OF ANY PRODUCT. IT WORKS ONLY ON THE SPECIFICATION GIVEN BY THE ST GROUP FOR THE DESIGNING AND DEVELOPMENT OF I C. ON THE STRENGTH OF THESE DETAILS, HE SUBMITTED THAT THE ROLE OF ST IND IA CAN BE CATEGORIZED A LOW END RISK FREE CAPTIVE DESIGN AND DEVELOPMENT. THE L EARNED COUNSEL FOR THE ASSESSEE THEREAFTER APPRAISED US AS TO HOW ASSESSEE DID NOT TAKE ANY RISK. HE REFERRED TO THE RISK ASSOCIATED WITH THE ASSESSEE V IS--VIS ITS AE. FOR BUTTRESSING THIS CONTENTION, HE REFERRED TO THE TOT AL SALES CARRIED OUT BY THE A.E. AND THE PROFIT EARNED. HE ALSO REFERRED THE MA RKET RISK, PRODUCT SERVICE, LOW RISK, TECHNOLOGY RISK ETC. ASSOCIATED WITH THE ASSESSEE AS WELL AS WITH THE ST GROUP. 28 25. IN ASSESSMENT YEAR 2006-07, LEARNED COUNSEL FOR THE ASSESSEE SHRI SANJIV CHAUDHARY AND SHRI SK AGGARWAL REITERATED TH E STAND OF ASSESSEE AS WAS TAKEN IN ASSESSMENT YEAR 2003-04. THE ASSESSEE IN THIS YEAR ALSO, SUBMITTED A DIAGRAM EXHIBITING VALUE CHAIN ANALYSIS OF THE SEMICONDUCTOR CHIP BUT IN THIS YEAR, THE ASSESSEE HAD COMPARED TH IS DIAGRAM WITH SOFTWARE INDUSTRY WHICH IS AVAILABLE AT PAGE 15 OF THE WRITT EN SUBMISSIONS AND WE HAVE GONE THROUGH THIS DIAGRAM. 26. ON THE STRENGTH OF ITATS ORDER IN THE CASE OF MENTORGRAPHIC THEY SUBMITTED THAT THE RISK ASSUMED BY RESPECTIVE PARTY IS A VERY IMPORTANT CIRCUMSTANCE FOR DETERMINING THE STATUS OF AN ASSES SEE WHICH MAY DEMONSTRATE WHAT TYPE OF ACTIVITY IS BEING PERFORME D BY THE ASSESSEE. ACCORDING TO THE LEARNED COUNSEL FOR THE ASSESSEE, IT IS A SIMPLE PRINCIPLE OF ECONOMIC THAT GREATER THE RISK THE GREATER THE EXPE CTED RETURN. HE POINTED OUT THAT THE LEARNED TPO HAS SELECTED THE COMPANIES WHI CH ARE FULL-FLEDGED ENTREPRENEURS, WHOSE RISK PROFILE ASSUMES MUCH HIGH ER RISK, AS COMPARED TO THE RISK FREE NATURE OF THE ASSESSEE. THEY ALSO SUB MITTED THAT RISK ADJUSTMENT FACTOR OUGHT TO BE APPLIED BY THE LEARNED TPO. 29 27. LEARNED DR HAVE RELIED UPON THE ORDERS OF THE R EVENUE AUTHORITIES BELOW. SHRI NK CHAND HAS DREW OUR ATTENTION TOWARDS PAGE NO.12 OF THE LEARNED CIT(APPEALS)S ORDER IN ASSESSMENT YEAR 200 3-04 AND POINTED OUT WHAT TYPE OF ACTIVITIES HAVE BEEN PERFORMED BY THE ASSESSEE. ACCORDING TO THE LEARNED DR, THE ACTIVITY PERFORMED BY THE ASSES SEE WITHIN INDIA MAY BE NOT BE AT PAR WITH THE ACTIVITIES CARRIED OUT BY IT S A.E. BUT THAT CANNOT BE A TEST TO DETERMINE THE NATURE OF ACTIVITY PERFORMED BY THE ASSESSEE. THE WORK PERFORMED BY THE ASSESSEE WITHIN INDIA HAS TO BE CO MPARED WITH OTHER ASSESSEES WHO ARE PERFORMING SUCH TYPE OF ACTIVITIE S AND WHERE THEY STAND IN A VALUE CHAIN OF SOFTWARE DEVELOPMENT. THE CRUCIAL ISSUE IS TO FIND OUT WHETHER THE ACTIVITY PERFORMED BY THE ASSESSEE CAN GENERATE THE PROFIT EQUIVALENT TO THE ONE SHOWN BY THE ASSESSEE ONLY OR THERE IS SOME HIDDEN EMBEDDED ADVANTAGE BEING SIPHONED OFF BY THE ASSESS EE TO ITS A.E. HE ALSO REFERRED TO THE ARTICLE OF LEARNED PROFESSOR RELIED UPON BY THE LEARNED CIT(APPEALS) AS WELL AS THE CIRCUMSTANCE POINTED OU T BY THE LEARNED TPO (EXTRACTED SUPRA). IN ASSESSMENT YEAR 2006-07, LEAR NED DRS HAVE POINTED OUT THAT THERE IS NO DISPARITY ON FACTS. THEY HAVE SUBMITTED THAT ST INDIA IS ON OF THE LARGEST DESIGN CENTRES OF ST GROUP OUTSID E EUROPE. ST INDIA HAS ESTABLISHED A DESIGN CENTRE AT NOIDA AND A BRANCH O FFICE AT BANGALORE. THE DESIGN CENTRE EMPLOYEES AROUND 1600 PEOPLE. IT DEVE LOPS LIBRARIES OF RE- 30 USABLE IP'S BASED UPON UNICAD AND THE CAD PLATFORM, SPECIALLY ADVANCED SYSTEM ON CHIP (SOC) SOLUTION FOR DIGITAL CONSUMERS , COMPUTER, TELECOM AND AUTOMOTIVE APPLICATION. THEY FURTHER SUBMITTED THAT ST INDIA ALSO PROVIDES LOCAL MARKETING INFORMATION SERVICE TO THE GROUP CO MPANIES. 28. WE HAVE DULY CONSIDERED THE RIVAL CONTENTIONS A ND GONE THROUGH THE RECORD CAREFULLY. THE OPERATIVE FORCE OF ASSESSEES ARGUMENTS REGARDING CHARACTERIZING IT AS A LOW END RISK FREE CAPTIVE SE RVICE PROVIDER, IS THAT MOST OF THE FUNCTIONS IN PRODUCING INTEGRATED SEMICONDUC TORS ARE BEING PERFORMED BY ST GROUP. THE ROLE OF THE ASSESSEE IS LIMITED. W E HAVE TAKEN COGNIZANCE OF ASSESSEES BUSINESS PROFILE AS WELL AS OPERATIVE MODEL IN PARAGRAPH 5 OF THIS ORDER. WE ARE ALSO CONSCIOUS OF THE FACT THAT RIGHT FROM THE ASSESSING OFFICER UPTO ITAT, ALL THE ADJUDICATORS ARE NOT TEC HNICALLY QUALIFIED WHO COULD EXPRESS THEIR OPINION WITH REGARD TO TECHNICA L SPECIFICATION OF THE PRODUCTS PRODUCED BY THE ASSESSEE. THE IMPORTANT FA CTOR FOR OUR ADJUDICATION IS HOW MUCH PROFIT/LOSS CAN BE EARNED BY AN ASSESSE E CARRYING OUT SIMILAR ACTIVITIES AND HAS UNCONTROLLED INTERNATIONAL TRANS ACTION. THE ROLE OF THE ASSESSEE IN PRODUCING SEMICONDUCTOR (IC) MAY BE LIM ITED QUA THE ROLE PERFORMED BY ST GROUP, BUT CAN THAT LIMITED ROLE IS OF NO SIGNIFICANCE. FROM THE FINDINGS OF THE LEARNED TPO RECORDED IN ASSESSM ENT YEAR 2002-03 AND 31 REPRODUCED BY US IN PARAGRAPH NOS. 7 & 8 OF THIS OR DER, WE ARE OF THE VIEW THAT PRODUCT PRODUCED BY THE ASSESSEE IN ITSELF IS OF A COMPLEX NATURE, WHICH REQUIRED SKILLED WORK FORCE. THE ASSESSEE HAS EMPLO YED MORE THAN 1600 PERSONS AND IT HAS ONE OF THE LARGEST DESIGN CENTRE S OUT OF EUROPE. THE OPERATIONS CARRIED OUT BY THE ASSESSEE WITHIN INDIA ARE TO BE COMPARED WITH OTHER ASSESSEES AND NOT WITH ST GROUP. THE LEARNED COUNSELS FOR THE ASSESSEE HAVE DEMONSTRATED THE LOW AFFAIRS OF THE ASSESSEE W HILE MAKING THE COMPARISON WITH ST GROUP. THEY LOST SIGHT THAT COMP ARABLES ARE TO BE COMPARED AND NOT THE INCOMPARABLE. THUS, THE TEST W HICH THEY ARE ADVOCATING IS NOT AT ALL RELEVANT FOR DECIDING THE CHARACTER OF THE ASSESSEE, WHETHER IT IS HIGH END PERFORMER OR A LOW END PERFO RMER. THE ASSESSEE COULD HAVE PRODUCED THE REPORT OF AN EXPERT INDICATING TH E WORK PERFORMED BY IT AS NEGLIGIBLE IN COMPARISON TO OTHER SOFTWARE DEVELOPM ENT COMPANIES. INSTEAD OF CARRYING OUT THAT EXERCISE, IT IS EMPHASIZING TH AT ITS ROLE IS ONLY 2% OR 3% IN COMPARISON TO OVER ALL ROLE PERFORMED BY ST GROU P. THE CRUCIAL ISSUE WHICH OUGHT TO BE EXPLAINED BY THE ASSESSEE IS WHAT IS THE IMPORTANCE OF THIS 2% ROLE VIS--VIS THE ROLE PERFORMED BY SIMILARLY S ITUATED COMPANIES IN AN UNCONTROLLED BUSINESS ENVIRONMENTS. ON AN ANALYSIS OF THE LEARNED TPOS ORDER IN DIFFERENT THREE YEARS, INCLUDING THE TP RE PORT SUBMITTED BY THE ASSESSEE, WE FIND THAT ASSESSEE HAS TRIED TO GIVE A UNIFORM PLI, CERTAIN 32 COMPARABLES WHICH WERE FOUND ACCEPTABLE BY THE ASSE SSEE IN FINANCIAL YEAR 2004-05 ALL OF A SUDDEN BECOME INCOMPARABLE IN FINA NCIAL YEAR 2005-06. IT SUGGESTS THAT EFFORTS OF THE FINANCIAL ANALYSIST WA S TO PREPARED THE DOCUMENTATION IN SUCH A FASHION WHICH WOULD GIVE TH E RESULT NEAR TO THE RESULT DISCLOSED BY THE ASSESSEE. LEARNED TPO IN AL L THE THREE ASSESSMENT YEARS AND THE LEARNED CIT(APPEALS) IN ASSESSMENT YE ARS 2003-04 AND 2004- 05 HAS CONSIDERED THIS ASPECT ELABORATELY. THE OBJE CTIONS POINTED OUT BY THE LEARNED COUNSEL FOR THE ASSESSEE DURING THE COURSE OF ASSESSMENT PROCEEDINGS ARE PERIPHERAL OBJECTIONS, A SUITABLE ADJUSTMENT CA N BE MADE WHILE SELECTING THE COMPARABLES WHICH CAN TAKE CARE OF THEIR OBJECT IONS. AFTER CONSIDERING THE DETAILED FINDINGS OF LEARNED CIT(APPEALS) IN TH ESE TWO ASSESSMENT YEARS ON THIS ISSUE AS WELL AS THE DISCUSSION MADE BY THE LEARNED TPO IN ALL THE THREE YEARS, WE DO NOT FIND ANY FORCE IN THE OBJECT IONS RAISED BY THE ASSESSEE. LEARNED TPO HAS RIGHTLY TREATED THE ASSESSEE AS A H IGH END SERVICE PROVIDER. 29. THE NEXT AREA OF DISPUTE BETWEEN THE PARTIES IS WHETHER LEARNED TPO HAS RIGHTLY REJECTED THE SEARCH MYTHOLOGY APPLIED B Y THE ASSESSEE AS WELL AS THE COMPARABLES SELECTED BY THE ASSESSEE. IN ASSESS MENT YEAR 2003-04, ASSESSEE HAS SELECTED 14 COMPARABLES IN ITS TP REPO RT. IT HAS APPLIED QUANTITATIVE FILTER AS WELL AS QUALITATIVE FILER. U NDER QUANTITATIVE FILTER, IT HAS 33 ELIMINATED THOSE COMPANIES WHOSE OPERATING INCOME T O SALE IS LESS THAN 75%. THE SECOND FILTER IS THE SALES TURNOVER LESS T HAN RS. 10 MILLION AND THE THIRD FILTER IN THE QUANTITATIVE FILTER IS SALES TU RNOVER MORE THAN RS. 5000 MILLIONS. IN QUALITATIVE FILTER, IT HAS ELIMINATED THE COMPANIES WHO HAS RELATED PARTY TRANSACTION BECAUSE THAT WOULD INFLUE NCE THE RESULT. IT HAS ALSO ELIMINATED COMPANIES WITH INSUFFICIENT INFORMATION ABOUT PRODUCT OR FUNCTION OR FINANCIAL. THE COMPANIES GOING THROUGH CORPORATE RECONSTRUCTING DURING THE PERIOD UNDER REVIEW WERE ALSO ELIMINATED . THE COMPANIES WITH DIFFERENT PRODUCT OR BUSINESS PROFILE OR WHICH WERE FUNCTIONALLY DIFFERENT WERE ELIMINATED. LEARNED TPO DID NOT AGREE WITH THE FILTER, APPLIED BY THE ASSESSEE. THE FIRST OBJECTION OF THE LEARNED TPO WA S THAT ASSESSEE HAS SELECTED THE COMPARABLE BY USING MULTIPLE YEAR DATA . THE SECOND OBJECTION WAS THAT THE INFORMATION OR DATA USED IN COMPUTATIO N OF ALP IS NOT RELIABLE. IN ASSESSMENT YEAR 2006-07, LEARNED TPO HAS POINTED OUT THAT ASSESSEE HAS SELECTED CERTAIN COMPARABLES WHICH WERE REJECTED IN FINANCIAL YEAR 2004-05. IN A WAY, IT HAS ADOPTED A PICK AND CHOSE POLICY. 30. THE LEARNED COUNSEL FOR THE ASSESSEE AT THE TIM E OF HEARING POINTED OUT THAT OBJECTIONS REFERRED BY THE LEARNED TPO ARE NOT SUSTAINABLE. ONE OF THE OBJECTIONS REFERRED IN ASSESSMENT YEAR 2006-07 IS T HAT ASSESSEE IS ALSO 34 EARNING INCOME FROM MARKET SUPPORTS SERVICES (MMS). WITH REGARD TO THIS OBJECTION, IT WAS SUBMITTED THAT IT CONSTITUTES 2.1 9% OF THE TOTAL REVENUE EARNED BY THE ASSESSEE. SIMILARLY ON THE SCALE OF O PERATION, IT WAS SUBMITTED THAT TURNOVER OF THE COMPANY IS RS.283.83 CRORES. W HILE APPLYING BENCH MARKING ANALYSIS, IT HAS ELIMINATED COMPANIES HAVIN G SALES LESS THAN RS.10 CRORES AND ELIMINATED COMPANIES HAVING SALES MORE T HAN RS.2500 CORES. ON THE STRENGTH OF ITATS ORDER IN THE CASE OF MENTO G RAPHIC, IT WAS SUBMITTED THAT LEARNED TPO COULD HAVE CARRIED OUT FRESH SEARC H ONLY IF THE COMPARABLE DRAWN BY THE TAX PAYERS WAS INSUFFICIENT OR HAD OTH ER DEFICIENCIES. THE LEARNED COUNSEL FOR THE ASSESSEE ALSO SUBMITTED THA T IN THE CASE OF PHILIPS SOFTWARE, ITAT HAS HELD THAT LEARNED TPO WAS SUPPOS ED TO SATISFY AND COMMUNICATE TO THE TAXPAYERS, ABOUT CARRYING OUT FR ESH SEARCH AND NOT ACCEPTING THE COMPARABLES SELECTED BY THE ASSESSEE. LEARNED DR ON THE OTHER HAND RELIED UPON THE ORDERS OF THE REVENUE AU THORITIES BELOW. 31. WE HAVE DULY CONSIDERED THE RIVAL CONTENTIONS A ND GONE THROUGH THE RECORD CAREFULLY. IN ASSESSMENT YEAR 2003-04, LEA RNED TPO WHILE POINTING OUT THE DEFECTS IN THE TP REPORT HAS OBSERVED THAT ASSESSEE IS ENGAGED IN A SPECIALIZED AREA OF DEVELOPMENT OF EMBEDDED TECHNOL OGY UNDER THE OVERALL GUIDANCE FROM THE PARENT GROUP COMPANIES. NO DOUBT ASSUMPTION OF RISK AND 35 DEVELOPMENT OF INTANGIBLE ASSETS IS LIMITED BUT STI LL ASSESSEE DID NOT MAKE ANY ATTEMPT TO TAKE NOTE OF THIS CHARACTERISTIC OF THE SERVICE PROVIDED IN THE SELECTION OF COMPARABLES. ACCORDING TO THE LEARNED TPO, THE ASSESSEE ASSUMES MAN POWER RISK WHILE PERFORMING ITS FUNCTIO N. THE NATURE OF JOB UNDERTAKEN BY THE ASSESSEE INVOLVES DEPLOYMENT OF H IGHLY SKILLED TECHNICAL MANPOWER. THIS ASPECT WAS NOT APPLIED BY THE ASSESS EE WHILE CONDUCTING THE FUNCTIONAL ANALYSIS OF THE COMPARABLE IN THE TP REP ORT. IT HAS NOT APPLIED APPROPRIATE FILTER TO FINE TUNE THE SELECTION OF CO MPARABLES INCORPORATING THIS IMPORTANT ASPECT CARRIED OUT BY THE ASSESSEE. HE HA S OBSERVED THAT ASSESSEE HAS EMPLOYED HIGHLY SKILLED MANPOWER WHICH INDICATE S THAT EMPLOYEES COST TO THE TOTAL COST IS 53.69%, THUS THIS FILTER OUGHT TO HAVE BEEN CONSIDERED BY THE ASSESSEE WHILE CARVING OUT THE COMPARABLES. LEA RNED TPO ALSO OBSERVED THAT COMPARABILITY IN TERMS OF TURNOVER IS AN IMPOR TANT FACTOR AND ASSESSEE HAD ADOPTED A RANGE OF TURNOVER FROM RS. 1 CRORE TO RS.500 CRORES WHICH DILUTED THE COMPARABLE ANALYSIS AND MISSED OUT AN I MPORTANT LINK BETWEEN THE TURNOVER AND PROFITABILITY AND CONSEQUENTLY ON COMPARABILITY ANALYSIS. LEARNED TPO WAS OF THE VIEW THAT ASSESSEE HAS REJEC TED MANY COMPARABLES ON THE GROUND OF RELATED PARTY TRANSACTION. IN HIS OPINION, THE RELATED PARTY TRANSACTION IS TO BE CONSIDERED IF FOREIGN EQUITY H OLDING OF MORE THAN 25% IS INVOLVED IN THOSE COMPANIES. HE ALSO OBSERVED THAT NO FUNCTIONAL ANALYSIS 36 WAS DOCUMENTED IN RESPECT OF THE EXTERNAL COMPARABL ES. WE HAVE GONE THROUGH THE LEARNED TPOS ORDER ALONG WITH THE LEAR NED REPRESENTATIVES. WE FIND A LITTLE VARIATION IN THE REASONS FOR REJECTIN G THE TP REPORT OF THE ASSESSEE IN ASSESSMENT YEAR 2003-04, 2004-05 VIS--VIS 2006- 07. IN ASSESSMENT YEAR 2006-07, LEARNED TPO HAS ASSIGNED LITTLE MORE REASO NS AND ULTIMATELY DID NOT GIVE WEIGHTAGE TO THE FILTER OF LARGE TURNOVER. LEARNED REPRESENTATIVES HAVE NOT POINTED OUT ANY SPECIFIC DEFECT IN THE REJ ECTION OF THE TP REPORT FOR ASSESSMENT YEARS 2003-04 AND 2004-05. HIS MAIN EMPH ASIS WAS HOW THE LEARNED TPO HAS ERRED IN SELECTING THE COMPARABLES. A GENERAL ARGUMENT WAS TAKEN THAT TP REPORT OUGHT NOT TO BE REJECTED BY TH E LEARNED TPO AND HE SHOULD NOT PROCEED FOR SELECTING THE FRESH COMPARAB LES. ACCORDING TO THE LEARNED COUNSEL FOR THE ASSESSEE BEFORE REJECTING T HE TP STUDY MADE BY THE ASSESSEE, LEARNED TPO HAS TO POINT OUT SPECIFIC DEF ECTS IN THE TRANSFER PRICING ANALYSIS MADE BY THE ASSESSEE AS WELL AS THE DOCUME NTATION MAINTAINED BY IT. HE REFERRED THE DECISION OF ITAT IN THE CASE OF SON Y INDIA REPORTED IN 114 ITD 448 AND IN THE CASE OF PHILIPS SOFTWARE REPORTE D IN 26 SOT 226. TO SOME EXTENT, WE CONCUR WITH THE PROPOSITION RAISED BY THE LEARNED COUNSEL FOR THE ASSESSEE BUT IN OUR OPINION SUCH CIRCUMSTAN CES ARE TO BE DECIDED BY THE LEARNED TPO ON A TOUCHSTONE BASIS. HE IS NOT SU PPOSED TO RECORD SPECIFIC FINDING BEFORE PROCEEDING TO SELECT FRESH COMPARABL ES. THE IDEA IS TO ARRIVE 37 AT A REASONABLE CONCLUSION FOR IDENTIFICATION OF CO MPARABLES WHICH CAN GOAD ANY AUTHORITY TO DETERMINE THE ALP OF ANY INTERNATI ONAL TRANSACTION ENTERED WITH AN ASSOCIATE ENTERPRISES BY AN ASSESSEE. EVERY EFFORT SHOULD BE MADE WITHIN THE AMBIT OF PROCEDURE PROVIDED IN THE ACT A S WELL AS RULE 10B OF THE INCOME-TAX RULES. THE APPROACH OF THE LEARNED TPO O UGHT TO BE JUDICIOUS. THE COMPARABILITY BETWEEN A CONTROLLED TRANSACTION AND UNCONTROLLED TRANSACTION IS A COMPARISON OF CONDITION WHICH IS B ROADER THAN A MERE COMPARISON OF PRICE OR MARGIN. WHERE IT IS FOUND TH AT THE CONDITIONS WERE IMPOSED WHICH DIFFER FROM THOSE WHICH WOULD BE MADE BETWEEN INDEPENDENT ENTERPRISES, TRANSFER PRICING ADJUSTMEN T ARE TO BE MADE. THUS, THE LEARNED TPO WHILE EVALUATING THE TP STUDY MADE BY THE ASSESSEE ARRIVED AT A CONCLUSION THAT ASSESSEE HAS LEFT OVER VARIOUS ANGLES IN IDENTIFYING THE COMPARABLES. HE HAS HIGHLIGHTED THOSE ASPECTS IN TH E ORDER AND THEREAFTER PROCEEDS TO IDENTIFY FRESH COMPARABLES. THIS EXERCI SE HAS BEEN DONE AFTER GIVING PROPER OPPORTUNITY OF HEARING TO THE ASSESSE E. 32. AS FAR AS ASSESSMENT YEAR 2006-07 IS CONCERNED, LEARNED TPO HAS OBSERVED THAT SEARCH STRAIGHTGY OF THE ASSESSEE IN IDENTIFYING THE COMPARABLE IS NOT SCIENTIFIC. ACCORDING TO HIM, IT WAS NOT BAS ED ON ANY KEY VALUE DRIVER FOR THE IT INDUSTRY. HE OBSERVED THAT SALARY AND WA GES ARE THE KEY DRIVERS FOR 38 THE IT INDUSTRY. THE USE OF LEVEL OF ASSETS IS ANOT HER KEY VALUE DRIVER WHICH GENERATES REVENUE. THE ASSESSEE FAILED TO APPLY THE SE KEY VALUE DRIVERS WHILE PUTTING THE SEARCH IN THE PROWESS DATA BASE. HE FUR THER OBSERVED THAT IT HAS SELECTED CERTAIN COMPARABLES IN FINANCIAL YEAR 2004 -05 BUT THOSE WERE REJECTED IN FINANCIAL YEAR 2005-06. THE ASSESSEE HA S NOT CONSIDERED SCALE OF OPERATION AND IT HAS NOT DEFINED THIS ASPECT IN THE TP REPORT. THE STAND OF THE ASSESSEE BEFORE THE ITAT WAS THAT FIRST OBJECTION P OINTED OUT BY THE LEARNED TPO FOR REJECTING ITS TP STUDY REPORT IS THAT ASSES SEE IS ALSO EARNING INCOME FROM MARKET SUPPORT SERVICES BUT IT HAS NOT USED IT AS A FUNCTIONAL CRITERIA FOR SELECTING ITS COMPARABLES. IT WAS SUBMITTED THAT RE VENUE EARNED BY THE ASSESSEE FROM MSS RENDERED TO AE CONSTITUTES ONLY 2 .19%. WITH REGARD TO SCALE OF OPERATION, IT WAS POINTED OUT THAT TURNOVE R OF THE ASSESSEE IS RS.283.280 CRORES. THE ASSESSEE HAS ELIMINATED COMP ANIES HAVING SALES LESS THAN RS. 10 CRORES AND COMPANIES HAVING SALES GREAT ER THAN RS.2500 CRORES. ON DUE CONSIDERATION OF ALL THESE DEFECTS POINTED O UT IN THE REASONS ASSIGNED BY THE LEARNED TPO, WE ARE OF THE VIEW THAT THE VER Y BEGINNING IN IDENTIFYING COMPARABLES BY THE ASSESSEE AS WELL AS BY THE LEARN ED TPO DID NOT MATCH. LEARNED TPO TERMED THE ASSESSEE AS A HIGH END SERVI CES PROVIDER, WHEREAS ASSESSEE IS TREATING ITSELF AS A LOW END SERVICE PR OVIDER. WE HAVE CONSIDERED THIS ASPECT IN THE FOREGOING PARAGRAPH AND OBSERVED THAT ASSESSEE IS INVOLVED 39 IN MANUFACTURING A HIGHLY COMPLEX TECHNICAL PRODUCT AND ITS ACTIVITY CANNOT BE CONSIDERED AS A LOW END SERVICE PROVIDER. THIS D ISPARITY IN THE APPROACH WOULD AUTOMATICALLY LEAD TO A DIAGONALLY OPPOSITE P ATH FOR SELECTING THE COMPARABLES. APART FROM THIS ONE ASPECT, THE LEARNE D TPO HAS POINTED OUT OTHER ASPECTS ALSO. AS OBSERVED EARLIER, HE HAS TO APPRECIATE THE TP STUDY SUBMITTED BY THE ASSESSEE ON REASONABLE BASIS AS WE LL AS PRIMA FACIE. THEREFORE, WE DO NOT SEE ANY ERROR IN THE PROCEDURE ADOPTED BY THE LEARNED TPO FOR CARRYING OUT THE FRESH SEARCH IN IDENTIFYIN G THE NEW COMPARABLES. WE HAVE SEEN TP REPORT SUBMITTED BY THE ASSESSEE FO R THESE THREE YEARS AND THE ORDER OF THE PTO IN ASSESSMENT YEAR 2007-08 ALS O, WE FIND THAT IN EVERY YEAR BY ADJUSTING THE FINANCIAL CALCULATION DEPENDI NG ON DIFFERENT ASPECTS EFFECTING ANY BUSINESS ORGANIZATION, ASSESSEE IS SU BMITTING A TP REPORT WHICH IS CONSUMERATE TO THE RESULT DECLARED BY IT. IT USE D TO SELECT DIFFERENT FILTERS FOR SELECTING OR ELIMINATING THE COMPARABLES IN EAC H ASSESSMENT YEAR IN SUCH A WAY THAT WOULD GIVE ONLY UNIFORM RESULT. THEREFOR E, THIS ISSUE IS DECIDED AGAINST THE ASSESSEE IN ALL THE ASSESSMENT YEARS. 33. THE NEXT AREA OF DISPUTE BETWEEN THE PARTIES IS SELECTION OF COMPARABLE COMPANIES FOR THE BENCHMARKING ANALYSIS OF ALP RELATING TO INTERNATIONAL TRANSACTION. IN ASSESSMENT YEAR 2003- 04, LEARNED TPO HAS 40 SELECTED 23 COMPARABLES WHICH HAVE BEEN REPRODUCED BY THE LEARNED CIT(APPEALS) ON PAGE 7 WHILE TAKING COGNIZANCE OF T ABLE NO.10. LEARNED CIT(APPEALS) DID NOT ACCEPT TWO FILTERS APPLIED BY THE LEARNED TPO, ONE RELATES TO RELATED PARTY TRANSACTION AND THE OTHER RELATES TO EMPLOYEES COST OVER TOTAL COST. HE ULTIMATELY IDENTIFIED FOUR COMP ANIES WHO ARE BROADLY FUNCTIONALLY SIMILAR COMPARABLES. THE FOUR CASES RE LIED UPON BY THE LEARNED CIT(APPEALS) IN TABLE NO.12 READS AS UNDER: S. NO. COMPANY NAME FUNCTIONAL PROFILE RPT % STANDALONE TURNOVER EMPLOYEE COST/TOTAL COST% FIXED ASSET TURNOVER RATIO NCP (%) 3 CS SOFTWARE ENTERPRISE LTD. *ENGAGED IN THE BUSINESS OF ONSITE AND OFFSITE SOFTWARE DEVELOPMENT *BUILT DOMAIN EXPERTISE THAT INCLUDES EDUCATION, CONSTRUCTION, MANUFACTURING, PUBLIC UTILITIES, TELECOMMUNICATION, HEALTH CARE AND INSURANCE SECTORS. * DEVELOPED ONSITE SOFTWARE SOLUTIAONS WORKING WITH WORLD MAJORS AND NIL 4.82 25.17 1.43 6.22 41 FORTUNE 500 COMPANIES SUCH AS IBM, INTEL, FANNIE MAE, AT&T, FEDEX ETC. 25 TATA ELXSI LIMITED COMPANYS OPERATIONS ARE BROADLY BROKEN UP INTO TWO BUSINESS SEGMENTS NAMELY SYSTEMS INTEGRATION AND SUPPORT AND SOFTWARE DEVELOPMENT SERVICES. 1.54 111.28 51.68 5.13 13.74 30 VISU CONSULTANTS LTD. ENGAGED IN THE BUSINESS OF SOFTWARE DEVELOPMENT NIL 8.25 35.95 3.06 10.89 31 VISUALSOFT TECHNOLOGIES LTD. COMPANY IS A FOCUSED IT COMPANY OPERATION IN SOFTWARE DEVELOPMENT, SERVICES AND PRODUCTS. NIL 126.61 68.34. 1.60 33.80 ARITHMETIC MEAN 45.29 2.805 16.16 34. SIMILARLY, IN ASSESSMENT YEAR 2004-5, LEARNED C IT(APPEALS) HAS IDENTIFIED THREE COMPARABLES. THEY READ AS UNDER: 42 S. NO. COMPANY NAME FUNCTIONAL PROFILE RPT % STANDALONE TURNOVER EMPLOYEE COST/TOTAL COST % FIXED ASSET TURNOVER RATIO NCP (%) 17 MAARS SOFTWARE INTERNATIONAL LTD. ENGAGED PROVISION OF SOFTWARE DEVELOPMENT AND CONSULTANCY SERVICES NIL 33.84 69.95 1.10 5.52 34 VISU CONSULTANTS LTD. ENGAGED IN THE BUSINESS OF SOFTWARE DEVELOPMENT NIL 14.92 43.7 4.89 13.31 35 VISUALSOFT TECHNOLOGY LTD. COMPANY IS A FOCUSED IT COMPANY OPERATING IN SOFTWARE DEV. SERVICES AND PRODUCTS. NIL 155.56 67.93 1.74 30.17 ARITHMETIC MEAN 60.53 2.58 16.33 35. IN ASSESSMENT YEAR 2006-07, LEARNED TPO HAS IDE NTIFIED 12 COMPARABLES. THEY ARE AS UNDER: S.NO. COMPANY NAME FY OP/TC% 43 1 BODHTREE CONSULTING LTD 16.52 2 LANCO GLOBAL SYSTEMS LTD. 5.88 3 EXENSYS SOFTWARE SOLUTIONS LTD. 26.18 4 SANKHYA INFOTECH LTD. 25.27 5 VISUALSOFT TECHNOLOGIES LTD. 13.05 6 SASKEN COMMUNICATIONS TECH. LTD. 2.59 7 L & T INFOTECH LTD. 12.42 8 INFOSYS 41.99 9 FLEXTRONICS LTD. 28.55 10 TATA ELXSI LIMITED (SEG) 20.61 11 AKSHAY SOFTWARE TECHNOLOGIES LTD. 7.4 12 VJIL 6.07 AVERAGE OP/TC% 18.30 36. IN ASSESSMENT YEARS 2003-04 AND 2004-05, LEARNE D DR HAS SUBMITTED THAT ASSESSEE HAS ELIMINATED CERTAIN COMPARABLES ON THE GROUND THAT SUCH COMPANIES HAVE RELATED PARTY TRANSACTION BECAUSE MO RE THAN 26% SHAREHOLDING OF SUBSIDIARY WERE HELD BY THE COMPANY ABROAD. HE POINTED OUT THAT MEANING OF ASSOCIATE ENTERPRISES HAS BEEN PROV IDED IN SECTION 92A(2)(A) 44 OF THE ACT. ACCORDING TO THIS CLAUSE, THERE SHOULD BE HOLDING OF MORE THAN 26% SHARES, DIRECTLY OR INDIRECTLY BY ONE ENTERPRIS ES IN THE OTHER ENTERPRISES ONLY THEN THEY WILL BE RELATED PARTY. THE TPO WAS O F THE VIEW THAT THERE MAY BE TRANSACTIONS WITH ASSOCIATE ENTERPRISES BUT THE TRANSACTIONS SHOULD NOT BE MORE THAN 30%. LEARNED CIT(APPEALS) DID NOT ACCEPT THIS FILTER AND HELD THAT THERE SHOULD NOT BE ANY TRANSACTION WITH RELATED PA RTY. LEARNED CIT(APPEALS) DID NOT GIVE ANY JUSTIFICATION FOR SUCH A STEP. HE FURTHER CONTENDED THAT IN THE CASE OF SONY INDIA, ITAT HAS ACCEPTED A COMPANY AS A COMPARABLE EVEN IF 10 TO 15% TRANSACTIONS ARE WITH RELATED PARTY. HE S UBMITTED THAT THE ORDER OF THE LEARNED CIT(APPEALS) BE SET ASIDE TO THIS EXTEN T AND THAT OF LEARNED TPO BE RESTORED FOR SELECTING THE COMPARABLES. SIMILARL Y, HE POINTED OUT THAT LEARNED CIT(APPEALS) HAS ERRED IN NOT ACCEPTING THE FILTER OF EMPLOYEES COST OVER TOTAL COST. LEARNED TPO USED A FILTER OF 10% F OR SELECTING THE COMPARABLES WHEREAS LEARNED CIT(APPEALS) UPHOLD FIL TER AT 25%. 37. THE LEARNED COUNSEL FOR THE ASSESSEE ON THE OTH ER HAND REITERATED HIS ARGUMENTS AS WERE RAISED FOR THE ISSUES ALREADY DIS CUSSED BY US. IN BRIEF, HIS ARGUMENTS ARE BASED ON BUSINESS PROFILE AND OPERATI NG MODEL OF THE ASSESSEE. ACCORDING TO HIM, IF THESE ASPECTS ARE TO BE LOOKED INTO THEN TP REPORT SUBMITTED BY THE ASSESSEE COULD HAVE NOT BEEN REJEC TED. THE MAIN EMPHASIS 45 IS THAT SIMPLY ON CONJECTURES AND SURMISES, SEARCH CARRIED OUT BY THE ASSESSEE CANNOT BE DISREGARDED. HE MADE A REFERENCE TO THE O RDER OF THE ITAT IN THE CASE OF MENTORGRAPHIC VS. DCIT REPORTED IN 109 ITD 101 (DELHI). HE ALSO POINTED OUT THAT LEARNED CIT(APPEALS) AGREED TO THE ASSESSEE THAT IT IS A RISK FREE CAPTIVE SERVICE PROVIDER BUT SIMULTANEOUSLY MA DE A REFERENCE TO THE ARTICLE OF THE PROFESSION, DEEPAK BAGAI FOR TERMING THE ASSESSEE AS BELONGING TO A SUNSHINE SECTOR. HE FURTHER SUBMITTE D THAT LEARNED CIT(APPEALS) HAS FINALIZED SIX COMPARABLES BUT THEN EXCLUDED TWO IN ASSESSMENT YEAR 2003-04 FOR NON-AVAILABILITY OF DAT A. NOW, THE DATA ARE AVAILABLE AND IF THEY ARE INCLUDED THEN NCP MARGIN WILL BE WITHIN THE RANGE OF PLUS/MINUS 5% CONTEMPLATED IN THE PROVISO TO SE CTION 92C(2) AND NO ADJUSTMENT WOULD REQUIRE. 38. IN ASSESSMENT YEAR 2006-07, LEARNED COUNSEL FO R THE ASSESSEE RAISED MULTIFOLD SUBMISSIONS FOR POINTING DEFECT IN THE UL TIMATE SELECTION OF COMPARABLES. FIRSTLY, HE CONTENDED THAT LEARNED TPO DID NOT GRANT PROPER OPPORTUNITY OF HEARING FOR REBUTTING THE SELECTION OF 19 COMPANIES OUT OF WHICH 12 HAS BEEN SELECTED BY HIM. HE FURTHER CONTE NDED THAT APPLICATION OF FRESH BENCHMARKING ANALYSIS IS CONTRARY TO THE PROV ISIONS OF LAW. FOR BUTTRESSING HIS CONTENTIONS, HE POINTED OUT THAT TH E DETERMINATION OF ALP, 46 HAS TO BE IN ACCORDANCE WITH SUB-SECTION(1)(2) OF S EC. 92C OF THE ACT. THE EXPRESSION IN ACCORDANCE MEANS INCONFORMITY OR AS PROVIDED. IF THE ASSESSEE HAS DETERMINED ALP OF INTERNATIONAL TRANSA CTION ACCORDING TO THIS MANDATE THEN ASSESSING OFFICER CANNOT DETERMINE THE PRICE ACCORDING TO THE METHOD WHICH IS APPROPRIATE ACCORDING TO HIM, UNLES S THE METHOD SELECTED BY THE ASSESSEE CANNOT REASONABLY BE APPLIED TO THE FACTS AND THE CIRCUMSTANCES OF THE CASE. LEARNED TPO HAS PROVIDED TWO SET OF COMPARABLES AND SOME OF THE COMPANIES WERE COMMON I N BOTH THE SETS WHEREAS SOME OF THE COMPANIES APPEARING IN FIRST SE T WERE MISSING IN THE SECOND SET. IT INDICATES THAT LEARNED TPO HAD WORKE D WITH A PRE-DETERMINED MIND SET OF RECOMMENDING SOME ADJUSTMENTS. THE SECO ND SET WAS ISSUED WITHIN EIGHT DAYS OF THE ISSUANCE OF THE FIRST SET. LEARNED TPO HAS EXCLUDED CERTAIN COMPANIES WHICH ARE COMPARABLE TO THE ASSES SEE BUT INDICATING THE LOSS. THE COMPANIES CANNOT BE EXCLUDED MERELY FOR T HE REASONS THAT THEY WERE SHOWING LOSS. FOR BUTTRESSING HIS CONTENTIONS, HE RELIED UPON THE DECISION OF THE ITAT IN THE CASE OF M/S. SONY INDIA (P) LTD. VS. DCIT REPORTED IN 114 ITD 448 (DELHI). HE POINTED OUT THA T IF ASSESSING OFFICER WAS EXCLUDING THE COMPANIES WHO ARE CONSISTENTLY SH OWING LOSS THEN COMPANIES WITH HIGHER MARGIN MUST ALSO BE EXCLUDED SINCE THEY REPRESENT COMPANIES OF SUBSTANTIAL ASSETS USAGE. THESE COMPAN IES ARE INFLUENCED BY 47 ECONOMIC/MARKET CONDITIONS WHICH ARE NOT PREVALENT IN THE ASSESSEE. THE MAIN EMPHASIS WAS MADE FOR EXCLUSION OF INFOSYS TEC HNOLOGY LTD. IT WAS SUBMITTED THAT SALES OF THIS COMPANY IS OF RS.9028 CRORES. IT IS LARGE COMPANY IN OPERATION IN COMPARISON TO THE ASSESSEE AND IT SHOULD HAVE EXCLUDED BY APPLYING QUANTITATIVE FILTER. SIMILARLY , HE SUBMITTED FOR EXCLUSION OF FLEXTRONIC SOFTWARE SYSTEM & TATA FLEX I LTD. 39. WE HAVE DULY CONSIDERED THE RIVAL CONTENTIONS A ND GONE THROUGH THE RECORD CAREFULLY. RULE 10B IN GENERAL AND RULE 10B( 1)(E)(III), RULE 10B(2) & 10B(3)(II) IN PARTICULAR PROVIDE FOR COMPARABILIT Y ADJUSTMENT. RULE 10B(1)(E)(III) CONTEMPLATES THAT NET PROFIT MARGIN REFERRED TO IN SUB-RULE (II) ARISING IN COMPARABLE UNCONTROLLED TRANSACTION IS A DJUSTED TO TAKE INTO ACCOUNT THE DIFFERENCE, IF ANY, BETWEEN THE INTERNA TIONAL TRANSACTION AND THE COMPARABLE UNCONTROLLED TRANSACTION OR BETWEEN THE ENTERPRISES ENTERING INTO SUCH TRANSACTION WHICH COULD MATERIALLY EFFECT THE AMOUNT OF NET PROFIT MARGIN IN THE OPEN MARKET. THIS RULE SUGGESTS THAT ADJUSTMENT REQUIRED TO BE MADE FOR COMPARABILITY. SUB-RULE (2) OF RULE 10B FU RTHER PROVIDES HOW TO JUDGE THE COMPARABILITY OF INTERNATIONAL TRANSACTIO N WITH UNCONTROLLED TRANSACTION. THIS RULE READS AS UNDER: 48 (2) FOR THE PURPOSES OF SUB-RULE(2), THE COMPARABIL ITY OF AN INTERNATIONAL TRANSACTION WITH AN UNCONTROLLED TRAN SACTION SHALL BE JUDGED WITH REFERENCE TO THE FOLLOWING, NAMELY: A) THE SPECIFIC CHARACTERISTICS OF THE PROPERTY TRANSF ERRED OR SERVICES PROVIDED IN EITHER TRANSACTION; B) THE FUNCTIONS PERFORMED, TAKING INTO ACCOUNT ASSERT S EMPLOYED OR TO BE EMPLOYED AND THE RISKS ASSUMED, B Y THE RESPECTIVE PARTIES TO THE TRANSACTIONS; C) THE CONTRACTUAL TERMS (WHETHER OR NOT SUCH TERMS AR E FORMAL OR IN WRITING) OF THE TRANSACTIONS WHICH LAY DOWN E XPLICITLY OR IMPLICITLY HOW THE RESPONSIBILITIES, RISKS AND B ENEFITS ARE TO BE DIVIDED BETWEEN THE RESPECTIVE PARTIES TO THE TRANSACTIONS; D) CONDITIONS PREVAILING IN THE MARKETS IN WHICH THE R ESPECTIVE PARTIES TO THE TRANSACTIONS OPERATE, INCLUDING THE GEOGRAPHICAL LOCATION AND SIZE OF THE MARKETS, THE LAWS AND GOVERNMENT ORDERS IN FORCE, COSTS OF LABOUR AND CAP ITAL IN THE MARKETS, OVERALL ECONOMIC DEVELOPMENT AND LEVEL OF COMPETITION AND WHETHER THE MARKETS ARE WHOLESALE O R RETAIL. 40. A BARE PERUSAL OF THIS RULE INDICATES THAT VARI OUS ASPECTS OF THE INTERNATIONAL TRANSACTION VIS--VIS UNCONTROLLED TR ANSACTIONS ARE TO BE KEPT IN MIND WHILE DECIDING ALP OF INTERNATIONAL TRANSACTIO N. THEREAFTER, RULE 10B(3)(II) PROVIDES THAT REASONABLY ACCURATE ADJUST MENT CAN BE MADE TO 49 ELIMINATE THE MATERIAL EFFECTS OF SUCH DIFFERENCES. IF WE HAVE OVERALL LOOK ON THE TP REGULATIONS THEN IT WOULD REVEAL THAT ALP OF AN INTERNATIONAL TRANSACTION CANNOT BE DETERMINED ACCURATELY IN ACCO RDANCE WITH A SCIENTIFIC FORMULA. IT IS QUITE DIFFICULT TO ARRIVE AT ANY FIR M CONCLUSION WITH MATHEMATIC PRECISION. THE SIMPLE REASON IS THAT CONCEPT OF BUS INESS WHICH GIVES RISE TO ALL NATIONAL AND INTERNATIONAL TRANSACTIONS IN ITSE LF HAS A WIDE IMPORT AND IT MEANS AN ACTIVITY CARRIED ON CONTINUOUSLY AND SYSTE MATICALLY BY A PERSON BY THE APPLICATION OF HIS LABOUR AND SKILL WITH A VIEW TO EARN AN INCOME. THERE ARE LARGE NUMBER OF FACTORS WHICH EFFECTS THE BUSIN ESS SUCH AS FUNCTIONS PERFORMED, ASSETS EMPLOYED AND RISK ASSUMED. THE CO NCEPT OF RISK IN ITSELF PROVIDES VARIOUS TYPE OF RISK FOR EXAMPLE MARKET RI SK, FOREIGN EXCHANGE RISK, OPERATION RISK, TECHNOLOGY RISK, CREDIT RISK, ENVIR ONMENTAL RISK AND ASSETS REDUNDANCY RISK ETC. SIMILAR ARE THE FACTORS FOR A SSETS EMPLOYED. THERE ARE LARGE NUMBER OF FACTORS WHICH EFFECT THIS AREA AND WHICH ULTIMATELY EFFECTS THE RESULT OF ANY UNDERTAKING AS SUCH WORKING CAPIT AL ETC., WHO HAS PROVIDED THE WORKING CAPITAL, WHETHER IT IS BY ASSESSEES OW N SOURCE OR IT IS CONTRIBUTED BY THE A.E. SIMILARLY, THE FUNCTIONS PE RFORMED BY AN ASSESSEE ALSO EFFECTS THE ULTIMATE RESULT. IT CONTAINS WORKM ANSHIP, MANAGEMENT, IDENTIFICATION OF THE PRODUCT, ULTIMATE PRODUCTION, RESEARCH ETC. ALL THESE FACTORS IN THEIR SETTING AS A WHOLE MAKE IT PRACTIC ALLY IMPOSSIBLE FOR ANY 50 ADJUDICATOR TO FIND OUT EXACT PHOTO COPY OF THE ASS ESSEE AS A COMPARABLE. SOME VARIATIONS BOUND TO BE THERE. ONE HAS TO SEE W HAT IS THE IMPACT OF SUCH VARIATION IN THE COMPARABLE RESULTS OF SUCH CONCERN . ON PERUSAL OF THE TPOS ORDER IN ALL THE THREE ASSESSMENT YEARS AS WELL AS IN ASSESSMENT YEAR 2007-08, WHICH IS PLACED IN THE PAPER BOOK OF THE DEPARTMENT , WE FIND THAT LEARNED TPO HAD MADE EFFORTS TO IDENTIFY THE COMPARABLES WH OSE FUNCTIONS PERFORMED ARE SIMILAR TO THE ASSESSEE. HE HAS APPLI ED THE FILTER, QUANTITATIVELY AS WELL AS QUALITATIVELY IN ELIMINATING THE FACTORS WHICH EFFECT THE RESULT OF THE ALLEGED COMPARABLES SO THAT THE DIFFERENCE BETW EEN THE OPERATIONS OF ASSESSEE AS WELL AS SUCH COMPARABLES WHO WORKED IN UNCONTROLLED TRANSACTIONS CAN BE NEUTRALIZED. THE ARGUMENTS RAIS ED BY THE ASSESSEE IN ASSESSMENT YEAR 2006-07 ARE TOUCHING ONLY PERIPHERA L ASPECTS. LEARNED TPO HAS STARTED INVESTIGATION QUITE WELL IN TIME AND HA S PROVIDED SUFFICIENT OPPORTUNITY FOR GIVING COMMENTS. WE HAVE ALREADY HE LD THAT LEARNED TPO HAS RIGHTLY REJECTED THE TP STUDY MADE BY THE ASSES SEE AND PROCEED TO MAKE FRESH SEARCH. ALL OTHER ARGUMENTS MADE BY THE ASSES SEE IN THE WRITTEN SUBMISSIONS AS WELL AS ADDRESSED BEFORE US WERE IN THE BACKGROUND OF PUTTING THE ASSESSEE AS A LOW END PERFORMER. AT EVE RY STAGE, THEIR EMPHASIS WAS THAT IT IS A RISK FREE CAPTIVE SERVICE PROVIDER , IT CANNOT BE COMPARED WITH OTHER SOFTWARE DEVELOPMENT. WE DO NOT FIND FORCE IN THIS CONTENTION OF THE 51 ASSESSEE IN THE DISCUSSION MADE IN THE FOREGOING PA RAGRAPHS OF THE ORDER. AS FAR AS THE CONTENTIONS OF THE ASSESSEE REGARDING EX CLUSION OF INFOSYS FROM COMPARABLES IS CONCERNED, LEARNED TPO HAS CONSIDERE D THIS ASPECT AND WAS CONSCIOUS OF THE FACT THAT IN A QUANTITATIVE FILTER , THIS CONCERN DESERVES TO BE EXCLUDED BUT THEN HE OBSERVED THAT IN THIS YEAR ASS ESSEE IN ITS TP STUDY REPORT INCLUDED CERTAIN CONCERNS WHO HAS A HUGE TUR NOVER OF 14740 CRORES. SIMILARLY, ASSESSEE HAS ALSO ACCEPTED COMPARABLES L IKE LANCO & AKSHA SOFTWARE WHICH HAVE SALES TURNOVER OF LESS THAN RS. 10 CRORES. THUS, IT REVEALS THAT ASSESSEE DID NOT ADHERE TO QUANTITATIV E FILTER IN THIS ASSESSMENT YEAR. INFOSYS NO DOUBT GIVES A BETTER PROFIT RESULT BUT AGAIN IN THE 12 COMPARABLES SELECTED BY THE LEARNED TPO, THERE ARE CERTAIN COMPARABLES WHOSE PROFIT MARGIN IS QUITE LOW THEN THE ASSESSEE AND AN ARITHMETICAL MEAN OF 18.30 HAS BEEN WORKED OUT. 41. AS FAR AS THE ARGUMENTS OF LEARNED DR IN ASSESS MENT YEARS 2003-04 AND 2004-05 ARE CONCERNED, WE FIND THAT IN THE CASE OF SONY INDIA, ITAT HAS ACCEPTED THE COMPARABLES WHO HAS RELATED PARTY TRAN SACTION IN BETWEEN 10 TO 15%. SUCH A COMPANY CAN BE COMPARED. LEARNED TPO SE LECTED THE COMPARABLES TO THE EXTENT OF 25% RELATED PARTY TRAN SACTIONS WHEREAS LEARNED CIT(APPEALS) ELIMINATED ALL THOSE COMPARABLES. AT T HE TIME OF HEARING, HE 52 WAS UNABLE TO POINT OUT THE SPECIFIC COMPANY WHICH WAS SELECTED BY THE LEARNED TPO AS COMPARABLE AND WHO HAS TRANSACTION L ESS THAN 15% WITH RELATED PARTY. WE HAVE PERUSED THE ORDER OF THE LEA RNED CIT(APPEALS) IN ASSESSMENT YEAR 2003-04 AT PAGE 27 WHERE THE LIST O F 23 COMPARABLES ALONG WITH RELATED PARTY TRANSACTIONS ARE REPRODUCED. LEA RNED TPO HAS JUST EXCLUDED COMPARABLES WITH MORE THAN 30% RELATED PAR TY TRANSACTION. LEARNED DR WAS UNABLE TO POINT OUT ANY SPECIFIC COM PARABLES LESS THAN 15% RELATED PARTY TRANSACTION AND WHICH WOULD HELP THE REVENUE FOR UPGRADING THE ARITHMETIC MEAN. THEREFORE, HIS ARGUMENT IS OF NO R ELEVANCY AT THIS STAGE 42. IN ASSESSMENT YEAR 2006-07, LEARNED COUNSEL FOR THE ASSESSEE POINTED OUT THAT LEARNED TPO HAS TAKEN A FIGURE OF 15.99% A GAINST VISUAL SOFT- TECHNOLOGY LTD. AT SR. NO.5. THE PLI IN THIS CASE I S 13.05%. SIMILARLY, AT SR. NO. 6, LEARNED TPO HAS TAKEN 12.36% AGAINST S. COMM UNICATION TECHNOLOGY LTD., THE ACTUAL FIGURE IS 2.59%. WE DIR ECT THE LEARNED AO TO VERIFY THIS ASPECT AND MAKE NECESSARY CORRECTIONS I N THE ARITHMETIC MEAN OF ALL THESE COMPARABLES. AS FAR AS OTHER ARGUMENTS AR E CONCERNED, WE DO NOT FIND ANY FORCE IN THE CONTENTIONS OF THE ASSESSEE A S WELL AS OF REVENUE FOR SELECTING THE COMPARABLES. 53 43. THE ASSESSEES HAVE CONTENDED THAT BENEFIT OF PR OVISO APPENDED TO SECTION 92C OF 5% HAS NOT BEEN GIVEN TO THE ASSESSEE. 44. WITH THE ASSISTANCE OF LEARNED REPRESENTATIVES, WE HAVE GONE THROUGH THE RECORD CAREFULLY. LEARNED CIT(APPEALS) IN ASSE SSMENT YEAR 2003-04 HAS EXAMINED THIS ISSUE IN DETAIL. HE OBSERVED THAT IN ORDER TO AVOID HARDSHIPS TO THE ASSESSEES IN THE INITIAL YEARS OF IMPLEMENTATIO N OF THE TP PROVISIONS, THE GOVERNMENT OF INDIA, THROUGH A PRICES NOTE ISSUED B Y THE MINISTRY OF FINANCE ON 22 ND AUGUST 2001 EXPRESSED ITS INTENTION THAT NO ADJUST MENT COULD BE MADE IF THE TRANSFER PRICE ADOPTED BY THE ASSESSEE WAS WITHIN THE BAND OF 5% OF THE ALP DETERMINED BY THE ASSESSING OFFICER. CBDT HAD ISSUED CIRCULAR NO.12 ON 23.8.2001 SPECIFYING THAT ASSESSING OFFICER SHALL NOT MAKE ANY ADJUSTMENT TO THE PRICE SHOWN BY THE A SSESSEE IF IT IS WITHIN THE 5% BAND, THE EFFECT OF THE CIRCULAR WAS THAT TRANS FER PRICE SHOWN BY THE ASSESSEE WAS NOT TO BE DISTURBED IF IT WAS UP TO 5% LESS IN CASE OF RECEIPT AND UP TO 5% MORE IN CASE OF OUTGOING. THE RELAXATION E XTENDED BY THIS CIRCULAR WAS IN SUBSTANCE BROUGHT ON TO THE STATUTE BY THE F INANCE ACT 2002 BY AMENDING THE PROVISO TO SEC. 92C(2) WITH RETROSPECT IVE EFFECT FROM 1.4.2002. IT PROVIDES A TOLERANCE BAND. IT ALSO SUGGESTS THAT THERE WILL BE NO TP ADJUSTMENT IN CASES OF MARGINAL VARIATION UP TO 5% BUT SUBSTANTIAL 54 VARIATION WOULD RESULT IN APPROPRIATE TP ADJUSTMENT . LEARNED CIT(APPEALS) HAS EXPLAINED THE MEANING OF TOLERANCE BAND WHICH R EAD AS UNDER: WHETHER THERE IS AN INTERNATIONAL TRANSACTION INVO LVING SALE OF A PRODUCT OR EXPORT OF SERVICES, THERE WOULD BE A C REDIT ENTRY IN THE PROFIT & LOSS ACCOUNT. BY ALLOWING A MARGIN OF (-) 5% FOR SUCH A TRANSACTION, A TAXPAYER IS PERMITTED TO HAVE A CREDIT ENTRY WHICH IS NOT BELOW 95% OF THE ALP SO THAT PROFIT FR OM THE TRANSACTION IS NOT UNDERSTATED BEYOND THE TOLERANCE LEVEL OF (-) 5%. WHENEVER THERE IS AN INTERNATIONAL TRANSACTION INVO LVING PURCHASE OF A PRODUCT OR IMPORT OF SERVICES, THERE WOULD BE A DEBIT ENTRY IN THE PROFIT AND LOSS ACCOUNT. BY ALLO WING A MARGIN OF (+) 5% UNDER SUCH A TRANSACTION, A TAXPAYER IS P ERMITTED TO HAVE A DEBIT ENTRY WHICH IS NOT ABOVE 105% OF THE A LP SO THAT PROFIT FROM THE TRANSACTION IS NOT UNDERSTATED BEYO ND THE TOLERANCE LEVEL OF (+) 5%. 11.18.3 THE DECISION RULE CONTAINED IN THE PROVIS O TO THE SEC. 92C(2) OF THE ACT CONTAINING A TOLERANCE BAND IS AK IN TO A SIMILAR DECISION RULE OF CONFIDENCE INTERVAL USED IN THE TH EORY OF STATISTICAL INFERENCE. UNDER THAT THEORY, A 5% LEVEL OF SIGNIFI CANCE WOULD PROVIDE FOR A TOLERANCE BAND CONSISTING OF 95% & 105% OF TH E ARITHMETICAL MEAN AND THESE POINTS ARE KNOWN AS CRITICAL VALUES . THE RULE IS ONE OF ALL OR NOTHING KIND OF A SITUATION. IF A COM PUTED VALUE FALLS WITHIN THE TOLERANCE BAND, A FAVORABLE INFERENCE IS DRAWN. THE DECISION RULE CONTAINED IN THE PROVISO TO SECTION 9 2C(2) OF THE ACT 55 THUS IS A ALL OR NOTHING KIND OF RULE. AFTER AL L IN THE TRANSFER PRICING ANALYSIS, A SAMPLE SET OF COMPARABLES ALONG WITH THE DISTRIBUTION OF PROFITABILITY OF THIS SET IS EXAMIN ED AND AN INFERENCE IS SOUGHT TO BE DRAWN ABOUT THE APPROPRIATENESS OF PRO FITABILITY SHOWN BY A TAXPAYER. THEREFORE, STATISTICAL INFERENCE THE ORY BASED ON SAMPLING IS DIRECTLY APPLICABLE TO THE BENCHMARKING ANALYSIS CARRIED OUT IN THE TRANSFER PRICING ANALYSIS WITH THE HELP OF A SAMPLE SET OF COMPARABLES. THERE IS NO SCOPE FOR ANY STANDARD DE DUCTION UNDER THIS RULE. IN OTHER WORDS, IF THE ALP FALLS OUTSIDE THE TOLERANCE BAND, TP ADJUSTMENT WOULD HAVE TO BE MADE FOR THE DIFFERE NCE BETWEEN THE ALP DETERMINED BY THE A.O. BASED ON THE ARITHMETICA L MEAN OF THE PRICES AND THE PRICE SHOWN BY THE ASSESSEE 45. THE CONTENTION OF THE LEARNED COUNSEL FOR THE A SSESSEE WAS THAT ARITHMETIC MEAN OF THE COMPARABLE PRICE SHOULD BE R EDUCED BY 5% FOR DETERMINING THE ALP. HE POINTED OUT THAT IN 2009, T HE PROVISO APPENDED TO SECTION 92C HAS BEEN AMENDED BUT THIS AMENDMENT WOU LD BE APPLICABLE PROSPECTIVELY, BECAUSE THE BASIS OF DETERMINATION O F ALP IN RESPECT OF INTERNATIONAL TRANSACTION GET CHANGED. THIS AMENDME NT EFFECTS IMPOSING A NEW LIABILITY BY TAKING THE OPTION AWAY FROM THE TA XPAYERS. THUS, ACCORDING TO THE LEARNED COUNSEL FOR THE ASSESSEE, THE AMENDE D PROVISO IS NOT APPLICABLE. ON THE OTHER HAND, LEARNED DR HAS SUBMI TTED THAT UNDER THE PROVISO NO STANDARD DEDUCTION HAS BEEN PROVIDED TO THE ASSESSEE. 56 46. ON DUE CONSIDERATION OF THE FACTS AND CIRCUMSTA NCES AND PERUSAL OF THE PROVISO INTRODUCED IN 2002 AS WELL AS IN 2009, WE A RE OF THE VIEW THAT THIS TOLERANCE BAND PROVIDED IN THE PROVISO IS NOT TO BE CONSTRUED AS A STANDARD DEDUCTION. IN THE PRESENT APPEALS, LEARNED TPO HAS ADOPTED THE ARITHMETIC MEAN OF SEVERAL COMPARABLES FOR TAKING OUT A PLI WH ICH WOULD BE TESTED WITH THE PLI OF THE ASSESSEE. IF THAT ARITHMETIC ME AN FALLS WITHIN THE RANGE OF ALLEGED TOLERANCE BAND THEN THERE MAY NOT BE ANY AD JUSTMENT BUT IF IT EXCEEDS THEN ULTIMATE ADJUSTMENT IS NOT REQUIRED TO BE COMP UTED AFTER REDUCING THE ARITHMETIC MEAN BY 5%. THE ACTUAL WORKING IS TO BE TAKEN. LEARNED FIRST APPELLATE AUTHORITY HAS CONSIDERED THIS ASPECT ELAB ORATELY IN ASSESSMENT YEAR 2003-04 AND AFTER GOING THROUGH HIS ORDER, WE DO NOT SEE ANY MERIT IN THE GROUND OF APPEAL RAISED BY THE ASSESSEE IN ALL THESE THREE ASSESSMENT YEARS. 47. IN ASSESSMENT YEAR 2006-07, THE NEXT GRIEVANCE OF THE ASSESSEE IS THAT THE ASSESSING OFFICER HAS ERRED IN TREATING THE SOF TWARE EXPENSES AS CAPITAL IN NATURE. LEARNED DRP HAS ERRED IN UPHOLDING THE C ONCLUSION OF THE ASSESSING OFFICER. THE BRIEF FACTS OF THE CASE ARE THAT THE ASSESSEE HAS DEBITED AN AMOUNT OF RS.4,88,63,330 ON ACCOUNT OF C OMPUTER SOFTWARE. IT HAS CAPITALIZED A SUM OF RS.1,31,41,004 IN THE COMP UTATION OF INCOME. THE 57 ASSESSEE HAD CLAIMED A SUM OF RS.2,81,60,384 AS REV ENUE EXPENSES. CONTENTION OF THE ASSESSEE IS THAT THIS EXPENDITURE WAS INCURRED FOR ACQUIRING THE LICENSE TO USE OF SOFTWARE FOR A PERIOD OF ONE YEAR OR LESS THAN TWO YEARS. ASSESSING OFFICER IN THE DRAFT ORDER PROPOSED THAT LICENSE FOR USE OF SOFTWARE TAKEN BY THE ASSESSEE WOULD GIVE ENDURING BENEFIT A ND HENCE IT DESERVES TO BE TREATED AS A CAPITAL EXPENDITURE. LEARNED DRP WI THOUT CONSIDERING THE ARGUMENTS OF ASSESSEE HAS UPHELD THE PROPOSAL OF TH E ASSESSEE BY OBSERVING IN THE FOLLOWING LINES: WE HAVE GONE THROUGH THE SUBMISSIONS MADE BY THE A R, IT IS NOTICED THAT THIS ISSUE WAS INVOLVED IN ASSESSEES OWN CASE FOR A.Y. 2003-04 & 2004-05. THE LEARNED CIT(APPEALS) HAS DECIDED THE ISSUE IN FAVOUR OF DEPARTMENT AGAINST WHICH THE ASSESSEE HAS FILED APPEAL TO ITAT. THE APPEAL IS PENDING AND THE ISSUES HAS NOT ATTAIN FINALITY. HENCE, WE DECLINE TO INTERFERE IN THE ORDER OF THE A.O. 48. BEFORE US, IT WAS SUBMITTED THAT THE ASSESSEE H AS INCURRED THIS AMOUNT FOR ACQUIRING THE TIME BASED LICENSE TO USE THE SOF TWARE. THESE LICENSES IN ALL THE CASE GAVE THE ASSESSEE RIGHT TO USE THE SOFTWAR E FOR THE PERIOD UP TO TWO YEARS. THERE IS NO ENDURING BENEFIT ACCRUED TO THE ASSESSEE. IT HAD NOT ACQUIRED ANY OWNERSHIP RIGHT OVER THAT PRODUCT. THE OWNERSHIP TITLE FOR THE SOFTWARE REMAINED WITH THE VENDOR AND THE ASSESSEE HAD ONLY LICENSE TO USE THIS SOFTWARE. THE ASSESSEE HAS RELIED UPON THE DEC ISION OF ITAT IN THE CASE 58 OF AM WAY INDIA ENTERPRISES VS. DCIT REPORTED IN 11 1 ITD 113 (DEL). SPECIAL BENCH HAS LAID DOWN VARIOUS TESTS WHICH WOU LD BE HELPFUL FOR THE ADJUDICATING AUTHORITY TO DECIDE WHETHER EXPENSE IN CURRED BY THE ASSESSEE IS OF CAPITAL NATURE OR OF REVENUE NATURE. ACCORDING T O THE ASSESSEE, THE ITAT HAS BASICALLY LAID DOWN THREE TESTS WHICH ARE OWNER SHIP TESTS, TEST OF ENDURING BENEFIT AND FUNCTIONAL TESTS. IF ALL THE T HREE TESTS ARE APPLIED ON THE FACTS OF THE ASSESSEE THEN IT WOULD REVEAL THAT IT IS A REVENUE EXPENDITURE. THE LEARNED COUNSEL FOR THE ASSESSEE FURTHER RELIED UPO N THE ORDER OF THE ITAT RENDERED IN THE CASE OF DCIT VS. MOHINDRA REALITY & INFO. DEVELOPERS REPORTED IN 2011 TIOL 115. ON THE OTHER HAND, LEARN ED DR RELIED UPON THE ORDER OF THE ASSESSING OFFICER. 49. WE HAVE DULY CONSIDERED THE RIVAL CONTENTIONS A ND GONE THROUGH THE RECORD CAREFULLY. WE FIND THAT LEARNED DRP HAS NOT APPLIED ITS MIND TO THE DISPUTE RAISED BY THE ASSESSEE. ACCORDING TO THE LE ARNED COUNSEL FOR THE ASSESSEE, REFERENCE TO ASSESSMENT YEARS 2003-04 AND 2004-05 IS MISPLACED. THERE IS NO SUCH DISPUTE IN THOSE TWO YEARS. WE HAV E DISPOSED OF THE APPEALS OF BOTH THE PARTIES FOR THESE TWO YEARS ALONG WITH THE PRESENT APPEAL. WE ALSO DO NOT FIND ANY SUCH DISPUTE IN THOSE YEARS. IT SUG GESTS THAT LEARNED DRP HAS CONSIDERED THIS ISSUE WITHOUT MAKING PROPER ANALYSI S. ON PERUSAL OF THE ASSESSMENT ORDER, WE FIND THAT THE ASSESSING OFFICE R WHILE CONSIDERING THE 59 RATIOS LAID DOWN BY THE SPECIAL BENCH OF THE ITAT H AS OBSERVED THAT SPECIAL BENCH WAS NOT CORRECT IN INTERPRETING THE LAW. IN O UR OPINION, IT IS NOT FOR THE ASSESSING OFFICER TO COMMENT UPON THE ORDERS OF THE HIGHER AUTHORITIES RATHER SHE IS BOUND TO FOLLOW THEM. IF REVENUE HAS ANY GRIEVANCE WITH THE PROPOSITION LAID DOWN BY THE SPECIAL BENCH THEN THE RE ARE REMEDIES IN THE ACT, TO REDRESS THOSE GRIEVANCES. THE UNDERSTANDING OF THE ASSESSING OFFICER WITH REGARD TO THE RATIOS LAID DOWN BY THE SPECIAL BENCH, IS NOT APPRECIABLE. THE ASSESSEE HAS NOT ACQUIRED ANY OWNERSHIP IN THE ALLEGED LICENSE AND THE LICENSES SELF LIFE IS LESS THAN TWO YEARS. THE NAT URE OF ASSESSEES BUSINESS IS SUCH THAT WHICH REQUIRED COMPUTER SOFTWARE. THEREFO RE, THE EXPENSES INCURRED BY THE ASSESSEE FOR OBTAINING THE LICENSE TO USE THE SOFTWARE IS TO BE TREATED AS REVENUE EXPENDITURE. RESPECTFULLY FOLLOW ING THE ORDER OF THE ITAT IN THE CASE OF AM WAY INDIA, WE ALLOW THIS GROUND O F APPEAL AND DELETE THE DISALLOWANCE. 50. IN THE NEXT GROUND OF APPEAL, ASSESSEE HAS PLE ADED THAT AN AMOUNT OF RS. 86,17,266 PAID BY THE ASSESSEE TO NOIDA DEV. AU THORITY SHOULD NOT BE TREATED AS CAPITAL EXPENDITURE. THE BRIEF FACTS OF THE CASE ARE THAT THE A LAND BEARING PLOT NOS. 2 AND 3 IN SECTOR 16A WAS EARLIER ALLOTTED TO THE SGS THUMPSON MICROELECTRONICS INDIA LTD. THE NAME OF AL LOTTEE HAS BEEN GOT CHANGED BY THE ASSESSEE, THE NEW NAME ST MICROELECT RONIC (P) LTD. HAS BEEN 60 INSERTED. NOIDA DEVELOPMENT AUTHORITY DIRECTED THE ASSESSEE TO PAY 10% OF THE PREVALENT RATE AS CHARGES FOR CHANGE OF OWNE RSHIP. IT APPEARS THAT ASSESSEE HAS CONTENDED BEFORE THE REVENUE AUTHORITY THAT AMOUNT PAID BY THE ASSESSEE BE ALLOWED AS REVENUE EXPENSES OR IT BE CA PITALIZED IN THE VALUE OF ASSETS FOR THE PURPOSE OF CAPITAL GAIN AS AND WHEN THE ASSETS WOULD BE SOLD. BOTH THESE PLEAS HAVE BEEN REJECTED BY THE LEARNED DRP. ACCORDING TO THE LEARNED DRP, COST OF ACQUISITION OR COST OF IMPROVE MENT CAN BE INCLUDED FOR THE PURPOSE OF INDEXATION WHILE COMPUTING THE CAPIT AL GAIN UNDER SEC. 48 OF THE ACT. THE CHARGES PAID BY THE ASSESSEE TO NOIDA DEVELOPMENT AUTHORITY ARE NEITHER COST OF ACQUISITION OR THE COST OF IMPR OVEMENT. THEREFORE, IT CANNOT BE INCLUDED IN THE VALUE OF ASSETS. 51. BEFORE US, LEARNED COUNSEL FOR THE ASSESSEE HAS POINTED OUT THE LETTER OF NOIDA AUTHORITY AVAILABLE AT PAGES 666 TO 668 OF THE PAPER BOOK AND SUBMITTED THAT THE EXPENSES PAID BY THE ASSESSEE BE ALLOWED TO IT. ON THE OTHER HAND, LEARNED DR RELIED UPON THE ORDER OF THE ASSESSING OFFICER. 52. WE HAVE DULY CONSIDERED THE RIVAL CONTENTIONS A ND GONE THROUGH THE RECORD CAREFULLY. FROM THE PERUSAL OF THE LETTER WR ITTEN BY NOIDA AUTHORITY, EXACT NATURE OF CHARGES IS NOT DISCERNIBLE, WHETHER IT IS PAID IN LIEU OF STAMP 61 DUTY FOR CHANGE IN NAME OF OWNER IN THE REVENUE REC ORD? LEARNED REPRESENTATIVE FAILED TO BRING THE REVENUE LAWS OF THE UP STATE AUTHORIZING THE NOIDA AUTHORITY FOR CHARGING SUCH AN AMOUNT. AS SESSING OFFICER HAS ALSO NOT EXAMINED THE ISSUE ELABORATELY. IN THE ABS ENCE OF COMPLETE FACTS, IT IS QUITE DIFFICULT TO ADJUDICATE THE ISSUE. THE CON TENTIONS OF THE ASSESSEE FOR INCLUSION OF THIS AMOUNT IN THE COST OF LAND CAN ON LY BE CONSIDERED WHEN EXACT NATURE OF THE SUM PAID BY THE ASSESSEE IS DET ERMINED. CONSIDERING ALL THESE ASPECTS, WE DEEM IT APPROPRIATE TO SET ASIDE THE ORDER OF THE LEARNED DRP AS WELL AS OF THE ASSESSING OFFICER, WE RESTORE THIS ISSUE TO THE ASSESSING OFFICER FOR FRESH EXAMINATION. AFTER ASCE RTAINING THE COMPLETE FACTS, ASSESSING OFFICER SHALL PASS FRESH ORDER ON THIS ISSUE IN ACCORDANCE WITH LAW. 53. IN THE RESULT, ITA NO.1806 & 1807, 1598 AND 159 9/DEL/08 ARE DISMISSED AND ITA NO.5058/DEL/2010 IS PARTLY ALLOWE D. DECISION PRONOUNCED IN THE OPEN COURT ON 03.06.20 11 SD/- SD/- ( B.C. MEENA ) ( RAJPAL YADAV ) ACCOUNTANT MEMBER JUDICIAL MEMBER DATED: 03/06/2011 MOHAN LAL 62 COPY FORWARDED TO: 1) APPELLANT 2) RESPONDENT 3) CIT 4) CIT(APPEALS) 5) DR:ITAT ASSISTANT REGISTRAR