Moog Controls (India) Private Limited, Bangalore V. CIT, Bangalore

ITA 551/BANG/2015

• Counselvise Citation: [2015] 140 COUNSELVISE.COM (IT) 95383 (ITAT-BANGALORE)
• Duration Of Justice: 7 month(s) 26 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 27-11-2015
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: C
• Assessment Year: 2009-2010
• Appeal Filed On: 01-04-2015
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Department Lawyers: SUNIL KUMAR AGARWALA JT
• Assessee Lawyers: K R VASUDEVAN
• Keywords: Capital asset; Depreciation; Transfer pricing; International transaction; Revenue expenditure; Capital expenditure
• Section: 92D; 37(1); 10B

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL C BENCH : BANGALORE BEFORE SMT. ASHA VIJAYARAGHAVAN, JUDICIAL MEMBER AND SHRI ABRAHAM P. GEORGE, ACCOUNTANT MEMBER IT(TP)A NO.551/BANG/2015 ASSESSMENT YEAR : 2009-10 MOOG CONTROLS (INDIA) PVT. LTD., NO.41P/99P/100P, KIADB INDUSTRIAL AREA, ELECTRONICS CITY, PHASE-II, BANGALORE 560 100. PAN: AABCM 3226G VS. THE DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE 12(1), BANGALORE. APPELLANT RESPONDENT APPELLANT BY : SHRI K.R. VASUDEVAN, ADVOCATE RESPONDENT BY : SHRI SUNIL KUMAR AGARWALA, JT. CIT(DR) DATE OF HEARING : 14.10.2015 DATE OF PRONOUNCEMENT : 27.11.2015 O R D E R PER ASHA VIJAYARAGHAVAN, JUDICIAL MEMBER THIS APPEAL IS BY THE ASSESSEE COMPANY DIRECTED AG AINST THE ORDER DATED 27.01.2015 OF THE CIT(APPEALS)-4, BANGALORE F OR THE ASSESSMENT YEAR 2009-10. 2. THE ASSESSEE COMPANY IS A SUBSIDIARY OF MOOG INC ., USA AND PROVIDES SOFTWARE DEVELOPMENT SERVICES TO ITS ASSOC IATED ENTERPRISE (AE). IT(TP)A NO.551/BANG/2015 PAGE 2 OF 34 THE ASSESSEE IS ALSO ENGAGED IN THE MANUFACTURE AND SALE OF SERVO CONTROL MECHANISMS AND COMPONENTS. DURING THE F.Y. 2008-09 , THE ASSESSEE HAD ENTERED INTO FOLLOWING INTERNATIONAL TRANSACTIONS W ITH AES:- 3. THE MARGINS EARNED BY THE ASSESSEE FOR THE F.Y. 2008-09 ARE AS FOLLOWS:- 4. THE FOLLOWING ARE THE COMPARABLE COMPANIES SELEC TED BY THE ASSESSEE IN THE TP DOCUMENTATION REGARDING ITS SOF TWARE DEVELOPMENT ACTIVITY:- IT(TP)A NO.551/BANG/2015 PAGE 3 OF 34 THE ASSESSEE EARNED AN OP/TC OF 14.60 PERCENT FOR F Y 2008-09, WITH RESPECT TO THE PROVISION OF SOFTWARE DEVELOPMENT SE RVICES TO ITS AES. AS THE OP/TC OF 14.60 PERCENT WAS HIGHER THAN THE AVERAGE OP/TC EARNED BY COMPARABLE COMPANIES IDENTIFIED IN THE TRANSFER PRI CING REPORT, IT WAS CONCLUDED THAT THE INTERNATIONAL TRANSACTIONS WERE AT ARMS LENGTH. 5. THE COMPARABLE COMPANIES SELECTED BY THE TPO IN HIS TP ORDER FOR THE AY 2009-10 ARE AS FOLLOWS:- IT(TP)A NO.551/BANG/2015 PAGE 4 OF 34 6. THE ARMS LENGTH PRICE (ALP) WORKED OUT BY THE T PO WAS AS UNDER:- 7. AGGRIEVED BY THE ORDER OF THE LOWER AUTHORITIES, THE ASSESSEE IS IN APPEAL BEFORE US ON THE FOLLOWING GROUNDS OF APPEAL :- IT(TP)A NO.551/BANG/2015 PAGE 5 OF 34 1. THE LEARNED ASSESSING OFFICER (AO), THE LEAR NED DEPUTY COMMISSIONER OF INCOME TAX (TRANSFER PRICING OFFICE R II), BANGALORE (TRANSFER PRICING OFFICER OR TPO) AND THE HONOURABLE COMMISSIONER OF INCOME TAX (APPEALS) (H ONBLE CIT (A)) HAVE ERRED IN LAW AND FACTS OF THE CASE I N PROPOSING A TRANSFER PRICING ADJUSTMENT UNDER SECTION 92CA OF T HE INCOME-TAX ACT, 1961 (THE ACT) AMOUNTING TO RS. 91,03,983/- IN RELATION TO THE PROVISION OF SOFTWARE DEVELOPMENT SERVICES TO T HE ASSOCIATED ENTERPRISES (AES). 2. THE LEARNED ASSESSING OFFICER (AO), TRANSFER PRICING OFFICER (TPO) AND HONBLE CIT(A) HAVE ERRED IN DI SREGARDING THE ECONOMIC ANALYSIS PERFORMED BY THE APPELLANT IN THE TRANSFER PRICING (TP) DOCUMENTATION JUSTIFYING THE ARMS L ENGTH NATURE OF THE INTERNATIONAL TRANSACTIONS WITH THE AES. 3. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ERR ED IN REJECTING THE TP DOCUMENTATION OF THE APPELLANT CON TENDING THE SAME IS DEFECTIVE AND NOT RELIABLE. 4. THE LEARNED AO, TPO AND HONBLE CIT(A) (A) HAVE ERRED IN NOT CONSIDERING MULTIPLE YEAR/PRIOR YEAR DATA OF COMPARABLE COMPANIES WHILE DETERMINING ARMS LENGTH PRICE. 5. THE LEARNED AO, TPO AND HONBLE CIT(A) ERRED IN USING DATA AS AT THE TIME OF ASSESSMENT PROCEEDINGS, INST EAD OF THAT AVAILABLE AS ON THE DATE OF PREPARING THE TP DOCUME NTATION FOR COMPARABLE COMPANIES WHILE DETERMINING ARMS LENGTH PRICE. 6. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ERR ED IN REJECTING COMPANIES SELECTED AS COMPARABLE BY THE A PPELLANT IN THE TP DOCUMENTATION AND HAVE ERRED IN SELECTING/IN TRODUCING COMPANIES WHICH ARE NOT COMPARABLE TO THE APPELLANT ON CONDUCTING A FRESH COMPARABILITY ANALYSIS AND ON IN TRODUCTION OF ADDITIONAL FILTERS IN DETERMINATION OF ARMS LENGTH PRICE. 7. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ERR ED IN REJECTING THINKSOFT GLOBAL SERVICES LTD. AND FCS SO FTWARE SOLUTIONS LTD. ON THE GROUND THAT THE WORKING CAPIT AL ADJUSTMENT FOR THESE COMPANIES ARE SUBSTANTIAL. 8. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ERR ED IN NOT REJECTING BODHTREE CONSULTING LTD. AND KALS INF ORMATION SYSTEMS LTD. BEING FUNCTIONALLY DISSIMILAR TO THE A PPELLANT. IT(TP)A NO.551/BANG/2015 PAGE 6 OF 34 9. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ERR ED IN IGNORING THE LIMITED RISK NATURE OF THE CONTRACTUAL SERVICES PROVIDED BY THE APPELLANT AND IN NOT PROVIDING AN A PPROPRIATE ADJUSTMENT TOWARDS THE RISK DIFFERENTIAL, EVEN WHEN THE FULL- FLEDGED ENTREPRENEURIAL COMPANIES ARE SELECTED AS C OMPARABLE COMPANIES. 10. THE LEARNED AO, TPO AND HONBLE CIT(A) HAVE ER RED IN APPLYING AN UPPER CAP IN GRANT OF WORKING CAPITAL A DJUSTMENT. 11. THE APPELLANT RETAINS THE RIGHT TO HAVE THE BE NEFIT OF APPLYING THE RANGE OF +1- 5% IN DETERMINATION OF AR MS LENGTH PRICE. 8. THE FINAL SET OF 11 COMPARABLE COMPANIES SELECTE D BY THE TPO ARE AS FOLLOWS:- SL. NO NAME OF COMPANY SALES (IN RS.) COST (IN RS.) MARGIN 1 KALS INFORMATION SYSTEM LTD. 2,14,04,686 1,87,93,813 13.89% 2 AKSHAY SOFTWARE TECHNOLOGIES LTD. 12,23,21,483 11,31,49,350 8.11% 3 BODHTREE CONSULTING LTD. 16,05,75,212 9,89,56,821 62.27% 4 R S SOFTWARE (INDIA) LTD. 1,49,57,12,634 1,36,01,02,589 9.97% 5 TATA ELXSI LTD. (SEG.) 3,78,43,03,000 3,14,63,15,000 20.28% 6 SASKEN COMMUNICATION TECHNOLOGIES LTD. 4,05,31,20,000 3,18,69,97,000 27.91% 7 PERSISTENT SYSTEMS LTD. 5,19,69,10,000 3,67,52,70,000 41.40% 8 ZYLOG SYSTEMS LTD. 7,34,93,51,475 6,81,69,98,160 7.81% 9 MINDTREE LTD. (SEG.) 7,93,22,79,326 5,74,06,73,058 5.52% 10 LARSEN & TOUBRO INFOTECH 19,50,83,81,374 15,64,12,76,626 24.72% 11 INFOSYS LTD. 2,02,64,00,00,000 1,39,17,00,00,000 45.61% AVERAGE MEAN 24.32% IT(TP)A NO.551/BANG/2015 PAGE 7 OF 34 9. WITH RESPECT TO SL.NOS.5, 6, 7, 8, 9, 10 & 11 OF THE FINAL LIST OF COMPARABLES SELECTED BY THE TPO, THE LD. COUNSEL FO R THE ASSESSEE PLEADED THAT THESE COMPARABLES HAVE TO BE REJECTED SINCE THE TURNOVER FILTER IS MORE THAN RS.200 CRORES. 10. IT HAS BEEN HELD BY THIS TRIBUNAL IN THE CASE OF TRILOGY E-BUSINESS SOFTWARE INDIA PVT. LTD. IN ITA NO.1054/BANG/2011 D ATED 23.11.2012 THAT COMPANIES WITH A TURNOVER OF MORE THAN RS.200 CRORE S CANNOT BE TAKEN AS COMPARABLES WHILE DETERMINING THE ALP IN THE CASE O F COMPANIES HAVING TURNOVER OF LESS THAN RS.200 CRORES. THE FOLLOWING ARE THE RELEVANT OBSERVATIONS OF THE TRIBUNAL IN THIS REGARD:- (1) TURNOVER FILTER 11. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THA T THE TPO HAS APPLIED A LOWER TURNOVER FILTER OF RS. 1 CRORE, BUT HAS NOT CHOSEN TO APPLY ANY UPPER TURNOVER LIMIT. IN THIS REGARD, IT WAS SUBMITTED BY HIM THAT UNDER RULE 10B(3) TO THE INCO ME-TAX RULES, IT WAS NECESSARY FOR COMPARING AN UNCONTROLLED TRAN SACTION WITH AN INTERNATIONAL TRANSACTION THAT THERE SHOULD NOT BE ANY DIFFERENCE BETWEEN THE TRANSACTIONS COMPARED OR THE ENTERPRISES ENTERING INTO SUCH TRANSACTION, WHICH ARE LIKELY TO MATERIALLY AFFECT THE PRICE OR COST CHARGED OR PAID OR PROFIT ARISING FROM SUCH TRANSACTION IN THE OPEN MARKET. FURTHER IT IS ALSO NECESSARY TO SEE THAT WHEREVER THERE ARE SOME DIFFERENCES SUCH DIFFE RENCES SHOULD BE CAPABLE OF REASONABLE ACCURATE ADJUSTMENT IN MON ETARY TERMS TO ELIMINATE THE EFFECT OF SUCH DIFFERENCES. IT WA S HIS SUBMISSION THAT SIZE WAS AN IMPORTANT FACET OF THE COMPARABILI TY EXERCISE. IT WAS SUBMITTED THAT SIGNIFICANT DIFFERENCES IN SIZE OF THE COMPANIES WOULD IMPACT COMPARABILITY. IN THIS REGA RD OUR ATTENTION WAS DRAWN TO THE DECISION OF THE SPECIAL BENCH OF THE ITAT CHANDIGARH BENCH IN THE CASE OF DCIT V. QUARK SYSTEMS IT(TP)A NO.551/BANG/2015 PAGE 8 OF 34 PVT. LTD. 38 SOT 207 , WHEREIN THE SPECIAL BENCH HAD LAID DOWN THAT IT IS IMPROPER TO PROCEED ON THE BASIS OF LOWE R LIMIT OF 1 CRORE TURNOVER WITH NO HIGHER LIMIT ON TURNOVER, AS THE SAME WAS NOT REASONABLE CLASSIFICATION. SEVERAL OTHER DECIS IONS WERE REFERRED TO IN THIS REGARD LAYING DOWN IDENTICAL PR OPOSITION. WE ARE NOT REFERRING TO THOSE DECISIONS AS THE DECISIO N OF THE SPECIAL BENCH ON THIS ASPECT WOULD HOLD THE FIELD. REFEREN CE WAS ALSO MADE TO THE OECD TP GUIDELINES, 2010 WHEREIN IT HAS BEEN OBSERVED AS FOLLOWS:- SIZE CRITERIA IN TERMS OF SALES, ASSETS OR NUMBER OF EMPLOYEES: THE SIZE OF THE TRANSACTION IN ABSOLUTE VALUE OR IN PROPORTION TO THE ACTIVITIES OF THE PAR TIES MIGHT AFFECT THE RELATIVE COMPETITIVE POSITIONS OF THE BUYER AND SELLER AND THEREFORE COMPARABILITY. 12. THE ICAI TP GUIDELINES NOTE ON THIS ASPECT LAY DOWN IN PARA 15.4 THAT A TRANSACTION ENTERED INTO BY A RS. 1,000 CRORE COMPANY CANNOT BE COMPARED WITH THE TRANSACTION ENT ERED INTO BY A RS. 10 CRORE COMPANY. THE TWO MOST OBVIOUS REASON S ARE THE SIZE OF THE TWO COMPANIES AND THE RELATIVE ECONOMIE S OF SCALE UNDER WHICH THEY OPERATE. THE FACT THAT THEY OPERA TE IN THE SAME MARKET MAY NOT MAKE THEM COMPARABLE ENTERPRISES. T HE RELEVANT EXTRACT IS AS FOLLOWS [ON RULE 10B(3)]: CLAUSE (I) LAYS DOWN THAT IF THE DIFFERENCES ARE NOT MATERIAL, THE TRANSACTIONS WOULD BE COMPARABLE. THESE DIFFERENCES COULD EITHER BE WITH REFERENCE TO THE TRANSACTION OR WITH REFERENCE TO THE ENTERPRISE. FOR INSTANCE, A TRANSACTION ENTERED INTO BY A RS 1,000 CRORE COMPANY CANNOT BE COMPARED WITH THE TRANSACTION ENTERED INTO BY A RS 10 CRORE COMPANY. THE TWO MOST OBVIOUS REASONS ARE THE SIZE OF THE TWO COMPANIES AND THE RELATIVE ECONOMIES OF SCALE UNDER WHICH THEY OPERATE. 13. IT WAS FURTHER SUBMITTED THAT THE TPOS RANGE ( RS. 1 CRORE TO INFINITY) HAS RESULTED IN SELECTION OF COMPANIES LIKE INFOSYS WHICH IS 277 TIMES BIGGER THAN THE ASSESSEE (TURNOV ER OF RS. 13,149 CRORES AS COMPARED TO RS. 47.47 CRORES OF AS SESSEE). IT WAS SUBMITTED THAT AN APPROPRIATE TURNOVER RANGE S HOULD BE APPLIED IN SELECTING COMPARABLE UNCONTROLLED COMPAN IES. IT(TP)A NO.551/BANG/2015 PAGE 9 OF 34 14. REFERENCE WAS MADE TO THE DECISION OF THE ITAT BANGALORE BENCH IN THE CASE OF GENESIS INTEGRATING SYSTEMS (INDIA) PVT. LTD. V. DCIT, ITA NO.1231/BANG/2010 , WHEREIN RELYING ON DUN AND BRADSTREETS ANALYSIS, THE TURNO VER OF RS. 1 CRORE TO RS. 200 CRORES WAS HELD TO BE PROPER. THE FOLLOWING RELEVANT OBSERVATIONS WERE BROUGHT TO OUR NOTICE:- 9. HAVING HEARD BOTH THE PARTIES AND HAVING CONSIDERED THE RIVAL CONTENTIONS AND ALSO THE JUDIC IAL PRECEDENTS ON THE ISSUE, WE FIND THAT THE TPO HIMSELF HAS REJECTED THE COMPANIES WHICH .IRE (SIC) MAKING LOSSES AS COMPARABLES. THIS SHOWS THAT THERE IS A LIMIT FOR THE LOWER END FOR IDENTIFYING THE COMPARABLES. IN SUCH A SITUATION, WE ARE UNABLE TO UNDERSTAND AS TO WHY THERE SHOULD NOT BE AN UPPER LIMIT ALSO. WHAT SHOULD BE UPPER LIMIT IS ANOTHER FACTOR TO BE CONSIDERED. WE AGREE WITH THE CONTENTION OF THE LEARNED COUNSEL FOR THE ASSESSEE THAT THE SIZE MATTERS IN BUSINESS. A BIG COMPANY WOULD BE IN A POSITION TO BARGAIN THE PRICE AND ALS O ATTRACT MORE CUSTOMERS. IT WOULD ALSO HAVE A BROAD BASE OF SKILLED EMPLOYEES WHO ARE ABLE TO GIVE BETTER OUTPUT. A SMALL COMPANY MAY NOT HAVE THESE BENEFITS AND THEREFORE, THE TURNOVER ALSO WOULD COME DOWN REDUCING PROFIT MARGIN. THUS, AS HELD BY THE VARIOUS BENCHES OF THE TRIBUNAL, WHEN COMPANIES WHICH ARC LOSS MAKING ARE EXCLUDED FROM COMPARABLES, THEN THE SUPER PROFIT MAKING COMPANIES SHOULD ALSO BE EXCLUDED. FOR THE PURPOSE OF CLASSIFICATION OF COMPANIES ON THE BASIS OF NET SALES OR TURNOVER, WE FIND THAT A REASONABLE CLASSIFICATION HAS TO BE MADE. DUN & BRADSTREET & BRADSTREET AND NASSCOM HAVE GIVEN DIFFERENT RANGES. TAKING THE INDIAN SCENARIO INTO CONSIDERATION, WE FEEL THAT THE CLASSIFICATION MADE BY DUN & BRADSTREET IS MORE SUITABLE AND REASONABLE. IN VIEW OF THE SAME, WE HOLD THAT THE TURNOVER FILTER IS VERY IMPORTANT AND THE COMPANIES HAVING A TURNOVER OF RS.1.00 CRORE TO 200 CRORES HAVE TO BE TAKEN AS A PARTICULAR RANGE AND THE ASSESSEE BEING IN THAT RANGE HAVING TURNOVER OF 8.15 CRORES, THE COMPANIES WHICH ALSO HAVE TURNOVER OF 1.00 TO 200.00 CRORES ONLY SHOULD BE TAKEN INTO CONSIDERATION FOR THE PURPOSE OF MAKING TP STUDY. IT(TP)A NO.551/BANG/2015 PAGE 10 OF 34 15. IT WAS BROUGHT TO OUR NOTICE THAT THE ABOVE PRO POSITION HAS ALSO BEEN FOLLOWED BY THE HONOURABLE BANGALORE ITAT IN THE FOLLOWING CASES: 1. M/S KODIAK NETWORKS (INDIA) PRIVATE LIMITED VS. ACIT (ITA NO.1413/BANG/2010) 2. M/S GENESIS MICROCHIP (I) PRIVATE LIMITED VS. D CIT (ITA NO.1254/BANG/20L0). 3. ELECTRONIC FOR IMAGING INDIA PRIVATE LIMITED (I TA NO. 1171/BANG/2010). IT WAS FINALLY SUBMITTED THAT COMPANIES HAVING TURN OVER MORE THAN RS. 200 CRORES OUGHT TO BE REJECTED AS NOT COM PARABLE WITH THE ASSESSEE. 16. THE LD. DR, ON THE OTHER HAND POINTED OUT THAT EVEN THE ASSESSEE IN ITS OWN TP STUDY HAS TAKEN COMPANIES HA VING TURNOVER OF MORE THAN RS. 200 CRORES AS COMPARABLES . IN THESE CIRCUMSTANCES, IT WAS SUBMITTED BY HIM THAT THE ASS ESSEE CANNOT HAVE ANY GRIEVANCE IN THIS REGARD. 17. WE HAVE CONSIDERED THE RIVAL SUBMISSIONS. THE PROVISIONS OF THE ACT AND THE RULES THAT ARE RELEVANT FOR DECI DING THE ISSUE HAVE TO BE FIRST SEEN. SEC.92. OF THE ACT PROVIDES THAT ANY INCOME ARISING FROM AN INTERNATIONAL TRANSACTION SHALL BE COMPUTED HAVING REGARD TO THE ARMS LENGTH PRICE. SEC.92-B PROVIDES THAT INTERNATIONAL TRANSACTION MEANS A TRANSACTION BET WEEN TWO OR MORE ASSOCIATED ENTERPRISES, EITHER OR BOTH OF WHOM ARE NON- RESIDENTS, IN THE NATURE OF PURCHASE, SALE OR LEASE OF TANGIBLE OR INTANGIBLE PROPERTY, OR PROVISION OF SERVICES, OR L ENDING OR BORROWING MONEY, OR ANY OTHER TRANSACTION HAVING A BEARING ON THE PROFITS, INCOME, LOSSES OR ASSETS OF SUCH ENTER PRISES, AND SHALL INCLUDE A MUTUAL AGREEMENT OR ARRANGEMENT BETWEEN T WO OR MORE ASSOCIATED ENTERPRISES FOR THE ALLOCATION OR APPORT IONMENT OF, OR ANY CONTRIBUTION TO, ANY COST OR EXPENSE INCURRED O R TO BE INCURRED IN CONNECTION WITH A BENEFIT, SERVICE OR F ACILITY PROVIDED OR TO BE PROVIDED TO ANY ONE OR MORE OF SUCH ENTERP RISES. SEC.92- A DEFINES WHAT IS AN ASSOCIATED ENTERPRISE. IN THE PRESENT CASE THERE IS NO DISPUTE THAT THE TRANSACTION BETWEEN TH E ASSESSEE AND ITS AE WAS AN INTERNATIONAL TRANSACTION ATTRACTING THE PROVISIONS OF SEC.92 OF THE ACT. SEC.92C PROVIDES THE MANNER OF IT(TP)A NO.551/BANG/2015 PAGE 11 OF 34 COMPUTATION OF ARMS LENGTH PRICE IN AN INTERNATION AL TRANSACTION AND IT PROVIDES:- (1) THAT THE ARMS LENGTH PRICE IN RELATION TO AN INTERNATIONAL TRANSACTION SHALL BE DETERMINED BY AN Y OF THE FOLLOWING METHODS, BEING THE MOST APPROPRIATE METHOD, HAVING REGARD TO THE NATURE OF TRANSACTION OR CLASS OF TRANSACTION OR CLASS OF ASSOCIATED PERSONS OR FUNCTIONS PERFORMED BY SUCH PERSONS OR SUCH OTHER RELEVANT FACTORS AS THE BOARD MAY PRESCRIBE, NAMELY : ( A ) COMPARABLE UNCONTROLLED PRICE METHOD; ( B ) RESALE PRICE METHOD; ( C ) COST PLUS METHOD; ( D ) PROFIT SPLIT METHOD; ( E ) TRANSACTIONAL NET MARGIN METHOD; ( F ) SUCH OTHER METHOD AS MAY BE PRESCRIBED BY THE BOARD. (2) THE MOST APPROPRIATE METHOD REFERRED TO IN SUB- SECTION (1) SHALL BE APPLIED, FOR DETERMINATION OF ARMS LENGTH PRICE, IN THE MANNER AS MAY BE PRESCRIBED: PROVIDED THAT WHERE MORE THAN ONE PRICE IS DETERMINED BY THE MOST APPROPRIATE METHOD, THE ARM S LENGTH PRICE SHALL BE TAKEN TO BE THE ARITHMETICAL MEAN OF SUCH PRICES: PROVIDED FURTHER THAT IF THE VARIATION BETWEEN THE ARMS LENGTH PRICE SO DETERMINED AND PRICE AT WHICH THE INTERNATIONAL TRANSACTION HAS ACTUALLY BEEN UNDERTA KEN DOES NOT EXCEED FIVE PER CENT OF THE LATTER, THE PR ICE AT WHICH THE INTERNATIONAL TRANSACTION HAS ACTUALLY BE EN UNDERTAKEN SHALL BE DEEMED TO BE THE ARMS LENGTH PRICE. (3) WHERE DURING THE COURSE OF ANY PROCEEDING FOR T HE ASSESSMENT OF INCOME, THE ASSESSING OFFICER IS, ON THE BASIS OF MATERIAL OR INFORMATION OR DOCUMENT IN HIS POSSESSION, OF THE OPINION THAT ( A ) THE PRICE CHARGED OR PAID IN AN INTERNATIONAL TRANSACTION HAS NOT BEEN DETERMINED IN ACCORDANCE WITH SUB-SECTIONS (1) AND (2); OR IT(TP)A NO.551/BANG/2015 PAGE 12 OF 34 ( B ) ANY INFORMATION AND DOCUMENT RELATING TO AN INTERNATIONAL TRANSACTION HAVE NOT BEEN KEPT AND MAINTAINED BY THE ASSESSEE IN ACCORDANCE WITH THE PROVISIONS CONTAINED IN SUB-SECTION (1) OF SECTION 92D AND THE RULES MADE IN THIS BEHALF; OR ( C ) THE INFORMATION OR DATA USED IN COMPUTATION OF TH E ARMS LENGTH PRICE IS NOT RELIABLE OR CORRECT; OR ( D ) THE ASSESSEE HAS FAILED TO FURNISH, WITHIN THE SPECIFIED TIME, ANY INFORMATION OR DOCUMENT WHICH HE WAS REQUIRED TO FURNISH BY A NOTICE ISSUED UNDER SUB-SECTION (3) OF SECTION 92D, THE ASSESSING OFFICER MAY PROCEED TO DETERMINE THE ARMS LENGTH PRICE IN RELATION TO THE SAID INTERNAT IONAL TRANSACTION IN ACCORDANCE WITH SUB-SECTIONS (1) AND (2), ON THE BASIS OF SUCH MATERIAL OR INFORMATION OR DOCUMENT AVAILABLE WITH HIM: 18. RULE 10B OF THE IT RULES, 1962 PRESCRIBES RULES FOR DETERMINATION OF ARMS LENGTH PRICE UNDER SECTION 9 2C:- 10B. (1) FOR THE PURPOSES OF SUB-SECTION (2) OF SE CTION 92C, THE ARMS LENGTH PRICE IN RELATION TO AN INTER NATIONAL TRANSACTION SHALL BE DETERMINED BY ANY OF THE FOLLO WING METHODS, BEING THE MOST APPROPRIATE METHOD, IN THE FOLLOWING MANNER, NAMELY : (A). TO (D).. ( E ) TRANSACTIONAL NET MARGIN METHOD, BY WHICH, ( I ) THE NET PROFIT MARGIN REALISED BY THE ENTERPRISE FROM AN INTERNATIONAL TRANSACTION ENTERED INTO WITH AN ASSOCIATED ENTERPRISE IS COMPUTED IN RELATION TO COSTS INCURRED OR SALES EFFECTED OR ASSETS EMPLOYED OR TO BE EMPLOYED BY THE ENTERPRISE OR HAVING REGARD TO ANY OTHER RELEVANT BASE; ( II ) THE NET PROFIT MARGIN REALISED BY THE ENTERPRISE OR BY AN UNRELATED ENTERPRISE FROM A COMPARABLE UNCONTROLLED TRANSACTION OR A NUMBER OF SUCH TRANSACTIONS IS COMPUTED HAVING REGARD TO THE SAME BASE; IT(TP)A NO.551/BANG/2015 PAGE 13 OF 34 ( III ) THE NET PROFIT MARGIN REFERRED TO IN SUB- CLAUSE ( II ) ARISING IN COMPARABLE UNCONTROLLED TRANSACTIONS IS ADJUSTED TO TAKE INTO ACCOUNT THE DIFFERENCES, IF ANY, BETWEEN THE INTERNATIONAL TRANSACTION AND THE COMPARABLE UNCONTROLLED TRANSACTIONS, OR BETWEEN THE ENTERPRISES ENTERING INTO SUCH TRANSACTIONS, WHICH COULD MATERIALLY AFFECT THE AMOUNT OF NET PROFIT MARGIN IN THE OPEN MARKET; ( IV ) THE NET PROFIT MARGIN REALISED BY THE ENTERPRISE AND REFERRED TO IN SUB-CLAUSE ( I ) IS ESTABLISHED TO BE THE SAME AS THE NET PROFIT MARGIN REFERRED TO IN SUB-CLAUSE ( III ); ( V ) THE NET PROFIT MARGIN THUS ESTABLISHED IS THEN TAKEN INTO ACCOUNT TO ARRIVE AT AN ARMS LENGTH PRICE IN RELATION TO THE INTERNATIONAL TRANSACTION. (2) FOR THE PURPOSES OF SUB-RULE (1), THE COMPARABI LITY 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 TRANSFERRED OR SERVICES PROVIDED IN EITHER TRANSACTION; ( B ) THE FUNCTIONS PERFORMED, TAKING INTO ACCOUNT ASSETS EMPLOYED OR TO BE EMPLOYED AND THE RISKS ASSUMED, BY THE RESPECTIVE PARTIES TO THE TRANSACTIONS; ( C ) THE CONTRACTUAL TERMS (WHETHER OR NOT SUCH TERMS ARE FORMAL OR IN WRITING) OF THE TRANSACTIONS WHICH LAY DOWN EXPLICITLY OR IMPLICITLY HOW THE RESPONSIBILITIES, RISKS AND BENEFITS ARE TO BE DIVIDED BETWEEN THE RESPECTIVE PARTIES TO THE TRANSACTIONS; ( D ) CONDITIONS PREVAILING IN THE MARKETS IN WHICH THE RESPECTIVE 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 CAPITAL IN THE MARKETS, OVERALL ECONOMIC DEVELOPMENT IT(TP)A NO.551/BANG/2015 PAGE 14 OF 34 AND LEVEL OF COMPETITION AND WHETHER THE MARKETS ARE WHOLESALE OR RETAIL. (3) AN UNCONTROLLED TRANSACTION SHALL BE COMPARABLE TO AN INTERNATIONAL TRANSACTION IF ( I ) NONE OF THE DIFFERENCES, IF ANY, BETWEEN THE TRANSACTIONS BEING COMPARED, OR BETWEEN THE ENTERPRISES ENTERING INTO SUCH TRANSACTIONS ARE LIKELY TO MATERIALLY AFFECT THE PRICE OR COST CHARGED OR PAID IN, OR THE PROFIT ARISING FROM, SUCH TRANSACTIONS IN THE OPEN MARKET; OR ( II ) REASONABLY ACCURATE ADJUSTMENTS CAN BE MADE TO ELIMINATE THE MATERIAL EFFECTS OF SUCH DIFFERENCES. (4) THE DATA TO BE USED IN ANALYSING THE COMPARABIL ITY OF AN UNCONTROLLED TRANSACTION WITH AN INTERNATIONAL TRAN SACTION SHALL BE THE DATA RELATING TO THE FINANCIAL YEAR IN WHICH TH E INTERNATIONAL TRANSACTION HAS BEEN ENTERED INTO : PROVIDED THAT DATA RELATING TO A PERIOD NOT BEING MORE THAN TWO YEARS PRIOR TO SUCH FINANCIAL YEAR MAY ALS O BE CONSIDERED IF SUCH DATA REVEALS FACTS WHICH COULD H AVE AN INFLUENCE ON THE DETERMINATION OF TRANSFER PRICE S IN RELATION TO THE TRANSACTIONS BEING COMPARED. 19. A READING OF THE PROVISIONS OF RULE 10B(2) OF T HE RULES SHOWS THAT UNCONTROLLED TRANSACTION HAS TO BE COMPA RED WITH INTERNATIONAL TRANSACTION HAVING REGARD TO THE FACT ORS SET OUT THEREIN. BEFORE US THERE IS NO DISPUTE THAT THE TN MM IS THE MOST APPROPRIATE METHOD FOR DETERMINING THE ALP OF THE I NTERNATIONAL TRANSACTION. THE DISPUTES ARE WITH REGARD TO THE C OMPARABILITY OF THE COMPARABLE RELIED UPON BY THE TPO. 20. IN THIS REGARD WE FIND THAT THE PROVISIONS OF LAW POINTED OUT BY THE LD. COUNSEL FOR THE ASSESSEE AS WELL AS THE DECISIONS REFERRED TO BY THE LD. COUNSEL FOR THE ASSESSEE CLE ARLY LAY DOWN THE PRINCIPLE THAT THE TURNOVER FILTER IS AN IMPORTANT CRITERIA IN CHOOSING THE COMPARABLES. THE ASSESSEES TURNOVER I S RS. IT(TP)A NO.551/BANG/2015 PAGE 15 OF 34 47,46,66,638. IT WOULD THEREFORE FALL WITHIN THE C ATEGORY OF COMPANIES IN THE RANGE OF TURNOVER BETWEEN 1 CRORE AND 200 CRORES (AS LAID DOWN IN THE CASE OF GENESIS INTEGRATING SYSTEMS (INDIA) PVT. LTD. V. DCIT, ITA NO.1231/BANG/2010) . THUS, COMPANIES HAVING TURNOVER OF MORE THAN 200 CRORES H AVE TO BE ELIMINATED FROM THE LIST OF COMPARABLES AS LAID DOW N IN SEVERAL DECISIONS REFERRED TO BY THE LD. COUNSEL FOR THE AS SESSEE. APPLYING THOSE TESTS, THE FOLLOWING COMPANIES WILL HAVE TO BE EXCLUDED FROM THE LIST OF 26 COMPARABLES DRAWN BY T HE TPO VIZ., TURNOVER RS. (1) FLEXTRONICS SOFTWARE SYSTEMS LTD. 848.66 CR ORES (2) IGATE GLOBAL SOLUTIONS LTD. 747.27 CRORES (3) MINDTREE LTD. 590.39 CRORES (4) PERSISTENT SYSTEMS LTD. 293.74 CRORES (5) SASKEN COMMUNICATION TECHNOLOGIES LTD. 343.57 CRORES (6) TATA ELXSI LTD. 262.58 CRORES (7) WIPRO LTD. 961.09 CRORES. (8) INFOSYS TECHNOLOGIES LTD. 13149 CRORES. 11. RESPECTFULLY FOLLOWING THE DECISION OF THE TRI BUNAL REFERRED TO ABOVE, WE DIRECT THAT INFOSYS LTD., FLEXTRONICS SOFTWARE SYSTEMS LTD., IGATE GLOBAL SOLUTIONS LTD., MINDTREE CONSULT ING LTD., PERSISTENT SYSTEMS LTD., AND SASKEN COMMUNICATION LTD., ARE TO BE EXCLUDED AS COMPARABLES FOR THE PURPOSE OF DETERMINING THE ALP OF THE IMPUGNED TRANSACTION IN THIS APPEAL. 11. FOLLOWING THE DECISION OF THE TRIBUNAL IN THE C ASE OF TRILOGY E- BUSINESS SOFTWARE INDIA PVT. LTD. IN ITA NO.1054/BA NG/2011 DATED 23.11.2012, THESE 7 COMPANIES VIZ., TATA ELXSI LTD. (SEG.); SASKEN COMMUNICATION LTD. (SEG); PERSISTENT SYSTEMS LTD.; ZYLOG SYSTEMS LTD.; MINDTREE LTD.; LARSEN AND TOUBRO INFOTECH (SEG.) AN D INFOSYS TECHNOLOGIES LTD., ARE DIRECTED TO BE EXCLUDED FRO M THE LIST OF COMPARABLES CHOSEN BY THE TPO. 12. WITH RESPECT TO KALS INFORMATION SYSTEMS LTD., THE LD. COUNSEL FOR THE ASSESSEE STATED THAT THE ASSESSEE HAD ACCEPTED THE SAME AS A IT(TP)A NO.551/BANG/2015 PAGE 16 OF 34 COMPARABLE BEFORE THE CIT(APPEALS), BUT IT IS NOW S OUGHT TO BE REJECTED AS A COMPARABLE ON THE GROUND THAT IT IS FUNCTIONALLY DISSIMILAR. IT WAS ALSO CONTENDED THAT THE COMPANY IS INTO DEVELOPMENT OF S OFTWARE PRODUCTS AND THERE IS PRESENCE OF SIGNIFICANT INVENTORY. THE L D. COUNSEL FOR THE ASSESSEE RELIED ON THE DECISION OF CISCO SYSTEMS (INDIA) PVT. LTD. IN IT(TP)A NO.271/BANG/2014, ORDER DATED 14.08.2014, WHEREIN IT WAS HELD AS FOLLOWS:- 26.3 KALS INFORMATION SYSTEMS LTD. :- AS FAR AS THIS COMPANY IS CONCERNED, IT IS NOT IN DISPUTE BEFORE US THAT THIS COMPANY HAS BEEN CONSIDERED AS NOT COMPARABLE TO A PURE SOF TWARE DEVELOPMENT SERVICES COMPANY BY THE BANGALORE BENCH OF THE TRIB UNAL IN THE CASE OF M/S. TRILOGY E-BUSINESS SOFTWARE INDIA PVT. LTD. (SUPRA) . THE FOLLOWING WERE THE RELEVANT OBSERVATIONS OF THE TRI BUNAL:- (D) KALS INFORMATION SYSTEMS LTD. 46. AS FAR AS THIS COMPANY IS CONCERNED, THE CONTEN TION OF THE ASSESSEE IS THAT THE AFORESAID COMPANY HAS REVENUES FROM BOTH SOFTWARE DEVELOPMENT AND SOFTWARE PRODUCTS. BESIDE S THE ABOVE, IT WAS ALSO POINTED OUT THAT THIS COMPANY IS ENGAGE D IN PROVIDING TRAINING. IT WAS ALSO SUBMITTED THAT AS PER THE AN NUAL REPOT, THE SALARY COST DEBITED UNDER THE SOFTWARE DEVELOPMENT EXPENDITURE WAS RS. 45,93,351. THE SAME WAS LESS THAN 25% OF THE SOFTW ARE SERVICES REVENUE AND THEREFORE THE SALARY COST FILT ER TEST FAILS IN THIS CASE. REFERENCE WAS MADE TO THE PUNE BENCH TR IBUNALS DECISION OF THE ITAT IN THE CASE OF BINDVIEW INDIA PRIVATE LIMITED VS. DCI, ITA NO. ITA NO 1386/PN/1O WHEREIN KALS AS COMPARABLE WAS REJECTED FOR AY 2006-07 ON A CCOUNT OF IT BEING FUNCTIONALLY DIFFERENT FROM SOFTWARE COMPA NIES. THE RELEVANT EXTRACT ARE AS FOLLOWS: 16. ANOTHER ISSUE RELATING TO SELECTION OF COMPARA BLES BY THE TPO IS REGARDING INCLUSION OF KALS INFORMATION SYSTEM LTD. THE ASSESSEE HAS OBJECTED TO ITS INCLUS ION ON THE BASIS THAT FUNCTIONALLY THE COMPANY IS NOT COMPARABLE. WITH REFERENCE TO PAGES 185-186 OF THE IT(TP)A NO.551/BANG/2015 PAGE 17 OF 34 PAPER BOOK, IT IS EXPLAINED THAT THE SAID COMPANY I S ENGAGED IN DEVELOPMENT OF SOFTWARE PRODUCTS AND SERVICES AND IS NOT COMPARABLE TO SOFTWARE DEVELOPM ENT SERVICES PROVIDED BY THE ASSESSEE. THE APPELLANT HA S SUBMITTED AN EXTRACT ON PAGES 185-186 OF THE PAPER BOOK FROM THE WEBSITE OF THE COMPANY TO ESTABLISH T HAT IT IS ENGAGED IN PROVIDING OF I T ENABLED SERVICES AND THAT THE SAID COMPANY IS INTO DEVELOPMENT OF SOFTWARE PRODUCTS, ETC. ALL THESE ASPECTS HAVE NOT BEEN FACT UALLY REBUTTED AND, IN OUR VIEW, THE SAID CONCERN IS LIAB LE TO BE EXCLUDED FROM THE FINAL SET OF COMPARABLES, AND THU S ON THIS ASPECT, ASSESSEE SUCCEEDS. BASED ON ALL THE ABOVE, IT WAS SUBMITTED ON BEHALF OF THE ASSESSEE THAT KALS INFORMATION SYSTEMS LIMITED SHOULD BE REJ ECTED AS A COMPARABLE. 47. WE HAVE GIVEN A CAREFUL CONSIDERATION TO THE SU BMISSION MADE ON BEHALF OF THE ASSESSEE. WE FIND THAT THE T PO HAS DRAWN CONCLUSIONS ON THE BASIS OF INFORMATION OBTAINED BY ISSUE OF NOTICE U/S.133(6) OF THE ACT. THIS INFORMATION WHI CH WAS NOT AVAILABLE IN PUBLIC DOMAIN COULD NOT HAVE BEEN USED BY THE TPO, WHEN THE SAME IS CONTRARY TO THE ANNUAL REPORT OF T HIS COMPANY AS HIGHLIGHTED BY THE ASSESSEE IN ITS LETTER DATED 21. 6.2010 TO THE TPO. WE ALSO FIND THAT IN THE DECISION REFERRED TO BY THE LEARNED COUNSEL FOR THE ASSESSEE, THE MUMBAI BENCH OF ITAT HAS HELD THAT THIS COMPANY WAS DEVELOPING SOFTWARE PRODUCTS AND NOT PURELY OR MAINLY SOFTWARE DEVELOPMENT SERVICE PROVI DER. WE THEREFORE ACCEPT THE PLEA OF THE ASSESSEE THAT THIS COMPANY IS NOT COMPARABLE. 13. FOLLOWING THE AFORESAID DECISION OF THE TRIBUNA L IN THE CASE OF CISCO SYSTEMS (INDIA) PVT. LTD. (SUPRA) , WE ARE OF THE OPINION THAT KALS INFORMATION SYSTEMS LTD. IS FUNCTIONALLY DISSIMILAR TO THAT OF THE ASSESSEE AND HENCE IT IS NOT TO BE REGARDED AS A COMPARABLE. 14. WITH RESPECT TO BODHTREE CONSULTING LTD., THE C IT(APPEALS) HAD ACCEPTED THE SAME AS A COMPARABLE. THE CIT(APPEAL S) RELIED ON THE IT(TP)A NO.551/BANG/2015 PAGE 18 OF 34 DECISION OF THE BANGALORE BENCH DECISION IN THE CAS E OF TRILOGY E-BUSINESS SOFTWARE INDIA (P.) LTD. ( SUPRA) AND 24/7 CUSTOMER.COM (P) LTD. 28 TAXMANN.COM 258 (BANG). THE CIT(A) OBSERVED THAT I N THE ABOVE DECISIONS IT HAS BEEN MADE CLEAR THAT THERE IS NO B AR IN CONSIDERING COMPANIES WITH ABNORMAL PROFITS/LOSSES AS COMPARABL ES UNLESS THE ASSESSEE DEMONSTRATES AND ESTABLISHES THAT SOME ABN ORMAL EVENT TOOK PLACE WHICH LED TO ABNORMAL RESULTS. HENCE, THE CI T(A) REJECTED THE CONTENTIONS OF THE ASSESSEE FOR EXCLUSION OF BODHTR EE CONSULTING LTD. AS A COMPARABLE. 15. THE ASSESSEE HAS NOW RAISED GROUNDS BEFORE US S TATING THAT THE SAME IS FUNCTIONALLY DISSIMILAR WHICH IS INTO DEVEL OPMENT OF SOFTWARE PRODUCTS. THE LD. COUNSEL FOR THE ASSESSEE ALSO S TATED THAT THERE IS MISMATCH ON THE REVENUE-COST. RELIANCE WAS PLACED ON THE DECISION OF THE BANGALORE BENCH OF THE TRIBUNAL IN THE CASE OF CISCO SYSTEMS (INDIA) PVT. LTD. (SUPRA) AND DELHI BENCH OF THE TRIBUNALS DECISION IN CIENA INDIA PVT. LTD., ITA NO.1453/DEL/2014 RESPECTIVELY. 16. WE HAVE HEARD BOTH THE PARTIES AND PERUSED THE MATERIAL ON RECORD. IN THE CASE OF CISCO SYSTEMS (INDIA) PVT. LTD. (SUPRA) , THE COORDINATE BENCH OF THIS TRIBUNAL HELD THAT BODHTREE CONSULTIN G LTD. IS NOT TO BE TREATED AS A COMPARABLE COMPANY. IN THIS REGARD, T HE RELEVANT OBSERVATIONS OF THE TRIBUNAL ON THE FUNCTIONAL DISS IMILARITY ARE AS UNDER:- IT(TP)A NO.551/BANG/2015 PAGE 19 OF 34 26.1 BODHTREE CONSULTING LTD. :- AS FAR AS THIS COMPANY IS CONCERNED, IT IS NOT IN DISPUTE THAT IN THE LIST OF COMPARABLES CHOSEN BY THE ASSESSEE, THIS COMPANY WAS ALSO INCLU DED BY THE ASSESSEE. THE ASSESSEE, HOWEVER, SUBMITS BEFORE US THAT LATER ON IT CAME TO THE ASSESSEES NOTICE THAT THIS COMPANY IS NOT BEING CONSIDERED AS A COMPARABLE COMPANY IN THE CASE OF C OMPANIES RENDERING SOFTWARE DEVELOPMENT SERVICES. IN THIS R EGARD, THE LD. COUNSEL FOR THE ASSESSEE HAS BROUGHT TO OUR NOTICE THE DECISION OF THE MUMBAI BENCH OF THE TRIBUNAL IN THE CASE OF NETHAWK NETWORKS PVT. LTD. V. ITO, ITA NO.7633/MUM/2012, OR DER DATED 6.11.2013 . IN THIS CASE, THE TRIBUNAL FOLLOWED THE DECISION RENDERED BY THE MUMBAI BENCH OF THE TRIBUN AL IN THE CASE OF WILLS PROCESSING SERVICES (I) P. LTD., ITA NO.4547/MUM/2012 . IN THE AFORESAID DECISIONS, THE TRIBUNAL HAS TAKEN THE VIEW THAT BODHTREE CONSULTING LTD. IS IN THE BUSINESS OF SOFTWARE PRODUCTS AND WAS ENGAGED IN PR OVIDING OPEN & END TO END WEB SOLUTIONS SOFTWARE CONSULTANCY AND DESIGN & DEVELOPMENT OF SOFTWARE USING LATEST TECHNOLOGY. T HE DECISION RENDERED BY THE MUMBAI BENCH OF THE TRIBUNAL IN THE CASE OF NETHAWK NETWORKS PVT. LTD. (SUPRA) IS IN RELATION TO A.Y. 2008- 09. IT WAS AFFIRMED BY THE LEARNED COUNSEL FOR THE ASSESSEE THAT THE FACTS AND CIRCUMSTANCES IN THE PRESENT YEAR ALS O REMAINS IDENTICAL TO THE FACTS AND CIRCUMSTANCES AS IT PREV AILED IN AY 08- 09 AS FAR AS THIS COMPARABLE COMPANY IS CONCERNED. FOLLOWING THE AFORESAID DECISION OF THE MUMBAI BENCH OF THE T RIBUNAL, WE HOLD THAT BODHTREE CONSULTING LTD. CANNOT BE REGARD ED AS A COMPARABLE. IN THIS REGARDS, THE FACT THAT THE ASS ESSEE HAD ITSELF PROPOSED THIS COMPANY AS COMPARABLE, IN OUR OPINION , SHOULD NOT BE THE BASIS ON WHICH THE SAID COMPANY SHOULD BE RE TAINED AS A COMPARABLE, WHEN FACTUALLY IT IS SHOWN THAT THE SAI D COMPANY IS A SOFTWARE PRODUCT COMPANY AND NOT A SOFTWARE DEVELOP MENT SERVICES COMPANY. 17. IN THE CASE OF CIENA INDIA PVT. LTD. (SUPRA) , THE DELHI BENCH OF THE TRIBUNAL WITH RESPECT TO MISMATCH IN THE REVENUE CO ST HELD AS UNDER:- IT(TP)A NO.551/BANG/2015 PAGE 20 OF 34 9.6 COMING BACK TO THE FACTS OF THE INSTANT CASE, WE FIND FROM SCHEDULE 12 THAT THERE IS A MENTION OF SIGNIFICANT ACCOUNTING POLICY AT SL. NO.3, WHICH PROVIDES THAT : REVENUE FROM SOFTWARE DEVELOPMENT IS RECOGNIZED BASED ON SOFTWARE DEVELOP MENT AND BILLED TO CLIENTS. IF SOME SOFTWARE DEVELOPMENT PROJECT IS INCOMPLETE AT THE END OF THE YEAR, THIS NOTE MAY EN TAIL TWO SITUATIONS , VIZ., THE FIRST, IN WHICH THE EXPENSES INCURRED IN RESPECT OF SUCH SOFTWARE DEVELOPMENT MAY BE CAPITAL IZED, WHICH APPEARS TO BE A MORE RATIONAL MANNER OF DEPICTING T HE TRUE AND FAIR VIEW OF THE PROFITABILITY OF THE ENTERPRISE; A ND THE SECOND, IN WHICH SUCH EXPENSES MAY BE STRAIGHTWAY TAKEN AS REV ENUE COST FOR THE YEAR OF ITS INCURRING ITSELF, WHICH MAY NOT REFLECT A TRUE AND FAIR VIEW OF THE PROFITS ON YEAR TO YEAR BASIS. THE CONTENTION OF THE LD. AR IS THAT WHEREAS BODHTREE FELL INTO TH E SECOND SITUATION, THE ASSESSEE WAS IN THE FIRST SITUATION. THOUGH THIS CONTENTION ABOUT BODHTREE ACCOUNTING FOR EXPENSES I N THE YEAR OF INCURRING BUT CONSIDERING INCOME ONLY ON THE CONCLU SION OF THE PROJECT IN THE SUBSEQUENT YEAR SOUNDED A LITTLE AWK WARD, WE ATTEMPTED TO FIND OUT THE AMOUNT OF CAPITALIZED EXP ENSES IN RESPECT OF INCOMPLETE PROJECTS AT THE END OF THE YE AR. APPARENTLY, WE COULD NOT FIND OUT ANY SUCH CAPITALIZED VALUE OF WORK-IN- PROGRESS IN THE BALANCE SHEET OF THE COMPANY ON STA NDALONE BASIS. WE DIRECTED THE LD. DR TO EXAMINE THE ANNUAL REPORT OF THIS COMPANY AND POINT OUT THE AMOUNT OF EXPENSES CAPITA LIZED IN RESPECT OF INCOMPLETE WORK AT THE END OF THE YEAR. ON THE NEXT DATE OF HEARING, THE LD. DR FAILED TO SPECIFICALLY POINT OUT ANY AMOUNT OF SUCH CAPITALIZED EXPENSES WITH THE OPENIN G OR CLOSING BALANCE. THIS PRIMA FACIE SHOWS THAT THE EXPENSES I NCURRED IN RESPECT OF INCOMPLETE PROJECTS OF SOFTWARE DEVELOPM ENT AT THE END OF THE YEAR, BUT BILLED IN THE SUBSEQUENT YEAR, WER E, IN FACT, TREATED AS EXPENSES FOR THE CURRENT YEAR ALONE. IN THE SAME MANNER, EXPENSES INCURRED IN THE PRECEDING YEAR FOR THE CONTRACTS OF SOFTWARE DEVELOPMENT REMAINING INCOMPLETE AT THE END OF THE YEAR, ALSO MUST HAVE BEEN INCLUDED IN THE EXPENSES OF THE LAST YEAR ALONE, BUT, THE INCOME GETTING RECOGNIZED ON T HE RAISING OF BILLS IN THE CURRENT YEAR. THIS ALBEIT, PATENTLY DE FORMS THE CORRECT PROFITABILITY ON YEAR TO YEAR BASIS, YET, BUT WE CA NNOT HELP THE SITUATION. WHEN THE POSITION OF ACCOUNTS OF BODHTRE E IS SUCH THAT IT DOES NOT PROPERLY MATCH EXPENSES WITH REVENUE, I T LOSES ITS CREDIBILITY FOR MAKING A LOGICAL COMPARISON WITH A COMPANY THAT ACCOUNTS FOR EXPENSES MATCHING WITH THE REVENUE. ON CE IT IS HELD THAT THE PROFITS OF BODHTREE CONSULTING LTD. DO NOT REPRESENT FAIR IT(TP)A NO.551/BANG/2015 PAGE 21 OF 34 PROFITABILITY ON YEAR TO YEAR BASIS, THIS COMPANY L OSES ITS TAG OF AN EFFECTIVE COMPARABLE. WE, THEREFORE, ORDER FOR THE EXCLUSION OF THIS COMPANY FROM THE FINAL LIST OF COMPARABLES. 18. RESPECTFULLY FOLLOWING THE DECISIONS OF THE TRI BUNAL IN THE CASE OF CISCO SYSTEMS (INDIA) PVT. LTD. (SUPRA) AND CIENA INDIA PVT. LTD. (SUPRA) , WE ARE OF THE OPINION THAT BODHTREE CONSULTING LTD. IS TO BE EXCLUDED FROM THE LIST OF COMPARABLES SELECTED BY THE TPO. 19. WITH RESPECT TO AKSHAY SOFTWARE TECHNOLOGIES LT D. AND R.S. SOFTWARE (INDIA) LTD., NO OBJECTION HAS BEEN RAISED BY THE ASSESSEE EVEN BEFORE US. HENCE THESE TWO COMPANIES ARE TO BE RET AINED AS COMPARABLES. 20. THE LD. COUNSEL FOR THE ASSESSEE THEREAFTER STA TED THAT MARKET RISK ADJUSTMENT SHOULD BE ALLOWED AND ARGUED THAT THE CO MPARABLE COMPANIES SELECTED BY THE TPO ARE INDEPENDENT, RISK-BEARING E NTITIES, WHEREAS THE ASSESSEE IS A CAPTIVE SERVICE PROVIDER ASSUMING MIN IMUM RISK. IN THE OPEN MARKET, ANY ENTITY ASSUMING INCREASED RISK WILL ALS O BE COMPENSATED BY AN INCREASE IN THE EXPECTED RETURN IN THE LONG RUN. HE NCE IT IS ESSENTIAL TO PERFORM A RISK ADJUSTMENT TO BRIDGE THE DISPARITIES IN RISK PROFILE. 21. IT WAS SUBMITTED THAT IN THE CASE OF LNTELLINET TECHNOLOGIES INDIA PRIVATE LTD., ITA NO.1237/BANG/2010 , ORDER DATED 30.03.2012, THE JURISDICTIONAL BENCH OF ITAT HAS HELD THAT THE SING LE CUSTOMER RISK BORNE BY A CAPTIVE SERVICE PROVIDER IS ONLY AN ANTICIPATED RISK VIS-A-VIS THE EXISTING IT(TP)A NO.551/BANG/2015 PAGE 22 OF 34 MARKET RISK BORNE BY INDEPENDENT COMPARABLES. AND H AS ALLOWED MARKET RISK ADJUSTMENT. 22. IN THE CASE OF LNTELLINET TECHNOLOGIES INDIA PRIVATE LTD., THE COORDINATE BENCH OF THIS TRIBUNAL HELD AS UNDER:- 7. HAVING HEARD BOTH THE PARTIES AND HAVING CONSI DERED THE RIVAL CONTENTIONS, WE FIND THAT THE ASSESSEE HAS CL AIMED THE RISK ADJUSTMENT WHICH IS NOT ALLOWED BY THE TPO ON THE G ROUND THAT THE ASSESSEE ALSO HAS THE RISK OF HAVING A SINGLE C USTOMER. THE QUESTION BEFORE US IS AS TO WHETHER THE RISK OF HAV ING A SINGLE CUSTOMER IS EQUIVALENT TO THE MARKETING AND TECHNIC AL RISK ATTACHED TO THE COMPARABLES. ACCORDING TO THE TPO, THE ASSESSEE HAS THE SINGLE CUSTOMER RISK MEANING, IF THE SING LE CUSTOMER REFUSES TO HAVE ANY DEALINGS WITH THE ASSESSEE, THE ASSESSEE WOULD LOSE ALL OF ITS BUSINESS AND THERE WOULD BE NO PROF IT AT ALL. BUT, AS WE SEE IT, THE RISK OF HAVING A SINGLE CUSTOMER IS ANTICIPATED RISK WHICH MAY OR MAY NOT HAPPEN. WHAT WE HAVE TO SEE IS THE POSITION IN THE RELEVANT PERIOD WHETHER THE ASSESSE E HAD ENCOUNTERED SUCH A RISK DURING THE RELEVANT PERIOD. 7.1 AS SEEN FROM THE RECORDS, THE ASSESSEE HAD ACQ UIRED THE BUSINESS AND ALSO EARNED INCOME OUT OF THE SAID TRA NSACTION BY COST PLUS BASIS. THUS, IT CAN BE SEEN THAT THE ASSE SSEE HAS NOT ENCOUNTERED THE RISK OF HAVING A SINGLE CUSTOMER, W HEREAS THE SAME CANNOT BE SAID AS REGARDS THE COMPARABLES. AS POINTED OUT BY THE LEARNED COUNSEL FOR THE ASSESSEE, THE COMPAR ABLES WERE DEALING IN OPEN MARKET AND THEREFORE, THEY WERE PRO NE TO THE MARKETING AND TECHNICAL RISKS. THEY WOULD HAVE INCU RRED CERTAIN EXPENDITURE ON MARKETING SERVICES AND ALSO TO SAFEG UARD THE TECHNICAL USE BY THEM. IN SUCH A CASE, THE RISK ENC OUNTERED BY THE ASSESSEE CANNOT BE SAID TO BE THE EQUIVALENT RISKS ATTACHED TO THE COMPARABLES. THE RISK ATTRIBUTED TO THE ASSESSEE BY THE TPO IS AN ANTICIPATED RISK WHEREAS THE RISK ATTRIBUTED BY THE ASSESSEE TO THE COMPARABLES IS AN EXISTING RISK. IN SUCH SITUATION, THE TPO OUGHT TO HAVE GIVEN THE RISK ADJUSTMENT TO THE NET MARGIN OF THE COMPARABLES FOR BRINGING THEM ON PAR WITH THE ASSES SEE COMPANY. THE ASSESSEES CONTENTION THAT THE RISK ADJUSTMENT SHOULD BE AT 5.5% OR AT THE DIFFERENCE OF PRIME LENDING RATE OF THE RBI AND THE BANKS IS NOT ACCEPTABLE TO US. THEREFORE, WE DIRECT THE TPO TO IT(TP)A NO.551/BANG/2015 PAGE 23 OF 34 CONSIDER ALL THE CONTENTIONS OF THE ASSESSEE AND AF TER TAKING INTO ACCOUNT ALL THE RELEVANT MATERIAL DECIDE THE PERCEN TAGE OF RISK ADJUSTMENT TO BE MADE IN ACCORDANCE WITH LAW. THIS GROUND IS ACCORDINGLY, ALLOWED FOR STATISTICAL PURPOSES. 23. FOLLOWING THE DECISION OF THE COORDINATE BENCH OF THIS TRIBUNAL CITED SUPRA , WE ARE OF THE OPINION THAT THE TPO HAS TO VERIFY WHETHER COMPARABLE COMPANIES REMAINING AFTER THE EXCLUSIONS ARE INDEPE NDENT RISK BEARING ENTITIES OR CAPTIVE SERVICE PROVIDERS. RISK ADJUST MENT CAN BE ALLOWED ONLY IN CASE THE FORMER CONDITION IS SATISFIED AND SUCH RISK ADJUSTMENT IF REQUIRED HAS TO BE WORKED OUT BASED ON SCIENTIFIC ANALYSIS A ND DATA. HENCE THIS ISSUE IS SET ASIDE TO THE TPO. 24. THE NEXT CONTENTION OF THE ASSESSEE IS THAT THE WORKING CAPITAL ADJUSTMENT SHOULD NOT HAVE AN UPPER LIMIT. IT WAS SUBMITTED THAT THE AVERAGE COST OF CAPITAL CANNOT BE USED AS A UPPER T HRESHOLD FOR WORKING CAPITAL ADJUSTMENT. 25. THE TPO IN THE ORDER HAS STATED THAT THE PROFIT MARGIN COMPUTED IN TNMM IS A COMPOSITE FIGURE WHICH INCLUDES TWO COMPO NENTS. THEY ARE THE PROFIT MARGIN ON ACCOUNT OF OPERATING PROFIT AND PR OFIT MARGIN ON ACCOUNT OF COST OF CAPITAL RECOVERED. THEREFORE, WHEN THE ARIT HMETICAL AVERAGE OF NET PROFIT MARGINS COMPUTED IN THE CASE OF UNCONTROLLED COMPARABLES IS CONSIDERED AS ARMS LENGTH PROFIT MARGIN IN TRANSFE R PRICING THAT ARISE FROM OPERATING BUSINESS, THEN THE AVERAGE COST OF CAPITA L COMPUTED IN THE CASE OF UNCONTROLLED COMPARABLES SHOULD ALSO BE CONSIDER ED AS ARMS LENGTH PRICE OF THE COST OF CAPITAL IN TRANSFER PRICING EX ERCISE. ACCORDINGLY, THE IT(TP)A NO.551/BANG/2015 PAGE 24 OF 34 AVERAGE COST OF CAPITAL COMPUTED IN THE CASE OF THE UNCONTROLLED COMPARABLES SHOULD BE AN UPPER CAP FOR THE PURPOSE OF ALLOWING WORKING CAPITAL ADJUSTMENT. 26. IT WAS SUBMITTED THAT THE TPO IN THE ORDER HAS ADVOCATED LIMITING THE WORKING CAPITAL ADJUSTMENT CONTENDING THAT THE ADJU STMENT WOULD BE NEGATIVE FOR THE ASSESSEE/TESTED PARTY, SINCE IT DO ES NOT HAVE SIGNIFICANT DEBTORS/INVENTORY AND GENERALLY, THE ASSESSEE/TESTE D PARTY RECEIVES THE MONEY IN ADVANCE FOR THE SERVICES FROM THE AES. WHE REAS, THE ENTREPRENEURIAL COMPANIES SELECTED AS COMPARABLE WI LL HAVE DEBTORS, INVENTORY AND THE CREDITORS. 27. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THAT IN ADVOCATING THIS PRINCIPLE THE TPO HAS IGNORED THE CHARACTERISATION OF THE ASSESSEE AS A LOW RISK CAPTIVE SERVICES PROVIDER THAT DOES NOT PE RFORM ENTREPRENEURIAL FUNCTIONS AND CONSEQUENTLY DOES NOT BEAR RELATED RI SKS. THE ASSESSEE, BEING PART OF THE LARGER GROUP HAS THE ADVANTAGE OF HEALTHY WORKING CAPITAL POSITION, WHEREAS, ENTREPRENEURIAL COMPANIES CANNOT HAVE THAT ADVANTAGE AND THEREFORE, NEED TO ADJUST THEIR PRICES FOR THE SERVICES ACCORDINGLY TO ACCOUNT FOR WORKING CAPITAL RELATED FUNCTIONS, COST S AND RISKS. THE OBJECTIVE OF A BENCHMARKING ANALYSIS IS TO NEUTRALISE THESE D IFFERENCES AND BRING ABOUT AN APPROPRIATE COMPARISON AS FAR AS POSSIBLE. ACCORDING TO THE LD. COUNSEL FOR THE ASSESSEE, EVEN RULE 10B SAYS THAT R EASONABLE AND APPROPRIATE ADJUSTMENT NEEDS TO BE MADE FOR A BETTE R COMPARABILITY BETWEEN THE TRANSACTIONS BEING COMPARED. IT(TP)A NO.551/BANG/2015 PAGE 25 OF 34 28. IT WAS FURTHER SUBMITTED THAT THE TPO IGNORED T HE ABOVE PRINCIPLES OF COMPARABILITY AND CONTESTED THAT THE TRANSFER PRICE OF UNCONTROLLED INDEPENDENT COMPANIES HAVE COMPONENT OF RETURN FOR FUNCTIONS AND RETURN FOR WORKING CAPITAL. IT WAS SUBMITTED THAT THOUGH THE ASSESSEE IS NOT DENYING THIS FACT, BUT THE RETURN FOR WORKING CAPIT AL POSITION BETWEEN THE ASSESSEE AND THE COMPANIES SELECTED AS COMPARABLE V ARY DUE TO THEIR CHARACTERISATION AND THERE EXISTS A METHODOLOGY WHI CH IS ALSO WELL ACCEPTED INTERNATIONALLY TO NULLIFY THESE DIFFERENC ES. THEREFORE, IT WAS SUBMITTED THAT SUCH AN ADJUSTMENT SHOULD BE CARRIED OUT TO BRING IN APPROPRIATE COMPARABILITY BETWEEN THE TESTED PARTY AND THE COMPANIES SELECTED AS COMPARABLE WITHOUT ANY UPPER CAP, WHICH IS NOT BASED ON ANY SOUND RATIONALE. THE LD. COUNSEL FOR THE ASSESSEE RELIED ON THE DECISION OF THE MUMBAI BENCH OF THE TRIBUNAL IN THE CASE OF DRESSER-RAND INDIA PVT. LTD. V. ACIT (ITA NO.8753/MUM/2010) HAS HELD THAT THE SOUL OF AN ORDER IS IN ITS REASONING, AND UNLESS THE REASONS FOR COMING TO A CONCLUSION IN THE ORDER ARE NOT SET OUT, IT IS NOT POSSIBLE TO DO A M EANINGFUL SCRUTINY OF THE ORDER. THE MUMBAI BENCH IN THE ABOVE CASE HAS REFERRED TO THE OBSERVATIONS MADE BY HONBLE SUPREME COURT IN THE C ASE OF UNION OF INDIA VS. MOHAN LAL CAPOOR (AIR 1974 SC 87) WHEREIN THEIR LORDSHIPS HAVE, INTER ALIA , OBSERVED AS FOLLOWS:- IF THE STATUTE REQUIRES RECORDING OF REASONS, THEN IT IS THE STATUTORY REQUIREMENT AND, THEREFORE, THERE IS NO S COPE FOR FURTHER INQUIRY. BUT EVEN WHEN THE STATUTE DOES NOT IMPOSE SUCH AN OBLIGATION IT IS NECESSARY FOR THE QUASI-JUDICIAL A UTHORITIES TO RECORD REASON AS IT IS ONLY VISIBLE SAFEGUARD AGAIN ST POSSIBLE IT(TP)A NO.551/BANG/2015 PAGE 26 OF 34 INJUSTICE AND ARBITRARINESS AND AFFORDS PROTECTION TO THE PERSON ADVERSELY AFFECTED. REASONS ARE THE LINKS BETWEEN T HE MATERIAL ON WHICH CERTAIN CONCLUSIONS ARE BASED AND THE ACTUAL CONCLUSIONS. THEY DISCLOSE HOW THE MIND IS APPLIED TO THE SUBJEC T-MATTER FOR A DECISION, WHETHER IT IS PURELY ADMINISTRATIVE OR QU ASI-JUDICIAL. THEY SHOULD REVEAL RATIONAL NEXUS BETWEEN THE FACTS CONSIDERED AND THE CONCLUSION REACHED. ONLY IN THIS WAY CAN OP INIONS OR DECISIONS RECORDED BE SHOWN TO BE MANIFESTLY JUST A ND REASONABLE. 29. IN VIEW OF THE DECISION IN THE CASE OF DRESSER-RAND INDIA PVT. LTD. (SUPRA) RENDERED BY THE MUMBAI BENCH OF THE TRIBUNAL, THE RESTRICTION PLACED BY THE TPO IN PROVIDING THE WORKING CAPITAL ADJUSTMENT WAS NOT JUSTIFIED. THE AO/TPO IS DIRECTED TO ALLOW THE ACT UAL ADJUSTMENT TOWARDS THE DIFFERENCES IN THE WORKING CAPITAL POSITION BET WEEN THE ASSESSEE AND THE ENTREPRENEURIAL COMPANIES SELECTED AS COMPARABL E. 30. THE NEXT GROUND OF APPEAL IS WITH RESPECT TO DI SALLOWANCE OF SOFTWARE EXPENSES. THE FACTS WITH REGARD TO THIS ISSUE ARE THAT THE ASSESSEE HAS INCURRED EXPENSES TOWARDS PURCHASE OF APPLICATION SOFTWARE (I.E. OBTAINING OR RENEWING THE LICENSES FOR USE OF CERTAIN APPLICATION SOFTWARE) AND HAS DEDUCTED TAX AT SOURCE IN RESPECT OF SUCH PAYMENT TOWARDS APPLICATION SOFTWARE. ACCORDING TO THE AS SESSEE, THE INCURRENCE OF SUCH EXPENDITURE IS NECESSARY TO CARRY ON THE BU SINESS ACTIVITIES MORE EFFECTIVELY AND EFFICIENTLY LEAVING THE CAPITAL BAS E UNTOUCHED. THE SAID EXPENDITURE BEING REVENUE IN NATURE HAS BEEN CHARGE D OFF IN THE YEAR IN WHICH IT WAS INCURRED I.E. FY 2008-09. THE BREAKUP OF SOFTWARE EXPENSES IS AS UNDER:- IT(TP)A NO.551/BANG/2015 PAGE 27 OF 34 31. LICENSE FEES: THE ASSESSEE COMPANY HAS PAID AN AMOUNT OF RS. 1,766,184 TO MOOG IFSC [MOOG IRELAND INTERNATIONAL FINANCIAL SERVICE CENTRE] TOWARDS LICENSE USAGE CHARGES. MOOG IFSC H AD PURCHASED MFGPRO SOFTWARE LICENSES FROM QAD INC. MFGPRO IS AN APPLICATION SOFTWARE DESIGNED TO PERFORM AND MANAGE BUSINESS PR OCESSES SUCH AS FINANCES, MANUFACTURING, SUPPLY CHAIN MANAGEMENT ET C. BY INCURRING THE SAID EXPENSES, THE ASSESSEE COMPANY HAD ACQUIRED ON LY THE LICENSE TO USE THE SOFTWARE AND THERE WAS NO OUTRIGHT PURCHASE OF SOFTWARE GIVING OWNERSHIP TO THE COMPANY OF THE SAID SOFTWARE. THE COPY OF AGREEMENT WITH MOOG IFSC HAS BEEN SUBMITTED IN THE PAPERBOOK AT PAGE NOS. 102 - 103. 32. FURTHER, AN AMOUNT OF RS. 5,225,810 HAS BEEN PA ID TO VARIOUS VENDORS TO OBTAIN LICENSE WHICH IS USED BY THE ASSE SSEE IN ITS DAY TO DAY RUNNING OF THE BUSINESS AND, ACCORDING TO THE ASSES SEE, IT NEITHER PROVIDES ANY ENDURING BENEFIT TO THE ASSESSEE COMPANY NOR BR INGS INTO EXISTENCE ANY ASSET TO PROVIDE ENDURING BENEFIT. IT(TP)A NO.551/BANG/2015 PAGE 28 OF 34 33. EPR MAINTENANCE AND IT ALLOCATION CHARGES : THE ASSESSEE COMPANY HAS PAID AN AMOUNT OF RS. 1,333,427 TOWARDS MAINTENANCE OF MFGPRO SOFTWARE LICENSES AS PER CLAUSE 9 OF THE AFO RESAID AGREEMENT BETWEEN MOOG IFSC AND THE ASSESSEE. FURTHER, THE A SSESSEE HAD INCURRED AN AMOUNT OF RS. 3,626,423 AS IT ALLOCATIO N CHARGES WHICH WAS PAID TO ASSESSEES PARENT COMPANY, MOOG INC. MOO G INC. HAS ENTERED INTO A GLOBAL CONTRACT FOR USAGE OF CERTAIN INFORMA TION TECHNOLOGY SERVICES, WHICH IS TO BE USED IN THE DAILY BUSINESS OPERATION OF GROUP COMPANIES OF MOOG INC. GLOBALLY. 34. IN THE PRESENT CASE, MOOG INC. HAS CROSS-CHARGE D THE AMOUNT OF RS. 3,626,423 TO THE ASSESSEE AS ITS SHARE OF IT USAGE CHARGES. THESE EXPENSES BEING IT USAGE CHARGES ARE RECURRING IN NA TURE AND REQUIRED TO BE PAID EVERY YEAR DEPENDING ON THE YEARLY USAGE OF IT SYSTEM. THE COMPANY DOES NOT ACQUIRE ANY RIGHT OR OWNERSHIP IN ANY OF THE ASSETS UPON PAYMENT OF SUCH ALLOCATION CHARGES. 35. THE AO HAS DISALLOWED THE ABOVE SOFTWARE EXPEND ITURE ON THE GROUND THAT THE SAME IS CAPITAL IN NATURE AND HENCE PROVIDED DEPRECIATION ON THE SAME AT A RATE OF 30% (ASSUMING THAT THE SOF TWARE HAS BEEN PUT TO USE FOR LESS THAN 180 DAYS). 36. BEFORE US, IT WAS SUBMITTED THAT IN THIS REGAR D, THE ENTIRE SOFTWARE EXPENDITURE AMOUNTING TO RS. 11,951,844 IS ALLOWABL E AS DEDUCTION UNDER SECTION 37(1) OF THE ACT ON THE FOLLOWING GROUNDS:- IT(TP)A NO.551/BANG/2015 PAGE 29 OF 34 A. THE ABOVE REFERRED EXPENDITURE HAS BEEN INCURR ED ON OBTAINING OR RENEWING THE LICENSES FOR USE, OF CERT AIN APPLICATION SOFTWARE AND AS THIS EXPENDITURE WAS IN CURRED WITH THE PRIME OBJECTIVE OF CARRYING ON THE BUSINES S ACTIVITIES MORE EFFECTIVELY AND PROFITABLY LEAVING THE CAPITAL BASE UNTOUCHED. B. THE TEST OF ENDURING BENEFIT IS MORE PRONE TO F AILURE IN THE CASE OF COMPUTER SOFTWARE WHERE THE PACE OF ADVANCE MENT IS SO RAPID THAT WHATEVER TECHNOLOGY IS INSTALLED TODA Y BECOMES OBSOLETE WITHIN A SHORT TIME. C. NO PORTION OF THE APPLICATION SOFTWARE WAS CUST OM MADE SOFTWARE AND ALL OF THEM HAD BEEN PURCHASED OFF TH E SHELF. FURTHER, THE ASSESSEE WAS MERELY A LICENSEE AND THE RIGHT TO USE THE SOFTWARE WAS SUBJECT TO THE CONDITIONS MENT IONED IN THE LICENSE AGREEMENT. D. SOFTWARE ACQUIRED UNDER A LICENSE ON TERMS AND CONDITIONS WHEREBY OWNERSHIP IS RETAINED BY THE LICENSOR AND W HERE SUCH SOFTWARE ONLY ADDS TO THE EFFICIENT RUNNING OF DAY TO DAY OPERATION OF BUSINESS, CANNOT BE HELD TO BE EXP ENDITURE OF CAPITAL NATURE AS THEY WERE ONLY COPYRIGHTED ART ICLES. ALL RIGHTS, TITLE AND INTEREST IN OR TO THE PROGRAMS OR DOCUMENTATION, MODIFICATIONS, ENHANCEMENTS AND DERIVATIVES SHALL AT ALL TIMES REMAIN THE PROPERTY OF OR VEST ON THE LICENSOR. THUS THE OWNERSHIP TEST OF THE S OFTWARE IS NOT SATISFIED WHICH IS AN ESSENTIAL CONDITION TO CA PITALIZE AND CLAIM DEPRECIATION UNDER THE ACT. E. FURTHER, EVERY ADVANTAGE OF ENDURING NATURE ACQU IRED BY AN ASSESSEE MAY NOT BRING A CAPITAL ASSET INTO EXISTEN CE. AS HELD BY THE HONBLE SUPREME COURT IN THE CASE OF EM PIRE JUTE LTD. (124 ITR 1), WHAT IS MATERIAL TO CONSIDER IS THE NATURE OF THE ADVANTAGE IN A COMMERCIAL SENSE. IF T HE ADVANTAGE CONSISTS MERELY IN FACILITATING THE ASSES SEES BUSINESS OPERATIONS OR ENABLING THE MANAGEMENT AND CONDUCT OF THE ASSESSEES BUSINESS MORE EFFICIENTLY OR MORE PROFITABLY WHILE LEAVING THE FIXED CAPITAL UNTOUCHE D, THE EXPENDITURE WOULD BE ON REVENUE ACCOUNT, EVEN THOUG H THE ADVANTAGE MAY ENDURE FOR AN INDEFINITE FUTURE. IT(TP)A NO.551/BANG/2015 PAGE 30 OF 34 F. THE APPLICATION SOFTWARE HAS LIMITED LIFE UNLIKE SYSTEM SOFTWARE, WHICH IS USED AS TOOLS OF BUSINESS. IT IS LIKE ANY COMPONENT OR CONSUMABLE ITEM OR SPARE PART IN A PLA NT AND MACHINERY. BY USING SUCH SOFTWARE, MERELY THE EFFIC IENCY IS ENHANCED BUT BY ITSELF NO CAPITAL ASSET IS BROUGHT INTO EXISTENCE. 37. THE LD. COUNSEL FOR THE ASSESSEE FURTHER SUBMIT TED THAT THE PROVISIONS OF THE ACT DO NOT PROVIDE FOR A DEFINITI ON OF CAPITAL EXPENDITURE AND REVENUE EXPENDITURE. ACCORDINGLY, THE PRINCIP LES LAID DOWN BY THE COURTS IN NUMEROUS DECISIONS WOULD HAVE TO BE LOOKE D INTO TO DETERMINE WHETHER THE EXPENDITURE IS A CAPITAL OR REVENUE EXP ENDITURE. IN GENERAL, THERE IS NO PARTICULAR RULE TO DETERMINE WHETHER A PARTICULAR EXPENDITURE IS CAPITAL EXPENDITURE OR REVENUE EXPENDITURE. THE SAM E WOULD HAVE TO BE DETERMINED BASED ON THE FACTS AND CIRCUMSTANCES OF EACH PARTICULAR CASE. 38. IT WAS ALSO SUBMITTED THAT AS PER SECTION 37(1) OF THE ACT, ANY EXPENDITURE (NOT BEING IN THE NATURE DESCRIBED IN S ECTION 30 TO 36 AND NOT BEING IN THE NATURE OF CAPITAL EXPENDITURE OR PERSO NAL EXPENSES OF THE ASSESSEE), LAID OUT OR EXPENDED WHOLLY AND EXCLUSIV ELY FOR THE PURPOSES OF THE BUSINESS OR PROFESSION SHALL BE ALLOWED IN COMP UTING INCOME CHARGEABLE UNDER THE HEAD PROFITS AND GAINS FROM B USINESS OR PROFESSION . 39. THUS FOR AN EXPENDITURE TO BE DEDUCTIBLE IN TER MS OF SECTION 37(1) OF THE ACT, THE FOLLOWING CONDITIONS ARE TO BE SATISFI ED IT(TP)A NO.551/BANG/2015 PAGE 31 OF 34 A. THE EXPENDITURE SHOULD NOT BE OF THE NATURE DES CRIBED IN SECTIONS 30 TO 36 OF THE ACT; B. IT SHOULD NOT BE IN THE NATURE OF PERSONAL EXPE NSES; C. IT SHOULD HAVE BEEN LAID OUT OR EXPENDED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF THE BUSINESS; AND D. IT SHOULD NOT BE IN THE NATURE OF CAPITAL EXPEN DITURE. 40. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THAT IN THE INSTANT CASE, ALL THE ABOVE CONDITIONS ARE SATISFIED AND THUS THE APPLICATION SOFTWARE EXPENDITURE INCLUDING MAINTENANCE EXPENSES IS REVEN UE IN NATURE AND IS ELIGIBLE FOR DEDUCTION UNDER SECTION 37(1) OF THE A CT. ATTENTION WAS INVITED TO THE FACT THAT THE ASSESSEE HAS ONLY ACQUIRED THE RE QUISITE LICENSES TO USE THE APPLICATION SOFTWARE AND HENCE THE OWNERSHIP AN D THE INTELLECTUAL PROPERTIES OF THE SOFTWARE CONTINUE TO REMAIN WITH THE LICENSOR. 41. RELIANCE WAS PLACED ON THE DECISION OF THE SPEC IAL BENCH DELHI IN THE CASE OF AMWAY INDIA ENTERPRISES V. DCIT, 301 ITR 1 (AT)(DEL )(SB) , WHEREIN CERTAIN TESTS HAD BEEN LAID DOWN FOR ASCERT AINING WHETHER THE EXPENDITURE ON PURCHASE OF SOFTWARE IS TO BE TREATE D AS REVENUE OR CAPITAL. THE BELOW TESTS ARE CUMULATIVE AND NOT MUTUALLY EXC LUSIVE. IN CASE THE TRANSACTION OF PURCHASE OF SOFTWARE SATISFIES ALL T HE TESTS MENTIONED BELOW, IT WILL BE CONSIDERED AS A CAPITAL EXPENDITURE. IT(TP)A NO.551/BANG/2015 PAGE 32 OF 34 42. THE LD. COUNSEL FOR THE ASSESSEE SUBMITTED THAT IN THE INSTANT CASE, THE ASSESSEE IS NOT SATISFYING ALL THE TESTS SET OU T BY THE SPECIAL BENCH IN THE CASE CITED SUPRA AND THEREFORE THE SOFTWARE EXPENSE SHOULD BE TREAT ED AS REVENUE IN NATURE. RELIANCE WAS ALSO PLACED ON THE FOLLOWING DECISIONS:- - LUBRIZOL INDIA LTD. 37 TAXMANN.COM 294 (BOM) - N.J. INDIA INVEST (P) LTD. 32 TAXMANN.COM 367 (GUJ) - ORACLE INDIA (P) LTD., 39 TAXMANN.COM 150 (DEL) - RAYCHEM RPG LTD. 21 TAXMANN.COM 507 (BOM) - CIT V. VARINDER AGRO CHEMICALS LTD. 309 ITR 272 (P& H) - CIT V. ASAHI INDIA SAFETY GLASS LTD. V. CIT, 15 TAX MANN.COM 382 (DEL) - CIT V. J.K. SYNTHETIC LTD., 2008-TIOL-671-DEL - O.K. PLAY INDIA LTD. 346 ITR 57 (P&H) - IBM INDIA LTD. V. CIT, ITA NO.755/BANG/2003. - MERITOR LIGHT VEHICLE SYSTEMS INDIA PVT. LTD., ITA NO.140/BANG/2011. - DANFOSS INDUSTRIES (P) LTD., 37 TAXMANN.COM 240, IT AT CHENNAI. - AMWAY INDIA ENTERPRISES, 111 ITD 112 (SB) (DEL) - GLAXO SMITH KLINE CONSUMER HEALTHCARE LTD. V. ACIT, 112 TTJ 94, ITAT, CHD. IT(TP)A NO.551/BANG/2015 PAGE 33 OF 34 - SHARP BUSINESS SYSTEMS (I) LTD. V. DCIT, 59 DTR 385 , ITAT DEL. - BUSINESS INFORMATION PROCESSING SERVICES V. ACIT, 2 39 ITR S-19, ITAT JAIPUR. - CIT V. G.E. CAPITAL SERVICES LTD., ITA NO.560/DEL/2 007. 43. WE FIND THAT IN THE PRESENT CASE, THE LICENSE F EE PAID REPRESENTS USAGE CHARGES OF LEASED LICENSES. FURTHER, THE USE OF LICENSE DOES NOT GIVE ANY OWNERSHIP OF THE SOFTWARE TO THE ASSESSEE AND T HEREBY DOES NOT LEAD TO CREATION OF ANY CAPITAL ASSET. THE LICENSE USED BY THE ASSESSEE IS APPLICATION SOFTWARE DESIGNED TO PERFORM VARIOUS BU SINESS PROCESSES. THE APPLICATION SOFTWARE ENABLES THE ASSESSEE TO CARRY OUT ITS BUSINESS OPERATIONS EFFICIENTLY AND SMOOTHLY AND DOES NOT PR OVIDE ANY ENDURING BENEFIT. SUCH SOFTWARE ENHANCES THE EFFICIENCY OF T HE OPERATIONS. IT IS AN AID IN THE MANUFACTURING PROCESS. CONSIDERING THE A BOVE FACTS AND THE JUDICIAL PRECEDENTS RELIED UPON BY THE ASSESSEE COM PANY, WE HOLD THAT THE SAID LICENSE FEES AND MAINTENANCE FEES IS TO BE ALL OWED AS REVENUE EXPENDITURE. 44. SINCE WE HAVE ALLOWED THE ASSESSEES CLAIM OF S OFTWARE EXPENDITURE TO BE TREATED AS REVENUE EXPENDITURE, THE ALTERNATE GROUND FOR NON-GRANT OF ADDITIONAL DEDUCTION U/S. 10B ON ACCOUNT OF CAPITAL ISATION OF SOFTWARE EXPENDITURE IS NOT CONSIDERED FOR ADJUDICATION. IT(TP)A NO.551/BANG/2015 PAGE 34 OF 34 45. IN THE RESULT, THE APPEAL BY THE ASSESSEE IS PA RTLY ALLOWED FOR STATISTICAL PURPOSES. 46. PRONOUNCED IN THE OPEN COURT ON THIS 27 TH DAY OF NOVEMBER, 2015. SD/- `SD/- ( ABRAHAM P. GEORGE ) (ASHA VIJAYARAGHAVAN ) ACCOUNTANT MEMBER JUDICIAL MEMBER BANGALORE, DATED, THE 27 TH NOVEMBER, 2015. /D S/ COPY TO: 1. APPELLANT 2. RESPONDENT 3. CIT 4. CIT(A) 5. DR, ITAT, BANGALORE. 6. GUARD FILE BY ORDER ASSISTANT REGISTRAR, ITAT, BANGALORE.