OPINION.
Lansdon:
The issues raised in this appeal are (1) jurisdiction of the Board, and (2) the right of the taxpayer to special assessment under the provisions of section 210 of the Revenue Act of 1917 and sections 327 and 328 of the Revenue Act of 1918.
As to the jurisdiction of the Board, we are of the opinion that the facts, as set forth in our findings of fact, put this appeal clearly within the rule laid down in the Appeal of Ormsby McKnight Mitchel, 1 B. T. A. 143, and Appeal of Boston Structural Steel Co., 1 B. T. A. 602. We therefore hold that the Board has jurisdiction.
The provisions of the statutes relating to special assessment under which the taxpayer seeks relief are as follows:
Sections 210 of the Revenue Act of 1917, and 327 and 328 of the Revenue Act of 1918, provide:
Seo. 210. That if the Secretary of the Treasury is unable in any case satisfactorily to determine the invested capital, the amount of the deduction shall be the sum of (1) an amount equal to the same proportion of the net income of the trade or business received during the taxable year as the proportion which the average deduction (determined in the same manner as provided in section two hundred and three, without including the $3,000 or $6,000 therein referred to) for the same calendar year of representative corporations, partnerships, and individuals, engaged in a like or similar trade or business, bears to the total net income of the trade or business received by such corporations, partnerships, and individuals, plus (2) in the case of a domestic corporation $3,000, and in the case of a domestic partnership or a citizen or resident of the United States $6,000.
For the purpose of this section the proportion between the deduction and the net income in each trade or business shall be determined by the Commissioner of Internal Revenue in accordance with regulations prescribed by him, with the approval of the Secretary of the Treasury. In the case of a corporation or partnership which has fixed its own fiscal year, the proportion determined for the calendar year ending during such fiscal year shall be used.
Sec. 327. That in the following cases the tax shall be determined as provided in section 328:
(a) Where the Commissioner is unable to determine the invested capital as provided in section 326;
(b) In the case of a foreign corporation;
(c) Where a mixed aggregate of tangible property and intangible property has been paid in for stock or for stock and bonds and the Commissioner is unable satisfactorily to determine the respective values of the several classes of property at the time of payment, or to distinguish the classes of property paid in for stock and for bonds, respectively;
(d) Where upon application by the corporation the Commissioner finds and so declares of record that the tax if determined without benefit of this section would, owing to abnormal conditions affecting the capital or income of the corporation, work upon the corporation an exceptional hardship evidenced by gross disproportion between the tax computed without benefit of this section and the tax computed by reference to the representative corporations specified in section S28. This subdivision shall not apply to any case (1) in which the tax (computed without benefit of this section) is high merely because the corporation earned within the taxable year a high rate of profit upon a normal invested capital, nor (2) in which 50 per centum or more of the gross income of the corporation for the taxable year (computed under section 233 of Title II) consists of gains, profits, commissions, or other income, derived on a cost-plus basis from a Government contract or contracts made between April 6, 1917, and November 11, 1918, both dates inclusive.
Sec. 328. (a) In the cases specified in section 327 the tax shall be the amount which bears the same ratio to the net income of the taxpayer (in excess of the specific exemption of $3,000) for the taxable year, as the average tax of representative corporations engaged in a like or similar trade or business, bears to their average net income (in excess of the specific exemption of $3,000) for such year. In the ease of a foreign corporation the tax shall be computed without deducting the specific exemption of $3,000 either for the taxpayer or the representative corporations.
In computing the tax under this section the Commissioner shall compare the taxpayer only with representative corporations whose invested capital can be satisfactorily determined under section 326 and which are, as nearly as may he, similarly circumstanced with respect to gross income, net income, profits per unit of business transacted and capital employed, the amount and rate of war profits or excess profits, and all other relevant facts and circumstances.
⅝ sji ⅝ ⅝ $ ⅜ ⅝
The taxpayer has presented a great mass of impressive facts and persuasive arguments in support of its contention that it is entitled to special assessment for the determination of its tax liability for the years involved in this appeal. The Board must base its conclusions on the answers to the following questions to be made from the testimony offered at the hearing:
1. Is the Commissioner unable satisfactorily to determine invested capital?
2. Was there a mixed aggregate of tangible and intangible property paid in for stock of such nature that the Commissioner is unable satisfactorily to determine the respective values of the several classes of property at the time of payment, or to distinguish the classes of property paid in for stock ?
3. During the taxable years in question, were there such abnormal conditions affecting the capital or income of the taxpayer as would work an exceptional hardship, evidenced by gross disproportion between the tax computed without the benefit of the special assessment sections and the tax computed by reference to representative corporations ?
4. Were there available for use as comparatives other representative corporations engaged in a trade or business like or similar to that of the taxpayer and similarly circumstanced?
For answer to the first question, the. Commissioner contends that he is able satisfactorily to determine invested capital. He relies on the figures entered upon the books of the taxpayer at the date of the acquisition of the assets of the American Yiscose Co. as the basis of his determination. The taxpayer was organized with capital stock of $10,000,000. The American Yiscose Co. carried on its books tangible assets at the net book value of $3,631,582.27. The taxpayer transferred the same value for tangible assets, plus $500 cash paid in, to its books. Subtracting this amount from $10,000,000 leaves a remainder of $6,367,917.73, which was charged against stock issued for good will. The parties agree that no actual appraisal of values acquired from the American Viscose Co. was attempted by the taxpayer or the predecessor corporation, and that the Commissioner has never made an appraisal of such tangible or intangible assets.
In controversies involving invested capital, the burden ordinarily is upon the taxpayer to sustain by proof the values set up on its own books. In this appeal, however, it is necessary for the taxpayer to go one step further and to prove that the figures entered on its books did not reflect the true values, which, it contends, were very much greater. There are several outstanding circumstances which support the taxpayer's contention that the assets had a far greater value than was indicated by the book entries. It is undisputed that the book values for machinery and equipment represent only the actual cost of material and labor. The machinery parts were ordered in rough and unfinished form from different factories and then completed and assembled in secrecy by employees of the taxpayer's predecessor. No account was taken on the books of the overhead expense incurred in this process, such as' salaries and engineering costs.
Several other facts strongly support the contentions of the taxpayer, noteworthy among them the acquisition of (1) valuable patents, (2) the contracts of employment with Ernst and Slater, (3) the secret processes and refinements acquired from the predecessor, (4) the contract rights to future patents and secret processes developed by Courtaulds, Ltd., and (5) future benefits from developments already under way. No attempt was made to reflect the true value of any of these tangible assets upon the books of the predecessor corporation or the taxpayer. It is not necessary to analyze these assets in detail, but we can not escape the conclusion that such acquisitions were of very great value and were substantial contributing factors in earning the subsequent income of the taxpayer. In this connection, also, the taxpayer points out that, a short time after its acquisition of the property, negotiations were carried on at arm's length with the Du Pont interests on the basis of a- $48,000,000 valuation. While this is not conclusive evidence of such value, it certainly supports the contention that the capitalization of the taxpayer at $10,000,000 and the issuance of stock in that amount at par value for the assets of the predecessor corporation were not regarded by the taxpayer or its competitors as a reflection of the true values of the assets.
An affirmative answer to the question relating to "mixed aggregate of tangible and intangible property," as set forth in section 327 (c), also would entitle the taxpayer to relief. Paragraph (c) of section 327 of the Kevenue Act of 1918 provides:
Sec. 327. That in the following cases the tax shall be determined as provided in section 328:
*
(c) Where a mixed aggregate of tangible property and intangible property has been.paid in for stock or for stock and bonds' and the Commissioner is unable satisfactorily to determine the respective values of the several classes of property at the time of payment, or to distinguish the classes of property paid in for stock and for bonds, respectively.
How is it possible for the Commissioner to determine the respective values of the several classes of' tangible and intangible property acquired by the taxpayer in exchange for stock? The values set up on the books of the taxpayer for tangible property represent only the bare cost of material and labor for plant and equipment and do not include either the actual cost of the complete equipment or the increment in value resulting from such construction. The book value of the tangible property acquired from the predecessor corporation is the basis or starting point for the Commissioner's computation of invested capital. It is clear to us that he has reasoned from wrong premises. Neither the Commissioner nor the taxpayer has made any attempt to determine or distinguish the respective values of the patents acquired, the contract rights to future patents and processes of Courtaulds, Ltd., or of the plant and equipment as completed. The taxpayer, through its officers who are in a position to know, contends that it was and is impossible satisfactorily to appraise or compute those values, except to ascertain that, in the aggregate, they are several times the amount of the original capitalization of $10,000,000. We are convinced 'from the testimony that the values of these elements, however indistinguishable as to their respective proportions and classes, were in the aggregate far in excess of the values determined by the Commissioner.
Now, as to abnormalities, we believe the facts speak for themselves. Our attention is called to the large net income of the taxpayer, as found by the Commissioner, and also to the small proportionate amount of invested capital allowed for the same years. The net income of the taxpayer and the invested capital, as computed by the Commissioner for some of the years, ⅛ as follows:
A high rate of profit upon a normal invested capital, of course, is not in itself an abnormality, but, taken in connection with the facts and circumstances of this case, the computation of tax liability without the benefit of the relief sections certainly would work an exceptional hardship upon the taxpayer. What are abnormalities in this case? The situation, viewed as a whole, strikingly impresses us as an unusual and abnormal condition. It is so unusual and different from the ordinary course of business organizations that, aside from the commercial aspects, it is highly interesting as the history of a successful industry. Here is pictured the early struggles of the artificial silk industry in the United States; the organization, unsuccessful operation, and failure of the preceding pioneer corporations, the American Artificial Silk Co. and the Genasco Silk Co.; the organization of the American Viscose Co. by Courtaulds, of England, which purchased the Genasco Silk Co., and then the rapid development and final and complete success of the American Viscose Co., which became the leading manufacturer in America of artificial silk yarn. During all this time there were constant developments and improvements in the industry. Specialists were employed, many patents were acquired from time to time, and numerous secret processes and refinements were added to reduce manufacturing costs and improve the product.
There are a number of conditions affecting the capital and income of the taxpayer which seem to differentiate it from corporations the taxes of which are computed without the benefit of the relief sections.. We will mention a few. The stockholders and stockholdings of the predecessor corporation and the taxpayer were identical. There was no necessity for appraisal or valuation of the assets transferred at the date of reorganization. The taxpayer was in fact trading with itself, not at arm's length with strangers, and therefore made no attempt to reflect the value of the acquired assets on its books. This is substantiated to some extent by the fact that the Commissioner computed the invested capital for 1917 at approximately $11,000,000, while, during the preceding year, negotiations were had with the Du Pont Co. on a basis of a $48,000,000 valuation. Another abnormal condition, reflected in the income, resulted from the successful elimination of fuzz from the artificial silk yarn and the strengthening of the yarn so that it was suitable for the knit-goods trade. As shown in our findings of fact, this development was well under way in the years of 1914 and 1915, during the régime of the predecessor, and it was finally completed in 1916. Some time was required to develop new markets made possible by this improvement, so that the resulting income was not realized until 1918, 1919, and subsequent years.
A number of other circumstances are called to our attention as abnormalities, upon which we have touched in discussing other ' points, such as the plant account as shown on the books, the large income, and the inconsistent results of determining the tax by statutory computation. There is no doubt in our minds that all of these circumstances, taken together, put the taxpayer in the abnormal class, within the meaning of the statute.
Before the statutory provisions under which the taxpayer seeks relief can be applied, it is necessary to identify proper comparatives. Are there other representative corporations engaged in a trade or business like or similar to that of the taxpayer which may be used as comparatives? The Commissioner contends that the unusual conditions proved herein are the result of a monopoly and that there are no other corporations similarly circumstanced. The testimony discloses that there are at least four methods of manufacturing artificial silk yarn, of which the Viscose process is but one. There are a number of other concerns in the United States which are manufacturing artificial silk yarn by the Viscose process, all of which have their own secret processes and refinements. However, none of these approaches the taxpayer in the magnitude of output, volume of earnings, or command of markets. The' taxpayer contends, therefore, that it is not a monopoly, but is in direct competition, not only with the producers of artificial silk yarn, but with the manufacturers of mercerized cotton yarn, of which there are several who are similarly circumstanced to the taxpayer with respect to gross income, net income, etc. It has proved that its product is used in the same class of articles and sold to the same customers, and that the prices it obtains rise and fall with the prices of mercerized cotton yarn. We are convinced thafeethe taxpayer was not a monopoly | and that there are proper comparatives, within the meaning of the j statute. Mere superiority of product and success in manufacturing ,; and marketing do not constitute a monopoly. It is an extremely I1 I difficult task for any taxpayer to present conclusive evidence of suitable comparatives, because such information is peculiarly within the knowledge of the Commissioner. In this appeal, however, the taxpayer has succeeded in presenting the data necessary to identify a few representative corporations, within the meaning of the statute.
In the light of all the evidence, the taxpayer has convinced us that the book entries assigning values to the tangible and intangible assets acquired by the taxpayer from the American Viscose Co. were not intended to reflect and did not reflect the true value of such assets; that it is impossible to determine the values of the mixed aggregate of tangible and intangible property, acquired in exchange for stock on May 20, 1915, and that, during the years in question, many abnormal conditions affecting capital and income of the taxpayer existed and resulted in exceptional hardship in the computations of tax liability without the benefit of the special assessment provisions of the statute. We are of the opinion, therefore, that the taxpayer is entitled to have its tax computed under the provisions of section 210 of the Revenue Act of 1917 and section 328 of the Revenue Act of 1918.
The taxpayer in its brief, after reciting the information available to the Commissioner for the purpose of comparatives in the determination of the tax, says:
We shall not go further for the present than to ask Tour Honors, after making the findings of fact hereinbefore requested, to refer this case back to the Commissioner for a determination of the tas liability of the taxpayer under the provisions of Rule 50 of this Board's Rules of Practice.
The tax should be computed as follows: The Commissioner should select comparatives and determine the amount of the deficiency after the computation of the tax under the provisions of section 210 of the Revenue Act of 1917 and section 328 of the Revenue Act of 1918, and notice of such computation should be served as provided in Rule 50, the right being reserved to the taxpayer to object to said computation and to show cause at a hearing had thereon why the computation of the Commissioner should not be adopted as a basis of final settlement.
On reference to the Board, James, LittletoN, Smith, and Trtjs-sell dissent.
ArttNdell not participating.